DP 2019/7 - Benchimol, J. / Qureshi, I.: Time-Varying Money Demand and Real Balance Effects

Jonathan Benchimol, Irfan Qureshi

CFDS Discussion Paper 2019/7


This paper presents an analysis of the stimulants and consequences of money demand dynamics. By assuming that household’s money holdings and consumption preferences are not separable, we demonstrate that the interest-elasticity of demand for money is a function of the household’s preference to hold real balances, the extent to which these preferences are not separable in consumption and real balances, and trend infl‡ation. An empirical study of U.S. data revealed that there was a gradual fall in the interest elasticity of money demand of approximately one-third during the 1970s due to high trend in‡flation. A further decline in the interest-elasticity of the demand for money was observed in the 1980s due to the changing household preferences that emerged in response to …financial innovation. These developments led to a reduction in the welfare cost of infl‡ation that subsequently explains the rise in monetary neutrality observed in the data.

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