Money in the Aggregate Production Function: Reexamination and Further Evidence

MONEY HAS TRADITIONALLY BEEN STUDIED WITHIN THE framework of utility theory rather than production theory. Recently, attempts have been made to study money within the neoclassical production theory and, in fact, allow the demand for money to be obtained in the same way as the demand for labor and capital (e.g., see Dennis and Smith 1978, Nadiri 1969). The Elrst empirical study to examine money in the U.S. aggregate production function was that of Sinai and Stokes (1972). They estimated a Cobb-Douglas production function with capital, labor, and various deElnitions of real money balances, using, U.S. data over the period 1929-67. Their conclusion was that money was a signiElcant input and that its contribution to output was mistakenly attributed to technical change; i.e., the time trend coefElcient lost its significance when money was added to the production function. Most of the later studies (e.g., Khan and Kouri 1979, Short 1979) that lent further support to the Sinai-Stokes paper have also used U.S. data over the period 1929-67. The purpose of this paper is to reexamine previous evidence as well as to provide further results on the role of money in the aggregate production function. The results obtained in this paper cast doubts on the previous conclusion that money should be included as an input, along with capital and labor, in the aggregate production function. A brief discussion of the theoretical and empirical literature dealing with