Ecm Malasyia
Ecm Malasyia
Ecm Malasyia
Jurnal
Ekonomi
Foreign
Malaysia
Opportunity
38 (2004)
Cost,
29 -and
62 Money Demand
29
Stock Prices, Foreign Opportunity Cost, and Money Demand in Malaysia: A Cointegration
and Error Correction Model Approach
Mohd Zaini Abd Karim
Tang Boon Guan
ABSTRACT
The main purpose of this study is to investigate the relevance of stock price
and foreign opportunity cost variables to the money demand function in
Malaysia using quarterly data over the period of 1982:1 to 1998:2 by
employing recently developed econometric techniques of cointegration
and error correction modeling. To take into account the effect of Asian
Financial Crisis in mid 1997 on the behavior of the demand for money
in Malaysia, the sample period is divided into two sub-samples: 1982:1
to 1996:4 and 1982:1 to 1998:2. The results provide evidence that the
crisis somewhat affect the behavior of the money demand. The results of
the study also show that the real money balances, real income, moneys
own rate of return, the rate of return of alternative assets, stock prices,
expected exchange rate depreciation and foreign interest rate are cointegrated suggesting the existence of a stable long run relationship among
them in spite of the nancial liberalization and innovation process that
the Malaysian nancial system has been experiencing. In addition, the
results also indicate the dominance of wealth effect over substitution effect
and the presence of currency substitution in Malaysia.
Keywords: stock prices; foreign opportunity cost; money demand; cointegration
ABSTRAK
Tujuan utama kajian ini ialah untuk menyiasat kerelevanan harga stok
dan pembolehubah kos melepas asing dalam fungsi permintaan wang di
Malaysia dengan menggunakan teknik kointegrasi dan model pembetulan
ralat. Analisis dijalankan menggunakan data sukuan bagi jangkamasa
1982:1 hingga 1998:2. Bagi mengambilkira kesan krisis kawangan Asia
pada pertengahan tahun 1997 ke atas gelagat permintaan wang di Ma-
30
31
the demand for money through a positive wealth effect and a negative
substitution effect. The positive wealth effect may due to three factors:
rst, the implied increase in nominal wealth; second, the portfolio adjustments from risky assets to safe assets; and nally, an induced rise in the
volume of nancial transactions which will require higher money balances
to facilitate them. On the other hand, the negative substitution arises from
the notion of opportunity cost of holding money, where as the increase in
the equity prices makes the holdings of monetary assets less attractive.
Thus there may be a shift from money to stocks.
Thornton (1998) noted that the dominance of the wealth effect over
the substitution effect, i.e. an increase in the stock price means higher
money holdings, requires easier monetary growth for a given target of
a nominal income or ination during periods of increasing stock market
prices. By contrast, if the substitution effects dominance i.e. the increase
in the stock prices means less money demand, then tighter monetary
policy is needed.
The relationship between the demand for money and the expected
depreciation of the exchange rate has been fully documented by earlier
empirical studies such as Bahmani-Oskooee and Malixi (1991), Marashdeh (1995 and 1997) and Tan (1997). The currency substitution literature
provides evidence of how the exchange rate inuences the demand for
money. Currency substitution postulates that when the exchange rate depreciates, it implied that the expected return from holding foreign money
increases, and hence, agents would substitute the domestic currency to
foreign currency.
However, according to Tan (1997), the impact of domestic currency
depreciation on the domestic demand for money can be either positive or
negative. The impact can be negative if the domestic currency depreciation leads public to anticipate a further depreciation, increase incentive
for them to hold for foreign currency against domestic currency. On the
other hand, a positive inuence can result if the depreciation heightens
expectation that the domestic currency would rebound, thus inducing
people to hold more domestic money.
The presence of these factors like the rapid development of the nancial sector and the expected depreciation of exchange rate on the demand
for money may have important implications for monetary policies. The
failure to incorporate these factors in the money demand function will
result in model miss-specication and bias in estimation of the money
demand function.
In Malaysia, the government has played very important role to attain
32
33
34
35
ringgit bond market. In spite of the rapid growth of the primary market
in the 1970s and 1980s, the secondary Government securities market was
relatively inactive. This continued in to the decade of 1988-August 1999
on account of the holding bias created by the captive market conditions,
limited supply of Malaysian Government Securities (MGS) during the
period 1988-97 as well as steady and regulated yields during the period
1988-90.
The decade witnessed the setting up of the private debt securities (PDS)
market to complement the Government securities and equity markets,
following the policy to promote the private sector as the main engine of
growth in the economy in the mid-1980s. The increasing importance of
the market was reected in its share of 35.8% of funds raised in the capital
markets during the decade.
Accompanying the upsurge in the demand for capital and the development of the capital markets, was the emergence of the need for risk
management facilities and hence, derivatives markets offering additional
nancial products. Although commodity futures were traded on the Kuala
Lumpur Commodity Exchange as early as 1980, nancial futures rst
emerged in 1995 with the introduction of the Kuala Lumpur Stock Exchange Composite Index Futures (FKLI) on the Kuala Lumpur Options
and Financial Futures Exchange (KLOFFE) in 1995, and the 3-month
Kuala Lumpur Inter-bank offered Rate futures on the Malaysia Monetary
Exchange (MME, renamed the Commodity and Monetary Exchange of
Malaysia (COMMEX) in 1996.
Establishment of the nancial futures markets was initiated by putting in place the legal and regulatory framework. This involved enacting
the Futures Industry Act 1993, empowering the Ministry of Finance
to regulate the trading of futures contracts. The Ministry subsequently
empowered the Securities Commission (SC) to regulate the industry, while
KLOFFE and COMMEX were allowed to operate as self-regulatory frontline regulators. Besides setting up KLOFFE and COMMEX, the Malaysian
Derivatives Clearing House Bhd. (MDCH) was established in 1995 to clear
contracts traded.
LITERATURE REVIEW ON MONEY DEMAND
36
The study on money demand in developing countries has not yet been
done extensively. One of the reasons is that the nancial markets in
developing countries have not yet reached a well-developed state. As a
consequence, the rate of interest does not imply the real opportunity cost
of holding money and also most of the researchers have a problem in
obtaining the data.
However, there were several studies that have done in developing
countries like Malaysia. Hamzaid (1984) used quarterly time series data
for the period 1967 to 1981 to determine the effects of foreign interest
rate on Malaysian money demand function by using both the OLS and
Hatanakas residual-adjusted Aitken estimation techniques. He found that
in addition to real income and local interest rate, foreign interest rate also
has signicant effects on Malaysian money demand function. Hamzaid
also studied the role of real income, interest rate, and the rate of ination
on Malaysian money demand function for the same period. The variables
used in this study were M1, M2, consumer price index, gross national
product and the interest rate of nine months time deposits. The result of
this study showed that, for M1, the Malaysian money demand was a function of real income and interest rate. For M2, however it was not only a
function of real income, interest rates but also a function of ination rate.
The demand for M2 was more sensitive to the rate of ination than the
rate of interest. In addition, the stability test indicates that the Malaysian
money demand functions were unstable over time.
Mansor (1987) carried out an empirical study on the demand for
money in Malaysia for the period 1967 to 1984 by using an adjustment
mechanism in the model. The results showed that the Malaysian money
demand inuenced by real income, nominal interest rate, expected rate
of ination and the price level.
Roslan and Muzafar (1987) also conducted an empirical work to
determine whether Malaysian money demand function has to use real or
nominal partial adjustment model. They used time series data for the period
1961 to 1983. The variables used in this study were monetary aggregates,
M1, M2, M3, consumer price index, gross national product and 3-month
Treasury bill rates as proxy to the rate of interest. The results showed that
Malaysian money demand function for both specications were unstable.
However, the real specication has more precise predictive power than
the nominal specication. He concluded that money demand function for
Malaysia could use both specications.
Marashdeh (1995) specied the demand for money in Malaysia as
a function of real income, own rate of return, interest rate on alterna-
37
tive assets, real effective exchange rate and lagged money balances. He
reported that the demand for narrow money is inuenced by income,
3-month treasury bills rate, and the lagged money balances; whereas M2
is affected by real income, own rate of return (6-month mode deposit
rate), 3-month treasury bills rate and lagged money balances. The results
also indicate that the real effective exchange rate has a negative impact
in the short run, but it has no impact in the long run. However, the study
does not check for the degree of cointegration among the variables (the
presence of spurious correlation problem among the variables).
Marashdeh (1997) used the cointegration and error correction methods
to estimate the Malaysian money demand (M1) with monthly data over
the 1980:1 to 1994:10 period. The results suggest that the variables are
signicant in inuencing the demand for money in Malaysia in the short
run are income, expected ination rate, the rate of return on 6-month
mode deposit rate, expected depreciation of the exchange rate, seasonal
dummies, and the error correction variable from the long run demand
for money.
Tan (1997) also estimated the money demand function using M0, M1
and M2 to assess the role of nancial developments in the structural stability of the function using quarterly data from 1973:1 to 1991:4. He specied
the real money demand to be a function of real gross domestic product,
moneys own rate of return, rate of return on alternative assets, and the
exchange rate index. The results indicate the presence of a cointegrating
vector that governed the long run money demand
functions. In addition, the results suggest the presence of structural instability in the long
run relationships between real money demand and its determinants.
Gurley and Shaw (1960) argued that nancial innovations by increasing the number of substitutes for money would increase the interest elasticity of money demand. According to Friedman (1988), an increase in stock
prices will affect the demand for money through a positive wealth effect
and a negative substitution effect. The positive wealth effect arises from
the implied increase in nominal wealth, the portfolio adjustments from
risky assets to less risky assets and the increase in the volume of nancial
transactions. On the other hand, the negative substitution arises from the
notion of opportunity cost of holding money, where as the increase in the
equity prices makes the holdings of monetary assets less attractive.
Bahmani-Oskooee and Pourheydarian (1991) estimates the money
demand function for UK by using quarterly data over the floating
exchange rate period 1973 to 1987. The ndings showed that the real
effective exchange rate had a signicant effect on the demand for money
38
in UK for both short run and long run. Since the long run exchange rate
elasticity of the demand for money in UK was positive, it was concluded
that an increase in real effective exchange rate, i.e. the depreciation of the
British Pound would increase the demand for money. Hence, it has led to
a decrease in the effectiveness of a given monetary policy.
Leventakis (1993) examined empirically the role of currency substitution and capital mobility in affecting money demand in major industrial
countries over the oating exchange rate period. The empirical results
provide evidence of capital mobility in the case of one or both monetary
aggregates for all seven countries. However, the ndings could not provide
evidence of currency substitution in the selected countries.
Arize and Shwiff (1993) estimates the broad money demand for Japan over the period from 1973 to 1988 by using cointegration approach
and error correction modeling. The empirical ndings suggest that the
explanatory variables that signicantly inuence the real broad money
demand in the short run are changes in real exchange rates, ination and
interest rate spread. However, in the long run, the variables that inuence
money demand on real broad money are real income, wealth and real
exchange rate. Their results suggest that monetary policy actions aimed at
stabilizing the economy and counteracting the impact of external shocks
must take into account the response of domestic money demand to these
external factors.
Moghaddam (1997) estimates the M2 demand for money using an
error correction model for the period 1959:1 to 1987:4 and two subperiods 1959:1 to 1973:4 and 1974:1 to 1987:4. The ndings suggested
that lower interest and price elasticity for money demand in the second
sample in which money substitutes proliferated or in the era of nancial
innovations.
Michael (1998) estimates the German money demand function
quarterly over the period 1975:1 to 1996:4. The results show that money
demand in German is remarkable stable. The author also suggests that
the preconditions for monetary targeting in Germany still apply, as there
is also a long run relationship between money and prices. This stable
relationship may be a contribution to a stable European demand for
money.
Obben (1998) found that narrow money is quite responsive to changes
in real income and interest rate in both short run and long run. Broad
money is income inelastic regardless of the time horizon. However it is
interest rate inelastic in the short run but interest rate elastic in the long
run. Price elasticity of money demand is negligible in the short run but
39
quite signicant in the long run. Changes in the proportion of commercial bank assets placed in foreign money markets do not seem to affect
demand for narrow money but their effect on the demand for broad money
is both direct and signicant.
Martin and Winder (1998) carried an empirical analysis of the demand for money in the European Union as a whole over the period 1971
to 1995, with particular focus on the impact of nancial wealth. The
empirical evidence shows a substantial impact on the demand for M2 and
M3, but not for M1. The ndings may explain the remarkable in of the
broad monetary aggregates over the last decade. Hence, by taking into
account the growth of wealth, the monetary expansion has been fairly
modest. The evidence thus indicates that the strong increase of M2 and
M3 should be attributed to portfolio investment considerations rather than
to an expansionary monetary policy.
MODEL SPECIFICATION AND DATA
From previous empirical literatures, the demand for real money balances
is determined by a scale variables and the opportunity cost of holding
money variable (Sriram 2001). The general specication for long-term
money demand function can be stated as below:
M/P = f (S, OC)
Where the demand for real balances M/P is a function of the chosen scale
variable (S) to represent the economic activity and the opportunity cost
of holding money (OC). M stands for the selected monetary aggregate in
nominal term and P for the price level. Given the above general framework,
there were a lot of issues concerning the selecting and representation of
variables, modeling and estimation.
Previous literature showed that money demand has been estimated
for various aggregates, their components, or certain combination of these
components. Scale variable is used in the estimation as a measure of
transactions relating to the economic activity. It is usually represented by
variables expressing income, expenditure, or wealth concept. The price
variable is selected to follow closely scale variable, although consumer
price index is the most commonly used measure.
One of the most important aspects of modeling the demand for money
is the selection of appropriate opportunity cost variables. The literature has
shown that studies, which paid inadequate attention on this matter, will
40
produce poor results. There are two major ingredients: (i) own-rate and
(ii) alternative return on money. The former happens to be very important,
especially if the nancial innovation has been taking place in an economy
(Ericsson 1998). The latter involves yields on domestic nancial and real
assets for a closed economy, and additionally on foreign assets for an open
economy. A number of instruments are available to represent the yields
on domestic nancial assets. Usually, the yield on real assets is proxied
by the expected ination.
On the other hand, the return on foreign assets usually represented
by the foreign interest rate or exchange rate variable. As a result, prior to
selecting appropriate opportunity cost variables, the researchers should
pay careful attention on evaluating macroeconomic situation and developments in the nancial system (including institutional details and the
regulatory environment), and the degree of openness of the economy.
Economic theory provides some guidance in reference to the relationship between demand for money and its determinants. As the scale variable
represents the transactions or wealth effects, it is positively related to the
demand for money. The money own rate of return is expected be positively
related to the demand for money as the higher the return on money, less
the incentive to hold alternative assets as money. Conversely, higher the
returns on alternative assets, lower the incentive to hold money, so the
coefcients of alternative returns expected to be negative.
On the other hand, the expected ination generally has negative
effect on the demand for money, as agents prefer to hold real assets as
hedges during the rising ination periods. The foreign interest rates are
also expected to have negative inuence on demand for money. This is
because as increase in foreign interest rates potentially induce the domestic
residents to increase their holding of foreign assets and reduce the local
money demand. Similarly, the expected exchange depreciation will also
have a negative relationship. An increase in expected depreciation implies
that the expected returns from holding foreign money increase, and hence,
agents would substitute the domestic currency for foreign currency.
As a consequence, the demand for money in Malaysia is assume
to depend on a scale variable and the opportunity cost variables. The
measured real income as a scale variable is proxied by the real industrial
production index.1 This is due to the unavailability of either quarterly data
on real gross domestic product or real gross national product. Although
quarterly gures can be generated from annual data, we decide not to use
such method since the possibilities of measurement errors are large in such
cases. If measurement errors are correlated with the independent variables,
41
the use of OLS may lead to biased and inconsistent estimates. Hence, we
just use the real industrial production index as a proxy to real income.
The selection of opportunity cost variable is one of the most important
aspects in modeling the demand for money. The appropriate rate of return
on money is saving deposit rate. The 3-month treasury bills rate is used to
represent the alternative return on money because the market is sufciently
liquid in Malaysia and the data are readily available.
To account for the openness of the economy, the exchange rate variable that is represented by exchange rate index2 and foreign interest rate
represented by US 3-month treasury bills rate are added to the model to
capture the substitution between domestic and foreign currencies. The
stock price variable is also include in the model and is proxied by the
Kuala Lumpur Composite Index (KLCI).
Base on the arguments, the long run money demand function be
specied as follows:
Mt = f (Yt, Rt, ARt, St, Et, FRt).
(1)
Where Mt is the real balance (Mt / Pt), Yt is the real income level, Rt is the
rate of return on money, ARt is the alternative return on money, St is the
stock prices, Et is the exchange rate measure, FRt is the foreign interest
rate, and Pt is the price level.
All variables are in natural logarithmic form. We employed two
alternative monetary aggregates for the dependent variable Mt, namely
M1 and M2. As in the theoretical models, the empirical model generally
species the money demand as a function of real balances (Laidler 1993).
Using real money balances as the dependent variable will also mean that
the price homogeneity is explicitly imposed to the model. Furthermore,
there are less severe econometric problems associated with using real
rather than nominal balances as the dependent variable (Johansen &
Juselius 1990).
The scale variable, the real income level (Yt) is proxied by the real
production index, represents the transactions or wealth effects. Hence, it
is expected to be positive related to the desired money balances.
Rt, the rate of return on money is proxied by the saving deposit rate.
So, the coefcient of the saving deposit rate is expected to be positive
since it represents the own rate of money. Hence, the higher the return on
money, the less incentive to hold alternative assets compare to holding
money.
Conversely, ARt, represent the rate of return of alternative assets that
proxied by the 3-month treasury bills rate. Since, the higher the returns on
42
alternative assets, lower the incentive to hold money, therefore the coefcient of the 3-month treasury bills rate is expected to be negative.
The coefcient of stock prices (St) variable can have positive or negative signs. The sign depends on whether a substitution effect or wealth
effect dominates. If wealth effect is larger than the substitution effect, an
increase in the stock price means higher money holdings. The economic
agents would increase their demand for money balances for transaction,
precautionary and speculative purposes since they became wealthier as
increase in stock price. Hence, the coefcient of stock price variable is
expected to be positive. On the other hand, if substitution effect dominates,
increase in the stock prices means less money demand. Therefore, the
coefcient of the stock price variable is expected to be negative.
The impact of exchange rate (Et) on the domestic demand for money
also can either be positive or negative. If the currency depreciation leads
the public to anticipate further depreciation, then it exerts a negative inuence on money demand. Furthermore, an increase in expected depreciation
implies that the expected return on holding foreign money increases. As
a result, agents would substitute domestic currency for foreign currency.
On the other hand, if public anticipate an appreciation of exchange rate,
it is expected to have a positive inuence on the money demand. This is
because, when appreciation of exchange rate is anticipated, the expected
return on holding foreign money decreases. Hence, agents would substitute
foreign currency for domestic currency.
An increase in foreign interest rates will induce domestic residents to
increase their holding of foreign assets that will be nanced by drawing
domestic money holdings. Therefore, the foreign interest rate variable
(FRt) is expected to have negative inuence on the domestic money
demand (Arize 1994 & Khalid 1999). Hence, the coefcient for FRt is
expected to be negative.
Base on the above argument, the empirical money demand function
use in this study is as follow:
Mt = f (RIPIt, SDt, TBt, CIt, ERIt, FTBt)
(2)
Where Mt is the real balance (Mt / CPIt), RIPIt is the Real Industrial Production Index (1990=100), SDt is the Saving Deposit rate, TBt is the 3-month
Treasury Bills rate, CIt is the Kuala Lumpur Composite Index, ERIt is the
Exchange Rate Index (1990=100), FTBt is the US 3-month Treasury Bills
rate and CPIt is the Consumer Price Index (1990=100).
For the convenient of estimation, the formulation for M1 and M2
can be rewrite as follows:
43
Model 1
Ln Mt = 0 + 1LnRIPIt + 2LnSDt + 3LnTBt + 4LnCIt + 5LnERIt
+ 6LnFTBt + et1
(3)
where et1 is the random error which is assumed to satisfy the least square
classical assumptions. To summarize, the expected sign of coefcients
for the explanatory variables are as follows:
1, 2 > 0; 3, 6 < 0; 4, 5 < or > 0
Equation (2) poses several technical problems. First, are the variables
stationary in level? Non-stationary of data may lead to biased t-statistics
and hence, results of the regression become invalid. Hence, testing for
the stationary of data is a prerequisite for further analysis. Applying the
Dickey Fuller (DF), Augmented Dickey Fuller (ADF), or the Phillips-Perron (PP) unit root tests can be used to determine the stationarity of data.
Second, the above equation also ignores the dynamic nature of money
demand. Therefore, to account for dynamics of the model, an error correction model could be specied in rst difference as follow:
Model 2
(4)
According to Phillips (1987), regression involving variables in level that
are I(1) but are not cointegrated will yield spurious results. That implies
only cointegrated variables are to be used in regressions that involve
variables in level. To solve this problem, a priori tests of stationarity
and cointegration are needed. Both the Augmented Dickey Fuller (ADF)
and Phillips-Perron (PP) tests are conducted to determine the integration
properties of the data series. The PP test is robust in the presence of autocorrelation and heteroscedaticity.
The regression equation for the ADF test (Dickey & Fuller 1979) is
given as follows.
(5)
where is the rst difference operator, t refer to time trend, and k is additional terms in the lagged differences for the ADF test. et is the regression
error assumed to be stationary with zero mean and constant variance. The
Phillips and Perron (1988) test is also based on equation (5) but without
the lagged differences. In both tests, null hypothesis is the presence of a
unit root. (c=0 for ADF and c=1 for PP). Selection of the appropriate lag is
44
FIGURE 1
FIGURE 2
FIGURE 3
FIGURE 4
FIGURE 5
FIGURE 6
45
46
FIGURE 7
FIGURE 8
FIGURE 9
FIGURE 10
FIGURE 11
FIGURE 12
FIGURE 13
FIGURE 14
FIGURE 15
FIGURE 16
47
are utilized for this purpose (Johansen 1988; Johansen & Juselius 1990).
This approach is preferred over the Engle-Granger two-step procedure
because the Johansens method can be used to establish the numbers of
distinct cointegrating vectors and also does not have the drawbacks of the
Engle-Granger approach to cointegration.
In applying Johansen technique, however, we need to decide about
the order of VAR. From the literatures, when data are quarterly, a common
practice is to use four lags (Choudhury 1995; Khalid 1999). The results
of Johansen multivariate cointegration test are reported in Table 2 and 3
where r indicates the number of cointegrating vectors. The trace statistics
for the VAR of 4 are reported in the table.
The cointegration tests were conducted rst for M1 balances for 2
sub-samples: 1982:1 to 1996:4 and 1982:1 to 1998:2 to evaluate the effect
of Asian Financial Crisis in mid 1997 on the behavior of the demand for
48
Variable
Phillips-Perron Test
(PP)
Level
First difference
Level
First differ-
1.546191 (1)a
1.280907 (0)
3.085212 (2)
0.633243 (0)
2.251583 (1)
1.030802 (0)
2.041439 (1)
2.330687 (2)
3.434587***(3)
5.060352*(2)
5.624373*(5)
4.688931*(0)
4.455646*(0)
3.642326**(0)
4.836812*(1)
3.743229**(1)
1.599926
1.575200
1.294624
0.731868
2.339219
1.546006
1.032107
2.110016
6.121044*
7.048607*
7.541965*
8.566863*
7.816062*
7.188294*
4.542903*
4.176328*
ence
Ln M1
Ln M2
Ln Y
Ln R
Ln AR
Ln S
Ln E
Ln FR
*, ** and *** denotes rejection of a unit root hypothesis based on MacKinnons critical
value at 1%, 5% and 10% respectively.
Eigenvalue
Likelihood
ratio
49
1 percent
critical value
Hypothesized
no. of CE(s), r
133.57
103.18
76.07
54.46
35.65
20.04
6.65
None**
At most 1**
At most 2**
At most 3**
At most 4**
At most 5**
At most 6
133.57
103.18
76.07
54.46
35.65
20.04
6.65
None**
At most 1**
At most 2**
At most 3**
At most 4*
At most 5
At most 6
*(**)
Notes:
Series:
50
Eigenvalue
Likelihood
ratio
1 percent
critical value
Hypothesized
no. of CE(s), r
133.57
103.18
76.07
54.46
35.65
20.04
6.65
None**
At most 1**
At most 2**
At most 3**
At most 4*
At most 5
At most 6
133.57
103.18
76.07
54.46
35.65
20.04
6.65
None**
At most 1**
At most 2 **
At most 3 *
At most 4
At most 5
At most 6
*(**)
Notes:
Series:
51
interest rate have a negative effect on the demand for money with elasticities of 1.217 and 0.085 respectively.
On the other hand, the estimated long run M1 demand function for
the second sub-sample (1982:1 to 1998:2) is shown as follow:
Ln M1t = 4.460 + 0.551Ln RIPIt + 0.573Ln SDt 0.196Ln TBt +
0.515Ln CIt
1.076Ln ERIt 0.142Ln FTBt
The above result indicates that the long run income elasticity of M1 is
0.551. This is larger than the elasticity for the previous sub-sample. The
elasticity of moneys own rate is also higher (0.537) but the rate of return
of alternative assets yield lower elasticity (0.196). The elasticity of stock
price and the exchange rate is also lower (0.515 and 1.076 respectively).
However, the elasticity of foreign interest rate yields higher elasticity
(0.142). The comparison of the elasticities based on the two sub-samples
is presented in Table 6 (Panel A).
For the case of M1 in Table 4, the normalized cointegration vector
shows that the variables have the expected signs according to economic
theory and the literatures.
Ln M2t = 8.419 + 0.871Ln RIPIt + 0.954Ln SDt 0.107Ln TBt +
0.301Ln CIt
1.738Ln ERIt 0.357Ln FTBt
The estimated long run income elasticity of M2 demand is 0.871. The
moneys own rate and the rate of return of alternative assets also have a
correct signs with the elasticities of 0.954 and 0.107 respectively. The
elasticity of stock prices is 0.301 indicating that the stock price has positive inuence on money demand through the wealth effect. The expected
exchange rate depreciation and the foreign interest rate yield the elasticity
of 1.738 and 0.357 respectively.
On the other hand, the estimated long run M2 demand function for
the second sub-sample (1982:1 to 1998:2) is shown as follow:
Ln M2t = 3.528 + 1.122Ln RIPIt + 0.571Ln SDt 0.111Ln TBt +
0.142Ln CIt
0.734Ln ERIt 0.017Ln FTBt
The equation above shows that the income elasticity for M2 is 1.122,
which is higher than unity. This gure may reect the rapid growing of
Ln Y
Ln R
0.57248
(0.0301)
(19.019)
Ln M1
TABLE 4.
0.19548
(0.0167)
(11.705)
0.23410
(0.0180)
(13.006)
Ln AR
0.51549
(0.0165)
(31.242)
0.55488
(0.0202)
(27.469)
Ln S
1.07554
(0.0953)
(11.286)
1.21656
(0.1101)
(11.500)
Ln E
0.14235
(0.0153)
(9.304)
0.08477
(0.0152)
(5.577)
Ln FR
4.46013
5.24679
52
Jurnal Ekonomi Malaysia 38
0.11121
(0.0253)
(4.397)
0.10694
(0.0365)
(7.410)
Ln AR
0.14184
(0.0232)
(6.114)
0.30124
(0.0439)
(2.930)
Ln S
0.73407
(0.1457)
(5.038)
1.73774
(0.3466)
(6.862)
Ln E
0.01557
(0.0251)
(0.620)
0.35697
(0.0679)
(5.014)
Ln FR
3.52771
(5.257)
8.41874
Panel A and B in Table 5 presents the long run relationship between M2 and its determinants for the two sub-samples. The estimated long run
M2 demand function for sub-sample one (1982:1 to 1996:4) is reproduced below:
0.57093
(0.0472)
(12.096)
B: 1982:1 to 1998:2
1
1.12141
(s.e)
(0.0288)
(t-ratios)
(42.156)
Log likelihood 804.6910
Ln R
0.95367
(0.1287)
(16.314)
Ln Y
A: 1982:1 to 1996:4
1
0.87119
(s.e)
(0.0534)
(t-ratios)
Log likelihood 784.8107
Ln M2
TABLE 5.
54
0.872
1.121
28.56%
(1982:1 to 1996:4)
(1982:1 to 1998:2)
(i)
(ii)
(Difference in percentage)
(Difference in percentage)
M2
11.09%
(1982:1 to 1996:4)
(1982:1 to 1998:2)
(i)
(ii)
B:
0.496
0.551
M1
Yt
40.15%
0.954
0.571
24.08%
0.461
0.572
Rt
3.74%
0.107
0.111
16.67%
0.234
0.195
ARt
0.301
0.142
7.21%
0.555
0.515
St
52.82%
Elasticity
57.77%
1.738
0.734
11.59%
1.217
1.076
Et
The comparison of long run elasticity for two sub-samples (M1 and M2)
A:
Variable
TABLE 6.
95.52%
0.357
0.016
67.06%
0.085
0.142
FRt
56
(5.386)*
Variable
57
Constant
0.013395
Ln Mt2
0.251209
Ln Mt3
0.410646
Ln Yt
0.294870
Ln Yt3
0.384176
Ln Rt
0.121979
Ln Rt3
0.106970
Ln Rt4
0.158701
Ln ARt1
0.115132
Ln ARt2
0.114344
Ln ARt3
0.097890
Ln ARt4
0.099567
Ln St
0.170126
Ln Et
0.349103
Ln Et1
0.404976
Ln Et2
0.447120
Ln FRt4
0.115092
D3
0.034923
EC1t1
0.415008
R-squared
0.727
S.D. dependent var
0.041
Sum squared resid
0.028
Durbin-Watson stat
1.728
Breusch-Godfrey LM (4) 2.523 (0.64)
White Heteroskedasticity 29.487 (0.73)
Std. error
0.006066
0.144410
0.142120
0.108463
0.086780
0.046242
0.054594
0.052921
0.037073
0.033242
0.031662
0.027834
0.034236
0.140599
0.152291
0.147733
0.048621
0.010999
0.077052
Adjusted R-squared
S.E. of regression
F-statistic
Jarque-Bera (JB)
ARCH (4)
Ramsey RESET (1)
T-statistics
2.208164
1.739556
2.889441
2.718630
4.427022
2.637846
1.959356
2.998823
3.105524
3.439774
3.091690
3.577202
4.969155
2.482973
2.659225
3.026534
2.367123
3.175227
5.386050
0.611
0.026
6.226 (0.00)
1.246 (0.54)
7.017 (0.14)
2.945 (0.09)
58
TABLE 8.
Variable
Constant
DLn Mt-3
DLn Yt
DLn Yt-3
DLn Rt-1
DLn Rt-4
DLn ARt
DLn ARt-3
DLn St-1
DLn Et
DLn Et-2
DLn FRt
DLn FRt-1
DLn FRt-3
D3
EC2t-1
R-squared
S.D. dependent var
Sum squared resid
Durbin-Watson stat
Breusch-Godfrey LM (4)
White Heteroskedasticity
Coefcient
0.019210
0.376778
0.192190
0.141756
0.074563
0.171753
0.041814
0.055837
0.069187
0.113308
0.269269
0.152867
0.084998
0.066026
0.024136
0.090139
0.728
0.026
0.011
1.548
6.008 (0.2)
20.33 (0.88)
Std. error
0.004268
0.118279
0.062985
0.047953
0.029856
0.031437
0.015585
0.017500
0.017763
0.055826
0.064213
0.034634
0.036305
0.029742
0.006171
0.036760
Adjusted R-squared
S.E. of regression
F-statistic
Jarque-Bera (JB)
ARCH (4)
Ramsey RESET (1)
T-statistics
4.500615
3.185513
3.051346
2.956133
2.497435
5.463450
2.683057
3.190700
3.894953
2.029638
4.193348
4.413858
2.341200
2.219966
3.911284
2.452062
0.638
0.016
8.047 (0.00)
0.258 (0.88)
4.376 (0.36)
1.285 (0.26)
59
1
2
60
3
4
REFERENCES
61
Fakulti Ekonomi
Universiti Utara Malaysia
62
Sintok
Kedah D.I.