the stability of money demand evidence from tu.DOCVIP

The stability of money demand: Evidence from Turkey PhD Chaido Dritsaki Technological Institute of Western Macedonia, Greece Department of Financial Applications e-mail: dritsaki@uom.gr and PhD Melina Dritsaki Brunel University West London e-mail: Melina.dritsaki@brunel.ac.uk Abstract Demand for money is an important macroeconomic relationship. Its stability has implications for the choice of monetary policy targets. The current study examines the stability of money demand function in Turkey from January 1989 to May 2010. More specifically, it estimates the demand for narrow money in Turkey and evaluates its robustness and stability. Considering the economic reforms and financial crises in Turkey, it is found that there exists a well-determined instability for money demand and its dynamics which is adequately captured by cointegration and error correction models. Finally, the conclusions from the estimation of the impulse response functions show that interest rate causes the largest shift in money demand as well as in the industrial production. Keywords: Demand for money, Monetary policy, Cointegration, Vector Error Correction Model, Stability, Impulse response function. JEL: C22, C32, E41, E52 1. Introduction Demand for money investigates what motivates people to hold money balances. Deducing from the estimations of money demand equations, the monetary authority can decide which monetary policies are better to implement under the current economic conditions. A stable demand function for money has long been perceived as a prerequisite for the use of monetary aggregates in the conduct of policy (Goldfeld and Sichel, 1990). The effectiveness and success of a monetary programme crucially depends on a stable money demand function. The stable money demand function ensures that the money supply would have predictable impacts on other economic variables such as inflation, interest rates, national income, and private investments. Therefore, the stability issue in money d