Term
| According to Keynes, the labor market is characterized by what (3)? what's the result? |
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Definition
-characterized by inflexibility of wages, imperfect information, and imperfect mobility
-a positively sloped supply curve (not vertical AS) & therefore effective gov't policy aimed at increasing real output |
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Term
| what 3 things did keynes criticize/believe classical model would fail? (3 things) |
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Definition
1) labor market
2) loanable funds market
3) velocity |
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Term
| Why did keynes criticize the loanable funds market? |
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Definition
-produced insufficient aggregrate demand due to excessive long term savings, thus savings is not always matched by investment
-savings & consumption are not functions of interest but of INCOME |
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Term
| Keynes believed that Velocity may be ________________________________. |
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Definition
| unstable causing the effects of monetary policy to be unpredictable |
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Term
| Keynes said it was not the interest return that was the primary motivation to save but _________________________. |
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Definition
| ...the income level that would determine the level of savings |
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Term
| Keynes believed that investment is largely __________________ and therefore would not respond much to short-run changes in ____________. |
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Definition
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Term
| Keynes believed investment is function of expected ________. |
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Definition
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Term
| during great depression, according to classical model, the surplus of laborers should have done what? |
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Definition
| dropped the wages dramatically (if wages dropped then employers would be able to hire more laborers) |
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Term
| keynes found that labor market is not free of all constraints to wage flexibility. WHY? |
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Definition
-Unions with long term contracts
-outside contracts
-legal barriers (ie min wage)
-these things keep wage above equilibrium |
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Term
| in the labor market, according to keynes, an increase in employment (demand curve shifting to right) increases what? |
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Definition
-total output
-quantity supplied on aggregrate supply curve
-THUS AS curve is pos. sloped. higher prices results in higher output |
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Term
| How can demand shift according to keynes? what does that result in? |
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Definition
-gov't spending or investment
-higher output and more employment |
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Term
According to Keynes, the myriad of prices that consumers face would
make it impossible for consumers to realize ________________. |
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Definition
...the actual effect of a change in the general price level
on their real wage. |
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Term
| What's the "money illusion"? what's the significance? |
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Definition
-people being fooled into thinking they are better off b/c of higher dollar wages when really prices are rising at same amount of wages
-if gov't raises prices and wages, ppl will work more and raise work effort and real output |
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Term
classical model assumes savings is a function of...?
where keynes assumed savings is a function of ...? |
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Definition
-the interest rate (ppl save depending on how much return they will get)
-income level |
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Term
keynes believed consumption is a function of...?
as income rises, ppl will consume some stable percentage of it and _________? |
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Definition
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Term
| keynes believed that savings does not equal investment. That there is a permanent ________ in savings & ____________ of demand. |
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Definition
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Term
| what did keynes believe about ppl holding money? |
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Definition
-they would hold for other reasons that to pay bills
- if ppl want to hold less, they would purchase other assets or goods |
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Term
in classical model, a change in Ms (money supply) would change ......?
but if velocity was unstable, then it would .....? |
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Definition
would change P (price level) proportionally.
-not be proportional |
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Term
| keynes believed this was important to macro performance |
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Definition
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Term
| what makes up demand side? |
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Definition
| Consumption, investment, and gov't spending |
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Term
| KEYNES: if economy is suffering low output or unemployement, the cure is to ___________________. |
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Definition
| boost a component of demand (C,I,G) to increase businesses to produce |
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Term
| KEYNES: easiest way to to influence demand is...? |
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Definition
| fiscal policy: raising/lowering taxes |
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Term
| KEYNES: what is the consumption equation? |
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Definition
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Term
| KEYNES: the "b" term in Consumption equation is what? |
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Definition
| the rate at which consumption rises as income rises |
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Term
| KEYNES: income is compiled of what two things? |
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Definition
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Term
| in the keynsian cross, what does the 45 degree line represent? |
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Definition
| all possible points where output is equal to demand (C,I,G) |
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Term
| in the keynesian cross, an increase in what increases equilibrium output & income by more that the increase in demand? |
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Definition
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Term
| KEYNES: an increase in demand by investors induces... |
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Definition
| greater demand by consumers |
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Term
| multiplier measures how much of a change in income and output is caused by... |
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Definition
| a change in investment (or by any change in C,I, or G) |
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Term
| the multiplier tells us that for any change in investment or shift of the consumption line, output and income will ____________________. |
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Definition
| change by ___ times the change in investment or consumption |
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Term
| in the Keynesian cross model, what is included in "A"? |
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Definition
| consumption when income equals 0, investment, government spending. |
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Term
| what is the keynesian cross equation? |
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Definition
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Term
| What compromised the Keynesian Cross? |
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Definition
| Stagflation: combination of inflation & unemployment |
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Term
| What variables did the Keynesian model lack? (5) |
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Definition
| Price variable, money supply and demand, the interest rate, lack of production |
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Term
| what is inherent in the keynesian model? |
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Definition
| the assumption that supply is perfectly elastic/responsive |
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Term
| the IS LM model adds what to the keynesian cross? |
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Definition
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Term
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Definition
| the price paid to borrow money or the price received from "sellling" money by loaning it directly or indirectly through financial intermediaries (ie banks) |
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Term
| How does the FED control the money supply? (3) |
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Definition
1) reserve requirement
2) Open Market Operations
3) the discount rate |
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Term
| what is the reserve requirment? |
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Definition
-the most powerful tool that the fed uses to control the money supply
-indicates the percentage of deposits that must be held in reserve |
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Term
| how do you find the total expansion of a deposit with the reserve requiremnt? |
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Definition
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Term
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Definition
-when the Fed buys and sells bonds (Treasury bills) through its NY branch.
-to increase Ms: buys bonds (can be big/little increase depending on rr)
-to decrease Ms: sells bonds |
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Term
| What is the rate of interest charged by the Fed to borrowing banks? |
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Definition
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Term
| What happens when the Fed raises the discount rate? |
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Definition
| banks reduce borrowing and money supply decreases |
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Term
| what happens when the Fed lowers the discount rate? |
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Definition
| banks borrow more and thus increase money supply |
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Term
| what is transaction demand for money? in is-lm how is money demand related to level of income |
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Definition
-hold money in anticipation of paying bills
-money demand is pos related; as income rises so does the demand for money for transactions |
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Term
| how does the interest rate and money demand relate? in what two ways? |
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Definition
| NEG related: (1) interest goes up, money demand goes down b/c interest is oppurtunity cost (2) speculative demand; if interest goes up, ppl expect to go down and thus have cap gain on bonds thus holding less money when interest goes up |
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Term
| what is another term for speculative demand? |
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Definition
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Term
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Definition
| securities that have some unique features; they're issued at a fixed maturity value and pay a fixed dollar return |
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Term
| if interest rate goes up, what happens to price of bonds? |
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Definition
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Term
| monedy demand is compromised of what two things? how does it look in an equation? |
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Definition
1) money demand is positively related to income
2) money demand is neg. related to interest
Md=fY + g - hr |
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Term
| according to money demand, what is a change in demand and what is a change in quantity demanded? |
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Definition
-change in demand: moving from one income to the next
-change in quantity demand: changing the interest rate |
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Term
| why is the LM curve pos sloped? |
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Definition
| as Y goes up, Md shifts to the right, and equilibrium interest rate goes up; in other words, as income rises, Md shifts to right, and equilibrium interest rises |
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Term
| what happends when Ms>Md? |
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Definition
| have more money than you want, so buy bonds, then the price of bonds increases, and interest rate falls |
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Term
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Definition
| want to hold more money, so sell bonds, then price of bonds goes down, thus interest rate goes up |
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Term
| is Ms greater or less than Md when point is above LM curve? |
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Definition
| Ms>Md. thus buy bonds, PB goes up, interest goes down |
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Term
| what does is mean when a point is below LM curve? |
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Definition
| Md>Ms. thus sell bonds, price of bonds go down, interest goes up |
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Term
| what does keynesian and classical thinking share about monedy demand? |
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Definition
| money demand goes up with income, although they disagree on the stability of Velocity (V). |
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Term
| What does the LM curve show? |
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Definition
| all possible equilibrium interest rates at different income levels; it is made up of all the points where money supply equals money demand |
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Term
| in the goods market, how many components of demand are there and what are they? |
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Definition
| 3; consumption, investment, government spending. |
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Term
| what is the IS curve equation? |
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Definition
Y = a+bY + c-dr + G
c-dr because as interest rises, investment falls |
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Term
| what does the IS curve represent? |
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Definition
| equilibrium incomes at different possible interest rates in the goods market |
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Term
| why does the IS curve neg. sloped? |
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Definition
| b/c as interest falls, investment(and other spending) rises, and so equilibrium income rises |
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Term
| What are the 5 statements of the IS LM model? |
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Definition
1)Md is positively related income
2)Md is neg. related to interest
3)Fed controls Money supply
4)consumption is pos. related to income
5)investment(all expenditures) are neg. related to interest rate |
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Term
| if expenditures exceed income, where does that pt. lie and what happens? |
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Definition
| below IS curve; too much demand thus Y increases; interest is low, thus ppl spend more than income/output Y |
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Term
| If a point is above IS curve, what does it mean and what happens? |
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Definition
| means there is too little demand, (interest is high thus expenditures are less than Y), and Y decrease |
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Term
| Algebraically, how would you find equilibrium in IS-LM model? |
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Definition
| solve for r in both equations, then equal each other to solve for Y |
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Term
| when point out of equilibrium in IS-LM model, what adjusts first? |
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Definition
| interest rate will adjust first, where money demand would equal money supply. the point will then never be far off of the LM curve |
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Term
| the LM curve will shift parallely if what happens? |
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Definition
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Term
| what happens to the LM curve, if Money supply increases,? decrease? |
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Definition
Ms increases: the curve parallely shifts down, Y increases
Ms decreases: shifts up parallely, Y decreases |
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Term
| what happens to LM curve if g (the intercept when r=0) increases? |
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Definition
increases: LM shifts left b/c interest rises
decrease: LM shifts right b/c interest decreases |
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Term
| what causes a parallel shift in the IS curve? |
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Definition
| A, the autonomous variables, which include a, c, and G |
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Term
| if government spending is increased in IS-LM model, what happens? |
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Definition
| income goes up, Md rises, interest then goes up, then investment goes down, and then incomes goes DOWN! CROWDING OUT!! |
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Term
| in the IS-LM model, what two markets does the interest rate have an impact on? |
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Definition
1)money market by influencing Md
2)goods market by influencing I |
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Term
| when the autonomous variable, g, changes in the LM model, income levels do not change, but what does? |
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Definition
| MONEY DEMAND; so if g increases, then the equilibrium interest rate will be higher at each income level and the LM curve shifts to the left/up. when that happens then in the IS-LM model, Y decrease. |
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Term
| what two things produce a parallel shift in the LM curve? |
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Definition
| change in 'g' and change in Ms |
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Term
| a decrease in g produces the same effects as an increase in ...? |
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Definition
| MONEY SUPPLY; equilibrium interest rate drops at each income level, the LM curve shifts down, which increases Y in the IS LM model. |
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Term
| an increase in money supply affects classical in what ways? is-lm? |
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Definition
-classical: increase Prices
-is-lm: increase in real output |
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