2. Test the money demand function for Saudi Arabia or any other Gulf country by

Question

2. Test the money demand function for Saudi Arabia or any other Gulf country by estimating the following equation: which states that (the natural log of) real money balance (M/P) is determined by (the natural log value) real income (GDP/CPI) and the short (long-term) interest rate. (i) Collect quarterly data on the underlying variables for the period 1990q1-2017q1. (ii) Use appropriate econometric technique to test the above equation and interpret your results ii) What conclusion would you derive from these results?

Explanation / Answer

You can collect the data from the link your supervisor would have provided you. Use STATA to check the results. Use the following command.

i) tsset time (that is time variable most possibly year)

gen ln_Y =log(Y)

gen ln_(M/P) = log(M/P)

reg ln_(M/P) ln_Y r

ii) The coefficients will tell you that if a particular independent variable increases by one unit then dependent variable ln_(M/P) increase/decreases by value equal slope coefficient.

iii) If the signs of the coefficients are in line with the above given equation and all the independent variables are statistically significant that is the associated p-values are sufficiently small. Then the results are in line with theory.

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