Real Money Holdings, Money Growth and Inflation: Brazil

Inflation has been a major concem in Latin American countries for a long time. In the case of Brazil, frequent and persistent price explosions have been the result of important macroeconomic mismanagement. This paper applies modem econometric techniques to analyze the existence of a stable relation between real money holdings and inflation. Traditional econometric models use simple (linear and homogeneous) functions to represent this relation. One classical example is constituted by the Cagan model. We use Semi-NonParametric estimation techniques that show that the bivariate process between real money holdings and inflation has important departures from gaussianity and homogeneity. This feature provides insights regarding the effects of unanticipated innovations of inflation and real money holdings on their trajectory in time. Non linear impulse response analysis highlights the presence of asymmetries that would not be detected by traditional VAR models. Finally, parametric and non parametric techniques are used to evaluate the hypothesis of a stable long run relation between inflation and real money holdings. This hypothesis is strongly rejected by the data. The only stage in which a Cagan type relation may hold is under a reduced range of inflation levels.