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Chapter 26: Q.11 (page 691)

Nobel Prize winner Franco Modigliani found that the most important transmission mechanisms of monetary policy involve consumer expenditure. Describe how at least two of these mechanisms work.

Short Answer

Expert verified

The transmission mechanism of monetary policy is the method by Franco Modigliani. It reduces the cost of financing durable goods by lowering the interest rate. An expansionary monetary policy reduces interest rates and the cost of financing durable goods, resulting in more consumer durable goods consumption.

It boosts the stock market's value and riches.

Step by step solution

01

Step 1. Concept of transmission mechanism of monetary policy 

The transmission mechanism of monetary policy is the method by which monetary policy impacts general economic circumstances and asset price levels.

02

Step 2. Explanation

The following is the procedure for two significant monetary policy transmission mechanisms:

It lowers the interest rate and the cost of financing durable items. An expansionary monetary policy lowers the rate of interest and the cost of financing durable goods, increasing consumer durable goods spending.

It raises the stock price and wealth. An expansionary monetary policy raises stock and wealth prices, increasing the number of resources available to consumers and thereby increasing consumption.

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Most popular questions from this chapter

During and after the global financial crisis, the Fed reduced the fed funds rate to nearly zero. At the same time, the stock market fell dramatically and housing market values declined sharply. Comment on the effectiveness of monetary policy during this period with regard to the wealth channel

As defined in Exercise 1, a "rate cycle" is a period of monetary policy during which the federal funds rate moves from its low point toward its high point, or vice versa, in response to business cycle conditions. Go to the St. Louis Federal Reserve FRED database, and find data on the federal funds rate (FEDFUNDS), bank reserves (TOTRESNS), bank deposits (TCDSL), commercial and industrial loans (BUSLOANS), real estate loans (REALLN), real business fixed investment (PNFIC96), and real residential investment (PRFIC96). Use the frequency setting to convert the federal funds rate, bank reserves, bank deposits, commercial and industrial loans, and real estate loans data to "quarterly," and download the data.

a. When did the last rate cycle begin and end? (Note: If a rate cycle is currently in progress, use the current period as the end.) Is this rate cycle a contractionary or an expansionary rate cycle?

b. Calculate the percentage change in bank deposits, bank lending, real business fixed investment, and real residential (housing) investment over this rate cycle.

c. Based on your answers to parts (a) and (b), how effective was the bank lending channel of monetary policy over this rate cycle?

Why might the bank lending channel be less effective today than it once was?

1. Go to http://www.econlib.org/library/Encl/Recessions . html and review the material on recessions.

a. What is the formal definition of a recession?

b. What are the problems with the definition?

c. What are the three Ds used by the National Bureau of Economic Research (NBER) to define a recession?

d. Review Chart 1. What trend is apparent regarding the length of recessions?

Leo Krippner, an economist at the Reserve Bank of New Zealand, publishes an 'Effective Monetary Stimulus' (EMS) measure, designed to gauge the stance of U.S. monetary policy. Go to the website http://www,rbnz.govt NZ/research-and-publications/research-programme/ additional-research/measures-of-the-stance-of-united states-monetary-policy and examine the EMS measure. Is monetary policy becoming tighter, or looser according to the measure?
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