Money is what money predicts: the M* model of the price level

Gregory Hess and Charles Morris

No 95-05, Research Working Paper from Federal Reserve Bank of Kansas City

Abstract: Over the past twenty years, the monetary aggregates used by the Federal Reserve as indicators of economic activity and inflation have changed several times. Each of the changes in the measures of money was sparked by a breakdown in the fit of empirical money demand functions. The Federal Reserve's strategy following these breakdowns has been to redefine money by simply adding new assets to the old definitions. The criterion in each case was whether adding the new assets produced an empirically stable money demand function. Unfortunately, while a stable demand for money is a worthwhile ultimate goal, history has demonstrated that it is also an elusive one. ; In this paper, we propose an alternative objective for identifying a useful monetary aggregate--the price level. Our monetary aggregate is a weighted-sum aggregate where the weights on the component assets vary across assets and over time such that the aggregate is the best predictor of the price level. The only assumption made in choosing the weights is that the Quantity Theory of Money holds in the long run. We find that the new monetary aggregate, M*, has a stable velocity in the long run and that it predicts the long-run price level and rate of inflation better than M2.

Keywords: Money; Money supply (search for similar items in EconPapers)
Date: 1995
References: Add references at CitEc
Citations: View citations in EconPapers (3)

There are no downloads for this item, see the EconPapers FAQ for hints about obtaining it.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:fip:fedkrw:95-05

Ordering information: This working paper can be ordered from

Access Statistics for this paper

More papers in Research Working Paper from Federal Reserve Bank of Kansas City Contact information at EDIRC.
Bibliographic data for series maintained by Zach Kastens ().