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Real Balances and Industrial Output in Bangladesh: Is There a Production Relationship Between Them?

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  • Akhand Akhtar Hossain

Abstract

This paper examines the relationship between real balances (narrow or broad) and industrial output in Bangladesh with seasonally-adjusted monthly data for the period 1973:01-2003:06. The results of the ADF and the KPSS tests suggest that although real narrow money balances have a unit root, real broad money balances and industrial output do not seem to have a unit root. Therefore, the paper applies the bounds testing approach of Pesaran et al. (2001) to investigate the long-run relationship between real balances and industrial output, given that this approach remains valid ‘irrespective of whether the underlying regressors are purely I(0), purely I(1) or mutually cointegrated’. The empirical results suggest a long-run relationship between real balances and industrial output, while neither of them can be treated as a ‘long-run forcing variable’ for explaining the other. In the associated short-run model, the coefficient of the error-correction term bears the expected negative sign and is significant, which confirms the presence of a long-run relationship between real balances and industrial output. The forecasting ability of the error-correction model is satisfactory, especially with the broad definition of money. The overall results are consistent with the view that in an underdeveloped financial system, real money balances (especially broad money balances) should be considered a complementary, if not a primary, factor of production.

Suggested Citation

  • Akhand Akhtar Hossain, 2007. "Real Balances and Industrial Output in Bangladesh: Is There a Production Relationship Between Them?," The IUP Journal of Monetary Economics, IUP Publications, vol. 0(4), pages 66-83, November.
    • Handle: RePEc:icf:icfjmo:v:05:y:2007:i:4:p:66-83
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