Corporate money demand and the missing inflation

ABSTRACT

This article hypothesizes that firms demand more money to maintain low and stable inventory in order to fully exploit the globalization of supply chains. Three test implications derived from the hypothesis are verified with the US data: that the ratio of money held by firms over M1 trends up and becomes more volatile, that the ratio would plunge if there is a tremendous shock to supply chains, and that the ratio positively impacts real money balance in the long run cointegrated equilibrium with real income and short-term interest rate as control variables. Elevated money demand from the firm sector could partially explain the missing inflation in the 2010s.

KEYWORDS:

• Money demand
• missing inflation
• quantity theory of money
• Monetarism

JEL CLASSIFICATION:

• E31
• E41

Acknowledgements

I would like to thank two anonymous referees for their constructive comments and suggestions, and thank the Humanities and Social Science Youth Foundation of China’s Ministry of Education (22YJC790127) for financial support. The usual disclaimer applies.

Disclosure statement

No potential conflict of interest was reported by the author.

Notes

¹ For a brief survey on the missing inflation puzzle, see Bobeica and Jarocinski (2019).

² For instance, in the US, the average M2 growth rate was 6.1% from 2009 to 2019, whereas M2 increased 17.7% from 2020 to 2021. The preliminary results of a study I am conducting suggest that for over 10 rich economies, the same pattern holds.

³ Wang and Zhu (2021) provide evidence that ageing causes higher demand for money.

⁴ For a full elaboration on money’s special role to firms, see Friedman (1976, chapter 17).

⁵ See Davis and Kahn (2008).

⁶ For a comprehensive survey on financialization, see Davis (2017).

⁷ The globalization accelerated in the early 1990s. It is an open question that requires further inquiry why the ratio of money held by firms trended up almost 10 years later.

⁸ The most used technique for estimating money demand function is cointegration test, see Ball (2001).

⁹ If the data is extended to 2021, all other results hold up, but the coefficient of the ratio becomes statistically insignificant.

Additional information

Funding

The work was supported by the The Humanities and Social Science Youth Foundation of China’s Ministry of Education [22YJC790127].