ECON 1113 1st Edition Lecture 24 Outline of Last Lecture I. The Government Budget Deficit (continued)A. The Short Run EffectsB. The Long Run EffectsOutline of Current Lecture I. Keynesians vs. MonetaristsA. Views about the Causes of Economic FluctuationsB. Technical DifferencesC. An IllustrationD. Policy ImplicationsE. Views about VelocityCurrent LectureI. Keynesians vs. MonetaristsA. Views about the Causes of Economic Fluctuations1. Keynesiana. Believe the economy is inherently unstable and subject to various shocksb. Thus, advocate the use of active economic policies (especially fiscal policies)2. Monetaristsa. Believe the economy is inherently stable and much of the observed instability is due to inappropriate economic policiesb. Thus, advocate passive, or rules-based, policiesB. Technical Differences1. Keynesiana. Believe money demand is interest elasticb. Emphasize the precautionary and speculative motivesc. Believe investment spending is interest inelasticd. Believe velocity is unstable and moves opposite to changes in the money supply2. Monetaristsa. Believe money demand is interest inelasticb. Emphasize the transactions motivec. Believe investment spending is interest elasticThese notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute.d. Believe velocity is very stable and analytically can be treated as a constantC. An Illustration1. Keynesian Diagramsa. Money Marketi. Vertical money supply curve = $100ii. Flat money demand curveiii. If the money supply doubles, the interest rate will go downslightlyb. Investment Marketi. Steep MEI curveii. If money supply doubles, the lower interest rate in correlation with a steep MEI will increase investment spending slightlyc. Domestic Product or Incomei. The initial Y equilibrium value equals $400ii. The small increase in I will raise the PTE by the change in I equivalentlyiii. In this example, the multiplier is 5, and delta I equals $10, such that PTE increases by $50iv. The new Y value becomes $4502. Monetarist Diagramsa. Money Marketi. Vertical money supply curve = $100ii. Steep money demand curveiii. If the money supply doubles, the interest rate will go downsignificantlyb. Investment Marketi. Flat MEI curveii. If money supply doubles, the lower interest rate in correlation with a flat MEI will increase investment spending significantlyc. Domestic Product or Incomei. The initial Y equilibrium value equals $400ii. The large increase in I will raise the PTE by the change in I equivalentlyiii. In this example, the multiplier is 5, and delta I equals $60, such that PTE increases by $300iv. The new Y value becomes $700v.D. Policy Implications1. Suppose the Fed doubles the money supply from $100 to $2002. Keynesiana. Conclude monetary policy (changes in money supply) do not have large effects on Yb. Hence, fiscal policies (changes in G and T) should be used to change Y3. Monetarista. Conclude monetary policy (changes in money supply) have quite powerful effect on Y, so much so that they usually result in inflationb. Hence, the Fed should use monetary policy primarily to control inflationE. Views about Velocity1. At a point in time: MSV = PQ = Y2. Both views: MS0V0 = Y0a. Assume the money supply is originally $100, such that nominal GDP is $400, causing velocity to equal 4, from the above exampleb. Then suppose money supply doubles, as it does about to $200c. Keynesiani. If money supply now equals $200 and the new nominal GDP equals $450, then velocity must equal 2.25ii. The Keynesian change in velocity is great then (-1.75)iii. This explains beliefs that increasing the money supply will decrease velocity significantly, exemplifying an unstable nature of velocityd. Monetaristi. If money supply now equals $200 and the new nominal GDP equals $700, then velocity must equal 3.5ii. The Monetarist change in velocity is small then (-0.5)iii. This explains beliefs that increasing money supply will decrease velocity minimally, exemplifying a stable nature of velocityII. “You are here to enrich the world and you impoverish yourself if you forget the errand.” – Woodrow