2012년 5월 6일 일요일

메모: Monetary Theory and Policy


Chapter 38. Monetary Theory and Policy

(...) Just as markets for goods are in equilibrium only if the quantities supplied and demanded are equal, the quantities of money supplied and demanded must be equal to balance financial markets. In this chapter you will learn how monetary equilibrium affects national income, the price level, investment, and the interest rate. Equilibration processes are sketched from classical, Keynesian, and monetarist perspectives. Most modern economists borrow eclectically from all three of these schools of thought, with few fully subscribing to al the positions we ascribe to a particular "brand" of theory. (...)

THE DEMAND FOR MONEY

(...) But money, though related to both[income and wealth], is identical to neither income nor wealth. Money is the device used to buy goods and by which we measure income, wealth, and prices paid.

(...) One trivial way to explain your demand for money is to say that you desire money for the functions it performs. (...)

Transaction Demands

(...) Transaction demand for money arises because people anticipate spending it. This is usually the dominant reason for holding money. (...) Predictable transactions flows of money to and from an individual paid $2,000 monthly are reflected in the blue line in Figure 1. (.. Two patterns of income schedule and two differnet levels of mondy holdings ...)

Precautionary Demands

(...) Figure 1 stacks the precautionary demand for money on top of the transactions demand to show how the total of these two demands is related to income. One of Keynes's innovations in monetary theory is the idea of the precautionary motive. While earlier classical writers ignored this motive in their writings on money, they would have had little difficulty accepting this idea because, like transactions balances, precautionary balances of money are closely related to income.

Early classical theorists argued that no one will hold money as an asset because they could earn interest on stocks or bonds if they made these financial investments instead. Keynesians argue that a desire to hold some wealth in the form of money originates from (a) expectations that the price of stocks or bonds will fall in the near future, (b) reluctance to hold only assets that tend to swing widely in value, or (c) a belief that transaction costs are higher than any expected return from investments in stocks or bonds.

Asset Demands

Keynes's major innovation in monetary theory is the concept of an asset demand for money, an idea that clashes with early classical theory.

The asset demand for money arises because people sometimes want to hold part of their wealth in the form of money.

- Speculative Balances: (...) People hold speculative money balances if they expect the prices of alternative assets to fall in the near future. (...) If you and other potential bond buyers expect interest rates to rise soon, you will speculate against bonds and hold money while waiting for bond prices to fall.

- Risk Avoidance: (...) We invest only if the assets we buy with money are expected to yield returns that compensate us for our reduced liquidity(less money held) and the increased risk of loss.

- Costs of Illiquidity: (...)

All these reasons for people to hold money as an asset lead to the conclusion that money holdings are negatively related to the interest rate.  Transactions demands are related to time, as suggested in Figure 1. But neither precautionary nor asset demands for money are systematically related to time. It is impossible to compartmentalize chunks of money precisely, but the transactions, precautionary, and asset motives are reasonable explanations for why most of us keep positive balances of money handy. Typical total money holdings for a person paid $2000 once a month are depicted in Figure 3.




THE COSTS OF HOLDING MONEY

As with other goods, the quantity of money demanded will depend on its opportunity cost. Most goods

or resources can be bought with money, so it might seem difficult to specify the sacrifice associated

with money holdings. These sacrifices, however, take the form of either interest forgone from income-earning assets not held(the Keynesian view) or forgone consumer goods and services(the classical view).

- The Classical View. The amount of consumption you sacrifice by holding a dollar falls as the cost of living rises. For example, if the price of candy bar jumps from $0.50 to $1, then the candy you sacrifice to hold $1 drops from two bars to only one bar. (...) Thus, the real subjective vaue of a dollar in exchange for consumer goods from the vantige point of a typical consumer is roughly the reciprocal of the price leve($1/P). If the price level rises, you must hold more dollars to consummate given amounts of "real" transactions. This implies a negative relationships between the quantity of money demanded and the reciprocal of the price level, as shown in Panel A of Figure 4. This cost of holding money is at the root of traditional classical monetary theory.

Figure 4. (...)

But relationships between the cost of living and the quantity of money demanded are not quite this simple. Suppose we experienced inflation for a substantial period and that you expected it to continue. Fearing a decline in value of money, you would want to ^reduce^ your dollar holdings and purchase more goods. (Dollars buy more today than you expect them to in the future). Consequently, ^new^ classical theory posits a negative relationship between expected inflation and the demand for money. We will explore this relationship more in a moment.

- The Keynesian View. Keynesians perceive the interest rate as the cost of holding money, because they view stocks or bonds that pay interest as the closest alternative to money as an asset. You receive no interest on cash holdings and relatively low interest rates on demand deposits. If interest rates are relatively high on nonmonetary assets, you are more likely to hold your wealth in stocks or bonds than if interest rates are low, when money is a more attractive asset. This Keynesian emphasis on interest rates differs from the traditional classical view that the costs of holding money are the goods that might be enjoyed were the money spent.

CLASSICAL MONETARY THEORY

(... ...) The British philosopher David Hume was among the early economic thinkers who noted that rapid monetary growth triggers inflation.

Quantity theories of money identify the money supply as the primary determinant of nominal spending and, ultimately, the price level.

The Equation of Exchange

GDP can be written as PQ because GDP has price level(P) and real output(Q) components. But how is the money supply related to GDP? Economists approach this question by computing how many times, on average, money changes hands annually for purchases of final output. For example, GDP in 1994 was roughly $7 trillion and the money supply(M1) averaged about $1 trillion, so the average dollar was used roughly seven times for purchases of output in 1994.

The average number of times a unit of money is used annually is called the ^income velocity(V) of money.

Velocity is computed by dividing GDP by the money supply: V = PQ/M. Multiplying both sides by M yields MV = PQ, a result called the equation of exchange.

The equation of exchange is written: M ( ) V = P ( ) Q. (...)

A rough corollary is that ΔM/M + ΔV/V = ΔP/P + ΔQ/Q

(...) Learning these relationshps will help you comprehend arguments between classical monetary theorists and their detractors.

The Crude Quantity Theory of Money

From certain assumptions about the variables in the equation of exchange(M< V, Q, and Q), classical economists(including Fisher) conclude that, in equilibrium, the price level(P) is exactly proportional to the money supply(M). Let us see how they arrived at this conclusion.

Constancy of Velocity. Classical economic reasoning views the income velocity(V) of money as determined solely by institutional factors, such as organization structure and efficiency of banking and credit, and by people's habitual patterns of spending money after receiving income. (...) Thus, we see a central assumption of the classical quantity theory: ΔV/V = 0. (...)

But why does classical economists view velocity(V) as unaffected by the price level(P), the level of real output(Q), or the money supply(M)? An answer lies in why people demand money. Classical macroeconomics assumes that people want to hold money only to consummate transactions and that people's spendings are fixed proportions of their incomes. (...), then the demand for money Md(a transaction demand) can be written: Md = k PQ , where k is a constant proportion of income held in monetary balances.[4] For example, if each family held 1/5 of its average income of $10,000 in the form of money, then the average quantity of money each family would demand would be Md = 0.2($10,000) = $2,000. The quantity of money demanded in the economy would be $2,000 times the number of families.

Constancy of Real Output. Classical theory also assumes that real output(Q) does not depend on the other variables(M, V, and P) in the equation of exchange. Classical economists believe the natural state of the economy is full employment, so real output is influenced solely by the state of technology and by resource availability. Full employment is ensured by Say's Law if prices, wages and interest rates are perfectly flexible. Moreover, both technology and the amount of resources available are thought to change slowly, if at all, in the short run. Thus, real output(Q) is assumed to be approximately constant, and ΔQ/Q = 0. This may seem like a very strong assertion, but the intitive appeal of the idea that real output is independent of the quantity of money(M), its velocity(V), or the price level(P), is convincing both to classical monetary theorists and to new classical economists who have updated the classical tradition.

The idea that the amount of paper currency or coins issued by the government has virtually no effect on the economy's productive capacity seems reasonable. Similarly, the velocity of money should not influence capacity. But what about the price level? After all, the law of supply suggests that the quantities of goods and services supplied will be greater the higher the market prices are. Shouldn't the nation's output increase if the price level rises? Classical economists say ^no^. Here is why.

A Crude Monetary Theory of the Price Level. Suppose your income and the values of all your assets exactly double. Now suppose that the prices of everything you buy and all your debts also precisely double. Should your behavior change in any way? Your intuition should suggest not. Using similar logic, classical economists conclude that, in the long run, neither real output nor any othr aspect of "real" economic behavior is affected by changes in the price level. Economic behavior is shapted b relative prices, not the absolute price level.

Recall that ΔM/M + ΔV/V = ΔP/P + ΔQ/Q. If ΔV/V = 0 and ΔQ/Q = 0 at full employment in the short run. [Then,] classical economists are left with a fixed relationships between M and P. In equilibrium, ΔM/M = ΔP/P. Thus, any acceleration of monetary growth would not affect real output, just inflation.

The Classical View of Investment

(... ....)

Classical Monetary Transmission

Classical monetary economists view linkages between the money supply and National Income as not only strong, but direct. This classical monetary transmission mechanism(how money enters the economy) is shown in Figure 7. Panel A reflects the effect of monetary changes on nominal income, and Panel B translates these changes into effect on real output.

Figure 7.

(... ...) ΔM/M = ΔP/P.

Another conclusion is that real output (or any other "real" economic behavior) is unaffected in the long run by either the money supply or the price level. These early version of the quantity theory of money are clearly misnamed--they should be called ^monetary theories of the price level^.

Classical theorists concluded by saying "Money is a veil." By this they meant that money, inflation, or deflation may temporarily disguise the real world, but in the long run, money affect only the price level and has virtually no effet on such real variables as production, employment, labor force participation, unemployment, or relative prices. Even though classical economists vehemently opposed large expansions of the money supply because of fear that inflation temporarily distorts behavior, it is probably fair to say that classical monetary theory leads to the conclusion that, in the long run, "money does not matter." It does not affect production, consumption, investment, or any other "real" economic behavior. When we deal graphically with the demand and supply of money in later sections, we will resurrect these classical propositions to see how modern monetary theory treats them.


KEYNESIAN MONETARY THEORY

The brunt of Keynes's attack on the classical quantity theory of money was aimed at its conclusions that (a) velocity is constant and (b) full employment is the natural state of a market economy.

Early classical economists believed that money balances are held only for transactions purposes and that the transactions anyone engages in are roughly proportional to that individual's nominal income. Thus, planned money balances were assumed roughly proportional to nominal income. "Why," they asked, "would people want to hold money unless they intend to spend it? Virtually any other asset yields a positive rate of return--and money holdings do not. No one holds more money than they need for transactions. They hold income-earning assets instead of money whenever possible." Keynes responded by adding the precautionary and asset(speculative) motives to the transaction motive for holding money. (... ...)

ASSET DEMAND FOR MONEY

(...) Rising uncertainty is a major reason for growth of the asset demand for money. 

Suppose you are working on an assembly line when the economy nose-dives. Many of your co-workers are laid-off. You would probably start saving more because you could be the next (...).  As your savings mount, assets in the form of money balances grow. What happens to the velocity of money? ^Velocity falls as savings increases.^ Why not convert these funds into a stock or bond that pays interest or some positive rate of return? You must be kidding! The economy is in a tailspin--a recession may be under way. The crucial point here is that when people expect hard times, the velocity of money falls as people convert money from transactions balances to precautionary or asset balances. Conversely, money balances are increasingly held for transactions purposes when prosperity seems just around the corner. This causes velocity to rise.

Let us see what all this means within the context of the equation of exchange. Because ΔM/M + ΔV/V = ΔP/P + ΔQ/Q, a 5% decline in velocity(money supply assumed constant) will cause nominal GDP to fall 5%. If prices do not fall fairly rapidly, output and employment will decline by about 5%. (One economic law seems to be that ^if circumstances change and prices do not adjust, quantities will.^) The economy may settle in equilibrium at less than full employment.

Keynes and his followers assumed that price adjustments are ^sticky^(slow), especially on the down side, and that people's expectations are volatile. This implies that the velocity of money may vary considerably over time and that the real economy may adjust only slowly, if at all, to these variations.

Liquidity Trap. Classical economists viewed that the interest rate as an incentive for saving: you are rewarded for postponing consumption. Keynes's rebuttal was that interest is a reward for sacrificing liquidity. According to Keynes, how much you save is determined by your income and will be affected very little by interest rates. However, interest rates are important in deciding the form your saving takes. You will hold money unless offered some incentive to hold a less-liquid asset. Interest is such an inducement. Higher interest rates will induce you to relinquish money and hld more of your wealth in the form of illiquid assets.

Keynes believed that very high interest rates cause people to hold little, if any, money in asset balances; the demand for money consists almost exclusively of transactions and precautionary balances. But low interest rates result in large asset balances of money. Just as we horizontally sum individual demands for goods to arrive at market demands, we can sum the transactions, precautionary and asset demands for money to obtain the total demand for money. This demand curve for money is shown in Figure 8.

Note that at a very low interest rate, the demand for money becomes flat. This part of the demand curve for money is called ^liquidity trap^.

A liquidity trap occurs if people will absorb any extra money into idle balances because they are extremely pessimistic or risk averse, view transaction costs as prohibitive, or expect the prices of nonmonetary assets to fall in the near future.

It implies that if the money supply grew(say, from Ms0 to Ms1), any extra money you received would not be spent, but hoarded, that is, absorbed into idle cash balances. Monetary growth would increase Aggregate Spending very little, if at all. Expectations about economic conditions might become so pessimistic that people hoard every cent they could "for a rainy day," an instance of the liquidity trap. Alternatively, historically low interest rates might persuade nearly everyone that interest rates will soon rise. YOu would not want to hold bonds because risng interest rates would reduce bond prices and you would suffer a capital loss; you and many other investors would hold money while waiting for interest rates to rise and bond prices to fall.

(... ...) Keynes rejected classical theory in his thinking about the demand for money, broadening earlier perspective to consider precautionary and asset demands for money. Keynes thought that interest rates are determined solely by the demand and supply of money. His classical predecessors viewed interest rates as being determined in the market for capital goods. Thus, Keynesian and classical economists differ sharply in their perceptions of investment.

The Keynesian View of Investment (...)

Keynesian Monetary Transmission (...)

Keynesian Analysis of Depressions and Inflations (...)


MONETARISM

(...)

The Stability of the Demand for Money

Monetarists are willing to accept the idea that the demand for money is influenced by variables other than income, but they view these relationships as very stable. Moreover, they believe that most variables that influence the demand for money are relatively constant because they are the outcomes of an inherently stable market system. (...)

The Monetarist Monetary Transmission Mechanism

Monetarists, like their classical predecessors, believe that linkages between the money supply and nominal National Income are strong and direct. Monetarists perceive the demand for money as stable, so an expansion in the money supply is viewed as generating surpluses of money in the hands of consumers and investors. These surpluses of money, when spent, quickly increase Aggregate Demand.

(...) Recognizing the importance of Aggregate Demand in the short run because the economy may falter occasionally, most monetarists believe that growth of the money supply can boost spending and drive a slumping economy toward full employment. Much like classical theorists, monetarists perceive the market system as inherently stable and think that the economy will seldom deviate for long from full employment.

Monetarists consequently predict that, in the long run, growth in the money supply will be translated strictly into higher prices, even if monetary expansion occurs during a recession. Expansionary macroeconomic policies will, however, induce greater output more quickly in the midst of a recession. In other words, the Aggregate Supply curve described by Keynesians may accurately represent a recessionary economy, but only in the very short run. This view of the world is portrayed in Figure 11.

Suppose the money supply is initially at $800 billion and the price level is 100. The economy is temporarily
producing at point a, which is 1.5 trillion units of real GDP below capacity, because full employment income is 7.5 trillion units. If the money supply and Aggregate Demand were held constant, then prices and wages would eventually fall to a long-run equilibrium at point b. Full employment would be realized when the price level fell to 80. If the money supply were expanded to $1 trillion, Aggregate Demand would grow and full employment output of 7.5 trillion units would be realized more rapidly (point c). However, the price level is higher in this long-run equilibrium, being maintained at 100.

Figure 11

Most monetarists oppose active monetary policy to combat recessions. They view long-run adjustments as fairly rapid, believing instead that deflation will quickly restore an economy to full employment. An even greater fear is that discretionary monetary policy might overshoot, converting recession into inflation. This is shown in Figure 11 by too rapid growth of Aggregate Demand when the money supply is increased to $1.2 trillion. In this case, the consequence of policy to combat recession is a 20% percent increase in the price level (point d). According to this monetarist line of thinking, overly aggressive monetary expansion can eliminate recession and unemployment more quickly than do-nothing policies, but only at the risk of sparking inflation.

SUMMARY: CLASSICAL, KEYNESIAN, AND MONETARIST THEORIES

The monetary theories of classical economists, Keynesians, and monetarists are outlined in Figure 12. The major differences in these traditional schools of thought are found in [:]
  • (a) the nature of the demand for money,
  • (b) the nature of the investment relationship,
  • (c) the monetary transmission mechanism, and
  • (d) assumptions about the velocity of money.
Differing assumptions about money creation and the effectiveness of monetary policy split Keynesians and monetarists. Many monetarist models ignore institutional mechanisms used to create money (e.g., that the Fed might buy government bonds from banks, thereby increasing excess reserves, which are multiplied into new loan-based demand deposits). Remember, however, that the Fed directly controls the monetary base, not the money supply. Monetarists often simply assume that increases in the monetary base translate into money in the hands of the consuming, investing public. A common monetarist analogy is that a helicopter dumps money into the economy. They then argue, not unreasonably, that if people receive sufficient new money, they will feel wealthier, quit worrying about bad times, and spend it. The result is economic growth and reduced unemployment. This part of the monetarist scenario dispenses with theoretical black holes like liquidity traps.

Modern Keynesians describe not only consumer–investor liquidity traps, but bank liquidity traps as well. Here is their story. Suppose a recession is underway with interest rates at all-time lows. The Fed buys government bonds from banks, increasing the monetary base. Will the banks’ new excess reserves translate into more borrowing, demand deposits, and spending? (This is necessary for the monetarist transmission mechanism to work.) Keynesians think not.

Figure 12

If you were a banker in a depressed economy, would you want to cut already low interest rates in order to attract new borrowers, many of whom, given the economic climate, look like potential deadbeats? Would the small cuts in interest that are feasible be sufficiently attractive to prudent borrowers to induce them to apply for new loans? Keynesians (and today, nearly all economists) answer no to both questions. They argue that the banks will simply accumulate more and more vault cash if the Fed tries to counter recessionary tendencies through open-market operations. This is just another aspect of the argument that money (and monetary policy) is a string that is useless for pushing the economy out of the doldrums.

MONETARY POLICY VS. FISCAL POLICY

(... ...)

Relative Effectiveness Arguments

Keynesians and monetarists agree that money matters but differ as to how much it matters. Keynesians argue that monetary growth will not raise spending or cut interest rates very much in a slump. Figure 13 shows why. Keynesians view investment as relatively insensitive to interest rates, depending instead primarily upon business expectations. This suggests that slight drops in interest rates when the money supply grows (Panel A) will affect investment and output very little (Panel B). Fiscal policy, on the other hand, is extremely powerful in a slump. Adding government purchases to investment in Panel B boosts autonomous spending and, via the multiplier, massively raises national production and income.

Figure 13

Monetarists see the demand for money as relatively insensitive to interest rates but perceive investment as highly dependent on interest. Even a small increase in the money supply drives interest rates down sharply in the monetarist view (Panel A in Figure 14), which in turn strongly stimulates investment (Panel B). Monetarists also see expansionary monetary policy as bolstering consumer spending, both because extra money burns holes in people’s pockets and because lower interest rates make buying on credit easier and cheaper. Thus, monetarists view money as a powerful tool.
Fiscal policy has only a negligible effect, according to monetarist reasoning, because new government spending does not raise injections (I + G) nearly as much as does even a small decline in interest rates. Moreover, monetarists object that government spending may crowd out investment. Careful study of Figures 13 and 14 will enable you to understand the fundamental reasons why Keynesians advocate fiscal policy to regulate Aggregate Spending, while monetarists prefer monetary policy.

Keynesians and monetarists agree that when an economy is at full employment, growth of Aggregate Demand raises the price level. Both would agree that, when an economy is in a severe slump, increases in Aggregate Demand will restore full employment. They would, however, disagree on the appropriate way to expand Aggregate Demand. Monetarists favor expansionary monetary policy to increase private consumption and investment, while Keynesians view that approach as ineffective because of widespread pessimism on the parts of workers, consumers, and business firms. Keynesians, therefore, favor expansionary fiscal policy.

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