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In particular, it appears that eliminating the drag created by thrift industry deposits as well as constrained banks uncovers a more stable long-run relationship among the M2 monetary aggregate, income, prices, and interest rates.
Currency, specie, and bank deposits make up the M2 monetary aggregate. A major portion of M2 is "inside" money (time and demand deposits in the banking system) that is not ultimately a claim on the Federal Reserve System and instead reflects debt and loan contracts between private sector entities.
One of Bernanke and Blinder's first variance decomposition results is that at a 24-month horizon approximately 27% of the variation in industrial production can be explained by shocks to the federal funds rate, based on a system including industrial production, the price level, both the M1 and M2 monetary aggregates, a short and a long-term bond rate, and the federal funds rate.(18) This strong result is interpreted by Bernanke and Blinder as evidence in favor of using the federal funds rate rather than a monetary aggregate to represent shocks to monetary policy.
Bahmani-Oskooee and Rehman (2005) showed that in some Asian countries, even though real M1 and M2 monetary aggregates were cointegrated, the estimated parameters were unstable.
Among other variables, the Fed currently sets target ranges for the M2 monetary aggregate. Without considering its desirability, this paper analyzes the controllability of M2 under existing institutional arrangements.