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The Instability of the Money Demand Function: An I(2) Interpretation

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  • Norbert Fiess
  • Ronald MacDonald

Abstract

Some studies have suggested that although money and prices appear to be I(2) processes, real money balances are I(1) and this transformation preserves an important long‐run relationship between money and prices. In this paper we present evidence indicating that the success of such a nominal‐to‐real transformation depends upon the particular monetary aggregate under consideration. It turns out that imposing long‐run price homogeneity does not remove all I(2) components from a model of aggregate broad UK M4, but it does prove successful in the case of sectoral components of M4. Since recent research on money demand functions finds more stable relationships between sectoral components of M4 and aggregate demand, our analysis seems to point to a direct link between the existence of I(2) components and the stability of different money demand functions.

Suggested Citation

  • Norbert Fiess & Ronald MacDonald, 2001. "The Instability of the Money Demand Function: An I(2) Interpretation," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 63(4), pages 475-495, September.
    • Handle: RePEc:bla:obuest:v:63:y:2001:i:4:p:475-495
    DOI: 10.1111/1468-0084.00230
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    Cited by:

    1. Boucekkine, R. & Laksaci, M. & Touati-Tliba, M., 2021. "Long-run stability of money demand and monetary policy: The case of Algeria," The Journal of Economic Asymmetries, Elsevier, vol. 24(C).

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