A Portfolio Balance Approach to Euro-Area Money Demand in a Time-Varying Environment
AbstractAs part of its monetary policy strategy, the European Central Bank has formulated a reference value for M3 growth. A pre-requisite for the use of a reference value for M3 growth is the existence of a stable demand function for that aggregate. However, a large empirical literature has emerged showing that, beginning in 2001, essentially all euro area M3 demand functions have exhibited instability. This paper argues that a proper understanding of the determination of money requires a portfolio analysis where the demand for broad money is seen as just one element in the wealth portfolio. Under this framework, wealth is the variable that constitutes the total budget constraint on the holdings of assets, including money, and changes in equity prices are a key transmission channel of monetary policy. Understanding money behaviour thus requires good data on euro area wealth which at present do not exist. Our basic premise is that there is a stable demand-for-money function but that the models that have been used until now to estimate euro area money-demand are not well-specified because they do not include a measure of wealth. Using two empirical methodologies - - a co-integrated vector equilibrium correction (VEC) approach and a time-varying coefficient (TVC) approach - - we find that a demand-for-money function that includes wealth is stable. The upshot of our findings is that M3 behaviour continues to provide useful information about medium-term developments on inflation.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Department of Economics, University of Leicester in its series Discussion Papers in Economics with number 08/9.
Date of creation: Apr 2008
Date of revision:
Contact details of provider:
Postal: Department of Economics University of Leicester, University Road. Leicester. LE1 7RH. UK
Phone: +44 (0)116 252 2887
Fax: +44 (0)116 252 2908
Web page: http://www2.le.ac.uk/departments/economics
More information through EDIRC
Other versions of this item:
- Stephen G.Hall & George Hondroyiannis & P.A.V.B. Swamy & George S. Tavlas, 2007. "A Portofolio Balance Approach to Euro-Area Money Demand in a Time-Varying Environment," Working Papers, Bank of Greece 61, Bank of Greece.
- C20 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - General
- E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money
This paper has been announced in the following NEP Reports:
- NEP-ALL-2008-04-29 (All new papers)
- NEP-CBA-2008-04-29 (Central Banking)
- NEP-EEC-2008-04-29 (European Economics)
- NEP-MAC-2008-04-29 (Macroeconomics)
- NEP-MON-2008-04-29 (Monetary Economics)
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- P. Swamy & George Tavlas, 2005. "Theoretical conditions under which monetary policies are effective and practical obstacles to their verification," Economic Theory, Springer, Springer, vol. 25(4), pages 999-1005, 06.
- David Cobham, 1996. "Causes and Effects of the European Monetary Crises of 1992-93," Journal of Common Market Studies, Wiley Blackwell, Wiley Blackwell, vol. 34(4), pages 585-604, December.
- M. Hashem Pesaran & Yongcheol Shin, 2002.
"Long-Run Structural Modelling,"
Econometric Reviews, Taylor & Francis Journals,
Taylor & Francis Journals, vol. 21(1), pages 49-87.
- M Pesaran & Yongcheol Shin, 2004. "Long-Run Structural Modelling," ESE Discussion Papers, Edinburgh School of Economics, University of Edinburgh 44, Edinburgh School of Economics, University of Edinburgh.
- Pesaran,H.M. & Shin,Y., 1995. "Long-Run Structural Modelling," Cambridge Working Papers in Economics, Faculty of Economics, University of Cambridge 9419, Faculty of Economics, University of Cambridge.
- Joaquim Vieira Ferreira Levy & Alessandro Calza & Dieter Gerdesmeier, 2001. "Euro Area Money Demand," IMF Working Papers 01/179, International Monetary Fund.
- Tobin, James, 1969. "A General Equilibrium Approach to Monetary Theory," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 1(1), pages 15-29, February.
- Zellner, Arnold, 2007. "Philosophy and objectives of econometrics," Journal of Econometrics, Elsevier, Elsevier, vol. 136(2), pages 331-339, February.
- P. Swamy & George Tavlas, 2007.
"The New Keynesian Phillips Curve and Inflation Expectations: Re-Specification and Interpretation,"
Economic Theory, Springer,
Springer, vol. 31(2), pages 293-306, May.
- George S. Tavlas & P.A.V.B. Swamy, 2006. "The New Keynesian Phillips Curve and Inflation Expectations: Re-Specification and Interpretation," Working Papers, Bank of Greece 34, Bank of Greece.
- P.A.V.B. Swamy & George S. Tavlas, 1993.
"Random coefficient models: theory and applications,"
Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.)
93-14, Board of Governors of the Federal Reserve System (U.S.).
- Swamy, P A V B & Tavlas, George S, 1995. " Random Coefficient Models: Theory and Applications," Journal of Economic Surveys, Wiley Blackwell, Wiley Blackwell, vol. 9(2), pages 165-96, June.
- Pratt, John W. & Schlaifer, Robert, 1988. "On the interpretation and observation of laws," Journal of Econometrics, Elsevier, Elsevier, vol. 39(1-2), pages 23-52.
- Davidson, James & Hall, Stephen, 1991. "Cointegration in Recursive Systems," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 101(405), pages 239-51, March.
- Johansen, Soren, 1995. "Identifying restrictions of linear equations with applications to simultaneous equations and cointegration," Journal of Econometrics, Elsevier, Elsevier, vol. 69(1), pages 111-132, September.
- Friedman, Milton & Schwartz, Anna J, 1991. "Alternative Approaches to Analyzing Economic Data," American Economic Review, American Economic Association, American Economic Association, vol. 81(1), pages 39-49, March.
- Johansen, Soren, 1988. "Statistical analysis of cointegration vectors," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 12(2-3), pages 231-254.
- Granger, C. W. J. & Newbold, P., 1974. "Spurious regressions in econometrics," Journal of Econometrics, Elsevier, Elsevier, vol. 2(2), pages 111-120, July.
- Ansgar Belke & Robert Czudaj, 2010.
"Is Euro Area Money Demand (Still) Stable? – Cointegrated VAR versus Single Equation Techniques,"
Ruhr Economic Papers, Rheinisch-WestfÃ¤lisches Institut fÃ¼r Wirtschaftsforschung, Ruhr-UniversitÃ¤t Bochum, UniversitÃ¤t Dortmund, UniversitÃ¤t Duisburg-Essen
0171, Rheinisch-Westfälisches Institut für Wirtschaftsforschung, Ruhr-Universität Bochum, Universität Dortmund, Universität Duisburg-Essen.
- Ansgar Belke & Robert Czudaj, 2010. "Is Euro Area Money Demand (Still) Stable? Cointegrated VAR Versus Single Equation Techniques," Applied Economics Quarterly (formerly: Konjunkturpolitik), Duncker & Humblot, Berlin, Duncker & Humblot, Berlin, vol. 56(4), pages 285-315.
- Ansgar Belke & Robert Czudaj, 2010. "Is Euro Area Money Demand (Still) Stable?: Cointegrated VAR versus Single Equation Techniques," Discussion Papers of DIW Berlin 982, DIW Berlin, German Institute for Economic Research.
- Hall, Stephen G. & Kenjegaliev, Amangeldi & Swamy, P.A.V.B. & Tavlas, George S., 2013.
"Measuring currency pressures: The cases of the Japanese yen, the Chinese yuan, and the UK pound,"
Journal of the Japanese and International Economies,
Elsevier, vol. 29(C), pages 1-20.
- Stephen Hall & Amangeldi Kenjegaliev & P.A.V.B. Swamy & George S. Tavlas, 2013. "Measuring Currency Pressures: The Cases of the Japanese Yen, the Chinese Yuan, and the U.K. Pound," Discussion Papers in Economics, Department of Economics, University of Leicester 13/10, Department of Economics, University of Leicester.
- Sophia Lazaretou, 2009. "Money supply and Greek history monetary statistics: definition, construction, sources and data," Working Papers, Bank of Greece 105, Bank of Greece.
- Jawadi, Fredj & Sousa, Ricardo M., 2013.
"Money demand in the euro area, the US and the UK: Assessing the role of nonlinearity,"
Economic Modelling, Elsevier,
Elsevier, vol. 32(C), pages 507-515.
- Fredj Jawadi & Ricardo M. Sousa, 2012. "Money Demand in the euro area, the US and the UK:Assessing the Role of Nonlinearity," NIPE Working Papers, NIPE - Universidade do Minho 22/2012, NIPE - Universidade do Minho.
- Stephen Hall & P.A.V.B. Swamy & George S. Tavlas, 2012.
"Milton Friedman, the Demand for Money and the ECB’s Monetary-Policy Strategy,"
Discussion Papers in Economics, Department of Economics, University of Leicester
12/05, Department of Economics, University of Leicester.
- Stephen G. Hall & P.A.V.B. Swamy & George S. Tavlas, 2012. "Milton Friedman, the demand for money, and the ECB’s monetary policy strategy," Review, Federal Reserve Bank of St. Louis, issue May, pages 153-186.
- Peter Bernholz, 2008. "Government Bankruptcy of Balkan Nations and their Consequences for Money and Inflation before 1914: A Comparative Analysis," Working Papers, Bank of Greece 74, Bank of Greece.
- Stephan Barisitz, 2008. "Banking Transformation (1989 - 2006) in Central and Eastern Europe - With Special Reference to Balkans," Working Papers, Bank of Greece 78, Bank of Greece.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Mrs. Alexandra Mazzuoccolo).
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.