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Mr. Tanzi, Director of the Fiscal Affairs Department, holds a doctorate in economics from Harvard University. He was formerly a professor and Chairman of the Economics Department at American University.
I shall stay within the established demand-for-money literature in order to test more accurately the main innovations in this paper. Areas of disagreement and current research effort are well surveyed in Laidler (1980).
The role that income taxes may play in the demand for money has been largely ignored (see Tanzi (1979)).
Furthermore, even if these goods are eventually sold, with the result that some capital gain is realized, the sale does not generally create any tax liability.
I am assuming that equities and consumption goods are affected by the same rate of inflation π. If one were to assume differential rates, some modifications would need to be made in the analysis.
Calculated by the author from data in U.S. Internal Revenue Service, Statistics of Income: Individual Income Tax Returns (Washington, various issues).
It must, of course, be remembered that not all individuals are affected in the same way. For some, the marginal tax rate is low, so that, for them, financial assets remain more attractive than real assets. For them, the relevant opportunity cost of money holding remains the rate of interest.
See B. M. Friedman (1980) for a discussion of institutional and market factors behind less-than-complete Fisherian adjustment.
Note that in order to avoid difficulties with the logarithm of a negative number, a ratio specification of the gap is employed in the empirical analysis.
This approach is consistent with that of studies using permanent income as an explanatory variable. See Laidler (1977).