The Demand for Assets and Optimal Monetary Aggregation

Abstract

This paper uses a highly disaggregated demand system to estimate the degree of substitutability among monetary assets and to address the issue of optimal monetary aggregation in the United States. We address the problems of dimensionality and nonlinearity, estimating a very detailed monetary asset demand system encompassing the full range of assets based on the locally flexible normalized quadratic expenditure function. We treat the concavity property as a maintained hypothesis and provide evidence consistent with neoclassical microeconomic theory. Statistical tests reject the appropriateness of the aggregation assumptions for all the money measures published by the Federal Reserve as well as for a large number of groupings suggested by earlier studies. This supports and reinforces Barnett's (2016) assertion that we should employ the broadest M4 monetary aggregate published by the Center for Financial Stability.JEL codes: C3, C13, C51

Consumption, Leisure, and Money

“…In this regard, we would like to note that the superior performance of the (market-based) Divisia monetary aggregates has been demonstrated by a large number of studies, including Chauvet (2011), Hendrickson (2014), Serletis and Gogas (2014), and Ireland (2014, 2015), among others. More recently, Jadidzadeh and Serletis (2019) and Dery and Serletis (2019) provide evidence that supports and reinforces Barnett's (2016) assertion that we should use, as a measure of money, the broadest Divisia M4 monetary aggregate, and this is what we do in this paper. The real GDP data series that we use to model the time-varying probabilities is from the Federal Reserve Bank of St. Louis.…”

Money Supply Volatility and the Macroeconomy

“…The model is very similar with the threshold time series models, except that in the threshold time series models switching is deterministic [see, e.g., Caggiano et al (2014)], whereas in the Markov switching model switching is stochastic. Another feature of our paper is that it uses the CFS Divisia M4 monetary aggregate, as it has recently been suggested by Jadidzadeh and Serletis (2018), in their study of optimal monetary aggregation in the USA, and Dery and Serletis 2018, in their investigation of the relative information content of narrow and broad Divisia measures of money in explaining key macroeconomic variations. In this regard, Jadidzadeh and Serletis (2018) estimate a disaggregated demand system, encompassing the full range of monetary assets in the USA.…”

Divisia monetary aggregates for a heterogeneous euro area

“…Disregarding differences in opportunity costs and therefore the substitution effect between monetary assets may lead to a distorted picture of liquidity services available in the economy. Jadidzadeh and Serletis (2019) reject the appropriateness of the aggregation assumptions for all the money measures published by the Federal Reserve. According to (Belongia and Ireland 2014, p. 5), the only question about simple sum aggregates is the magnitude of their measurement error.…”