The Values of the Determinants and Tests of Stability of the Money Demand Function of the United States

Executive Summary. Using multivariate cointegration methodology, this paper examines the long-run stability of the U.S. money demand function using both nominal and real M1 and M2 monetary aggregates. The estimated results, based on the Johansen cointegration technique, found evidence that the U.S. M1 and M2 demand functions, nominal or real, have long-run stability. The magnitudes of the estimated parameters are different for different specifications of the models. The estimated real income elasticity and interest rate elasticity, over the specifications of the money demand functions, are more sensitive to the choice of the interest rate and less sensitive to the scale variable. The implication of this stability is that there is at least one common factor which influences money supply, real income and interest rates. This finding comes as no surprise, given the coordinated monetary policy of the U.S. Federal Reserve to control output and avoid inflation. The empirical results of this study, with respect to M1 money demand, are in contrast with the empirical evidence presented in some of the earlier studies.

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