Chapter 12 Flashcards
What is the inflation rate?
i = (P’-P)/P
What is the Fisher relation and the approximate Fisher relation?
1+r = (1+R)/(1+i)
Approximates down to r = R-i, when inflation/interest rates are small.
What are q and X in the demand for the credit market?
-q is the price per unit that banks sell credit services to consumers for.
-X is the quantity of credit card services provided for each given q.
Explain the interaction between P, R, q and X in the credit demand/supply market.
-Xd(q) is an elastic curve and this intersects with Xs(q), which is curved and sloping upwards.
-When in equilibrium, R=q, meaning P(1+R) = P(1+q); the cost/reward of using currency and credit is the same.
-If R increases, Xd(q) shifts upwards, meaning X increases… this is because the opportunity cost of using currency increases when R (the reward at the start of the next period for selling a unit of currency) increases.
What is the money demand (Md) equation in all its formats and simplifications?
-Md = P[Y - X*(R)].
-Md = PL(Y,R), where L is increasing in Y and decreasing in R.
-Md = PL(Y,r+i), using the Fisher relation.
-Md = PL(y,r) as we can set inflation to zero.
What causes an outwards shift in money demand?
An increase in real income (Y) or a decrease in the real interest rate (r).
How can changes in the credit market lead to changes in the money market?
-All comes down to Md = P[Y - X(R)]
-Factors that can cause an inwards shift in the supply for the credit market can include a mass power outage, meaning X has decreased, meaning the Md equation has increased, meaning Md shifts outwards and P decreases.
-There are also factors that cause shifts in the demand for credit services that have a subsequent impact on Md, including New financial instruments that lower the cost of consumers accessing banks, a change in government regulations, a change in the perceived riskiness of banks and a short-term change in the banking system.
What is the liquidity trap?
When a country is at the zero lower bound on nominal interest rates (R), any purchases of bonds do not impact M+B as it is offset, meaning that they are perfect substitutes and price level can not get impacted.
What is the liquidity trap?
When a country is at the zero lower bound on nominal interest rates (R), any purchases of bonds do not impact M+B as it is offset, meaning that they are perfect substitutes and price level can not get impacted.
What is quantitative easing?
Occurs when the Central Bank buys long-term government securities (debt), making it more liquid… M increases and B decreases but not by enough to offset the increase, meaning there is an overall increase and P has increased.
How can nominal interest rates be below zero?
The lower bound can effectively be below zero because of the alternative of holding interest-bearing assets.
