Money & Banking 15, 19, 20, 21 (& some of 22, 23)
With excess supply of reserves, the federal funds rate _____
falls
Depository Institutions Deregulation and Monetary Control Act of 1980 sets the reserve requirement
the same for all depository institutions.
The government affects aggregate demand in two ways:
through its purchases and taxes
__% of checkable deposits over $48.3 million
10
__% of the first $48.3 million of checkable deposits
3
When the autonomous consumption expenditures increases, AD curve shifts to the
right
Shifts in the MP curve
- An autonomous tightening of monetary policy, that is a rise in real interest rate at any given inflation rate, shifts the aggregate demand curve to the left - Similarly, an autonomous easing of monetary policy shifts the aggregate demand curve to the right
Two types of monetary policy actions that affect interest rates:
- Automatic (Taylor principle) changes as reflected by movements along the MP curve - Autonomous changes that shift the MP curve
Changes in autonomous spending also affect the IS curve
- Autonomous consumption - Autonomous investment spending - Autonomous net exports
Shifts in the IS curve
- Autonomous consumption expenditure - Autonomous investment spending - Government purchases - Taxes - Autonomous net exports
Nonconventional Monetary Policy Tools During the Global Financial Crisis
- Discount Window Expansion - Term Auction Facility - New Lending Programs
The AD curve is derived from
- The MP curve - The IS curve
Why do individuals hold money? Three motives
- Transactions motive - Precautionary motive - Speculative motive
Other factors that affect the demand for money
- Wealth - Risk - Liquidity of other assets
The total quantity demanded of an economy's output is the sum of 4 types of spending
-Consumption expenditure (C) -Planned investment spending (I ) -Government purchases (G ) -Net exports (NX )
The Fed can vary the 10% requirement between __% to __%.
8 and 14
Aggregate Output =
Aggregate Output = Consumption Expenditure + Planned Investment Spending + Government Purchases + Net Exports
the total amount of output demanded in the economy
Aggregate demand
Repurchase agreements
An arrangement whereby the Fed or another party purchases securities with the understanding that the seller will repurchase them in a short period of time, usually less than a week.
Matched sale-purchase agreements
An arrangement whereby the Fed sells securities and the buyer agrees to sell them back to the Fed in the near future
Primary dealers
Approved by the government to sell government bonds and securities.
Lender of last resort to prevent financial panics
Creates moral hazard problem
Large-scale asset purchases
During the crisis the Fed started three new asset purchase programs to lower interest rates for particular types of credit: - Government Sponsored Entities Purchase Program - QE2 - QE3
Secondary credit
Given to banks that are in financial trouble and are experiencing severe liquidity problems. The interest rate is set at 50 basis points about the discount rate
Investment that is panned
Interest rates and expectations
Defensive open market operations
Intended to offset movements in other factors that affect the monetary base (such as changes in the Treasury deposits with the Fed or changes in float)
Equation of Exchange
M ´V = P ´Y
Open market operations have ____ effect on the federal funds rate when intersection occurs at the flat section of the demand curve
No
TRAPS (Trading Room Automated Processing System)
Notifies each dealer of which propositions have been chosen (how much government is selling, etc)
Monetary Policy Tools of the European Central Bank
Open market operations - Main refinancing operations - Longer-term refinancing operations Lending to banks - Marginal lending facility/marginal lending rate - Deposit facility Reserve Requirements - 2% of the total amount of checking deposits and other short-term deposits - Pays interest on those deposits so cost of complying is low
Study Quantity Theory of Money equation
P x Y = M x V
Quantity Theory and the Price Level
P= (Mx V)/Y
the total amount of spending on domestically produced goods and services that households, businesses, the government, and foreigners want to make
Planned expenditure
Keynes also recognized that people hold money as a cushion against unexpected wants.
Precautionary Motive
To stabilize inflation, central banks must raise nominal interest rates by more than any rise in expected inflation, so that r rises when rises.
Taylor principle
Discount window
The Federal Reserve facility at which discount loans are made to banks
Liquidity provision
The Federal Reserve implemented unprecedented increases in its lending facilities to provide liquidity to the financial markets
Keynes initially accepted the quantity theory view that the transactions component is proportional to income.
Transactions Motive
T/F If the intersection of supply and demand occurs on the vertical section of the supply curve, a change in the discount rate will have no effect on the federal funds rate.
True
T/F The aggregate demand curve represents the relationship between the inflation rate and aggregate demand when the goods market is in equilibrium.
True
Dynamic open market operations
When the Fed is increasing or decreasing the Money supply (monetary policy). Selling bonds reduce the Ms and buying bonds increases the Ms
One of the most extreme examples of hyperinflation throughout world history occurred recently in
Zimbabwe
Any factor that shifts the IS curve shifts the ________ ________ curve in the same direction
aggregate demand
Hyperinflations
are periods of extremely high inflation of more than 50% per month
Net exports is made up of two components
autonomous net exports and the part of net exports that is affected by changes in real interest rates
IS curve is the relationship between
equilibrium aggregate output and the interest rate.
On the other hand, a _________ in autonomous investment spending causes aggregate demand and equilibrium output to fall, shifting the IS curve to the left.
decrease
When the federal funds rate is above the rate paid on excess reserves, ior,as the federal funds rate ________, the opportunity cost of holding excess reserves ____ and the quantity of reserves demanded ______.
decreases, decreases, rises
If the intersection of supply and demand occurs on the horizontal section of the supply curve, a change in the discount rate shifts that portion of the supply curve and the federal funds rate may either rise or fall depending on the change in the _______ _________
discount rate
Lowering the discount rate shifts the supply curve _____ and lowers the federal funds rate because there is some discount lending
down
Lowering the discount rate shifts the supply curve _____ but does not lower the federal funds rate because there is no discount lending
down
The AD curve has a _________ slope: As inflation rises, the real interest rate _______, so that spending and equilibrium aggregate output _____.
downward, rises, falls
When the Federal Reserve lowers the federal funds rate, real interest rates ______
fall
At any given real interest rate, a rise in taxes causes aggregate demand and hence equilibrium output to _____, thereby shifting the IS curve to the _____.
fall, left
Conversely, a decline in autonomous consumption expenditure causes aggregate demand and equilibrium output to _____, shifting the IS curve to the _____
fall, left
Conversely, an autonomous _____ in net exports causes aggregate demand and equilibrium output to decline, shifting the IS curve to the ______
fall, left
An open market purchase causes the federal funds rate to _____ whereas an open market sale causes the federal funds rate to _____
fall, rise
Investment that is always planned
fixed investment
An _______ in financial frictions, as occurred during the financial crisis of 2007-2009, raises the real cost of borrowing to firms and hence causes investment spending and aggregate demand to _____
increase, fall
An autonomous increase in net exports leads to an _______ in equilibrium output at any given interest rate and shifts the IS curve to the _____
increase, right
An increase in autonomous investment spending ________ equilibrium output at any given interest rate, shifting the IS curve to the_____
increases, right.
The key reason for an upward sloping MP curve is that central banks seek to keep ________ stable.
inflation
The cost of holding deposits
interest rate that could have been earned minus the interest rate that is paid on these reserves
Investment that can be unplanned
inventory investment
When autonomous taxes increase, AD curve shifts to the
left
When financial frictions increase, AD curve shifts to the
left
When the autonomous monetary policy increases, AD curve shifts to the
left
A ______ shift of the demand curve lowers the Federal funds rate to a minimum of the interest rate on reserves.
leftward
Interest rates and planned investment spending AND interest rates and net exports both have a ________ relationship
negative
The velocity of money
nominal GDP (aggregate nominal income)/ the money supply
Supply in the Market for Reserves • Two components:
non-borrowed and borrowed reserves
During normal times, the Federal Reserve uses three tools of monetary policy referred to as conventional monetary policy tools. What are they?
open market operations, discount lending, and reserve requirements
Quantity Theory of Money says Changes in money supply affect only the ____ _____
price level
Quantity Theory of Money says Movement in the price level results solely from change in the _______ __ ______
quantity of money
There are two ways the government can pay for spending
raise revenue or borrow
A rise in autonomous consumption would _____ aggregate demand and equilibrium output at any given interest rate, shifting the IS curve to the ______.
raise, right
Cost-push inflation
results either from a temporary negative supply shock or a push by workers for wage hikes beyond what productivity gains can justify.
Demand-pull inflation
results from policy makers pursuing policies that increase aggregate demand.
When autonomous investment increases, AD curve shifts to the
right
When autonomous net exports increase, AD curve shifts to the
right
When government purchases increase, AD curve shifts to the
right
An open market purchase shifts the supply curve to the _____ causing the federal funds rate to _____ because it intersects at the _____ _____ part of the curve
right, fall, downward sloping
An open market purchase shifts the supply curve to the ______ but the federal funds rate cannot fall below the interest rate paid on reserves because it intersects at the _____ part of the curve
right, flat
Increasing the reserve requirement causes the demand curve to shift to the ____ and the federal funds rate _____
right, rises
A ________ shift of the demand curve raises the federal funds rate to a maximum of the discount rate.
rightward
When the Federal Reserve raises the federal funds rate, real interest rates _____
rise
Conversely, a cut in taxes at any given real interest rate increases disposable income and causes aggregate demand and equilibrium output to _____, shifting the IS curve to the _____
rise, right
With excess demand for reserves, the federal funds rate _______
rises
When the Fed raises reserve requirement, the federal funds rate ______ and when the Fed decreases reserve requirement, the federal funds rate _____
rises, falls
Quantity Theory of Money says velocity fairly constant in _____ run
short
Keynes also believed people choose to hold money as a store of wealth
speculative motive
Since the fall of 2008 the Fed has paid interest on reserves at a level
that is set at a fixed amount below the federal funds rate target
Primary credit
the discount lending that plays the most important role in monetary policy. The interest rate on these loans is the discount rate
Cost of borrowing from the Fed
the discount rate
The Fed of the United States conducts monetary policy by setting
the federal funds rate
What the IS curve tells us:
traces out the points at which the goods market is in equilibrium, aggregate output equals aggregate demand, assumes fixed price level where nominal and real quantities are the same
The MP curve is ______ sloping. Real interest rates _____ when the inflation rate rises.
upward, rise
If iff < id, then banks (will or will not) borrow from the Fed and borrowed reserves are _____ and the supply curve will be
will not, zero, vertical
As iff > id, banks (will or will not) borrow more and more at id, and relend at iff and the supply curve is
will, horizontal