Long-Run Demand for M1
AbstractThe goal of this paper is to investigate and estimate long-run relationships among M1, prices, output and interest rates, with a view to determining if there is a stable relationship that can be interpreted as long-run money demand. The paper uses a maximum-likelihood multiple- equation cointegration technique, developed by Johansen, to fit a system of equations to the data. One finding is that long-run, but not short-run, unitary price elasticity is easily accepted, while the income elasticity is close to one-half. The coefficients on the deviation of money from its long-run equilibrium in the vector error-correction model imply that when M1 is above its long-run demand, money will decrease and prices increase to restore long-run equilibrium. The effects of the deviation on output and interest rates are insignificant, pointing to the weak exogeneity of these variables. The implication of the results is that all the adjustment to return the economy to monetary equilibrium comes from fluctuations in money and prices. However, this does not preclude the possibility that changes in the stock of money may have short-run real effects. Indeed, the results suggest that changes in M1 lead short-term changes in output.
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Bibliographic InfoPaper provided by EconWPA in its series Macroeconomics with number 9511001.
Length: 70 pages
Date of creation: 27 Nov 1995
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Note: 70 printed pages, compressed PostScript file. Other recent Bank of Canada working papers are listed on the last page of this report.
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- E - Macroeconomics and Monetary Economics
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