Working Paper: CEPR ID: DP2666
Authors: Edward Nelson
Abstract: Meltzer (1999a) shows that real monetary base growth is a significant determinant of consumption growth in the United States, controlling for the short-term real interest rate. In this paper, I show that the same property of base money holds for total output (relative to trend or potential) in both the United States and the United Kingdom. The standard optimizing IS-LM model cannot account for this result, but I show that it can once the long-term nominal interest rate is included in the money demand function. Because the long-term real rate matters for aggregate demand, the presence of the long-term nominal rate in the money demand function increases the effect of nominal money stock changes on real aggregate demand when prices are sticky.
Keywords: monetary base; monetary policy rules; monetary transmission mechanism; money and interest rates
JEL Codes: E32; E40; E51; E52
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| long-term nominal interest rate (E43) | real monetary base growth (E50) |
| short-term real interest rate (E43) | aggregate demand (E00) |
| real monetary base growth (E50) | nominal money stock changes (E49) |
| real monetary base growth (E50) | aggregate demand (E00) |
| real monetary base growth (E50) | consumption growth (E20) |
| real monetary base growth (E50) | total output (E23) |