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Why U.S. Money does not Cause U.S. Output, but does Cause Hong Kong Output

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Abstract

Standard econometric tests for whether money causes output will be meaningless if monetary policy is chosen optimally to smooth fluctuations in output. If U.S. monetary policy were chosen to smooth U.S. output, we show that U.S. money will not Granger cause U.S. output. Indeed, as shown by Rowe and Yetman (2000), if there is a (say) 6 quarter lag in the effect of money on output, then U.S. output will be unforecastable from any information set available to the Fed lagged 6 quarters. But if other countries, for example Hong Kong, have currencies that are fixed to the U.S. dollar, Hong Kong monetary policy will then be chosen in Washington D.C., with no concern for smoothing Hong Kong output. Econometric causality tests of U.S. money on Hong Kong output will then show evidence of causality. We test this empirically. Our empirical analysis also provides a measure of the degree to which macroeconomic stabilisation is sacrificed by adopting a fixed exchange rate rather than an independent monetary policy.

Suggested Citation

  • Gabriel Rodriguez & Nicholas Rowe, 2001. "Why U.S. Money does not Cause U.S. Output, but does Cause Hong Kong Output," Carleton Economic Papers 01-07, Carleton University, Department of Economics, revised Nov 2007.
  • Handle: RePEc:car:carecp:01-07
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    File URL: http://www1.carleton.ca/economics/research/working-papers/carleton-economic-papers-cep-2001-2010/
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    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. James Hamilton on Christopher Sims and identifying monetary policy "shocks"
      by Nick Rowe in Worthwhile Canadian Initiative on 2011-10-12 19:02:55
    2. [経済]金利引き下げがあればGDP予測を下方修正すべき?
      by himaginary in himaginaryの日記 on 2011-10-14 12:00:00

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    Cited by:

    1. Hendrickson, Joshua R., 2014. "Redundancy Or Mismeasurement? A Reappraisal Of Money," Macroeconomic Dynamics, Cambridge University Press, vol. 18(07), pages 1437-1465, October.
    2. JOHANSSON, Anders C., 2009. "Is U.S. money causing China's output?," China Economic Review, Elsevier, vol. 20(4), pages 732-741, December.

    More about this item

    Keywords

    Monetary Policy; Causality; VECM; U.S. Money; U.S. Federal Funds Rate;

    JEL classification:

    • C3 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables
    • C5 - Mathematical and Quantitative Methods - - Econometric Modeling
    • E4 - Macroeconomics and Monetary Economics - - Money and Interest Rates
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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