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The Money Demand with Random Output and Limited Access to Debt

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  • Mierzejewski, Fernando

Abstract

The money-demand of the economy is characterised, when national output is random and investors cannot attract any level of debt at any moment without incurring in additional costs. The optimal cash balance is then expressed as the probability-quantile (or Value-at-Risk) of the series of capital returns on income, and in this way, it is explicitly determined by risk. As a consequence, the interest-rate-elasticity depends on the kind of risks and expectations, in such a way that the more unstable the economy, the greater the interest-rate-elasticity of the money-demand. Therefore, the effectiveness of monetary policy is increased by diminishing the variability of output. Moreover, since flows of capital can affect the riskiness of financial securities by modifying the amounts involved in transactions, part of the adjustment to reestablish the short-run monetary equilibrium can be performed through volatility shocks. Finally, for different parametrisations of risks, aggregated parameters are expressed as the weighted average of sectorial estimations, so that multiple equilibria of the economy are allowed.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 6688.

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Date of creation: Jun 2007
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Handle: RePEc:pra:mprapa:6688

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Keywords: Money demand; Monetary policy; Economic capital; Distorted risk principle; Value-at-Risk;

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  1. Ball, Laurence, 2001. "Another look at long-run money demand," Journal of Monetary Economics, Elsevier, vol. 47(1), pages 31-44, February.
  2. Wang, Shaun S. & Young, Virginia R. & Panjer, Harry H., 1997. "Axiomatic characterization of insurance prices," Insurance: Mathematics and Economics, Elsevier, vol. 21(2), pages 173-183, November.
  3. Dhaene, J. & Denuit, M. & Goovaerts, M. J. & Kaas, R. & Vyncke, D., 2002. "The concept of comonotonicity in actuarial science and finance: theory," Insurance: Mathematics and Economics, Elsevier, vol. 31(1), pages 3-33, August.
  4. Shaun, Wang, 1995. "Insurance pricing and increased limits ratemaking by proportional hazards transforms," Insurance: Mathematics and Economics, Elsevier, vol. 17(1), pages 43-54, August.
  5. Duca, John V, 2000. "Financial Technology Shocks and the Case of the Missing M2," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 32(4), pages 820-39, November.
  6. Modigliani, Franco, 1977. "The Monetarist Controversy or, Should We Forsake Stabilization Policies?," American Economic Review, American Economic Association, vol. 67(2), pages 1-19, March.
  7. Pedro Teles & Ruilin Zhou, 2005. "A stable money demand: Looking for the right monetary aggregate," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q I, pages 50-63.
  8. William F. Sharpe, 1965. "Mutual Fund Performance," The Journal of Business, University of Chicago Press, vol. 39, pages 119.
  9. Choi, Woon Gyu & Oh, Seonghwan, 2003. " A Money Demand Function with Output Uncertainty, Monetary Uncertainty, and Financial Innovations," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 35(5), pages 685-709, October.
  10. Friedman, Milton, 1970. "A Theoretical Framework for Monetary Analysis," Journal of Political Economy, University of Chicago Press, vol. 78(2), pages 193-238, March-Apr.
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