Presentation on theme: "Is velocity constant? 1. Classicals thought V constant because didn’t have good data 2. After Great Depression, economists realized velocity far from constant."— Presentation transcript:
1 Is velocity constant?1. Classicals thought V constant because didn’t have good data2. After Great Depression, economists realized velocity far from constant
2 Liquidity Preference Analysis Derivation of Demand Curve1. Keynes assumed money has i = 02. As i , relative RE on money (opportunity cost of money ) Md Demand curve for money has usual downward slopeQDM = f(i; Y, P)Income Effect: Y => QDM at each i (DM )Y =>W =>DM as medium of exchange and store of valuePrice Level Effect: P =>QDM at each i (DM )People care about purchasing power of money,real money balances = X = M/P
3 Chapter 19: The Demand for Money Theories of MDClassical Theory (1900 Fisher)Keynesian TheoryQuantity Theory (Friedman)Big Questions:How is PY determinedIs MD = f (i)Does DM => DP=> DYASPADPxYYiMD = f (Y, P)MD = f (i;Y, P)Q of M
4 (rate of money turnover) W, i, & P flexible => Y = YFE Velocity of Money = V(rate of money turnover)(link between M & PY)M x V = P x YDM/M + DV/V = DP/P + DY/YDP/P = DM/M + DV/V - DY/YIf DV/V = 0,Then DP/P = DM/M - DY/YIf DM/M > DY/YThen DP/P > 0If DM/M = DY/YThen DP/P = 0Milton Friedman: “Inflation is everywhere and always a monetary phenomenon”Equation of Exchange(identity)InflationIrving Fisher’sassumptionQuantityTheory of Money(PY determinedsolely by Q of M)Classical SchoolassumesW, i, & P flexible => Y = YFESo M => POr DM/M => DP/P
5 Implication: MD not a fn of i MD is a fn. of tech./fin. innovation Quantity Theory of Money DemandM = (1/V) x P Y(in eqlm M = MD)MD = (1/V) x P YMD = k x P YImplication: MD not a fn of iMD is a fn. of PY(medium of exchange)MD is a fn. of tech./fin. innovation(1/10 and falling)
6 Keynes’s Liquidity Preference Theory 3 Motives/Components of MDTransactions motive —related to YChecking accountsPrecautionary motive —related to YSavings accounts3. Speculative motiveA. related to W and YB. negatively related to iMoney market accounts
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