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March 1980

The Dynamics and Estimation of Short-Run Money Demand

by R. W. Hafer and Scott E. Hein

A stable money demand function is crucial to the formation and implementation of effective monetary policy. Consequently, recent findings of temporal instability in this relationship have concerned both policymakers and economists. Within the literature there is surprisingly little attention devoted to the process by which money balances are assumed to adjust to the desired level. This paper investigates the importance of the money-demand adjustment process as well as the technique used to estimate this relationship. Both the specification of the adjustment process and the estimation technique employed are shown to be significant factors in determining whether the short-run money demand function has been temporally stable during recent years.