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AB204
Unit 8 Seminar
Chapter 15
Monetary Policy
Chapter 15
The money demand curve arises from a
trade-off between the opportunity cost of
holding money and the liquidity that
money provides.
The opportunity cost of holding money
depends on short-term interest rates, not
long-term interest rates.
Chapter 15
Other things equal, the nominal quantity of money
demanded is proportional to the aggregate price level. So
money demand can also be represented using the real
money demand curve.
Changes in real aggregate spending, technology, and
institutions shift the real and nominal money demand curves.
According to the quantity equation, the real quantity of
money demanded is proportional to real aggregate spending,
where the constant of proportionality is one over the velocity
of money.
Chapter 15
The liquidity preference model of the interest rate says
that the interest rate is determined in the money
market by the money demand curve and the money
supply curve.
The Federal Reserve can change the interest rate in the
short run by shifting the money supply curve. In
practice, the Fed uses open-market operations to
achieve a target federal funds rate, which other interest
rates generally track.
Chapter 15
Expansionary monetary policy, which reduces the
interest rate and increases aggregate demand by
increasing the money supply, is used to close
recessionary gaps.
Contractionary monetary policy, which increases the
interest rate and reduces aggregate demand by
decreasing the money supply, is used to close
inflationary gaps.
Chapter 15
Like fiscal policy, monetary policy has a multiplier
effect, because changes in the interest rate lead to
changes in consumer spending and savings as well as
investment spending.
In the short run, a change in the equilibrium interest
rate determined in the money market results in a
change in real GDP and in savings through the
multiplier effect.
The change in savings shifts the supply of loanable
funds in the market for loanable funds until it reaches
equilibrium at the new equilibrium interest rate.
Chapter 15
In the long run, changes in the money supply
affect the aggregate price level but not real
GDP or the interest rate.
In fact, there is monetary neutrality: changes
in the money supply have no real effect on the
economy in the long run. So monetary policy
is ineffectual in the long run.
Chapter 15
In the long run, the equilibrium interest rate
matches the supply and demand for loanable
funds that arise at potential output in the
market for loanable funds.
Chapter 15 conclusion
This concludes our coverage of key points from
Chapter 15
Are there any questions?