Money-Output Dynamics Over the Business Cycle-A Case Study of India

This paper attempts to study whether growth rates of money supply (M1, M3 and high powered money) are neutral over the business cycle. A relatively new technique is employed for identifying the business cycle. Causality studies over the cycle indicate two way causality from GDP to M3 and high powered money, respectively. Univariate causality from GDP fluctuations to M3 is stronger than the reverse causality from M3 to GDP fluctuations, as indicated by Geweke causal measures. Also, causality from high powered money to GDP is stronger than the reverse causality. Two small VAR models have been constructed and innovation accounting exercises have been carried out. They indicate that unanticipated money supply shocks give rise to an oscillatory convergent dynamic time path of GDP, with the overall impact being negative.