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Jean-Claude Nachega is an Economist at the International Finance Corporation. This paper was written while he was with the IMF’s African Department. The author is indebted to Luc Bauwens, David T. Coe, Alain de Crombrugghe, Neil Ericsson, Christian François, Dhaneshwar Ghura, David Hendry, Ernesto Hernández-Catá, Gunnar Jonsson, Fred Joutz, Menachem Katz, Malcolm Knight, Arend Kouwenaar, Charles Mordi, Joseph Ntamatungiro, Cathy Pattillo, Paul Reding, and Thomas Walter for helpful comments and suggestions. Any remaining errors and omissions are the author’s responsibility.
See Goldfeld and Sichel (1990) and Laidler (1993) for an extensive theoretical and empirical review of money demand models. See Boughton (1991a) for a review of empirical models for industrialized countries. See Deadman (1995) for a review of empirical studies for developing countries. See Ericsson (1998) for a recent review of the main methodological issues.
Although this study is based on the data covering the period from 1963/64 to 1993/94, the extension of the sample to more recent data does not significantly change the conclusions reported in this paper. The econometric results can be obtained from the author upon request.
A few recent studies of African economies have found changes in foreign opportunity costs to be significant in explaining domestic money demand (see Adam (1992 and 1995), Darrat (1985), Domowitz and Elbadawi (1987), and Simmons (1992)).
The franc de la Communauté Financière Africaine and the franc de la Communauté Financière en Afrique Centrale, respectively. The WAEMU is composed of Benin, Burkina Faso, Côte d’Ivoire, Mali, Niger, Senegal, and Togo. The CAEMC comprises Cameroon, the Central African Republic, Chad, the Republic of Congo, Equatorial Guinea, and Gabon. See Hernandez-Catá, François, and others (1998) for a recent review of the WAEMU.
With 42 percent of WAEMU GDP and 45 percent of CAEMC GDP over the period 1980-94, Côte d’Ivoire and Cameroon are, respectively, the largest economies of their respective currency unions.
Each regional central bank—the BCEAO and the BEAC—maintains at least 65 percent of its international reserves in French francs in the operations account.
The prevailing—Keynesian—view at the time was that domestic savings follow economic growth through higher income. In addition, almost all CFA franc governments were able to finance their fiscal deficits by borrowing heavily from the international private capital markets, as well as multilateral institutions. The Bretton Woods agreement and the ensuing low level of interest rates and relative exchange rate stability in major industrial countries (including France) remained the decisive factor in maintaining the low level of interest rates in the CAEMC zone, especially during the 1960s and early 1970s (see Figure 2).
The conventional idea is that in developing countries, where interest rates ceilings and capital controls prevail, asset substitution is likely to be between money and physical assets rather than between money and financial assets.
See Arango and Nadiri (1981) for an early treatment of the issues. In a recent study, Agénor and Khan (1996) find, for a group often developing countries, that the foreign interest rate and the expected depreciation of the parallel exchange rate are important factors in determining the choice between holding domestic currency and holding foreign currency deposits abroad.
M stands for the nominal money supply. It is assumed that in the long run, the money market is in equilibrium: the money supply (M) deflated by the price level (P) is equal to the real demand for money (Md/P).
Real GDP growth indeed became negative in 1986/87.
Owing to the short length of the available time-series, I began with a general two-order VAR and found on the basis of the Schwarz-Bayesian criterion, as well as from tests for mis-specification, that one lag was appropriate. This makes sense intuitively, given that the study deals with annual data and a relatively short sample is available for VAR analysis.
AR denotes the results of LM (Lagrange multiplier) tests for the second-order autocorrelated residuals of each single-equation [F(2,18)], and of the system [F(72, 22)]. Normality denotes the results of the Doornik-Hansen test for each variable [χ2(2)] and for the system as a whole [χ2(12)]. For the system, the vector error autocorrelation test and the vector normality test are described in Doornik and Hendry (1997). ARCH and
This is motivated by the lack of sufficient degrees of freedom given our relatively short sample
Throughout this paper, asymptotic p-values are presented in square brackets following the observed chi-square statistics.
A few studies have shown that inflation in the CFA zone is mostly imported from France. See, for example, Honohan (1992) and Nuven (1994). In a study comprising 32 sub-Saharan African countries and covering the period 1980-91, Odedokun (1997) uses a framework predicting that monetary growth, inflationary expectations, rates of depreciation of domestic currency in both the official and black markets, and foreign inflation should have a positive impact on domestic inflation. He finds that in contrast to non-CFA franc countries only foreign inflation (mostly imported from France) has a significant and strong positive effect on inflation in the CFA countries.
Indeed, omitting the own rate or restricting its coefficient to zero will tend to bias upward the income elasticity. A better test of significance of rates of return would be conducted under the assumption—if empirically confirmed—of unitary income elasticity.
Cameroon is part of the CFA franc zone, which had basically fixed its common currency to the French franc for most of the period of the analysis until the January 1994 devaluation. The French franc is therefore the anchor of the zone, with monetary developments in France having an impact on the exchange rate of the French franc—and, hence, the CFA franc—vis-à-vis the U.S. dollar.
The new semi-elasticity of the own rate of return (10.4) implies a long-run elasticity of 0.5 (instead of the 0.4 estimated previously).
Strong-form relative PPP requires that γ1 is stationary and the proportionality condition holds.
As a linear combination of two stationary variables, ψt is unambiguously stationary.
The rejection of the Fisher principle may be due to the use of actual (instead of expected) rates of inflation.
Lower-case letters denote natural logarithms; i and j denote lags (i=0,…4;j=1,…4).
t values are in parentheses.
Ericsson (1998) argues that finding short-run elasticities that are weaker than their unit long-run elasticities is consistent with Ss-type inventory models.
All data are measured on a fiscal year (July-June) basis.