Optimism-pessimism effects on money demand: theory and evidence

Abstract

Purpose The purpose of this paper is to investigate, both theoretically and empirically, the relationship between optimism (pessimism) – as reflected by animal spirits – and money demand by taking into account transaction costs. Design/methodology/approach Inspired by the theoretical model of money demand by Teles et al. (2016) the authors incorporate the optimism (pessimism) effects in the money demand. Then, using the consumers’ confidence indicator as a proxy indicator of optimism/pessimism, they estimate the money demand in a panel data framework. Findings The theoretical framework suggests that the optimism (pessimism) effects on money demand are positive (negative). Empirical evidence for 11 Eurozone countries divided in two groups (i.e. core and periphery) confirms the theoretical considerations. Practical implications It appears that periphery countries with a higher sensitivity to the recent financial crisis present lower real money demand sensitivity to consumption expenditures and higher real money demand sensitivity to consumer confidence index. Moreover, in such countries, money demand changes present higher persistence over time. Thus, the authors observe differing attitudes concerning money demand across Eurozone citizens that should be taken into account by monetary policymakers (i.e. the ECB). Originality/value The authors introduce, in the vast literature on money demand, both theoretically and empirically the role of optimism (pessimism). Differences across core and periphery Eurozone countries identified.