Stability of demand for money function in Nepal: A cointegration and error correction modeling approach

This paper examines the long run and short run demand for money functions and their stability issues for Nepal using the annual data set of 1975-2009 by using the recently developed ARDL modeling to cointegration popularized by Pesaran and Shin (1999). The bounds test shows that there exists the long run cointgrating relationship among demand for real money balances, real GDP and interest rate in case of both narrow and broad monetary aggregates. Further, the CUSUM and CUSUMSQ test reveal that both the long run narrow and broad money demand functions are stable. The results show that demand for real money balance in Nepal is a stable and predictable function of a few variables and the central bank can rely on the monetary aggregates as intermediate targets for achieving the broad economic objectives.