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Money and the Natural Rate of Interest: Structural Estimates for the United States and the Euro Area

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  • Andrés, Javier
  • López-Salido, J David
  • Nelson, Edward

Abstract

We examine the role of money in three environments: the New Keynesian model with separable utility and static money demand; a nonseparable utility variant with habit formation; and a version with adjustment costs for holding real balances. The last two variants imply forward-looking behaviour of real money balances, with forecasts of future interest rates entering current portfolio decisions. We conduct a structural econometric analysis of the U.S. and euro area economies. FIML estimates confirm the forward-looking character of money demand. A consequence is that real money balances are valuable in anticipating future variations in the natural interest rate.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 6812.

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Date of creation: May 2008
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Handle: RePEc:cpr:ceprdp:6812

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Keywords: money; natural rate; New Keynesian models;

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