Stability of a U. K. Money Demand Equation: A Bayesian Approach to Testing Exogeneity

Abstract

The paper analyses an M3 demand for money equation for the United Kingdom. Attention is paid to the policy change that occurred in 1971 with the introduction of the measure known as Competition and Credit Control. Classical and Bayesian single equation instrumental variables procedures are developed to investigate the exogeneity of the short-term interest rate and the constancy of the parameters of the underlying relationships. The parameters of the short-term equation have changed as well as the exogeneity status of the interest rate variable but the parameters of the long-term equation appear to be less affected by the policy change.

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