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The money demand function for the Euro area: one step beyond

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  • Sanvi Avouyi-Dovi

    (Banque de France)

  • Françoise Drumetz

    (Banque de France)

  • Jean-Guillaume Sahuc

    ()
    (Banque de France)

Abstract

This article sets out to re-examine the money demand function for the euro area. Traditional specifications often yield unsatisfactory results: instability of short and long-term coefficients; relatively large differences between estimated and actual value of variables; and significant changes in the number of long-term relationships, etc. Using a standard Vector Error Correction Model, we find that the usual specification is indeed unstable. However, introducing an European equity price gives rise to a more stable system. Furthermore, recursive estimates confirm the relative stability of long-term coefficients. Estimates of the real money gap, based on the money demand equation including equity prices, point to moderate, albeit persistent, excess liquidity in the euro area in the recent years. The real money gap contains information about future inflation but this content may have diminished since 2001.

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File URL: http://epee.univ-evry.fr/RePEc/2007/07-08.pdf
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Bibliographic Info

Paper provided by Centre d'Études des Politiques Économiques (EPEE), Université d'Evry Val d'Essonne in its series Documents de recherche with number 07-08.

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Length: 33 pages
Date of creation: 2007
Date of revision:
Handle: RePEc:eve:wpaper:07-08

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Keywords: Demand for money; stability; financial assets; substitution effect;

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References

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  1. Zenon Kontolemis G., 2002. "Money Demand in the Euro Area," IMF Working Papers 02/185, International Monetary Fund.
  2. Neil R. Ericsson & Sunil Sharma, 1996. "Broad money demand and financial liberalization in Greece," International Finance Discussion Papers 559, Board of Governors of the Federal Reserve System (U.S.).
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  11. Baba, Yoshihisa & Hendry, David F & Starr, Ross M, 1992. "The Demand for M1 in the U.S.A., 1960-1988," Review of Economic Studies, Wiley Blackwell, vol. 59(1), pages 25-61, January.
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  14. Coenen, Günter & Vega, Juan Luis, 1999. "The demand for M3 in the euro area," Working Paper Series 0006, European Central Bank.
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