Working Paper: NBER ID: w14098
Authors: Peter N. Ireland
Abstract: Post-1980 U.S. data trace out a stable long-run money demand relationship of Cagan's semi-log form between the M1-income ratio and the nominal interest rate, with an interest semi-elasticity below 2. Integrating under this money demand curve yields estimates of the welfare costs of modest departures from Friedman's zero nominal interest rate rule for the optimum quantity of money that are quite small. The results suggest that the Federal Reserve's current policy, which generates low but still positive rates of inflation, provides an adequate approximation in welfare terms to the alternative of moving all the way to the Friedman rule.
Keywords: welfare cost of inflation; money demand; nominal interest rate; Friedman rule
JEL Codes: E31; E41; E52
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| money-income ratio (E41) | nominal interest rate (E43) |
| semi-log specification (C29) | money demand (E41) |
| log-log specification (C51) | money demand (E41) |
| lower interest rates (E43) | lower welfare costs of inflation (D69) |
| current Federal Reserve policies (E52) | welfare costs (I30) |