A large literature has shown money demand functions constructed from simple-sum aggregates are unstable. We revisit the controversy surrounding the instability of money demand by examining cointegrating income-money relationships with the Divisia monetary aggregates for the U.S., and compare them with their simple-sum counterparts. We innovate by conducting a more granular analysis of various monetary assets and their associated user costs. We find characterizing money demand with simple-sum measures only works well in a period preceding 1980. Divisia aggregates, their components, and their user costs provide a more reliable interpretation of money demand. Subsample analysis across 1980 and 2008 suggests the instability of money demand is a matter of measurement rather than a consequence of a structural change in agents’ preference for monetary assets.

We estimate elasticities of substitution between components of the Bank of England’s household-sector UK Divisia monetary aggregate using quarterly data from 1999 to 2019, encompassing the period surrounding the global financial crisis. The demand system includes interest-bearing sight and time deposits at monetary financial institutions as components, since deposit data for banks (excluding mutuals) and for mutuals are no longer published separately. We find that the elasticities of substitution that relate to changes in the user cost of noninterest-bearing monetary assets imply inelastic substitution over all or almost all of the sample and, consequently, a conventional monetary aggregate would be a highly misleading economic indicator relative to a Divisia monetary aggregate.

The monetary authority’s choice of operating procedure has significant implications for the role of monetary aggregates and interest rate policy on the business cycle. Using a dynamic general equilibrium model, we show that the type of endogenous monetary regime, together with the interaction between money supply and demand, does well to capture the actual behavior of a monetary economy—the USA. The results suggest that the evolution toward a stricter interest rate-targeting regime renders central bank balance sheet expansions ineffective. In the context of the 2007–2009 Great Recession, a more flexible interest rate-targeting regime would have led to a significant monetary expansion and more rapid economic recovery in the USA.

A small macroeconomic model is constructed to study the transmission of the monetary policy conducted by the Deutsche Bundesbank (DBB) since the middle of the 1970s. For this purpose, quarterly, seasonally unadjusted data for the period from 1975 to 1998 are used; that is, the period until the introduction of the Euro is considered. A vector error correction model is constructed for the German monetary sector based on M3, GNP, an inflation rate, a long-term interest rate, and a short-term rate that represents the policy variable of the DBB. Moreover, import price inflation is included as an exogenous variable to capture foreign effects. An impulse response analysis highlights the effects of changes in the short-term interest rate and shows the interaction of the main variables of the monetary sector.We thank Alexander Benkwitz for helping with the computations and Massimiliano Marcellino, Paulo Rodrigues, Phillipe Andrade, Harald Uhlig, Adrian Pagan, and two anonymous referees for comments. Financial support was provided by the Deutsche Forschungsgemeinschaft, Sonderforschungsbereich 373, and the European Commission under the Training and Mobility of Researchers Programme (contract No. ERBFMRXCT980213). The paper was presented at the EEA meeting and the ESEM in Venice in 2002.

This research examines the success of stabilization policies to control hyperinflation in Bolivia. Money demand functions for the hyperinflation and stabilization periods were econometrically estimated and statistically tested. We conclude that the demand for money in Bolivia changed after stabilization policies were implemented, indicating that the new government's objectives were met. Stabilization policies resulted in real economic growth for Bolivia's economy, including its agricultural sector, where agricultural export shares increased tenfold as stabilization policies corrected overvalued exchange rates.

The emerging consensus in monetary policy and business cycle analysis is that money aggregates are not useful as an intermediate target for monetary policy or as an information variable. The uselessness of money as an intermediate target is driven, at least in part, by empirical research that suggests that money demand is unstable. In addition, the informational quality of money has been called into question by empirical research that fails to identify a relationship between money growth and inflation, nominal income growth, and the output gap. Nevertheless, this research is potentially flawed by the use of simple sum money aggregates, which are not consistent with economic, aggregation, or index number theory. This paper therefore reexamines previous empirical evidence on money demand and the role of money as an information variable, using Divisia monetary aggregates. These aggregates have the advantage of being derived from microtheoretic foundations, as well as being consistent with aggregation and index number theory. The results of the reevaluation suggest that previous empirical work might be driven by mismeasurement.

The article investigates the determinants of consumer price inflation in China. While inflation has been entirely driven by international factors, such as food and energy prices, in the period preceeding the financial crisis, domestic drivers like monetary developments and nominal wages have become increasingly important since then. Due to tight trade linkages and the presence of Chinese firms in international production chains, the changing pattern is also relevant to other countries.

Do immigrants have a higher demand for large-denominated banknotes than natives? This micro study examines whether banknote orders for CHF 1,000 notes are concentrated in Swiss municipalities with a high foreign-to-native ratio. The evidence for 251 Swiss municipalities finds that immigrants hoard fewer CHF 1,000 banknotes than natives. This empirical result means that immigration reduces seigniorage (per person) as measured by banknote orders. A 1% increase in the immigrant-to-native ratio is coincident with a reduction in banknote orders by CHF 4,000. This reduction is attributed to specific traits linked to immigrants.

This paper studies the effects of monetary policy in an inventory-theoretic model of money demand. In this model, agents keep inventories of money, despite the fact that money is dominated in rate of return by interest-bearing assets, because they must pay a fixed cost to transfer funds between the asset market and the goods market. In contrast to exogenous segmentation models in the literature, the timing of money transfers is endogenous. As a result, the model endogenizes the degree of market segmentation as well as the magnitudes of liquidity effects, price sluggishness, and the variability of velocity. I first show that the endogenous segmentation model can generate the positive long-run relationship between money growth and velocity observed in the data, which the exogenous segmentation model fails to capture. I also show that the short-run effects of money shocks on prices, inflation, and nominal interest rates are not robust.

This paper builds on Lucas [Econometrica 68 (2000), 247–274] and on Cysne [Journal of Money, Credit and Banking 35 (2003), 221–238] to derive and order six alternative measures of the welfare costs of inflation (five of them already existing in the literature) for any vector of opportunity costs. We provide examples and closed-form solutions for each welfare measure based both on log–log and on semilog money demands, whenever possible in terms of elementary functions. Estimates of the maximum relative error a researcher can incur when using any of these measures are given. Everything is done for economies with or without interest-bearing deposits.

This paper explores the shape of the Japanese money demand function in relation to the historical path of the Bank of Japan's policy rate by employing Saikkonen and Choi's [Econometric Theory 20, 301–340 (2004)] cointegrating smooth transition model. The nonlinear model provides a unified econometric framework, not only for pursuing the time profile of interest elasticity, but also to test the linearity of the Japanese money demand function. The test results for the linearity of the Japanese money demand function provide evidence of nonlinearity with a semilog model and linearity with a double-log model. Using a nonlinear semilog model, the analysis also finds that Japanese money demand comprises three regimes and that the interest semielasticity began to increase in the early 1990s when the Bank of Japan set the policy rate below 3%.

This paper finds evidence of nonlinearities in the dynamics of the euro area demand for the narrow aggregate M1. A long-run money demand relationship is first estimated over a sample period covering the past three decades. Although the parameters of the relationship are jointly stable, there are indications of nonlinearity in the residuals of the error-correction model. This nonlinearity is explicitly modeled using a fairly general Markov switching error-correction model with satisfactory results. The empirical findings of the paper are consistent with theoretical predictions of nonlinearities in the dynamics of adjustment to equilibrium stemming from “buffer stock” and “target-threshold” models and with analogous empirical evidence for European countries and the United States.

We present the yearly evolution of the Spanish income velocity of money (M2) and we explain its behavior from 1850 to 2000. The Spanish income velocity of money displays a downward trend until 1973 and shows the expected U-shaped pattern at the end of the twentieth century. An international comparison shows how the Spanish trend change occurs with a lag due to the late industrialization. We estimate the determinants of the velocity—the inverse of the demand for money—for the period 1850–1997. A cointegration analysis and an error correction model investigate the importance of the institutional variables in explaining the long-run behavior of the income velocity of money in Spain. The findings reveal a greater stability in the long-run velocity model when the institutional variables are considered.

We generalize a money-in-the-utility function model to include interest-bearing deposits and use the model to estimate the welfare cost of inflation. In the model, the user cost of deposits is invariant to inflation in steady state. Currency and deposits are assumed to be weakly separable and the model is calibrated using index number methods. We find that the welfare cost of inflation is substantially lower in the model with interest-bearing deposits than in models where all monetary assets are assumed to be non-interest bearing. We also show that higher inflation can raise or lower the rate of convergence to steady state depending on the coefficient of relative risk aversion, but the effect is weak. We provide evidence for OECD countries suggesting that there could be a positive effect of inflation on user costs, which would lead to higher welfare cost estimates.

This paper explores single-equation nonlinear error correction (NEC) models with linear and nonlinear cointegrated variables. Within the class of semiparametric NEC models, we use smoothing splines. Within the class of parametric models, we discuss the interesting properties of cubic polynomial NEC models and we show how they can be used to identify unknown threshold points in asymmetric models and to check the stability properties of the long-run equilibrium. A new class of rational polynomial NEC models is also introduced. We found multiple long-run money demand equilibria. The stability observed in the money-demand parameter estimates during more than a century, 1878 to 2000, is remarkable.

A small macroeconomic model is constructed to study the transmission of the monetary policy conducted by the Deutsche Bundesbank (DBB) since the middle of the 1970s. For this purpose, quarterly, seasonally unadjusted data for the period from 1975 to 1998 are used; that is, the period until the introduction of the Euro is considered. A vector error correction model is constructed for the German monetary sector based on M3, GNP, an inflation rate, a long-term interest rate, and a short-term rate that represents the policy variable of the DBB. Moreover, import price inflation is included as an exogenous variable to capture foreign effects. An impulse response analysis highlights the effects of changes in the short-term interest rate and shows the interaction of the main variables of the monetary sector.We thank Alexander Benkwitz for helping with the computations and Massimiliano Marcellino, Paulo Rodrigues, Phillipe Andrade, Harald Uhlig, Adrian Pagan, and two anonymous referees for comments. Financial support was provided by the Deutsche Forschungsgemeinschaft, Sonderforschungsbereich 373, and the European Commission under the Training and Mobility of Researchers Programme (contract No. ERBFMRXCT980213). The paper was presented at the EEA meeting and the ESEM in Venice in 2002.