Modelling the flow of funds with an application to the demand for liquid assets by the UK personal sector

The impacts of changes in financial variables on the real sector are major issues in monetary economics. Broadly speaking, changes in financial variables may arise from government policy, from external events and from changes in behaviour by the private sector. Fiscal policy and open-market operations by the authorities cause changes in domestic interest rates which are also strongly influenced by changes in foreign interest rates. Innovation in the provision of financial services initiated either by government legislation (e.g. Financial Services Act 1986) or by marketing considerations (e.g. entry of banks into the home loans market) may also lead to a re-allocation of portfolios and a change in relative interest rates.