If It Were A Snake, It Would Have Bitten You: Money In The New Keynesian Model

29 Pages Posted: 14 Dec 2022

See all articles by Joshua R. Hendrickson

Joshua R. Hendrickson

University of Mississippi

Ronald Mau

Federal Reserve Banks - Federal Reserve Bank of Dallas

Date Written: November 28, 2022

Abstract

The New Keynesian literature focuses on rules-based interest rate policies, abstracting from the role of monetary aggregates. In the background, though, the quantity equation must hold — every transaction requires money, with money units used in multiple transactions within a period. What is often overlooked is that imposing a rules-based interest rate policy is equivalent to assuming a particular money velocity specification. Using this alternative specification, we derive the efficient money supply rule and show that determinate equilibria exist with money supply policy and a fixed nominal interest rate. We estimate a New Keynesian model with either conventional interest rate policy or our money market reinterpretation of the model, accounting for the policy rate lower bound (PRLB). The money market estimates exactly match the PRLB duration in the data, whereas the conventional estimates fall short by four years.

Keywords: New Keynesian model, Taylor rule, velocity of money, money demand, quantity equation, optimal monetary policy, Bayesian estimation, policy rate lower bound

JEL Classification: E40, E50, E52

Suggested Citation

Hendrickson, Joshua R. and Mau, Ronald, If It Were A Snake, It Would Have Bitten You: Money In The New Keynesian Model (November 28, 2022). AIER Sound Money Project Working Paper No. 2023-02 , Available at SSRN: https://ssrn.com/abstract=4287978 or http://dx.doi.org/10.2139/ssrn.4287978

Joshua R. Hendrickson

University of Mississippi ( email )

Oxford, MS 38677
United States

Ronald Mau (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of Dallas ( email )

2200 North Pearl Street
PO Box 655906
Dallas, TX 75265-5906
United States

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