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An Empirical Analysis of the Money Demand Function in India

  • Takeshi Inoue

    ()

    (Institute of Developing Economies)

  • Shigeyuki Hamori

    ()

    (Kobe University)

This paper empirically analyzes India's money demand function during the period of 1980 to 2007 using monthly data and the period of 1976 to 2007 using annual data. Cointegration test results indicated that when money supply is represented by M1 and M2, a cointegrating vector is detected among real money balances, interest rates, and output. In contrast, it was found that when money supply is represented by M3, there is no long-run equilibrium relationship in the money demand function. Moreover, when the money demand function was estimated using dynamic OLS, the sign conditions of the coefficients of output and interest rates were found to be consistent with theoretical rationale, and statistical significance was confirmed when money supply was represented by either M1 or M2. Consequently, though India's central bank presently uses M3 as an indicator of future price movements, it is thought appropriate to focus on M1 or M2, rather than M3, in managing monetary policy.

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Article provided by AccessEcon in its journal Economics Bulletin.

Volume (Year): 29 (2009)
Issue (Month): 2 ()
Pages: 1224-1245

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Handle: RePEc:ebl:ecbull:eb-08e40010
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  1. B Bhaskara Rao & Singh Rup, 2005. "Demand for Money in India: 1953-2003," Macroeconomics 0510002, EconWPA.
  2. Kimbrough, Kent P, 1986. "Inflation, Employment, and Welfare in the Presence of Transactions Costs," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 18(2), pages 127-40, May.
  3. Kimbrough, Kent P., 1986. "The optimum quantity of money rule in the theory of public finance," Journal of Monetary Economics, Elsevier, vol. 18(3), pages 277-284, November.
  4. Ramachandran, M., 2004. "Do broad money, output, and prices stand for a stable relationship in India?," Journal of Policy Modeling, Elsevier, vol. 26(8-9), pages 983-1001, December.
  5. Mohsen Bahmani-Oskooee & Hafez Rehman, 2005. "Stability of the money demand function in Asian developing countries," Applied Economics, Taylor & Francis Journals, vol. 37(7), pages 773-792.
  6. Faig, Miquel, 1988. "Characterization of the optimal tax on money when it functions as a medium of exchange," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 137-148, July.
  7. Johansen, Soren, 1991. "Estimation and Hypothesis Testing of Cointegration Vectors in Gaussian Vector Autoregressive Models," Econometrica, Econometric Society, vol. 59(6), pages 1551-80, November.
  8. Newey, Whitney & West, Kenneth, 2014. "A simple, positive semi-definite, heteroscedasticity and autocorrelation consistent covariance matrix," Applied Econometrics, Publishing House "SINERGIA PRESS", vol. 33(1), pages 125-132.
  9. B. Bhaskara Rao, 1995. "Unit roots cointegration and the demand for money in India," Applied Economics Letters, Taylor & Francis Journals, vol. 2(10), pages 397-399.
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