CHAPTER ELEVEN Aggregate Demand II

Transcription

1 HTER ELEVEN ggegate Demand II 1 -LM The intesection of the cuve and the LM cuve detemines the level of national income. When one of these cuves shifts, the shot-un equilibium of the economy changes, and national income fluctuates. Let s examine how changes in policy and shocks to the economy can cause these cuves to shift. 2 1

2 + G onside an incease in govenment puchases. This will aise the level of income by G/(1- M) LM The cuve shifts to the ight by G/(1- M) which aises income and the inteest ate. 3 LM LM + M an incease in the money supply. With an incease in money supply The LM cuve shifts downwad and lowes the inteest ate which aises income. Why? When the Fed inceases the supply of money, people have moe money than they want to hold at the pevailing inteest ate. They stat depositing this exta money in banks o use it to buy bonds. The inteest ate falls until people ae willing to hold all the exta money this bings the money maket to a new equilibium. lowe inteest ate stimulates planned investment, which inceases planned expenditue, poduction, and income. monetay expansion induces geate spending on goods and sevices--a pocess called the monetay tansmission mechanism. 4 2

3 and LM diagams: elationship between and. Now a thid vaiable, the pice level () is intoduced. 2 1 LM( 2 ) LM( 1 ) D Stat at point in the top gaph. Incease the pice level fom 1 to 2. n incease in lowes the value of M/ and, shifting LM leftwad to point. s inceased, investment will decease This sets off a multiplie pocess: - I causes a. the - tigges - as we move up the cuve. The + ends with a -, the invese elationship defines the downwad slope of D. 5 + G Suppose thee is a + G. = (-T) + I() + G This tanslates into a ightwad shift of the and D cuves. In the shot-un, we move along SRS fom point to point. ut as the output maket cleas, in the long-un, the pice level will incease fom 0 to 2. This + deceases the value of eal money balances, which tanslates into a leftwad shift of the LM cuve. Finally, this leaves us at point in both diagams. M/ = L (, ) 2 0 LRS LM (2 ) LM (0 ) SRS D D 6 3

4 Remembe that SHORT RUN is the movement fom to. Impacts of inceased govenment spending on,, and : : +, because moved fom * to : 0, because pices ae sticky in the SR. : +, because a + leads to a ise in as slides along the LM cuve. : +, because a + inceases the level of consumption ( =( -T)). I :, since inceased, the level of investment deceased. 2 0 LRS LM( 2 ) LM( 0 ) SRS D D * 7 Fo the vaiables, and, you can ead the effects ight off the diagams. Remembe that LONG RUN is the movement fom to. : 0, because ising shifts LM to left, etuning to * as equied by longun LRS. : +, in ode to eliminate the excess demand at 0. : +, eflecting the leftwad shift in LM due to + : 0, since (and T) ae back to thei initial levels (=(-T)) I :, since has isen even moe due to the LRS * LM( 2 ) LM( 0 ) SRS D D 8 4

5 IMTS OF + M. M/ = L (, ) M \ inceases: the value of the eal money supply also inceases a ightwad shift of the LM and D cuves. Shot-un: move along SRS Fom point to point. Long un: as output maket cleas, the pice level will incease fom 0 to 2. + deceases the value of eal money supply: a leftwad shift of the LM cuve. M/ = L (, ) Finally, this leaves us at point in both diagams. 2 0 = LRS LM (0 ) LM SRS D D 9 Remembe that SR is the movement fom to. Impacts of + M on,, and I +, because moved fom * to 0, because pices ae sticky in the SR., because a + leads to a decease in as LM slides along the cuve. +, because a + inceases the level of consumption ( =( -T)). +, since inceased, the level of investment deceased. 2 0 (2) LM (0) LM LRS SRS D D * 10 5

6 Impacts of + M on,, and 0, because ising shifts LM to left, etuning to * as equied by LRS. +, in ode to eliminate the excess demand at 0. 0, eflecting the leftwad shift in LM due to +, estoing to its oiginal level. I 0, since (and T) ae back to thei initial levels (=(-T)). 0,since o has not changed. Remembe that LR is the movement fom to. Notice that the only LR impact of an incease in the money supply was an incease in the pice level. 2 0 = LRS * LM (0) LM SRS D D 11 ' Β Α LM( 2 ) LM( 0 ) n incease in autonomous consumption spending 1) + causes the cuve to shift ight to. = (-T) + I() + G 2 0 LRS Α Β SRS D D' 2) This leads to a ightwad shift in D to D. Shot Run: Move fom to. Long Run: Maket cleas at 0 to 2 fom to. 3) + causes LM( 0 ) to shift leftwad to LM( 2 ) as eal value of the money supply deceases. M / = L (, ) -LM 12 6

7 ' LM( 2 ) LM( 0 ) Β Α Shot Run: Long Run: 2 0 LRS Α Β SRS I D D' 13 inteest ate, i Fishe equation: 2 nominal inteest ate = eal inteest ate + expected inflation ate i = + π e 1 = i 1 i 2 LM The Geat Depession ( ): The spending hypothesis suggests that pehaps the cause of the decline may have been a contactionay shift of the cuve. The money hypothesis attempts to explain the effects of the fall of the money supply Some economists say that deflation wosened the Geat Depession, it could vey well have been esponsible fo the seveity of the depession. n expected deflation (a negative value of π e ) aises the eal inteest ate fo any given nominal inteest ate, and this depesses investment spending. The eduction in investment shifts the cuve downwad. The level of income and the nominal inteest ate (i) fall, but the eal inteest ate () ises. 14 7

8 Monetay tansmission mechanism igou Effect Debt-deflation theoy 15 8