The Banking and Finance Review

Interest Rates Elasticity of Money Demand In Different States of the Economy

Meng Li, Sumaria Mohan-Neill

Abstract


 

This paper investigates the long-term and short-term interest elasticity of money demand. Our cointegration analysis of US data from 1966Q1 to 2011Q1 confirms the existence of a stable long-run negative correction between interest rates and money demand. However, the short-term interest elasticity analysis reveals that the negative correlation between interest rate shocks and demand for money exists only when GDP grows, and the significant link reduces as GDP declines. This provides a partial explanation for the ineffectiveness of monetary policy during a financial crisis.


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