Podcast
Questions and Answers
How is expected inflation estimated according to the outlined procedures?
How is expected inflation estimated according to the outlined procedures?
- Using only future interest rates
- Based on current interest rates and inflation
- Through direct measurement of inflation levels
- As a function of past interest rates, inflation, and time trends (correct)
In a market for money equilibrium, which equation holds true?
In a market for money equilibrium, which equation holds true?
- Bs - Bd = Ms + Md
- Ms = Md (correct)
- Bs + Ms = Bd + Md
- Bs = Bd
What does the Keynesian model primarily focus on regarding interest rates?
What does the Keynesian model primarily focus on regarding interest rates?
- The influence of government policy on inflation
- The relationship between money supply and demand (correct)
- The role of international trade in setting interest rates
- The historical trends of interest rates over time
What does the expression $Bs + Ms = Bd + Md$ represent?
What does the expression $Bs + Ms = Bd + Md$ represent?
Which statement is true when the market for money is in equilibrium?
Which statement is true when the market for money is in equilibrium?
What is the relationship between the quantity demanded of an asset and wealth?
What is the relationship between the quantity demanded of an asset and wealth?
Which factor is NOT mentioned as affecting the demand for assets?
Which factor is NOT mentioned as affecting the demand for assets?
What framework is used to describe the relationship between the bond market and the money market?
What framework is used to describe the relationship between the bond market and the money market?
Which of the following does NOT directly affect the equilibrium interest rate in the bond market?
Which of the following does NOT directly affect the equilibrium interest rate in the bond market?
Which of the following accurately describes the demand and supply curves for the bond market?
Which of the following accurately describes the demand and supply curves for the bond market?
What is one of the primary objectives in understanding the behavior of interest rates?
What is one of the primary objectives in understanding the behavior of interest rates?
When analyzing factors that affect the money market, which of the following is important?
When analyzing factors that affect the money market, which of the following is important?
What is the equilibrium interest rate determined by in the bond market?
What is the equilibrium interest rate determined by in the bond market?
What is the immediate effect of a one-time increase in the money supply?
What is the immediate effect of a one-time increase in the money supply?
How does a rising price level affect interest rates according to the liquidity preference framework?
How does a rising price level affect interest rates according to the liquidity preference framework?
Which effect predicts that an increase in money supply leads to a rise in interest rates?
Which effect predicts that an increase in money supply leads to a rise in interest rates?
What do expectations of inflation lead to when the price level continues to rise?
What do expectations of inflation lead to when the price level continues to rise?
What happens to expected-inflation effects once the price level stops rising?
What happens to expected-inflation effects once the price level stops rising?
What is the relationship between money supply growth and the demand curve?
What is the relationship between money supply growth and the demand curve?
Which effect is described as being short-lived, only persisting while price levels are increasing?
Which effect is described as being short-lived, only persisting while price levels are increasing?
What is one consequence of an expansionary influence on the economy as related to money supply?
What is one consequence of an expansionary influence on the economy as related to money supply?
What occurs when there is an increase in income according to the liquidity preference framework?
What occurs when there is an increase in income according to the liquidity preference framework?
How does an increase in the interest rate affect the quantity demanded of money?
How does an increase in the interest rate affect the quantity demanded of money?
What effect does an increase in the price level have on the demand for money?
What effect does an increase in the price level have on the demand for money?
What happens to the money supply when the Federal Reserve increases it?
What happens to the money supply when the Federal Reserve increases it?
What is the relationship between opportunity cost and the quantity demanded of money?
What is the relationship between opportunity cost and the quantity demanded of money?
What factors lead to a rightward shift in the demand curve for money?
What factors lead to a rightward shift in the demand curve for money?
If the quantity demanded of money falls, what is a likely cause?
If the quantity demanded of money falls, what is a likely cause?
In the liquidity preference framework, how do changes in the demand for money affect interest rates?
In the liquidity preference framework, how do changes in the demand for money affect interest rates?
What occurs when the amount that people are willing to buy equals the amount that people are willing to sell?
What occurs when the amount that people are willing to buy equals the amount that people are willing to sell?
What happens to the price and interest rate when the demand for bonds exceeds the supply?
What happens to the price and interest rate when the demand for bonds exceeds the supply?
Which factor would cause the demand curve for bonds to shift to the left?
Which factor would cause the demand curve for bonds to shift to the left?
In a situation of increased government budget deficits, what is likely to happen to the supply curve for bonds?
In a situation of increased government budget deficits, what is likely to happen to the supply curve for bonds?
What effect does an increase in expected inflation have on the demand for bonds?
What effect does an increase in expected inflation have on the demand for bonds?
When there is excess supply in the bond market, what is the anticipated change in price and interest rates?
When there is excess supply in the bond market, what is the anticipated change in price and interest rates?
What happens to the supply curve for bonds during economic expansion?
What happens to the supply curve for bonds during economic expansion?
What relationship do expected returns on long-term bonds have with higher expected interest rates in the future?
What relationship do expected returns on long-term bonds have with higher expected interest rates in the future?
What effect does increased liquidity in the market have on the demand curve for bonds?
What effect does increased liquidity in the market have on the demand curve for bonds?
Which scenario would likely not cause a shift to the right in the demand curve for bonds?
Which scenario would likely not cause a shift to the right in the demand curve for bonds?
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Study Notes
Factors Affecting Asset Demand
- Wealth: The quantity demanded of an asset is directly related to wealth, all else being equal. As wealth increases, the demand for assets increases.
- Expected Returns: Higher expected interest rates in the future decrease the expected return for long-term bonds. This shift the demand curve to the left.
- Expected Inflation: An increase in expected inflation lowers the expected return of bonds, causing the demand curve to shift to the left.
- Risk: An increase in the riskiness of bonds causes the demand curve to shift to the left.
- Liquidity: Increased liquidity of bonds results in the demand curve shifting to the right.
Market Equilibrium
- Equilibrium in the bond market occurs when the quantity demanded of bonds (Bd) equals the quantity supplied (Bs) at a given price.
- When Bd is greater than Bs, there is excess demand in the market. This causes the price to rise and the interest rate to fall.
- When Bd is less than Bs, there is excess supply in the market, which causes the price to fall and the interest rate to rise.
Factors Affecting the Supply of Bonds
- Expected Profitability: An expansion in the economy leads to a higher expected profitability of investment opportunities, shifting the supply curve to the right.
- Expected Inflation: An increase in expected inflation shifts the supply curve for bonds to the right.
- Government Budget: An increase in government budget deficits shifts the supply curve to the right.
The Liquidity Preference Framework
- This framework determines the equilibrium interest rate using the supply of and demand for money.
- Total wealth in the economy is the sum of the value of bonds (Bs) and money (Ms). It is also the sum of the demand for bonds(Bd) and the demand for money (Md).
- Bs - Bd = Ms - Md
- If the market for money is in equilibrium (Ms = Md), then the bond market is also in equilibrium (Bs = Bd).
Factors Affecting the Demand for Money
- Income Effect: Holding everything else constant, an increase in income increases the demand for money at each interest rate, shifting the demand curve to the right. This is because people have more transactions and are holding more wealth.
- Price-Level Effect: An increase in the price level causes the demand for money to shift to the right because people care about the real value of money.
Factors Affecting the Supply of Money
- The central bank controls and adjusts the supply of money.
- An increase in the money supply shifts the supply of money curve to the right.
Changes in the Equilibrium Interest Rate over Time
- A one-time increase in the money supply causes prices to rise permanently.
- The interest rate will rise in response to increased prices.
- The liquidity preference framework predicts an increase in the money supply will lower interest rates through the liquidity effect.
- The income effect suggests interest rate increases as a result of an increase in the money supply due to expansionary effects on the economy.
- The expected-inflation effect causes interest rate increases as people expect faster price growth in the future due to increased money supply.
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