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Measuring substitution in China's monetary-assets demand system

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  • Jin, Man
Abstract
This paper examines China's money demand using a Normalized Quadratic function in the search for global flexibility and easing of the degree of freedom. I impose the theoretical regularity conditions in the model that much of the previous literature ignores. I provide the robust estimates of the Morishima elasticities of substitution among currency, demand deposits and time deposits. I find that currency and demand deposits are elastic substitutes in use, while time deposits are inelastic substitutes with the former two. Time deposits are distant from a medium of exchange, and agents treat them as a saving asset, separable from the composite of currency and demand deposits. The results imply that the narrow money M1 is well-defined, while the broad money M2, which assumes perfect substitution of the component assets, is problematic. A monetary aggregate that internalizes the substitution effects should be adopted in China.

Suggested Citation

  • Jin, Man, 2018. "Measuring substitution in China's monetary-assets demand system," China Economic Review, Elsevier, vol. 50(C), pages 117-132.
    • Handle: RePEc:eee:chieco:v:50:y:2018:i:c:p:117-132
    DOI: 10.1016/j.chieco.2018.04.003
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    More about this item

    Keywords

    Elasticity of substitution; Monetary aggregate; Normalized quadratic functional form; Regularity condition;
    All these keywords.

    JEL classification:

    • C3 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables
    • E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • O5 - Economic Development, Innovation, Technological Change, and Growth - - Economywide Country Studies

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