The Effects Of Financial Innovations On Demand For Money In Botswana

The study investigates the effects of financial innovation on demand for money in Botswana using annual data series for the period 1982-2017. The study uses the ARDL bounds testing approach to find the effects of financial innovation on demand for real narrow money and real broad money in Botswana. The ARDL approach integrates both the short run relationship and long run relationship. The study also estimates the demand for money function excluding the financial innovation proxy. The study also analyses the indirect effects through interactions of explanatory variables (GDP, exchange rate, inflation and interest rate with the financial innovation proxy). The results of co-integration showed that there existed a long run relationship between the demand for real narrow money and explanatory variables but no long run relationship when including financial innovation proxy. When including financial innovation proxy to the demand for real broad money model, there was co-integration of real broad money and explanatory variables. The results also showed that the financial innovation affect the real narrow money positively only in the short-run but not in the long run. Even though a long run relationship existed in real broad money when financial innovation proxy was included, the financial innovation affected the demand for real broad money negatively in the short run only. The overall net effects of financial innovation on demand for real money balances is negative. The results obtained support the theoretical and empirical studies that financial innovations do affect real money balances negatively. The interaction terms of financial innovation and macroeconomic variables showed that the effect of financial innovation depends on GDP, inflation, exchange rate and interest rate on real money balances. The marginal effect depicts a negative relationship between the financial innovation and demand for money. The study recommends that policy makers should always be thorough when estimating the demand for money. Especially that since financial innovation is an ongoing process, the unpredictable changes and uncertainties of it, could lead to misspecification of demand for money