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Money Velocity and Asset Prices in the Euro Area

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Author Info
Christian Dreger
Jürgen Wolters

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Abstract

Monetary growth in the euro area has exceeded its target since several years. At the same time, the money demand function seems to be increasingly unstable if more recent data are used. If the link between money balances and the macroeconomy is fragile, the rationale of monetary aggregates in the ECB strategy has to be doubted. In fact, a rise in the income elasticity after 2001 can be observed, and may reflect the exclusion of real and financial wealth in conventional specifications of money demand. This presumption is explored by means of a cointegration analysis. To separate income from wealth effects, the specification in terms of money velocity is preferred. Evidence for the presence of wealth in the long run relationship is provided. In particular, both stock and house prices have exerted a negative impact on velocity after 2001 and lead to almost identical equilibrium errors. The extended error correction model is stable over the entire sample period and survive a battery of specification tests.

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Paper provided by DIW Berlin, German Institute for Economic Research in its series Discussion Papers of DIW Berlin with number 813.

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Length: 23 p.
Date of creation: 2008
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Publication status: Published in: Empirica 36 (2009) 1, 51-63
Handle: RePEc:diw:diwwpp:dp813

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Related research
Keywords: Cointegration analysis; error correction; money demand; financial wealth; monetary policy;

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Find related papers by JEL classification:
C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions
C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation and Testing
E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money

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