Instead, we argue that the evidence is consistent with a stable long-run money demand with a unitary income elasticity and no time trend, if the monetary aggregate
is appropriately defined to capture the technological and regulatory innovations since 1980.
Because our aim is to produce an empirically weighted monetary aggregate
that is useful to policy makers making decisions in real time, we focus particularly on the out-of-sample properties of the new monetary aggregates
He follows the conventional method and assumes that a contractionary monetary policy shock is associated with a rise in interest rates, a fall in monetary aggregate
, and an appreciation of the nominal exchange rate.
As a result, monetary aggregates
cannot be used alone to predict or control inflation.
In this structure, the shock to the monetary aggregate
is equivalent to the residual error from the reduced-form equation.
Central banks around the world became convinced of the importance of money as a policy control variable and confident in the use of monetary aggregates
as intermediate monetary targets just at a time when everything started to go embarrassingly wrong.
9) It involves five main elements: 1) the public announcement of medium-term numerical targets for inflation; 2) an institutional commitment to price stability as the primary goal of monetary policy, to which other goals are subordinated; 3) an information inclusive strategy in which many variables, and not just monetary aggregates
or the exchange rate, are used for deciding the setting of policy instruments; 4) increased transparency of the monetary policy strategy through communication with the public and the markets about the plans, objectives, and decisions of the monetary authorities; and 5) increased accountability of the central bank for attaining its inflation objectives.
Recall that the monetary aggregate
M2 was used in the previous analysis.
The existence of an identifiable and stable demand function is an important requirement for any monetary aggregate
that serves as an intermediate target.
In addition, inflation targeting can avoid the problem presented by velocity shocks because it eliminates the need to focus on the link between a monetary aggregate
and nominal income; instead, all relevant information may be brought to bear on forecasting inflation and choosing a policy response to achieve a desirable inflation outcome.
First, the fluctuations in the monetary aggregates
in LDCs could be that they contain potentially useful information about future nominal or real income movements.
For example, total reserves and the monetary base are more closely related to the monetary aggregates
than are nonbol-rowed reserves, but they are more difficult to hit as operating targets.