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Money, Income and Prices After the 1980s

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  • Benjamin M. Friedman
  • Kenneth N. Kuttner

Abstract

Three empirical findings presented in this paper show that evidence based on the most recent U.S. experience does not indicate the kind of close or reliable relationship between money and nonfinancial economic activity that, if present, might warrant basing the design and implementation of monetary policy on money in a formally systematic way: First, extending the familiar time-series analysis to include data from the 1980s sharply weakens the evidence from prior periods showing that such relationships existed between money and nominal income, or between money and either real income or prices considered separately. Focusing on data from 1970 onward destroys this evidence altogether. Second, the finding by Stock and Watson that particular forms of time-series experiments still showed a significant role for money in affecting real output through 1985 not only becomes weaker on the inclusion of data from 1986 and 1987 but also, even for data through 1985 only, turns out to depend on the use in their analysis of a particular short-term interest rate, the Treasury bill rate. Using instead the commercial paper rate, which apparently is superior in capturing the information in financial prices that matters for real output, also greatly weakens their result. Simultaneously using the commercial paper rate and including data through 1987 destroys it altogether. Third, extending the analysis through 1987 also destroys the time-series evidence from earlier periods showing that money and income are co-integrated. Even if monetary policy were to be conducted in terms of targets for money growth, the failure of money and income to be co-integrated means that there is no empirical ground for resisting the "base drift" that results from persistent random differences between actual money growth and the corresponding target.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2852.

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Date of creation: Feb 1989
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Publication status: published as "Money, Income, Prices, and Interest Rates." From The American Economic Review, Vol. 82, No. 3, pp. 472-492, (June 1992).
Handle: RePEc:nbr:nberwo:2852

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  1. Dickey, David A & Fuller, Wayne A, 1981. "Likelihood Ratio Statistics for Autoregressive Time Series with a Unit Root," Econometrica, Econometric Society, Econometric Society, vol. 49(4), pages 1057-72, June.
  2. McCallum, Bennett T, 1985. "On Consequences and Criticisms of Monetary Targeting," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 17(4), pages 570-97, November.
  3. Engle, Robert F & Granger, Clive W J, 1987. "Co-integration and Error Correction: Representation, Estimation, and Testing," Econometrica, Econometric Society, Econometric Society, vol. 55(2), pages 251-76, March.
  4. Kareken, John H & Muench, Thomas & Wallace, Neil, 1973. "Optimal Open Market Strategy: The Use of Information Variables," American Economic Review, American Economic Association, American Economic Association, vol. 63(1), pages 156-72, March.
  5. Martin S. Eichenbaum & Kenneth J. Singleton, 1986. "Do Equilibrium Real Business Cycle Theories Explain Post-War U.S. Business Cycles?," NBER Working Papers 1932, National Bureau of Economic Research, Inc.
  6. Zellner, Arnold, 1985. "Bayesian Econometrics," Econometrica, Econometric Society, Econometric Society, vol. 53(2), pages 253-69, March.
  7. Benjamin M. Friedman, 1984. "The value of intermediate targets in implementing monetary policy," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, Federal Reserve Bank of Kansas City, pages 169-199.
  8. Sims, Christopher A, 1980. "Comparison of Interwar and Postwar Business Cycles: Monetarism Reconsidered," American Economic Review, American Economic Association, American Economic Association, vol. 70(2), pages 250-57, May.
  9. Walsh, Carl E, 1986. "In Defense of Base Drift," American Economic Review, American Economic Association, American Economic Association, vol. 76(4), pages 692-700, September.
  10. Litterman, Robert B & Weiss, Laurence M, 1985. "Money, Real Interest Rates, and Output: A Reinterpretation of Postwar U.S. Data," Econometrica, Econometric Society, Econometric Society, vol. 53(1), pages 129-56, January.
  11. Sims, Christopher A, 1972. "Money, Income, and Causality," American Economic Review, American Economic Association, American Economic Association, vol. 62(4), pages 540-52, September.
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Cited by:
  1. Paschakis, John & Smithin, John, 1998. "Exchange Risk and the Supply-Side Effects of Real Interest Rate Changes," Journal of Macroeconomics, Elsevier, Elsevier, vol. 20(4), pages 703-720, October.
  2. Ben Bernanke, 1990. "On the Predictive Power of Interest Rates and Interest Rate Spreads," NBER Working Papers 3486, National Bureau of Economic Research, Inc.
  3. Bernanke, Ben S & Blinder, Alan S, 1992. "The Federal Funds Rate and the Channels of Monetary Transmission," American Economic Review, American Economic Association, American Economic Association, vol. 82(4), pages 901-21, September.
  4. Cohen, Gerald & Alesina, Alberto & Roubini, Nouriel, 1992. "Macroeconomic Policy and Elections in OECD Democracies," Scholarly Articles 4553023, Harvard University Department of Economics.

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