Persistent Liquidity Effects and Long Run Money Demand

62 Pages Posted: 4 Nov 2011 Last revised: 3 Jul 2022

See all articles by Fernando Alvarez

Fernando Alvarez

University of Chicago - Department of Economics; National Bureau of Economic Research (NBER)

Francesco Lippi

Università degli Studi di Sassari; Einaudi Institute for Economics and Finance (EIEF)

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Date Written: November 2011

Abstract

We present a monetary model in the presence of segmented asset markets that implies a persistent fall in interest rates after a once and for all increase in liquidity. The gradual propagation mechanism produced by our model is novel in the literature. We provide an analytical characterization of this mechanism, showing that the magnitude of the liquidity effect on impact, and its persistence, depend on the ratio of two parameters: the long-run interest rate elasticity of money demand and the intertemporal substitution elasticity. At the same time, the model has completely classical long-run predictions, featuring quantity theoretic and Fisherian properties. The model simultaneously explains the short-run "instability" of money demand estimates as-well-as the stability of long-run interest-elastic money demand.

Suggested Citation

Alvarez, Fernando and Lippi, Francesco, Persistent Liquidity Effects and Long Run Money Demand (November 2011). NBER Working Paper No. w17566, Available at SSRN: https://ssrn.com/abstract=1954493

Fernando Alvarez (Contact Author)

University of Chicago - Department of Economics ( email )

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Francesco Lippi

Università degli Studi di Sassari ( email )

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Einaudi Institute for Economics and Finance (EIEF) ( email )

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Rome, 00187
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