Economic policy uncertainty and demand for money in Australia

The demand for money has received a great deal of attention in the empirical literature. This literature, however, has emphasized factors such as interest rate, income, inflation rate and exchange rate as the primary determinants of money demand. Although an emerging strand of literature examines uncertainty as a potential determinant of money demand, findings have been mixed. Using a news-based Economic Policy Uncertainty (EPU) index and Australian quarterly data from 1998 to 2017, we study the impact of policy uncertainty on demand for money. Autoregressive distributed lag (ARDL) results show that the economic policy uncertainty measure has a negative short-run effect on the demand for money, suggesting the wider public hedge against future expected inflation, and positive long-run effect, whereby the broader public hold more cash to stay liquid during times of economic uncertainty. Also, introducing nonlinearity into the money demand equation, we find an asymmetric effect, more in favour of currency appreciations, supporting the expectations effect of further appreciations in exchange rate movements.     

Does money have a role in the inflation process? Evidence from Australia

Inflation, defined as a sustained increase in the price level, is considered a monetary phenomenon, as it can be explained within the framework of money‐demand and money‐supply relationships. In the extant literature, money growth is shown to remain causally related to inflation across countries and over time, irrespective of the exchange rate regime and stability of the money‐demand function. Nevertheless, emerging literature suggests a diminishing role of money in the conduct of monetary policy for price stability, especially under inflation targeting. Monetary policy in Australia under inflation targeting since 1993 is an example of policy that denies a relationship between money growth and inflation. The proposition that money does not matter insofar as inflation is concerned seems odd in both theory and the best‐practice monetary policy for price stability. This paper uses annual data for the period 1970–2017 and quarterly data for the period 1970Q1–2015Q1. It deploys both the Johansen cointegration approach and the autoregressive distributed lag (ARDL) cointegration approach to investigate for Australia whether money, real output, prices and the exchange rate (non‐stationary variables) maintain the long‐run price‐level relationship that the classical monetary theory suggests in the presence of such stationary variables as the domestic and foreign interest rates. As expected, the empirical findings for Australia are consistent with the classical long‐run price‐level relationship between money, real output, prices and the exchange rate. The error‐correction model of inflation confirms the presence of a cointegral relationship among these variables; it also provides strong evidence of a short‐run causal relationship between money supply growth and inflation. On the basis of a priori theoretical predictions and empirical findings, the paper draws the conclusion that the monetary aggregate and its growth rate matter insofar as inflation is concerned, irrespective of the strategy of monetary policy for price stability.     

Time-varying money demand and real balance effects

This paper presents an analysis of the stimulants and consequences of money demand dynamics. By assuming that household's money holdings and consumption preferences are not separable, we demonstrate that the interest-elasticity of demand for money is a function of the household's preference to hold real balances, the extent to which these preferences are not separable in consumption and real balances, and trend inflation. An empirical study of U.S. data revealed that there was a gradual fall in the interest elasticity of money demand of approximately one-third during the 1970s due to high trend inflation. A further decline in the interest-elasticity of the demand for money was observed in the 1980s due to the changing household preferences that emerged in response to financial innovation. These developments led to a reduction in the welfare cost of inflation that subsequently explains the rise in monetary neutrality observed in the data.     

Currency substitution and seignorage in eastern europe

Economic and political uncertainty, high inflation and liberalization of foreign exchange restrictions have encouraged substantial currency substitution in the economies in transition. This paper presents empirical evidence on currency substitution in four Eastern European countries in transition: Poland, Hungary, Romania and Bulgaria. It is shown how currency substitution affects money demand and by that seignorage revenues. The empirical estimates of the money demand functions are used to calculate the seignorage maximizing rate of inflation in the economies in transition.     

Eurosystem monetary targeting: Lessons from U.S. data

Using a small empirical model of inflation, output, and money estimated on U.S. data, we compare the relative performance of monetary targeting and inflation targeting. The results show monetary targeting to be quite inefficient, yielding both higher inflation and output variability. This is true even with a nonstochastic money demand formulation. Our results are also robust to using a P∗ model of inflation. Therefore, in these popular frameworks, there is no support for the prominent role given to money growth in the Eurosystem's monetary policy strategy.     

How justified is abandoning money in the conduct of monetary policy in Australia on the grounds of instability in the money‐demand function?

The role of money in the design and conduct of monetary policy has reemerged as an important issue in both advanced and developing economies, especially since the 2007 global financial crisis. A growing body of recent literature suggests that the causal relationship between money supply growth and inflation remains intact across countries and over time and that this relation is not conditional on the stability of the money‐demand function or whether money is endogenous or exogenous. Moreover, critical for a rule‐based monetary policy is the presence of a long‐run stable money‐demand function, rather than a short‐run money‐demand model that may exhibit instability for many reasons, including problems with estimating a money‐demand model with high‐frequency data. Provided that a stable money‐demand function exists, it could be useful to establish long‐run equilibrium relations among money, output, prices, and exchange rates, as the classical monetary theory suggests. Within this analytical framework, this paper addresses the question of whether money has any role in the conduct of monetary policy in Australia. The conventional wisdom is that the money‐demand function in Australia has been unstable since the mid‐1980s due to financial deregulation and reforms; this led to a change in the strategy of monetary policy for price stability in the form of inflation targeting that ignores money insofar as inflation and its control are concerned. This paper reports empirical findings for Australia, obtained from a longer quarterly data series over the period 1960Q1–2015Q1, which suggest that instability in the narrow‐money‐demand function in Australia was primarily due to the exclusion of variables which have become important in the deregulated environment since the 1980s. These findings are confirmed by an expanded form of the narrow‐money‐demand function that was found stable over the past two decades, although it experienced multiple structural breaks over the study period. The paper draws the conclusion that abandoning the monetary aggregate as an instrument of monetary policy in Australia, under a rule‐based monetary policy such as inflation targeting, cannot be justified by instability in the money‐demand function or even by lack of a causal link between money supply growth and inflation.     

A model of inflation and expectations in Latin America

This paper attempts to overcome certain shortcomings in the existing tests of various theories of inflation and cyclical income growth. It does so by appending a simple model of expectations formation to a simple macroeconomic simultaneous equation model of aggregate supply and demand. Some of the theoretical building blocs are reformulated so as to be more realistic for developing countries. Simultaneous equation estimation techniques are applied to a pooled sample of time series data for 16 Latin American countries. The authors provide empirical evidence supporting the revised hypotheses and offering new insights into the relationships among the actual and expected rates of inflation, the rate of income growth, and the growth rate of the money supply.     

Domestic and International Sources of Inflation in Developing Countries: Some Evidence from the Monetary Approach

Using the monetary approach, this paper examines empirically the causes of inflation in twenty-five developing countries. In addition to money supply, the underlying money demand function and foreign exchange rates are taken into account in the inflationary process. The lag structures are determined by Akaike's FPE criterion and the exogeneity assumptions are assessed by Granger-type causality tests. The results suggest that the monetary approach provides adequate explanation of inflation across all countries examined. Besides changes in expected inflation and foreign exchange rates, movements in base money in these countries have significantly contributed to their inflationary pressures. [134, 431]     

Money Demand in an EU Accession Country: A VECM Study of Croatia

The paper estimates the money demand in Croatia using monthly data from 1994 to 2002. A failure of the Fisher equation is found, and adjustment to the standard money‐demand function is made to include the inflation rate as well as the nominal interest rate. In a two‐equation cointegrated system, a stable money demand shows rapid convergence back to equilibrium after shocks. This function performs better than an alternative using the exchange rate instead of the inflation rate as in the ‘pass‐through’ literature on exchange rates. The results provide a basis for inflation rate forecasting and suggest the ability to use inflation targeting goals in transition countries during the EU accession process. Finding a stable money demand also limits the scope for central bank ‘inflation bias’.     

中国货币供给与通货膨胀的关联性研究

关于货币供给与通货膨胀的关联性,学者们还没有形成一致的看法.理论上,货币供给与通货膨胀具有一定的关联性.通货膨胀有需求拉动型和成本推动型,在通货膨胀的原因中有“货币因素”,也有“非货币因素”.实证检验表明:中国货币供应量与物价指数不存在长期的稳定均衡关系,但货币供应量是物价指数的格兰杰原因,反之则不然.事实上,中国通货膨胀或通货膨胀压力一方面是与货币供给有关,另一方面还与结构性因素有关.因此,要实现中国经济的低通胀运行:一是实行总量均衡和结构合理的货币供给模式;二是采取更有效的货币政策;三是推进经济结构调整,实现国际收支平衡;四是深化金融体系改革,增强中央银行货币控制能力;五是进行汇率机制改革;六是通过财政政策调整供需结构.     

On the empirical relevance of the Lucas critique: the case of euro area money demand

This paper examines the relevance of the Lucas critique for euro area money demand. Based on the money in the utility function approach, a vector error correction model is specified to investigate the relationship between money and inflation in times of policy shifts. A well defined equation for money demand is obtained. The results indicate that the evolution of M3 is still in line with money demand. In the long run, inflation is affected by asset prices and detrended output. Our results show that the Lucas critique can be refuted in case of euro area money demand for the period of quantitative easing. Thus, the estimated money demand equation provides reliable information for the conduct of future monetary policy.     

Output gap measurement and the New Keynesian Phillips curve for China

The New Keynesian Phillips curve implies that the output gap, the deviation of the actual output from its natural level due to nominal rigidities, drives the dynamics of inflation relative to expected inflation and lagged inflation. This paper exploits the empirical success of the New Keynesian Phillips curve in explaining China's inflation dynamics with a new measure of the output gap. We estimate the output gap using the Bayesian multivariate Beveridge–Nelson decomposition method, based on a multivariate dynamic model featuring distinct interactions among inflation, money, and real output in China. The empirical results using quarterly data spanning 1979–2010 show that the new measure of the output gap outperforms the traditional measures in fitting the New Keynesian Phillips curve. This result provides useful insights for inflation dynamics and monetary policy analysis in China.     

Money demand in the Dominican Republic

This paper investigates a demand for money relationship for the Dominican Republic. The financial system of the Dominican Republic is underdeveloped, and there are no suitable domestic data on the opportunity cost of holding money. Economic links with the USA suggest a possible role for a foreign interest rate effect and a currency substitution effect in the demand for domestic money. A long-run demand for money relationship is developed from the perspective of alternative estimation methodologies, and it is shown that a 'literature standard' specification augmented by foreign monetary variables is robust. The ensuing short-run dynamic model is adequate, stable and suggests an important role for expected inflation, and a real bilateral exchange rate with the USA. A number of policy implications for the Dominican Republic are drawn from the results.     

货币供给的内生性与货币政策的效率——兼评我国当前货币政策的有效性

货币内生性理论指出公众的货币需求会直接影响中央银行的货币供给。因此 ,公众通过调整货币需求可以对中央银行的货币政策效果产生不确定的影响。本文利用货币内生性理论来分析公众行为对中央银行为稳定物价水平而采取的政策效果的影响 ;并通过实证分析证实我国M2 的供给有较强的内生性 ;我国货币政策在治理通货膨胀和通货紧缩的效果上存在着不对称性 ,以此可重新认识我国当前通货政策的有效性。     

Budget Deficits Expected Inflation and Short-Term Real Interest Rates: Evidence for the U.S.

This paper examines a number of issues concerning the determination of short-term real interest rates. We include actual inflation and several measures of expected inflation in order to determine whether empirical results are sensitive to the choice of the inflation variable. The results strongly suggest that the estimated coefficients are unaffected by the choice of the interest rate variable and, implicitly, the inflation variable. Deficits are not found to have a positive effect on all measures of the dependent variable, while increases in the real money supply and the inflation variables depress real interest rates. [311]     

MONEY AND INFLATION IN INDIA: EVIDENCE FROM P‐STAR MODEL

This study uses P‐star model to examine the role of money in explaining inflation in India. In particular, we compare the performance of traditional Phillips curve approach against P‐star model in forecasting inflation. Moreover, the study estimates P‐star model using the alternative measures of money such as simple sum and Divisia M3, to examine the relevance of aggregation theoretic monetary aggregates in explaining inflation. The empirical results indicate that P‐star model with real money gap has an edge over traditional Phillips curve approach in forecasting inflation. More importantly, we found that the P‐star model estimated with Divisia real money gap performs better than its simple sum counterpart. These empirical findings suggest that the changes in real money gap play a crucial role in explaining inflation in India.     

Stability of Money Demand and Monetary Policy in Papua New Guinea (PNG): An Error Correction Model Analysis

An error correction model (ECM) is used to study the Properties of money demand and to evaluate the appropriate monetary policy in PNG. The study confirms that the determinats of money demand are real GDP, nominal interest and inflation rate. The income elasticity of money demand is very low. The demand for money in PNG was stable during 1979-95, suggesting that the monetary targeting regime by the PNG Central Bank is feasible. However, as PNG proceeds with economic reforms that Includes financial sector reform and a floating exchange rate regime, the stability of the demand for money may have to be re-examined periodically. The best approach for conducting the monetary policy in PNG is to target the inflation rate. [E41, E52, C22]     

Is currency seigniorage exogenous for inflation tax in Turkey?

This paper discusses the implications of the validity of the conditioning hypothesis for the maintained money demand equation for an inflation tax analysis. We also test the validity of the quantity-theoretical inflation tax model for the post-1980 quarterly Turkish data by using Johansen cointegration techniques. The results suggest that the tax rate (inflation) is weakly exogenous for the parameters of the long-run money demand (tax base) equation. This result, consistent with a Keynesian endogenous seigniorage-exogenous inflation tax rate theory prior, does not support the hypothesis that the Turkish inflation can be explained by the conventional inflation tax revenue-maximizing motive alone.     

Consumer preferences,the demand for Divisia money,and the welfare costs of inflation

This paper uses neoclassical demand theory to calculate the welfare costs of inflation. It considers the demand interactions between money, consumption goods, and leisure, relaxes the assumption of fixed consumer preferences, and addresses the inter-related problems of estimation of money demand functions, instability of money demand relations, and monetary aggregation. It makes full use of the relevant economic theory and econometrics and generates inference in terms of long-run welfare costs of inflation that is internally consistent with the data and models used.     

Long-run estimates of money demand: new evidence from East Asian countries and the presence of structural breaks

Conventionally, the money demand function is estimated using a linear regression of the logarithm of money demand on a number of variables. In this article, we aim to estimate the long-run properties of money demand specification for a number of East Asian economies and within a panel framework with the presence of structural breaks. Various country-specific coefficients are allowed to capture inter-country heterogeneities. Consistent with theoretical postulates, it is found that (a) the demand for money in the long-run positively responds to real income and inversely to the interest rate spread, inflation, the real effective exchange rate and the US real interest rate; (b) the long-run income elasticity is greater than unity; and (c) both the currency substitution and capital mobility hypotheses hold. The empirical findings in this article can provide useful policy guidelines to the East Asian countries’ central banks in their quest for price stability. If one of the primary objectives of these countries is to minimize price instability, they should avoid creating unnecessary disequilibrium in the money market, while the employment of cointegration with the presence of structural breaks clearly recommends to central banks to use the supply of money to attain price and macroeconomic stability.