The Quantity Theory of Money Revisited: The Improved Short-Term Predictive Power of of Household Money Holdings with Regard to prices. LEO Working Paper

This article analyses the predictive power of household money holdings with regard to prices or current aggregates (consumption and disposable incomes) over the short term (i.e. over one quarter), as compared with that of other explanatory variables, namely unemployment and total monetary aggregates. Regardless of the approach used, in the short term, household holdings exhibit a comparative advantage over unemployment and total monetary aggregates. The gain in terms of RMSE compared to a simple autoregressive equation is often at least 10%. This is consistent with the quantity theory of money, which holds that there should be a fairly direct link between money and consumption with a limited lag. In the longer run (12 quarters), unemployment exhibits better forecasting properties than household money holdings, which is consistent with the findings of Stock & Watson (1999).