FRACTIONAL COINTEGRATION AND AGGREGATE MONEY DEMAND FUNCTIONS

Guglielmo Maria Caporale and Luis Gil-Alana

Economics and Finance Discussion Papers from Economics and Finance Section, School of Social Sciences, Brunel University

Abstract: This paper examines aggregate money demand relationships in five industrial countries by employing a two-step strategy for testing the null hypothesis of no cointegration against alternatives which are fractionally cointegrated. Fractional cointegration would imply that, although there exists a long-run relationship, the equilibrium errors exhibit slow reversion to zero, i.e. that the error correction term possesses long memory, and hence deviations from equilibrium are highly persistent. It is found that the null hypothesis of no cointegration cannot be rejected for Japan. By contrast, there is some evidence of fractional cointegration for the remaining countries, i.e., Germany, Canada, the US, and the UK (where, however, the negative income elasticity which is found is not theory-consistent). Consequently, it appears that money targeting might be the appropriate policy framework for monetary authorities in the first three countries, but not in Japan or in the UK.

Pages: 25 pages
Date: 2005-01
New Economics Papers: this item is included in nep-cba, nep-ecm, nep-ets and nep-mac
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Journal Article: FRACTIONAL COINTEGRATION AND AGGREGATE MONEY DEMAND FUNCTIONS (2005)
Working Paper: FRACTIONAL COINTEGRATION AND AGGREGATE MONEY DEMAND FUNCTIONS (2005)
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