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Lecture 19 -- Money Market graph

# Lecture 19 -- Money Market graph - ECO 320L Fall 2010...

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Unformatted text preview: ECO 320L, Fall 2010, Professor Beatrix Paal updated 10/8/2010 10:19 AM Lecture 19: More on the LM curve, Money market graph 1 Lecture 19 More on the LM curve, Money market graph Last time • (review rational expectations) • aggregation in the asset market – Walras’ Law ( Chapter 7.4 ) • start the LM curve ( Chapter 9.3 ) Today • continue the classical version of the LM curve ( Chapter 9.3 ) • the Keynesian interpretation of the LM curve • money market equilibrium graph ( Chapter 9.3 ) • general equilibrium Next time • business cycle measurement and facts ( Chapter 8.1, 8.2, and 8.3 ) Money market equilibrium – Numerical example Problem • g = G¡¡¡ , ¢ g = £u , ¤ = U¥¡¡ , ¦ = §u , ¨ = Gu • The money demand curve is • Calculate the equilibrium price level. Solution • the money demand curve implies that © g = G . • therefore, expected inflation can be calculated as ª « = ¬ − ­ ® ¯ ® = °u . • ± = ² + ³ ´ = 4u . • then we can substitute µ and ¶ into the money demand curve to figure out real money demand: • the last step is solving for · from ¸ = ¹ º » ¼ = 800 10 ¼ = ¥¡ 2 500 D Y L i = 1000 10 500 500 0.04 D Y L i = = = PDF Created with deskPDF PDF Writer - Trial :: http://www.docudesk.com ECO 320L, Fall 2010, Professor Beatrix Paal updated 10/8/2010 10:19 AM Lecture 19: More on the LM curve, Money market graph 2 The LM curve – classical How do we represent the equilibrium price level in the general equilibrium graph? • for a fixed level of g and G ¡ • each point in the general equilibrium graph (i.e. each combination of ¢ and £ ) corresponds to a certain price level • there are multiple combinations of ¢ and £ that give the same price level • an LM curve graphs combinations of ¢ and £ for which the price level is the same – b to derive the slope of the LM curve, we ask the following question: In response to a change in ¢ , how does £ have to change to keep the equilibrium price level unchanged? • there is a different LM curve corresponding to every possible price level – ¤ is a shifter of the LM curve – b we will look at how a change in P shifts the LM curve – notation: ¥¦(§) or ¥¦(§ = ⋯ ) • changes in g , G ¡ and other determinants of money demand are also shifters of the LM curve – b in particular, monetary policy 3 4 PDF Created with deskPDF PDF Writer - Trial :: http://www.docudesk.com ECO 320L, Fall 2010, Professor Beatrix Paal updated 10/8/2010 10:19 AM Lecture 19: More on the LM curve, Money market graph 3 The LM curve – numerical example continued problem • Continue to assume that g G = ¡u , ¢ = U£¤¤ and ¥ = ¦u . The money demand curve is • We saw that this implies that expected inflation is § ¨ = ©u ....
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Lecture 19 -- Money Market graph - ECO 320L Fall 2010...

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