Structural Changes and the Effects of Monetary Policy: Evidence from China

Xiang Gao and Seewon Kim

This paper examines the effects of monetary policy in association with structural changes in Chinese economy over the period 1992- 2014. First this paper applies a threshold co-integration test to examine the stability of money demand function. The test indicates that money demand function experiences structural changes around 2002 and it becomes unstable after 2002. Given the instability of money demand function, the paper evaluates the effects of monetary policy in two periods before and after 2002. The VAR analysis indicates that the monetary policy is effective before 2002 with the stable money demand function, whereas it becomes ineffective after 2002 with the unstable money demand function. The reasons for the regime changes in the effects of monetary policy in association with instability of money demand function may be international financial market crisis, financial innovation and liberalization and others. The result reported in this paper implies that the policy authority in China had better adjust the monetary policy instruments to maintain the effectiveness of monetary policy.

DOI : https://doi.org/10.21102/jbpr.2016.12.112.01