ACC 344 Lecture Notes - Lecture 8: Liquidity Trap, Aggregate Demand, Quantitative Easing
Money
1. store of value
2. medium of exchange
3. unit of account
Liquidity Trap
- interest rates so low people indecisive about saving in financial assets and spending
- result of the zero lower bound problem
- can lead to bubbles
- no more use of expansionary monetary policy b/c can't further lower interest rate
- large depreciation with very little change to mp
- inflation if no output change
Aggregate Money Demand
- total amount of a currency demanded by domestic citizens and foreigners
- Md = P(L(R,Y))
- P = price level, R = interest rate, Y = real GD
- directly proportional to P and Y
- indirectly proportion to R
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Aggregate Real Money Demand
- aggregate money demand adjusted for inflation
- aggregate demand for liquidity = demand to hold certain amount of real purchasing power in liquid
form
- Md/P = L(R,Y)
- When R > Re, people want to save not spend so Qd < Qs ... inflation
- When R < Re, people want to spend not save so Qd > Qs ... deflation
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Document Summary
Money: store of value, medium of exchange, unit of account. Interest rates so low people indecisive about saving in financial assets and spending. Result of the zero lower bound problem. No more use of expansionary monetary policy b/c can"t further lower interest rate. Large depreciation with very little change to mp. Total amount of a currency demanded by domestic citizens and foreigners. P = price level, r = interest rate, y = real gd. Aggregate demand for liquidity = demand to hold certain amount of real purchasing power in liquid form. When r > re, people want to save not spend so qd < qs inflation. When r < re, people want to spend not save so qd > qs deflation. Total amount of currency supplied by a country"s central bank. Assumed to be perfectly inelastic, not dependent on r. Y, r are independent of ms in long run. P adjusts proportionally to change in ms.
