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Transcript
LO2 Monetary Policy – policy designed to change the money supply, credit availability, and interest rates – responsibility of the Bank of Canada © 2012 McGraw-Hill Ryerson Limited 9- 1 LO2 Monetary Policy Expansionary Monetary Policy – a policy that aims to increase the amount of money in the economy and make credit cheaper and more easily available Contractionary Monetary Policy – a policy in which the amount of money in the economy is decreased and credit becomes harder to obtain and more expensive © 2012 McGraw-Hill Ryerson Limited 9- 2 LO2 Monetary Tools 1. Open market operations - buying and selling securities by the Bank of Canada in the open market 2. Switching government deposits - transfer deposits from a commercial bank to the Bank of Canada to decrease money supply - transfer deposits to a commercial bank to increase money supply 3. Targeting the overnight rate 4. Moral suasion © 2012 McGraw-Hill Ryerson Limited 9- 3 LO2 Keynesian Transmission Process Keynesian monetary policy goals 1. Steady growth in real GDP 2. An exchange rate that ensures a viable balance of trade 3. Stable prices 4. Full employment © 2012 McGraw-Hill Ryerson Limited 9- 4 LO2 Keynesian Transmission Process Transmission process - the Keynesian view of how changes in money affect (transmit to) the real variables in the economy - the interest rate provides the link between the money market and the goods market © 2012 McGraw-Hill Ryerson Limited 9- 5 LO2 Contractionary Monetary Policy MS2 MS1 A in MS leads to interest rate r2 Interest rate (%) r1 Q2 Q1 © 2012 McGraw-Hill Ryerson Limited Quantity of money 9- 6 LO2 Contractionary Monetary Policy A higher interest rate leads to a in investment spending r2 Interest rate (%) r1 I2 I1 © 2012 McGraw-Hill Ryerson Limited Quantity of investment 9- 7 LO2 Aggregate expenditures Contractionary Monetary Policy A ↓ in investment leads to a ↓ in AE AE1 AE2 Y1 © 2012 McGraw-Hill Ryerson Limited Y2 Real GDP 9- 8 LO2 Price level Contractionary Monetary Policy AS The ↓ in AE shifts AD to the left P1 P2 AD1 AD2 YFE Yε © 2012 McGraw-Hill Ryerson Limited Real GDP 9- 9 The Effects of Contractionary Monetary Policy P LO2 Potential GDP AS • contractionary monetary policy reduces AD1 to AD2 • the inflationary gap (YE – YFE) is thereby closed AD1 AD2 YFE YE © 2012 McGraw-Hill Ryerson Limited 9- 10 The Effects of Expansionary Monetary Policy LO2 Potential GDP P AS AD1 YE • expansionary monetary policy increases AD1 to AD2 • the recessionary gap (YFE - YE) is thereby closed AD2 YFE © 2012 McGraw-Hill Ryerson Limited 9- 11 Criticisms of Keynesian Monetary Policy LO2 – The twin goals of full employment and stable prices are incompatible – May not be possible to achieve them together – The best a central bank can do is achieve a delicate balance between the two, without ever attaining either goal © 2012 McGraw-Hill Ryerson Limited 9- 12