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Aggregation and the Microfoundations of the Monetary Approach to the Balance of Payments.

  • Economics


An optimizing model with overlapping generations and finance constraints is used to develop microfoundations for the monetary adjustment process under fixed exchange rates. The results are broadly consistent with those of the monetary approach to the balance of payments. However, it is shown that, although the model exhibits comovements of money, interest rate, and income that seem consistent with an aggregate money demand function, aggregate relation is not structural in the sense of R. E. Lucas. The model economy cannot be described, as in the "strong version" of the monetary approach, in terms of adjustment in an aggregate "market for money."

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