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Money, Banking and Interest Rates: Monetary Policy Regimes with Markov-Switching VECM Evidence

Author

Listed:
  • Giulia Ghiani

    () (Politecnico di Milano)

  • Max Gillman

    () (Department of Economics, University of Missouri-St. Louis)

  • Michal Kejak

    (CERGE-EI Prague)

Abstract

The paper sets out theory and evidence for the equilibrium determination of the nominal interest rate. We test the cash-in-advance economy using US postwar data and find cointegration of the interest rate, inflation, unemployment and the money supply, using either M2 or M1 monetary aggregates, and the Federal Funds rate or the three month Treasury bill rate. Results are consistent both with a persistent monetary liquidity effect in the cointegrating vector coefficients and also a long run quantity theoretic relation. We identify three Markov-switching regimes similar to NBER contractions, expansions, and the "unconventional" period. Dropping money indicates model misspecification.

Suggested Citation

  • Giulia Ghiani & Max Gillman & Michal Kejak, 2014. "Money, Banking and Interest Rates: Monetary Policy Regimes with Markov-Switching VECM Evidence," Working Papers 1003, University of Missouri-St. Louis, Department of Economics.
  • Handle: RePEc:msl:workng:1003
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    File URL: http://www.umsl.edu/econ/Research/WorkingPapers/UMSL_ECON_WP_1003.pdf
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    Keywords

    Euler equation; money supply; non-stationarity; cointegration; Markov-Switching VECM.;

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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