Money demand strongstabilitystrong A case study of Nigeria.pdfVIP

Money demand stability: A case study of Nigeria Saten Kumar, Don J. Webber and Scott Fargher Auckland University of Technology, Auckland, New Zealand Abstract This paper presents an empirical investigation into the level and stability of money demand (M1) in Nigeria between 1960 and 2008. In addition to estimating the canonical specification, alternative specifications are presented that include additional variables to proxy for the cost of holding money. Results suggest that the canonical specification is well-determined, the money demand relationship went through a regime shift in 1986 which slightly improved the scale economies of money demand, and money demand is stable. These findings imply that Nigeria could effectively use the supply of money as an instrument of monetary policy. Keywords: Money demand; Structural breaks; Cointegration; Monetary policy JEL Numbers: E41; C22 Acknowledgements: The authors thank Prof. B. Bhaskara Rao, Prof. Akinlo and Prof. Peter Howells for useful comments on earlier drafts. Any error remains the authors’ responsibility. Corresponding author: Don J. Webber, Department of Economics, Auckland University of Technology, Auckland, New Zealand. Email: don.webber@aut.ac.nz 1 1. Introduction The level and stability of the demand for money has received enormous academic attention because an understanding of its causes and consequences can usefully inform the setting of monetary policy. It is vital to investigate and test the stability of money demand since its instability is a major determinant of liquidity preference. In a seminal paper, Poole (1970) argued that the rate of interest should be targeted if liquidity preference is unstable while the money suppl