Abstract
The instability of standard money demand functions has undermined the role of monetary aggregates for monetary policy analysis in the euro area. This paper uses country-specific monetary aggregates to shed more light on the economics behind the instability of euro area money demand. Our results obtained from panel estimation indicate that the observed instability of standard money demand functions could be explained by omitted variables like e.g. technological progress that are important for money demand but constant across member countries.
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Notes
Beyer et al. (2001) discuss the alternative ways to construct synthetic euro area data.
If a European household invests money abroad, it will mainly be for portfolio reasons. On average cross-border holdings from other EMU members account for only 8% of deposits of non-monetary financial institutions, see ECB bank balance sheet statistics. Note that 8% is a stock and not a flow value such that flows could still be important within one period. Unfortunately, however, the availability of flow data on cross-country business is very limited. Cross-border holdings usually tend to be higher in smaller countries. Thus, cross-border holdings are more important in the US partly because the cross-sectional units (the states) are relatively small.
The time-series literature addresses the endogeneity issue by estimating VARs and testing for weak exogeneity, see e.g. Hayo (1999).
The only exception is Luxembourg which is not included because of data availability.
Currency accounts on average for 6.7% of M3 over the whole sample horizon.
Greece joined the euro in 2001, Slovenia, Cyprus, Malta and Slovakia followed.
In Mulligan and Sala-i-Martin (1992) the price indices cancel out when demeaning the data. Therefore they basically estimate a nominal demand function.
Blaes (2009) analyses the dynamics after changes in the monetary policy in more detail.
Note that these indexes are only available from 2000 onwards. Not all of these indexes are constructed in the same way but this is the best we can do because there is no EU-harmonised index, yet.
We also checked the robustness of our results with respect to country-specific effects of house prices. Allowing different effects for countries with weak and strong growth in house prices shows, however, that house prices are insignificant for both groups of countries. For brevity, results are not presented but are available on request.
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Acknowledgments
We thank Jörg Breitung, Christian Offermanns and two anonymous referees for helpful comments and suggestions. This research was supported by the Deutsche Forschungsgemeinschaft through the CRC 649 “Economic Risk”.
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Nautz, D., Rondorf, U. The (in)stability of money demand in the euro area: lessons from a cross-country analysis. Empirica 38, 539–553 (2011). https://doi.org/10.1007/s10663-010-9139-y
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DOI: https://doi.org/10.1007/s10663-010-9139-y