Empirical Analysis of the Stability of Money Demand Function in China

The difference between the short-term and long-term demand function of money can demonstrate not only the influence relationship between aggregate demand and aggregate supply, but also the short-term and long-term adjustment mechanism in economy. This paper quantitatively investigates the behavior of the money demand function by using cointegration test and vector error correction model from 1990:01 to 2004:06 in China. The VAR model describes the dynamic behavior of the economic model system of real money demand, inflation rate, money index, real GDP and nominal interest rate. There is only one stable equilibrium relationship among the money demand, and there is a stable short-term dynamic adjustment around the long-term equilibrium in money demand, which corresponds to the constraints and adjustment between the real demand and nominal demand. This empirical evidence supports that the monetary policy′s targets are the stimulus to the growth and sustain the price stability in choosing monetary policy tools and implementing the monetary policy.