The Monetarist Position on Monetary Policy: Monetarists differ from Keynesians in that they believe in the direct transmission mechanism. The monetary transmission mechanism is the process by which asset prices and general economic conditions are affected as a result of monetary policy decisions. The Great Recession was fueled in part by the creation of a housing market bubble (home values rising, loans being approved for people who couldn't afford them, and money being made by investors on the loans), which burst and took much of the economy with it. So they spend the surplus money on securities, goods and services, thereby increasing aggregate effective demand. Explain the inverse relationship between bond prices and interest rates. Such decisions are intended to influence the aggregate demand, interest rates, and amounts of money and credit in order to affect overall economic performance. I.B Monetarist View of Monetary Transmission Mechanism 8 Central hypothesis: • Difference between money demand and supply drives inflation • Monetary policy can control money supply • Money demand is reasonably stable • Keeping money supply aligned with money demand is … The this essentially the Market Monetarist description of the monetary transmission mechanism under a fully credible monetary nominal target (See for example my earlier posts here and here). The Radcliffe Committee and Gurley and Shaw criticize the monetarist transmission mechanism for neglecting the role played by the non-bank financial intermediaries and their effects on real and financial assets. The following graph shows the supply and demand curves in the money market. 5. 11/28/18, 8’03 PM Aplia: Student Question Page 1 of 3 5. Explain how the monetarist transmission mechanism works. Self-Test The Keynesian transmission mechanism from the money market to the goods and services market is indirect; the monetarist transmission mechanism is direct. According to Meltzer , asset price movements beyond those reflected in interest rates alone also play a central role in monetarist descriptions of the transmission mechanism. When money supply is increased, people hold more money in their hands than they want to hold. This also explains why Scott Sumner always says that monetary policy works with long and variable leads . So while monetarists where strong proponents of rules they simply had not thought (enough) about how such rules (also when highly imperfect) could change the monetary transmission mechanism and money-prices causality. (Answers to Self-Test questions are in the "Self-Test Appendix" [Appendix A] at the end of the book.) It has been suggested that nonactivists are not concerned with the level of Real GDP and unemployment because most (if not all) nonactivist monetary proposals set stabilization of the price level as their immediate objective. First of all monetary policy for example in the US was highly discretionary and the Fed’s actions would often be hard to predict. The transmission mechanism explained by the monetarists has also been questioned. The monetarist transmission mechanism Suppose that, initially, the economy is operating with a recessionary gap and the Federal Reserve ("the Fed") pursues an expansionary monetary policy to close the gap. According to the monetarist transmission mechanism, a decrease in the money supply _____ aggregate demand. Assume that natural real GDP equals $4 trillion. The traditional monetary transmission mechanism occurs through interest … Stocks, commodities and home equity created economic booms that the Fed (the Federal Reserve) ignored. a. equals the increase in b. directly increases c. directly decreases d. indirectly increases e. indirectly decreases Discuss.