By altering the cost, federal funds rate indirectly affects the spending and investment by households and businesses, which on their turn, impact output and inflation in the economy. The dynamic Three Equation Macro Model designed by Charles I. Jones allows us to trace the behavior of the Fed’s monetary policy and other economic variables over time when the economy is exposed to different kinds of shocks. The model incorporates IS curve along with the Phillips curve and the Taylor Rule, assuming the adaptive inflation
On the other hand, when the Federal Reserve sets the interest rate higher than its natural rate, in an attempt to control consumption and increase savings in the absence of controlled credit procedures to control inflation. However, these solutions are not sustainable over the long run. Hayek was convinced that the adoption of contractionary or expansionary monetary policy to stabilize prices will not eliminate cyclical fluctuations. In contrast with Wicksell, Hayek’s view on monetary equilibrium was not related to the equilibrium price level, but with the foundation of relative prices. Thirdly, Hayek built upon Bohm Bawerk “theory of capital” in the essence of production time.
Fisher hypothesized that there should be a long-run relationship in the adjustment of the nominal interest rate corresponding to changes in expected inflation. He postulated that the nominal interest rate consists of an expected“real” rate plus an expected inflation rate. The real rate of interest is determined largely by the time preference of economic agents and the return on the real investment. These factors are believed to be roughly constant over time, and therefore, a fully perceived change in the purchasing power of money should be accompanied by a one-for-one change in the nominal interest rate. (anonymous, long-run relation between interest rates and inflation,
People have rational preferences among outcomes, 2. Individuals maximize utility and firms maximize profits, 3. People act independently on the basis of full relevant information” (Weintraub, 1993). Neoclassical Growth Theory has very important policy implication that has been considered in the economic growth. Neoclassical Theory provides the intellectual basis for neoliberal regional policy.
However, all other factors of production are being fully utilized in the production process. The fifth and last assumption of this model states that, labor force, one of the factors of production, continuously grow at uniform rate. However, to calculate economic growth using this model, the values of capital and labor must be definite and well. Generally, this model assumes that the growth of the GDP of any country and hence its aggregate economic growth is determined by technological progress. Therefore, if there is no growth in the productivity of the country (no technological progress or population growth and hence no capital stock growth), the economy enters into a steady where the labor-ratio remains at a constant.
Roberts (n. d.) expressed that incentives make differences. The most popular case in economics is the demand curve model, which illustrates that when the price of something rises, the demand for it decreases and vice versa. Proceeding to the next component of the principles of economics, which is based on how people interact, we will plunge further into the studies of the fifth to the seventh principles of economics. According to Mankiw (2013), the fifth principle of economics is trade can make everyone better off. By dealing with each other, individuals can purchase a bigger gathering of products and administrations at lower
This is wide coverage and interprets the economy as a whole. It is also known as the theory of prices, because it explains the process of distribution of economic resources on the basis of the relative prices of several goods and services. It is also known as the theory of the income statement, because it explains the change in the level of national income economy in the period. It deals with the flow of factors of production from one user of these resources. It deals with the circular flow of income and expenses between the various sectors of the
Hume’s monetary theories are viewed highly favorably by Mayer as having predicted later monetary theory on a variety of issues. Such issues include Hume’s writings on the quantity theory, private sector stability, the Chicago transmission process and the vertical Philips Curve that Hume originated. According to Robert Lyon, Hume introduced 2 ideas into monetary theory that did not enter mainstream economic thought until Keynes. One was the importance of the variable of time in economic analysis. The other was Hume’s emphasis on psychological factors as affecting trade and money.
VIX offers great advantages in terms of trading, hedging and introducing derivative products on this index (Satchell and Knight, 2007). Investors can use volatility index for various purposes. First, it depicts the collective consensus of the market on the expected volatility and being contrarian in nature helps in predicting the direction. Investors therefore could appropriately use this information for taking trading positions. Second, Investors whose portfolios are exposed to risk due to volatility of the market can hedge their portfolios against volatility by taking an off-setting position in VIX futures or options contracts (Banerjee and Sahadev, 2006).
Let’s take the case of a bond market, the low cost of borrowing, induces the borrowers to supply more bonds – as a result bond prices decrease and since bond prices and interest rates have a negative relationship the interest rates rises. This phenomenon is popularly known as the FISHER EFFECT, named after Irving Fisher. The higher interest rates in turn causes the exchange rates to fall in the Foreign Exchange market, causing a currency appreciation. Clarida and Waldman (2008) in their paper “is bad news about inflation good news for the exchange rate” ; examined a minor sample comprising 10 advanced nations – Canada, Euro Zone, The Great Britain, Australia, Norway, Sweden, Japan, New Zealand, Switzerland and the United States – they analyzed the exchange rate volatility during the period lasting from five minutes prior to the announcement of an inflation to five minutes afterwards. They observed that on average, announcement of an unexpectedly high inflation does indeed lead the exchange rates to fall, i.e.