Macroeconomic Theory

Topics: Monetary policy, Central bank, Inflation Pages: 10 (2318 words) Published: February 6, 2013
Lecture 1

• Money is anything that is generally accepted in payment for goods and services or the repayment of debts

• Wealth is the set of properties that serve to store value

• Income is the flow of wealth accumulation per unit of time

• The oldest form of exchange is barter, which requires a double coincidence of wants

• The oldest form of money is commodity money: money is made out of a valuable commodity, like gold for example

• We now use fiat money: paper money decreed by governments as legal tender

• M0: the most liquid form of money and it exclusively includes currency in circulation

• M1: includes M0 (currency), checkable deposits, and traveler's checks

• M2: includes M1, savings deposits, time deposits, and money market mutual fund shares

• The monetary base is defined as the total amount of liabilities of the central bank, and it includes (1) currency and (2) reserves

• Nash equilibrium: if no one accepts money then you won't either

Lecture 2

D = 100 + 80 + 64 + . . . or equivalently
D=100+.8×100+.82 ×100+...
D=100(1+0.8+0.82 +...)
Say, x=1+0.8+0.82 +... then multiply both sides by 0.8 to obtain 0.8x=0.8+0.82 +0.83 +... now subtract the last equation from the second-to-last one: x−0.8x=1+0.8+0.82 +... −0.8−0.82 −...
If r=1-0.8…
D = 1/r(MB)

c=C/D= currency ratio
e=ER/D= excess reserve ratio
r= RR/D = require reserve ratio

MB = R+C = RR+ER+C = (rD)+(eD)+(cD)

Lecture 3

• The interest rate represents the opportunity cost of excess reserves

• The excess reserve ratio is negatively related to the market interest rate, and it is positively related to the expected deposit outflows

• The Fed acts as a lender of last resort for the banking system, and therefore it has to lend to the banking system all the money that banks need

• The Fed can partially control the amount that banks will decide to borrow, by setting the discount rate (this is the rate of interest that the CB charges on discount loans)

• We want to split the monetary base into two components: one that the Fed can control perfectly, which we call non-borrowed monetary base, and another that is less precisely controlled, which we call borrowed reserves

MB = MBn + BR

Ms = m × (MBn + BR)

• The Fed influences money supply by controlling the so-called tools of the Fed: r, MBn, and BR

• Depositors influence the money supply by deciding how much currency to hold, which determines the currency ratio c

• Banks contribute to the money supply process by deciding how many excess reserves to have: depending on their expectations about deposit outflows they will determine the excess reserves coeffcient e

• Borrowers from the banks determine the demand for loans and therefore the deposit multiplication process hinges heavily on their decisions

Lecture 4

• According to our understanding of the money supply process, we have two alternatives to explain changes in M1: either the monetary base MB, or the money multiplier m

• In the long run, the money supply is determined by the non- borrowed monetary base

• Between 1994 and 2009, M1 became less and less capable of capturing the actual money supply process

• The form that money will take in the future is unpredictable, therefore any monetary aggregate (M1, M2, M3, . . . M16!) will become obsolete at some point in time

• In recent years the Fed has been mainly focused on the federal funds rate, which is the interest rate that banks charge on overnight loans of reserves between each other

• Since February 1994 the FOMC announces a target for the federal funds rate, and this announcement is watched closely all around the world

• There are three main tools that the Federal reserve can use to conduct monetary policy: open market operations, reserve requirements,...
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