3323ch24-25 - Chapter 24 The Keynesian Framework Chapter 25...

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Chapter 24 The Keynesian Framework Chapter 25 The IS-LM World Keynesian Theory Advocates active role of the federal government in correcting economic problems Manipulate money supply to adjust interest rates to induce borrowing or decrease borrowing Looks at the short-run--sees immediate problem, fix it now, rather than let it fix itself Liquidity Preference Theory - Market rate of interest is determined by demand/supply of money balances. Demand of Money + Transaction f(y) Precautionary - Speculative f(r) Since: If MS increases then either income increases or interest rates drop. Supply of Money Fed basically determines supply Few uncontrollable factors (1) banks lending (2) public's preference for cash Letting D=S then solve for interest rate: Liquidity Trap: At some point rates will not drop further. At this point no one would trade money for bonds. ) , M , ( f = r P Y e + - + ) , ( - + = r Y f D m
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Keynesian Focus Focus on aggregate spending as the variable that must be adjusted through adjusting interest rates: ie. Excessive inflation--Keynesians see it as excessive spending (demand-pull inflation) so they would manipulate money supply to raise interest rates to decrease spending Focus on ensuring low unemployment Keynesians vs Monetarists Break with Quantity Theory (Monetarists): 1. Since interest rates change when MS change, the rigid proportional link between money and income is broken. 2. If the demand for money depends on interest rates, then velocity is a function of interest rates which implies income no longer proportional to change in money supply. Reaction to Recession:
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This note was uploaded on 07/09/2011 for the course FIN 3233 taught by Professor Frohlich during the Spring '11 term at UNF.

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3323ch24-25 - Chapter 24 The Keynesian Framework Chapter 25...

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