Abstract
We revisit the old issue of the causal link between money and output using time-varying Granger causality. Despite the proliferation of studies on this issue to which the evidence is heavily focused on the United States, a consensus on this topic has remained elusive. Using more recent data, we then re-examine this issue not just for the United States, but also for forty-two other countries. We find the existence of a robust and uni-directional Granger causality from money to output for thirteen countries with identified causal episodes that vary across these countries. We also detected from our implementation of the time-varying Granger causality test the period corresponding to the first half of the 1980s for the United States, a period which generated intense controversy and debate in this literature. However, we find this episode to exhibit feedback effects (bi-directional) between money and output. Given the significant changes that have transpired over time in the way that countries conduct and operate their monetary policy, our evidence reinforces a present and growing trend on the re-emergence of the important role of money in the economy.
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Data Availability
The data that support the findings of this study are available from the corresponding author upon request.
Notes
An example is the Pandemic Emergency Purchase Programme (PEPP) announced by the Governing Council of the ECB on March 18, 2020.
This is in relation to the huge debate that first arose in the mid to late 1980s regarding the proper treatment of trends, both deterministic and stochastic, in conducting the test (see Bernanke (1986), Eichenbaum and Singleton (1986), Sims (1987), Christiano and Ljungqvist (1988), Stock and Watson (1989) as well as the studies of Thoma (1994), Hafer and Kutan (1997), Swanson (1998), and Psadarakis et al. (2005).
Psaradakis et al. (2005) also make a similar point.
The presence of Granger causation from output to money brings to mind Tobin’s (1970) criticism of the monetarist proposition on the role of money. In his view, money is “passive” and that changes in money were endogenous responses to changes in output. It is changes in output that cause endogenous changes in money through the money multiplier in the banking system. Years later, King and Plosser (1984) argued that a significant influence of money on output is actually due to the existence of this reverse causation when money also reacts strongly to output.
To carry out the technique, we use the EViews add-in called tvgc developed by the first two authors.
A much earlier suggestion relative to the two causal test procedures discussed above is the forward expanding window causality test proposed by Thoma (1994). In this test, the starting point \(\kappa_1\) is fixed at the first observation, and the regression window expands from \(\kappa_0\) to T.
The selected lag order for the individual countries is available upon request from the authors.
We also have results for the forward expanding window of Thoma (1994). The results are similar either to the rolling or recursive evolving algorithm, or both. Simulation experiments by SHP showed that the power of the forward expanding window is well below that of the rolling window and recursive evolving window procedures. For the sake of brevity, we do not present anymore these results. These are available upon request.
SHP provides evidence through simulation experiments that the recursive evolving window approach provides higher power than the rolling window approach, but both have good size control.
Nevertheless, Psaradakis et al. (2005) found that this specific causal episode is not robust.
To recall, we set a minimum window size of 72 and 24 observations for monthly and quarterly data, respectively. The lag length is selected using the Bayesian information criteria (BIC) for the whole sample period with a maximum potential lag length of 12 and 4 for monthly and quarterly data, respectively. The overall size of the test sequence is controlled over a 1-year period at 5%. Finally, in bootstrapping the critical values, model parameters under the null are estimated using the whole sample period with 499 replications.
Appendix Fig. 3 is also separately provided as an online supplementary material.
For instance, SPH found that the early to mid-1980s for the United States was bi-directional.
We would like to thank an anonymous reviewer for suggesting these sensitivity checks.
Here we provide a salient discussion of the events, developments, or policy measures that can serve as possible explanations to the robust and uni-directional causal episodes we found from money to output. A lengthier discussion of this sub-section with the accompanying source materials for each individual country included in this sub-section are separately provided as online supplementary materials.
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Conceptualization: Victor Pontines and Davaajargal Luvsannyam; Methodology: Victor Pontines and Davaajargal Luvsannyam; Formal analysis and investigation: Victor Pontines, Davaajargal Luvsannyam and Gerelmaa Bayarmagnai; Writing - original draft preparation: Victor Pontines; Writing - review and editing: Victor Pontines, Davaajargal Luvsannyam and Gerelmaa Bayarmagnai.
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Pontines, V., Luvsannyam, D. & Bayarmagnai, G. Money-Output Revisited: Time-Varying Granger Causality Evidence from Forty-Three Countries. Open Econ Rev (2024). https://doi.org/10.1007/s11079-024-09764-7
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DOI: https://doi.org/10.1007/s11079-024-09764-7