RDP 1977-07: Money and the Balance of Payments 7. Concluding Comments

The results reported in this paper suggest that, in both the Australian and U.K. economies, the state of the domestic market for money has a significant influence on the behaviour of the balance of payments, although the resulting offset is, in neither case, sufficiently rapid to prevent monetary disturbances also influencing domestic prices and output in the short run. Thus the results provide an empirical basis for the reconciliation of closed- and open-economy monetary theory, for both models include the conventional open-economy linkages, yet behave in the short run as if the economies are closed. In this respect, the U.K. appears to be the more “open”, since the monetary effects on the balance of payments appear to be stronger in the U.K. model, and the short-run domestic effects stronger in the Australian case.

An important implication of the results is that the simple monetary models of the balance of payments, on which much of the previous empirical work in this area has been based, are inadequate descriptions of the working of the Australian and U.K. economies. The estimates of α₁₂ suggest that the average speed with which money balances adjust to their desired level is slow, with mean time lags of about ten years for the U.K. model, and five quarters for RBA76.^[35] Thus the analysis in this paper not only questions the results obtained with these simple models, but also rejects the assumptions required for their implementation, and in particular the assumption of rapid adjustment in financial markets.

Footnote

These figures are based on the Model D estimates of α₁₂ in each case. [35]