Discretionary Monetary Policy - Banking - Lecture Slides, Slides of Banking and Finance

Download Discretionary Monetary Policy - Banking - Lecture Slides and more Slides Banking and Finance in PDF only on Docsity! Effects of discretionary monetary policy -- monetarist view. Discretionary monetary policy → Downward (upward) pressure on r. → MS above (below) unique level appropriate to ye → y deviates above (below) ye. All points where y ≠ ye are off money market equilibrium. LM is stationary at unique position appropriate to ye. MS < MD IS MD/P(ye) MS0/P M/P r MS1/P r → +∞ r → -∞ r Y LM MS > MD YNR Docsity.com NOTE ALSO: Keynes himself (unlike ISLM version?): • Un-modellable D-side factors: • Mood (investor optimism, pessimism). • Expectations. • Volatility. “Human decisions affecting the future … cannot depend on strict mathematical expectation… the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities. [We act] “choosing between the alternatives as best we are able, calculating where we can, but often falling back for our motive on whim or sentiment or chance”. Docsity.com ‘Long and variable lags’ in effects of discretionary monetary policy. → Impossible to stabilise AD through this means. Expansions and contractions in themselves net to zero. But outcome nevertheless adverse -- economy harmed by instability. Discretionary monetary policy is principal cause of business cycle. Docsity.com O Time Path (a) – without intervention Path (c) – undesired outcome, i.e. Monetarist critique. Path (b) – aim of intervention, i.e. Keynesian DMP The intervention has increased the amplitude of the fluctuations! Y Fluctuations and lags Docsity.com Monetarist alternative to discretionary monetary policy: Should be conducted according to a rule. Any rule is better than discretion. Friedman’s preference: Constant money growth rule: Growth rate set according to LR growth rate of economy. Docsity.com Money market: ye to ye′ determined on S-side. → MD increases from MD(ye) to MD(ye′). CB follows its MS growth rule → MS = MD, i.e. superimposed. → no upward or downward pressure on r. MD/P(ye0) MD/P(ye1) MS0/P M/P r MS1/P Docsity.com r not determined in M Market, but by 3-way interaction between: D-side influences (represented by IS curve); S-side constraints (represented by Phillips Curve); CB preferences w.r.t. trade-off between u and π (see WS6). ye0 ye1 y IS r r LM(ye0) LM(ye1) Docsity.com Non-inflationary increase in MS by CB following MS rule in low-π conditions – preview. ye0 ye1 y IS MD/P(ye0) MD/P(ye1) MS0/P M/P r MS1/P r r LM(ye0) LM(ye1) ‘Real’ economy is insulated from destabilising effects on r from within the money market. Docsity.com