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2010_RL4 - EC 210 Revision Lectures Milan Lisicky...

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EC 210 Revision Lectures Milan Lisicky [email protected] May 5, 2010 1/28
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1 dynamic money with money 2 real business cycle model 3 dynamic model in the IS - LM framework 4 imperfect information 5 segmented markets: wage-in-advance 6 co-ordination failure 2/28
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Dynamic Model with Money: Cash-In-Advance consumption and investment expenditure can be paid for by money issued by the government, opportunity cost R payment services issued by banks, real cost H ( X ) role of the timing assumption (cash-in-advance constraint): allows money to determine prices without further assumptions has no other effects in particular, recall that consumers and firms are perfectly rational and foresighted will allocate their resources exactly as in the basic dynamic model money is created by government PG + (1 + R - ) B - = PT + B + ( M - M - ) 3/28
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trade-off between cash and banking services is governed by equality of marginal benefits of using X : P + P R marginal costs: P + P H x ( X ) hence R = H x ( X ), or X * = J ( R ) price level determined by income-expenditure equality PY = PC + PI + PG + PH ( X ) + PH ( X f ) cash to spend on consumption PC = M - c + (1 + R - ) B - c - P T - B c + P X cash to spend on investment PI = (1 + R - ) B - f - B f + P X f market clearing on the bond and money market implies PY = PX + PX f + M + PH ( X ) + PH ( X f ) M = PL ( Y , R ) = PL ( Y , r ) 4/28
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Implications for the dynamic model within period 1: N d MP N = w N s MRS l , C = w intertemporal linkages: Y d MPK 0 = r + d Y s MRS l , l 0 = w (1+ r ) w 0 MRS C , C 0 = 1 + r + intertemporal constraints all the optimality conditions depend only on relative prices there is a 1:1 link between M and P in M = PL ( Y , R ) hence neutrality : a one-off M ⇒↑ P of equal magnitude no real effects as far as i e is not affected Ricardian Equivalence still applies: T matched by M or T 0 has no real consequences 5/28
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Money Market Equilibrium: M = M c = PL ( Y , R ) notice: P countercyclical Y ⇒↓ P intuition: higher PY must match the cash spending PC + PI purchasing power of money must increase: P inflation can still be measured as procyclical over time: if the shock that made Y increase was temp. or at most persistent we must eventually get back to the initial equilibrium (initial P ) period of above-trend Y will coincide with price increases 6/28
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1 dynamic money with money 2 real business cycle model 3 dynamic model in the IS - LM framework 4 imperfect information 5 segmented markets: wage-in-advance 6 co-ordination failure 7/28
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RBC Model: Persistent Increase in z (1) MP N = w (2) MRS l , C = w
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