“The case of the missing money” and the Lucas critique

The paper examines the missing money episode in terms of the Lucas critique. A model of the demand for U.S. narrow money incorporating expectations is estimated together with auxiliary expectations-generating equations for the independent variables prices, expenditure, and interest rates. Instability in the expectations generation equations around the missing money period is consistent with the instability found in conventional “backward looking” partial adjustment models. However, the forward looking model of the demand for money is statistically acceptable once account is taken of the shift in the expectations-generating equations