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okay so let's H let's continue with this

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islm model remember in the previous

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lecture we we set up we set it up we

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cons we built the eslm model I will go

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over that very quickly in this lecture

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because I think it's very important for

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you and then we're going to use it and

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uh eventually we're going to talk a

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little bit about the policy response the

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mcro macroeconomic policy response

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during the covid-19

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ER shock or recession all of the

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B so the the starting point remember

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with first thing we did we constructed

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the relation and the relation was just

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the same as lecture three but we sort of

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expel out what what is inside that

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investment that we had taken as a

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constant there we said well far more

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realistic is to make investment itself

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increasing in output because it's

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increasing in

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sales that in one change analysis that

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we had in lecture three all that will do

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is change the slope of the of the

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aggregate demand curve and therefore

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change the multiplier but we could have

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solved everything in terms of lecture

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three what made this a little different

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from lecture three is that we also said

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the

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investment real investment remember this

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has nothing to do with financial

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investment real investment is also a

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decreasing function of the interest rate

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okay and

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so er and and that led to the is

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relationship which essentially says

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these are all the is curve traces all

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the combinations of output and interest

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rate that are consistent with

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equilibrium in the Goods Market that's

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the definition of the now of course

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you know in in in lecture three we were

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able to determine equilibrium output

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here we

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can't why can't

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we yeah we have two unknowns it's output

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and the interest rate and we have only

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one relationship the is LM the curve so

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the reason for the LM curve is that we

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need pin down the second

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variable okay and that's what LM will do

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and it will be sort of very brutal about

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it in the past remember it was some

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upward slope in relationship I said in

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previously no that's not what the

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central banks do today just set the

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interest rate so if the Central Bank

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sets the interest rate then you can use

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lecture three to pin down equilibrium in

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the Goods Market which is what you would

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effectively be doing here if you fix

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this interest rate at whatever level the

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Central Bank wants then now you have one

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curve for one unknown which is output

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and that's exactly what we solve in

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lecture three

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okay

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good um so I said you know lecture three

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now this z z Curve will a little steeper

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because investment also responds

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positively to increases in

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output importantly now we have an

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interest rate which is a shifter of this

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aggregate demand in particular if the

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interest rate goes up what happens to

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that curve

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so if the interest rate goes up what

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happens to the AG demand

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curve I have two candidates here down or

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up down yeah because investment drops so

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you can tell me even more by how much if

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I tell you how much a change in the

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interest rate is and I tell you what is

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a sensitivity of investment to the

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interest rate you know exactly by how

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much this thing will come down it's

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going to be the change in the interest

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rate time the sensitivity of the

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investment function to to the interest

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rate that's not the end of the story as

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you well know that's the horizontal

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shift in a great demand but the final

95
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decline in output will be larger than

96
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that initial decline in investment as a

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result of the higher interest rate why

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is

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that

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so someone say the fed raises interest

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rate ER that immediately reduces

102
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investment because investment is

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negative related to the interest rate

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that immediately decreases aggregate

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demand which immediately increases

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decreases output because in this part of

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the course output is determined by agre

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demand does the adjustment stop

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there no that's what the multiplier was

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about because now with lower income

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there's lower consumption and actually

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lower investment as a result of that and

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we keep going okay so this the final

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Decline and output is a lot larger and

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doing that kind of experiment moving the

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interet around and seeing what happens

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to equilibrium output is that we derive

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we constructed the I curve okay that's

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here is for a cutting the inter no oh

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this is exactly the experiment I just

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describe so if you raise the interest

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rate then aggre demand comes down and

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then output declines buy a lot more than

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the initial decline in investment

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because of the multiplier but eventually

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we get to another equilibrium output

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which is that so now we know that this

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point belongs to the yes curve because

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it's a combination of output y Prime an

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interest rate I prime that is consistent

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with equilibrium in the Goods Market

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that's what lecture three told us that's

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what equilibrium in the goods markets

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look like that's another point of the

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same

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is H because I have higher output here

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lower interest rate straight that's

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another point of the as that's the

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reason this downward sloping look at

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what I just said I said I have another

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point of the same I how do I know it's

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the same

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as and not some other

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I you know all that I told you there is

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I found two points two combinations of

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output and interest rate that are

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consistent with equilibrium in the Goods

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Market but I said a little more I said

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and that's part that's the way we

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construct one

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is exactly because there is a lot of

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other parameters that we're keeping

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constant there you know that's the

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distinction between a movement along and

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is curve which is when the when the only

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thing I move is the interest rate that

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allows me to trace a movement along a

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single is if I move something else like

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taxes go on expenditure or autonomous

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consumption by you know something like

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that then I I will be Shifting the

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agregate demand for any given interest

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rate and I want to get a different level

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of output for any given interest rate

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which means I'm going to be in a

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different I

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okay and that's what we did there no in

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that case there we would said look I can

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fix the interest rate any interest rate

170
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you want let's pick this one but I could

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have done it other interest rate here

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there whatever and now I say what

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happens if I increase taxes well again

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you know from lecture three exactly what

175
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happen happens when the interest rate is

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constant because there we didn't even

177
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talk about the interest rate nothing was

178
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a function of the interest rate and you

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increase taxes well that will reduce

180
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disposable income for any level of

181
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output and H that um will lead to

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contraction our great demand output and

183
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so on so forth so that means that for

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this interest rate now I found another

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Point another point that is is an

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equilibrium in the Goods Market but it

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belongs to a different is because I move

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one of the parameters which is the taxes

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okay and now for this higher level of

190
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taxes I can play around with the

191
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interest rate I can say well what

192
00:08:07,199 --> 00:08:10,520
happens if I cut interest rate well if I

193
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cut interest rate I'm going to find

194
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another equilibrium say here if I cut

195
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the interest rate from here to here I'm

196
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going to find another equilibrium LEL of

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output which is consistent with that

198
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very same is why is that very same is

199
00:08:22,319 --> 00:08:28,000
well because I haven't moved taxes again

200
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okay so the reason I'm I'm repeating

201
00:08:28,000 --> 00:08:31,720
this is because I I it's very important

202
00:08:30,199 --> 00:08:36,240
to understand what what is a movement

203
00:08:31,720 --> 00:08:36,240
along the is versus what shift the

204
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is

205
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good then we move to the LM relation no

206
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and the LM relation is just equilibrium

207
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in the financial Market this is

208
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combinations of output and interest rate

209
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that are consistent with equilibrium in

210
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financial

211
00:08:50,639 --> 00:08:56,639
markets and we constructed from our

212
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money supply equal to money demand in

213
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nominal terms then we divide it by P

214
00:08:58,799 --> 00:09:01,879
which is not very interest in this part

215
00:09:00,039 --> 00:09:03,439
of the course because p is constant

216
00:09:01,879 --> 00:09:06,159
we're assuming that P is not moving

217
00:09:03,440 --> 00:09:08,000
that's the price of goods and services

218
00:09:06,159 --> 00:09:10,199
and then we have a this this this

219
00:09:08,000 --> 00:09:13,000
equilibrium here now stated in real

220
00:09:10,200 --> 00:09:16,600
terms so real money supply is equal to

221
00:09:13,000 --> 00:09:18,879
real money demand and as I said had you

222
00:09:16,600 --> 00:09:21,680
taken this course a few years back or

223
00:09:18,879 --> 00:09:23,120
perhaps in other places I don't know H

224
00:09:21,679 --> 00:09:25,039
that would have been an upward slop in

225
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relationship so the LM would have been

226
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an upward sloping relationship how do I

227
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know it's upward sloping well because if

228
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if I don't don't change money supply and

229
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I increase output then I need to bring

230
00:09:33,759 --> 00:09:39,919
Li down and since L Prime is negative

231
00:09:37,679 --> 00:09:41,759
the way to bring L down is by increasing

232
00:09:39,919 --> 00:09:45,120
the interest rate so that's what would

233
00:09:41,759 --> 00:09:47,360
have given you an upward sloping LM

234
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curve I said we don't do that now

235
00:09:47,360 --> 00:09:51,360
because really Bank central banks

236
00:09:49,559 --> 00:09:53,479
abandoned a long time ago in most parts

237
00:09:51,360 --> 00:09:56,720
of the world not everywhere this idea of

238
00:09:53,480 --> 00:09:58,639
targeting M what they target directly is

239
00:09:56,720 --> 00:10:01,600
the interest rate and then they give you

240
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whatever M they you need they need in

241
00:10:01,600 --> 00:10:05,480
order for the equilibrium in financial

242
00:10:04,159 --> 00:10:07,039
markets to be consistent with the

243
00:10:05,480 --> 00:10:10,800
interest rate the Central Bank wants to

244
00:10:07,039 --> 00:10:12,759
set okay so I said the modern is curve

245
00:10:10,799 --> 00:10:16,479
really looks like

246
00:10:12,759 --> 00:10:19,278
that the FED in the US Central Bank

247
00:10:16,480 --> 00:10:20,879
anywhere else sets the interest rate

248
00:10:19,278 --> 00:10:26,000
turkey is a little

249
00:10:20,879 --> 00:10:26,000
different but sets the interest rate

250
00:10:26,839 --> 00:10:33,560
ER and and and that's a a l now this

251
00:10:31,039 --> 00:10:35,439
this particular LM says I you know I

252
00:10:33,559 --> 00:10:37,599
it's a flat curve it's not a function of

253
00:10:35,440 --> 00:10:41,040
output the F sets the interest

254
00:10:37,600 --> 00:10:43,320
rate that's it that's the reason you

255
00:10:41,039 --> 00:10:45,679
know it's flat it's not upward slope or

256
00:10:43,320 --> 00:10:48,680
anything so I asked the question what

257
00:10:45,679 --> 00:10:48,679
shifts the modern

258
00:10:48,759 --> 00:10:53,159
LM only the central bank because the

259
00:10:51,759 --> 00:10:54,078
central bank is the one that sets the

260
00:10:53,159 --> 00:10:56,078
interest

261
00:10:54,078 --> 00:11:00,479
rate

262
00:10:56,078 --> 00:11:02,159
certainly well let me not complicate

263
00:11:00,480 --> 00:11:04,278
sets the interest rate so if the central

264
00:11:02,159 --> 00:11:06,199
bank doesn't change its mind then the

265
00:11:04,278 --> 00:11:11,519
interest rate is whatever it is and the

266
00:11:06,200 --> 00:11:13,320
LM will remain there okay good so we put

267
00:11:11,519 --> 00:11:15,078
the two things together and now we can

268
00:11:13,320 --> 00:11:17,120
pin down equilibrium output because

269
00:11:15,078 --> 00:11:19,120
remember we had when we just look at the

270
00:11:17,120 --> 00:11:20,360
is we had combinations of interest rate

271
00:11:19,120 --> 00:11:22,519
and output that were consistent with

272
00:11:20,360 --> 00:11:24,480
equilibrium in the goods market now we

273
00:11:22,519 --> 00:11:25,959
have an an interest rate which is

274
00:11:24,480 --> 00:11:27,720
consistent with equilibrium in financial

275
00:11:25,958 --> 00:11:30,799
markets that's what the central bank is

276
00:11:27,720 --> 00:11:32,560
there to ensure and so at that interest

277
00:11:30,799 --> 00:11:34,159
rate we can look into the yes what is

278
00:11:32,559 --> 00:11:36,479
the level of output that corresponds to

279
00:11:34,159 --> 00:11:37,559
that that's what we get here okay so now

280
00:11:36,480 --> 00:11:40,039
we

281
00:11:37,559 --> 00:11:41,638
found an equilibrium we found a

282
00:11:40,039 --> 00:11:44,199
combination of interest and output that

283
00:11:41,639 --> 00:11:47,200
is consistent with equilibrium in both

284
00:11:44,200 --> 00:11:49,519
Goods markets and financial markets okay

285
00:11:47,200 --> 00:11:52,120
and that's what the eslm model is about

286
00:11:49,519 --> 00:11:53,799
it's about finding those

287
00:11:52,120 --> 00:11:57,799
combinations

288
00:11:53,799 --> 00:11:57,799
okay good

289
00:12:00,078 --> 00:12:07,319
is this very clear yes

290
00:12:04,360 --> 00:12:10,120
yes okay

291
00:12:07,320 --> 00:12:11,879
good so now we can begin to play with

292
00:12:10,120 --> 00:12:14,198
this stuff we can one of the main

293
00:12:11,879 --> 00:12:18,078
purposes of the islm model is to

294
00:12:14,198 --> 00:12:20,000
understand policy macroeconomic policies

295
00:12:18,078 --> 00:12:22,198
what you what you should do in certain

296
00:12:20,000 --> 00:12:23,120
environments or not well before knowing

297
00:12:22,198 --> 00:12:25,278
what you should do in certain

298
00:12:23,120 --> 00:12:26,799
environments you need to understand what

299
00:12:25,278 --> 00:12:29,360
is that the different macroeconomic

300
00:12:26,799 --> 00:12:31,879
policies do to equilibrium output and

301
00:12:29,360 --> 00:12:33,440
interest rate and so on and so that's

302
00:12:31,879 --> 00:12:36,198
what we began to do and the first

303
00:12:33,440 --> 00:12:38,600
experiment was was one of fiscal

304
00:12:36,198 --> 00:12:40,559
policy so that's an example of a

305
00:12:38,600 --> 00:12:42,839
contractionary fiscal policy that could

306
00:12:40,559 --> 00:12:45,638
happen as a contractionary fiscal policy

307
00:12:42,839 --> 00:12:47,600
is essentially increasing taxes like

308
00:12:45,639 --> 00:12:49,360
like we Illustrated before or a

309
00:12:47,600 --> 00:12:53,079
reduction in government expenditure

310
00:12:49,360 --> 00:12:56,278
either of those H will lead to a shift

311
00:12:53,078 --> 00:12:59,559
in the yes to the left okay remember

312
00:12:56,278 --> 00:13:01,278
from lecture three if I increase taxes

313
00:12:59,559 --> 00:13:03,719
or reduce government expenditure

314
00:13:01,278 --> 00:13:07,879
equilibrium output will fall that's

315
00:13:03,720 --> 00:13:11,120
lecture three remember H and and and and

316
00:13:07,879 --> 00:13:12,838
so I can chase using lecture three I can

317
00:13:11,120 --> 00:13:16,720
I tell you well that yes will shift to

318
00:13:12,839 --> 00:13:18,480
the left no we just did that but now we

319
00:13:16,720 --> 00:13:20,120
know more because we know that the

320
00:13:18,480 --> 00:13:22,000
central bank is also pinning down the

321
00:13:20,120 --> 00:13:24,000
interest rate and in this particular

322
00:13:22,000 --> 00:13:26,480
example here the central bank did not go

323
00:13:24,000 --> 00:13:27,679
along with the treasury Department and

324
00:13:26,480 --> 00:13:29,240
say okay I'm going to keep the interest

325
00:13:27,679 --> 00:13:31,319
rate whatever it is you do whatever you

326
00:13:29,240 --> 00:13:34,680
one with

327
00:13:31,320 --> 00:13:37,399
the fiscal policy so this is an example

328
00:13:34,679 --> 00:13:40,159
of a situation where fiscal policy

329
00:13:37,399 --> 00:13:42,839
contractionary and the Central Bank

330
00:13:40,159 --> 00:13:45,240
remains H with its previous Target

331
00:13:42,839 --> 00:13:48,560
interest rate target okay so as a result

332
00:13:45,240 --> 00:13:50,959
of that a contractionary fiscal policy

333
00:13:48,559 --> 00:13:53,198
as the word says a then is a

334
00:13:50,958 --> 00:13:56,000
contractionary aggregate demand policy

335
00:13:53,198 --> 00:13:57,719
ends up also leading to lower

336
00:13:56,000 --> 00:14:01,519
equilibrium

337
00:13:57,720 --> 00:14:05,680
output and then I ask I already told you

338
00:14:01,519 --> 00:14:07,799
two things T up or G down but what else

339
00:14:05,679 --> 00:14:10,239
would do something similar to this which

340
00:14:07,799 --> 00:14:10,240
is not

341
00:14:22,919 --> 00:14:26,719
policy exactly I want anything that is a

342
00:14:25,360 --> 00:14:28,480
shock to aggregate demand different from

343
00:14:26,720 --> 00:14:31,120
interest rate or anything like that so

344
00:14:28,480 --> 00:14:33,680
for example consumer confidence that

345
00:14:31,120 --> 00:14:35,320
thing that we put in c0 or wealth

346
00:14:33,679 --> 00:14:37,879
something that wasn't in the mold but

347
00:14:35,320 --> 00:14:40,040
clearly is what is behind c0 that would

348
00:14:37,879 --> 00:14:42,639
lead to a shock like that and it's

349
00:14:40,039 --> 00:14:44,519
contraction that's the reason you know

350
00:14:42,639 --> 00:14:45,919
central banks and financial markets are

351
00:14:44,519 --> 00:14:47,600
all the time looking at sort of the

352
00:14:45,919 --> 00:14:49,240
releases of surveys of consumer

353
00:14:47,600 --> 00:14:52,879
confidence and things of that

354
00:14:49,240 --> 00:14:55,959
kind because these are the implications

355
00:14:52,879 --> 00:14:59,559
of of shocks to to to consumer

356
00:14:55,958 --> 00:15:01,719
confidence and so on okay good so

357
00:14:59,559 --> 00:15:03,599
what is a what is the mechanism here

358
00:15:01,720 --> 00:15:04,680
well you know it we have discussed it

359
00:15:03,600 --> 00:15:08,399
multiple

360
00:15:04,679 --> 00:15:10,159
times H the contraction in fiscal policy

361
00:15:08,399 --> 00:15:11,759
lowers the aggregate demand down then

362
00:15:10,159 --> 00:15:13,399
via multiplier you end up lowering

363
00:15:11,759 --> 00:15:15,560
output a lot

364
00:15:13,399 --> 00:15:16,879
more and this happens for a given

365
00:15:15,559 --> 00:15:21,000
interest rate I'm having the same

366
00:15:16,879 --> 00:15:23,000
interest rate here and there because I'm

367
00:15:21,000 --> 00:15:25,919
looking at at two points

368
00:15:23,000 --> 00:15:27,360
along for a fixed LM for a fixed

369
00:15:25,919 --> 00:15:30,360
interest

370
00:15:27,360 --> 00:15:31,879
rate good

371
00:15:30,360 --> 00:15:34,879
so that's a that's a contractionary

372
00:15:31,879 --> 00:15:38,399
monetary policy needless to say an

373
00:15:34,879 --> 00:15:40,600
expansionary fiscal policy sorry is just

374
00:15:38,399 --> 00:15:42,759
a shift in the opposite direction so

375
00:15:40,600 --> 00:15:45,680
what will an expansionary fiscal policy

376
00:15:42,759 --> 00:15:45,680
do to equilibrium

377
00:15:46,919 --> 00:15:51,318
output

378
00:15:48,720 --> 00:15:53,000
expansionary okay will increase output

379
00:15:51,318 --> 00:15:55,198
okay this was contraction fiscal policy

380
00:15:53,000 --> 00:15:56,839
reduce output we'll do the opposite

381
00:15:55,198 --> 00:15:58,439
obviously will increase output so that's

382
00:15:56,839 --> 00:16:01,120
expansion in fiscal policy and it's a

383
00:15:58,440 --> 00:16:03,560
very important tool to move output

384
00:16:01,120 --> 00:16:05,318
around when the econom is in a recession

385
00:16:03,559 --> 00:16:08,198
or so on so

386
00:16:05,318 --> 00:16:10,120
forth the other canonical macroeconomic

387
00:16:08,198 --> 00:16:12,799
policies monetary policy and that's an

388
00:16:10,120 --> 00:16:15,120
example of an expansionary monetary

389
00:16:12,799 --> 00:16:16,799
policy so an expansionary monetary

390
00:16:15,120 --> 00:16:20,278
policy Cuts interest

391
00:16:16,799 --> 00:16:22,278
rate why is that expansion well look it

392
00:16:20,278 --> 00:16:25,600
is expansion you

393
00:16:22,278 --> 00:16:26,919
know let me take this as I'm going to do

394
00:16:25,600 --> 00:16:30,399
things in a step

395
00:16:26,919 --> 00:16:32,198
so claim first an expansion in monetary

396
00:16:30,399 --> 00:16:34,078
policy is a reduction in the interest

397
00:16:32,198 --> 00:16:35,639
rate so the the central bank now decides

398
00:16:34,078 --> 00:16:39,599
to set a lower interest rate than it

399
00:16:35,639 --> 00:16:41,600
used to as a result of that no if output

400
00:16:39,600 --> 00:16:42,720
didn't change what would happen in the

401
00:16:41,600 --> 00:16:45,319
Goods

402
00:16:42,720 --> 00:16:47,800
Market so suppose that the FED cuts the

403
00:16:45,318 --> 00:16:49,919
interest rate and output doesn't

404
00:16:47,799 --> 00:16:52,198
change is that an equilibrium in the

405
00:16:49,919 --> 00:16:52,198
Goods

406
00:16:57,039 --> 00:17:01,759
Market is that an equili in the Goods

407
00:16:59,278 --> 00:17:04,038
Market suppose that the the the the FED

408
00:17:01,759 --> 00:17:05,720
cuts the interest rate and now I say

409
00:17:04,038 --> 00:17:07,558
okay well nothing will happen here

410
00:17:05,720 --> 00:17:09,759
output will stay where it is would have

411
00:17:07,558 --> 00:17:13,160
a lower interest rate that's

412
00:17:09,759 --> 00:17:17,119
nice wh why is that's not the final

413
00:17:13,160 --> 00:17:17,120
outcome of of the monetary policy

414
00:17:20,838 --> 00:17:25,240
expansion exactly this is an imbalance

415
00:17:23,160 --> 00:17:27,959
no because aggregate demand now a lower

416
00:17:25,240 --> 00:17:30,000
interest rate investment will go up this

417
00:17:27,959 --> 00:17:31,519
physical investment remember purchase of

418
00:17:30,000 --> 00:17:33,119
goods and services by firms for the

419
00:17:31,519 --> 00:17:37,519
purpose of building Capital structures

420
00:17:33,119 --> 00:17:39,038
and like that so a aggre demand went up

421
00:17:37,519 --> 00:17:40,519
so now we have a dise equilibrium there

422
00:17:39,038 --> 00:17:42,000
output is less than aggregate demand and

423
00:17:40,519 --> 00:17:44,200
we know that output is determined by

424
00:17:42,000 --> 00:17:46,400
aggre demand and then we go on through

425
00:17:44,200 --> 00:17:48,640
all the mechanism okay so this point is

426
00:17:46,400 --> 00:17:50,600
not an equilibrium we're going to end up

427
00:17:48,640 --> 00:17:52,280
with a higher level of output at that

428
00:17:50,599 --> 00:17:54,639
lower interest rate we have a lower

429
00:17:52,279 --> 00:17:56,399
level of output therefore it's not

430
00:17:54,640 --> 00:17:58,200
surprising that we call this an

431
00:17:56,400 --> 00:18:00,080
expansionary monetary policy so when the

432
00:17:58,200 --> 00:18:03,840
FED cuts the interest rate that's an

433
00:18:00,079 --> 00:18:06,079
expansionary monetary policy okay will

434
00:18:03,839 --> 00:18:09,000
expand aggregate

435
00:18:06,079 --> 00:18:12,199
demand good so how does the FED

436
00:18:09,000 --> 00:18:14,319
implement this sorry they can do

437
00:18:12,200 --> 00:18:17,840
expansionary open market operations yeah

438
00:18:14,319 --> 00:18:20,798
there you are perfect so what they they

439
00:18:17,839 --> 00:18:23,798
need to do is do some expansion in

440
00:18:20,798 --> 00:18:25,240
monetary open market operation no again

441
00:18:23,798 --> 00:18:28,319
now it's a little more sophisticated

442
00:18:25,240 --> 00:18:30,960
than that but but let's stick with this

443
00:18:28,319 --> 00:18:33,240
that is the first thing they'll do is

444
00:18:30,960 --> 00:18:35,120
they they'll shift money supply okay

445
00:18:33,240 --> 00:18:38,120
they go out there and start buying bonds

446
00:18:35,119 --> 00:18:39,798
and and and and giving money to

447
00:18:38,119 --> 00:18:41,319
injecting money into the system

448
00:18:39,798 --> 00:18:43,720
particularly through the

449
00:18:41,319 --> 00:18:45,439
banks so that's initial response that's

450
00:18:43,720 --> 00:18:49,000
what we'll cut the interest

451
00:18:45,440 --> 00:18:49,000
rate what happens

452
00:18:53,480 --> 00:18:58,000
next this this will allow me to

453
00:18:55,558 --> 00:19:01,200
illustrate sort of the modern I yes

454
00:18:58,000 --> 00:19:04,880
remember the f the fed's decision was

455
00:19:01,200 --> 00:19:06,600
not to increase the money supply by you

456
00:19:04,880 --> 00:19:09,120
know

457
00:19:06,599 --> 00:19:10,639
35% what the FED communicated to the

458
00:19:09,119 --> 00:19:12,839
market was that it was going to cut

459
00:19:10,640 --> 00:19:16,919
interest rate by 50 basis points that's

460
00:19:12,839 --> 00:19:19,240
the communication so initially the way

461
00:19:16,919 --> 00:19:22,440
it does that overnight is it goes out

462
00:19:19,240 --> 00:19:22,440
and does exactly

463
00:19:24,359 --> 00:19:29,479
that

464
00:19:26,798 --> 00:19:31,200
so what it did

465
00:19:29,480 --> 00:19:34,960
is what we have there no we had some

466
00:19:31,200 --> 00:19:34,960
interest rate I

467
00:19:36,798 --> 00:19:41,359
zero the FED now wanted to go to

468
00:19:43,400 --> 00:19:49,280
i1 okay so in order to do that well you

469
00:19:46,880 --> 00:19:52,880
have to look at this money

470
00:19:49,279 --> 00:19:54,960
demand and increase money supply to get

471
00:19:52,880 --> 00:19:56,640
to achieve the lower interest rate the

472
00:19:54,960 --> 00:20:00,000
question I'm asking you now does it a

473
00:19:56,640 --> 00:20:00,000
stop there

474
00:20:00,038 --> 00:20:04,558
so the the FED say okay I did my job you

475
00:20:02,440 --> 00:20:06,960
know I want to lower the interest rate

476
00:20:04,558 --> 00:20:08,599
I'm going to increase m i increase M and

477
00:20:06,960 --> 00:20:11,558
now I manag to bring the interest rate

478
00:20:08,599 --> 00:20:13,119
down to that point and that they

479
00:20:11,558 --> 00:20:14,359
intervene in overnight market so that

480
00:20:13,119 --> 00:20:17,158
happens very

481
00:20:14,359 --> 00:20:19,959
quickly do you think that the FED now

482
00:20:17,159 --> 00:20:19,960
can sleep for a

483
00:20:21,798 --> 00:20:26,000
while why not

484
00:20:30,960 --> 00:20:34,679
there are many reasons why the F cannot

485
00:20:32,759 --> 00:20:37,400
sleep for a long time but but but in

486
00:20:34,679 --> 00:20:37,400
this particular

487
00:20:41,279 --> 00:20:49,000
case okay yes money demand will

488
00:20:46,000 --> 00:20:49,000
increase

489
00:20:51,480 --> 00:20:56,480
why no so the first shock was an increas

490
00:20:55,319 --> 00:20:59,879
in money

491
00:20:56,480 --> 00:21:02,919
supply the point that I think you want

492
00:20:59,880 --> 00:21:05,760
to say is that because now the interest

493
00:21:02,919 --> 00:21:09,280
rate is lower equilibrium output will go

494
00:21:05,759 --> 00:21:11,919
up but if equilibrium go output goes up

495
00:21:09,279 --> 00:21:14,798
then what happens in this diagram well

496
00:21:11,919 --> 00:21:16,360
the money demand goes up because

497
00:21:14,798 --> 00:21:19,839
remember one of the parameters in this

498
00:21:16,359 --> 00:21:22,719
curve was output remember this was

499
00:21:19,839 --> 00:21:25,879
output times Li that's that that curve

500
00:21:22,720 --> 00:21:28,798
there when in this manone demand I had

501
00:21:25,880 --> 00:21:31,120
output fixed at y zero but now

502
00:21:28,798 --> 00:21:33,558
equilibrium output is higher so this

503
00:21:31,119 --> 00:21:38,519
Curve will also shift

504
00:21:33,558 --> 00:21:42,359
out okay now you're going to have y1 l i

505
00:21:38,519 --> 00:21:45,000
there so what what will the FED

506
00:21:42,359 --> 00:21:47,000
do see the FED doesn't do anything and

507
00:21:45,000 --> 00:21:49,359
it stops here then the interest rate

508
00:21:47,000 --> 00:21:51,880
goes back up not necessarily to the old

509
00:21:49,359 --> 00:21:54,278
level but will go up so what the FED

510
00:21:51,880 --> 00:21:57,400
will have to do is keep expanding

511
00:21:54,278 --> 00:21:59,240
money no sorry ugly diagram but it will

512
00:21:57,400 --> 00:22:01,159
keep expanding money

513
00:21:59,240 --> 00:22:03,599
up to so it can preserve the interest

514
00:22:01,159 --> 00:22:05,200
rate so that's you know in the old

515
00:22:03,599 --> 00:22:07,119
analysis you would have stopped in the

516
00:22:05,200 --> 00:22:09,319
first shot but nowadays that's not the

517
00:22:07,119 --> 00:22:11,199
FED says look I'm going to provide money

518
00:22:09,319 --> 00:22:13,079
and I know it takes time for output to

519
00:22:11,200 --> 00:22:15,278
expand and all that so I will

520
00:22:13,079 --> 00:22:17,278
accommodate all that comes it will not

521
00:22:15,278 --> 00:22:19,480
come overnight all this extra demand for

522
00:22:17,278 --> 00:22:21,839
money but I know there will be more

523
00:22:19,480 --> 00:22:25,480
demand coming along if I'm successful at

524
00:22:21,839 --> 00:22:28,639
expanding economic activity okay so the

525
00:22:25,480 --> 00:22:31,079
the Central Bank knows that if this ends

526
00:22:28,640 --> 00:22:34,000
up happening then that they will have to

527
00:22:31,079 --> 00:22:35,278
provide more money than than initially

528
00:22:34,000 --> 00:22:38,640
just to preserve the interest at the

529
00:22:35,278 --> 00:22:40,400
lower rate again we don't have any

530
00:22:38,640 --> 00:22:42,038
concept of time in this course and I

531
00:22:40,400 --> 00:22:42,919
don't think that well we'll do a little

532
00:22:42,038 --> 00:22:45,558
bit

533
00:22:42,919 --> 00:22:47,480
later but things happen in reality in

534
00:22:45,558 --> 00:22:49,798
the financial markets they happen very

535
00:22:47,480 --> 00:22:51,519
quickly and then they take time the real

536
00:22:49,798 --> 00:22:53,798
side is much slower I mean this

537
00:22:51,519 --> 00:22:56,759
expansion in output takes a couple of

538
00:22:53,798 --> 00:22:58,759
years for example it's slower the

539
00:22:56,759 --> 00:23:01,278
reaction of interest rate asset price

540
00:22:58,759 --> 00:23:03,798
and so on happens overnight instantly

541
00:23:01,278 --> 00:23:06,798
when people do analysis of the impact of

542
00:23:03,798 --> 00:23:09,839
monetary policy on on financial assets

543
00:23:06,798 --> 00:23:12,000
prices you look at the small Windows the

544
00:23:09,839 --> 00:23:13,158
minutes around an announcement or

545
00:23:12,000 --> 00:23:15,319
something like that to understand what

546
00:23:13,159 --> 00:23:18,480
is the impact when you look at the

547
00:23:15,319 --> 00:23:20,519
impact of monetary policies or prices on

548
00:23:18,480 --> 00:23:23,159
real activity you look over the span of

549
00:23:20,519 --> 00:23:25,960
quarters that's your unit of and and you

550
00:23:23,159 --> 00:23:28,679
begin to see effects a quarter later and

551
00:23:25,960 --> 00:23:31,120
you keep seeing effects you know eight

552
00:23:28,679 --> 00:23:32,480
quarters later so so different time

553
00:23:31,119 --> 00:23:35,558
scale in this course we're not worrying

554
00:23:32,480 --> 00:23:37,759
about that but but everything happens at

555
00:23:35,558 --> 00:23:39,960
once so so really what will happen in

556
00:23:37,759 --> 00:23:42,038
this course is that it won't be enough

557
00:23:39,960 --> 00:23:44,038
to increase money supply to this point

558
00:23:42,038 --> 00:23:46,319
in order to have an interest rate at the

559
00:23:44,038 --> 00:23:47,839
final equilibrium level of output at

560
00:23:46,319 --> 00:23:50,558
this level I'm going to have to expand

561
00:23:47,839 --> 00:23:55,079
money supply a lot more okay that's what

562
00:23:50,558 --> 00:23:55,079
I'm saying good

563
00:24:01,159 --> 00:24:06,200
so again I can always go back to my

564
00:24:04,079 --> 00:24:08,278
lecture three remember I always I told

565
00:24:06,200 --> 00:24:10,120
you that that diagram in lecture three

566
00:24:08,278 --> 00:24:12,119
was going to be very important the

567
00:24:10,119 --> 00:24:14,278
expansionary effects of an expansionary

568
00:24:12,119 --> 00:24:16,678
monetary policy can be analyzed in the

569
00:24:14,278 --> 00:24:19,079
lecture three diagram because there we

570
00:24:16,679 --> 00:24:20,960
take as given an interest rate and now

571
00:24:19,079 --> 00:24:22,918
we know that when I have a a higher

572
00:24:20,960 --> 00:24:24,880
interest rate a lower interest rate

573
00:24:22,919 --> 00:24:26,399
we'll bring this aggregate demand up and

574
00:24:24,880 --> 00:24:29,240
then we get them multiplied and blah

575
00:24:26,398 --> 00:24:31,079
blah blah blah blah okay that's that's

576
00:24:29,240 --> 00:24:34,000
what so

577
00:24:31,079 --> 00:24:36,398
this is a movement in the when when

578
00:24:34,000 --> 00:24:37,558
monetary policy changes that's another

579
00:24:36,398 --> 00:24:39,639
thing that is very important when you do

580
00:24:37,558 --> 00:24:41,678
islm analysis whenever you ask a

581
00:24:39,640 --> 00:24:43,840
question the first thing you need to

582
00:24:41,679 --> 00:24:46,240
think about is which curve is this

583
00:24:43,839 --> 00:24:50,278
policy moving or which curve is this

584
00:24:46,240 --> 00:24:53,079
shock moving okay and what I know is

585
00:24:50,278 --> 00:24:57,319
that monetary policy fiscal policy will

586
00:24:53,079 --> 00:24:59,759
always move the is will it move the

587
00:24:57,319 --> 00:25:01,639
LM no it has nothing to do with things

588
00:24:59,759 --> 00:25:03,519
that happen in financial Market that

589
00:25:01,640 --> 00:25:05,679
doesn't mean that the FED may not wish

590
00:25:03,519 --> 00:25:08,359
wish to respond to the fiscal expansion

591
00:25:05,679 --> 00:25:10,600
or whatever but but but but that's a

592
00:25:08,359 --> 00:25:12,678
response that the FED decize is not a

593
00:25:10,599 --> 00:25:15,398
direct consequence to the fiscal policy

594
00:25:12,679 --> 00:25:17,798
it's not fiscal policy not bandle with

595
00:25:15,398 --> 00:25:20,599
with interventions in the financial

596
00:25:17,798 --> 00:25:23,679
Market contrary to that is monetary

597
00:25:20,599 --> 00:25:26,278
policy I tell you the FED decides to cut

598
00:25:23,679 --> 00:25:29,000
interest rate that's a movement of the

599
00:25:26,278 --> 00:25:31,119
LM has nothing to do with the is

600
00:25:29,000 --> 00:25:33,480
so anything that happens in the is is

601
00:25:31,119 --> 00:25:36,639
going to be a movement along the is not

602
00:25:33,480 --> 00:25:39,720
a shift of the is so that's that's what

603
00:25:36,640 --> 00:25:41,159
we saw here no when when the FED cut

604
00:25:39,720 --> 00:25:42,960
interest rate we end up with higher

605
00:25:41,159 --> 00:25:44,799
output but that was a result of a shift

606
00:25:42,960 --> 00:25:47,720
along

607
00:25:44,798 --> 00:25:49,879
the because monetary policy is not an

608
00:25:47,720 --> 00:25:53,440
policy it's an LM

609
00:25:49,880 --> 00:25:56,039
policy fiscal policy is an as policy

610
00:25:53,440 --> 00:25:59,519
that is something that shift the is and

611
00:25:56,038 --> 00:26:03,440
not the LM so that is very important

612
00:25:59,519 --> 00:26:07,918
to to understand again what moves

613
00:26:03,440 --> 00:26:10,080
what okay so let's look at at the anyway

614
00:26:07,919 --> 00:26:11,840
so let me pause here because if you

615
00:26:10,079 --> 00:26:16,278
understand sort of what I just

616
00:26:11,839 --> 00:26:19,599
said it's two third of your quiz so so

617
00:26:16,278 --> 00:26:20,919
make sure that you understand it okay I

618
00:26:19,599 --> 00:26:22,119
mean if you really understand it

619
00:26:20,919 --> 00:26:24,679
obviously we're not going to ask you

620
00:26:22,119 --> 00:26:27,798
exactly this but there small

621
00:26:24,679 --> 00:26:29,798
perturbations around what I just said

622
00:26:27,798 --> 00:26:31,480
okay

623
00:26:29,798 --> 00:26:33,000
so now we can use this stuff even more

624
00:26:31,480 --> 00:26:35,480
now we understand what the basic

625
00:26:33,000 --> 00:26:39,398
monetary policy does we understand what

626
00:26:35,480 --> 00:26:42,720
basic fiscal policy does to the economy

627
00:26:39,398 --> 00:26:46,278
H let's look at some

628
00:26:42,720 --> 00:26:49,600
scenarios this I'm calling all in what

629
00:26:46,278 --> 00:26:49,599
what what am I representing

630
00:26:54,000 --> 00:26:58,480
there in that diagram

631
00:27:02,480 --> 00:27:06,480
so I'm saying all that you see in that

632
00:27:04,440 --> 00:27:09,519
diagram is a result of policy decision

633
00:27:06,480 --> 00:27:09,519
macroeconomic policy

634
00:27:10,200 --> 00:27:14,519
decision exactly that's the reason I'm

635
00:27:12,558 --> 00:27:16,720
calling it all in you know that's a case

636
00:27:14,519 --> 00:27:19,679
in which both want to be very

637
00:27:16,720 --> 00:27:21,558
expansionary okay and so you see that

638
00:27:19,679 --> 00:27:23,440
the mon the expansionary monetary policy

639
00:27:21,558 --> 00:27:25,240
already sort of increase equilibrium

640
00:27:23,440 --> 00:27:26,919
output but then you add to it

641
00:27:25,240 --> 00:27:28,599
expansionary fiscal policy which moves

642
00:27:26,919 --> 00:27:30,278
theas to the right and you further

643
00:27:28,599 --> 00:27:32,599
increase

644
00:27:30,278 --> 00:27:35,119
output okay so you end up with a big

645
00:27:32,599 --> 00:27:38,158
increase in output as a result of this

646
00:27:35,119 --> 00:27:43,079
powerful policy package when do you

647
00:27:38,159 --> 00:27:43,080
think you may see situations like

648
00:27:47,398 --> 00:27:53,959
that sometimes you see it out of pure

649
00:27:51,159 --> 00:27:55,600
responsibility I mean yes people go to

650
00:27:53,960 --> 00:27:59,278
Argentina this happens all the time for

651
00:27:55,599 --> 00:28:01,678
the wrong reasons but but if if if if H

652
00:27:59,278 --> 00:28:03,839
in normal times normal environments when

653
00:28:01,679 --> 00:28:05,880
do you think that I should have said

654
00:28:03,839 --> 00:28:08,319
normal times in normal

655
00:28:05,880 --> 00:28:10,200
environments sort of with sound

656
00:28:08,319 --> 00:28:13,839
macroeconomic policy when do you think

657
00:28:10,200 --> 00:28:13,840
you would see something like

658
00:28:15,240 --> 00:28:20,440
this recessions you know and the biggest

659
00:28:18,558 --> 00:28:22,798
during recessions you you need to get

660
00:28:20,440 --> 00:28:25,360
the economy out of the of the whole and

661
00:28:22,798 --> 00:28:26,960
then you you'll probably you'll first

662
00:28:25,359 --> 00:28:28,918
try monetary policy because that's the

663
00:28:26,960 --> 00:28:30,480
most direct and quick I mean that's a

664
00:28:28,919 --> 00:28:33,360
decision that can be made

665
00:28:30,480 --> 00:28:36,278
overnight no but often when the rec is

666
00:28:33,359 --> 00:28:38,639
officially deep that's not enough and

667
00:28:36,278 --> 00:28:40,359
you need more and that's what you do

668
00:28:38,640 --> 00:28:41,679
with fiscal policy there other reasons

669
00:28:40,359 --> 00:28:43,839
there are differen between the two

670
00:28:41,679 --> 00:28:46,840
policies because we're not looking under

671
00:28:43,839 --> 00:28:48,839
the hood here but for example in Co it

672
00:28:46,839 --> 00:28:50,199
was very certain group of people were

673
00:28:48,839 --> 00:28:51,558
much more affected than others I mean

674
00:28:50,200 --> 00:28:52,880
people that work in restaurants those

675
00:28:51,558 --> 00:28:55,200
guys just lost their job there was

676
00:28:52,880 --> 00:28:57,600
nothing they could do so there was a

677
00:28:55,200 --> 00:29:00,919
reason to Target the transfers when you

678
00:28:57,599 --> 00:29:03,439
use rate is very Bland policy to

679
00:29:00,919 --> 00:29:05,399
everyone when when you use a fiscal

680
00:29:03,440 --> 00:29:07,440
policy you can also it's not only the

681
00:29:05,398 --> 00:29:09,278
amount you spend but you can also Target

682
00:29:07,440 --> 00:29:11,919
the expenditure in certain directions

683
00:29:09,278 --> 00:29:14,240
and and so there other reasons why you

684
00:29:11,919 --> 00:29:16,799
may want to use the two tools but the

685
00:29:14,240 --> 00:29:18,640
main one is the first ordered one is if

686
00:29:16,798 --> 00:29:20,359
you're in a deep recession you need

687
00:29:18,640 --> 00:29:22,519
everything to try to lift the economy

688
00:29:20,359 --> 00:29:25,918
out of that and so that's the kind of

689
00:29:22,519 --> 00:29:29,000
packages you see in big

690
00:29:25,919 --> 00:29:32,000
recessions now

691
00:29:29,000 --> 00:29:33,919
there's a there's a slide that I that I

692
00:29:32,000 --> 00:29:35,960
think I have pending from from two

693
00:29:33,919 --> 00:29:38,240
lectures ago and and this is a good

694
00:29:35,960 --> 00:29:40,200
opportunity to to bring it back remember

695
00:29:38,240 --> 00:29:43,759
when we look at equilibrium in financial

696
00:29:40,200 --> 00:29:46,759
markets we we came up with this H

697
00:29:43,759 --> 00:29:48,158
downward sloping demand money demand

698
00:29:46,759 --> 00:29:50,038
then we said well you lower the interest

699
00:29:48,159 --> 00:29:52,360
rate there's more more money demand and

700
00:29:50,038 --> 00:29:54,200
so on so forth and we said therefore the

701
00:29:52,359 --> 00:29:56,158
way the FED lowers interest rate or the

702
00:29:54,200 --> 00:29:58,720
Central Bank lowers the interest rate is

703
00:29:56,159 --> 00:30:00,600
by increasing money supply

704
00:29:58,720 --> 00:30:02,038
the point of this picture is that

705
00:30:00,599 --> 00:30:03,879
there's a limit to

706
00:30:02,038 --> 00:30:07,119
that and the

707
00:30:03,880 --> 00:30:08,360
limit is more or less when the interest

708
00:30:07,119 --> 00:30:10,518
rate reaches

709
00:30:08,359 --> 00:30:12,278
zero because when the interest rate

710
00:30:10,519 --> 00:30:13,200
reaches the nominal interest rate

711
00:30:12,278 --> 00:30:16,240
reaches

712
00:30:13,200 --> 00:30:19,519
zero then there's no cost in holding

713
00:30:16,240 --> 00:30:21,599
bonds remember the the in holding money

714
00:30:19,519 --> 00:30:23,120
sorry the only reason for you not to

715
00:30:21,599 --> 00:30:24,918
hold all your wealth in the form of

716
00:30:23,119 --> 00:30:28,319
money because you were giving up some

717
00:30:24,919 --> 00:30:30,240
opportunity cost of investing in bonds

718
00:30:28,319 --> 00:30:32,079
which were inconvenient Financial assets

719
00:30:30,240 --> 00:30:33,399
because you couldn't transact with them

720
00:30:32,079 --> 00:30:35,678
but they pay you higher interest that's

721
00:30:33,398 --> 00:30:37,359
the reason you want to go there but once

722
00:30:35,679 --> 00:30:39,600
you reach zero interest rate then you're

723
00:30:37,359 --> 00:30:40,959
indifferent and you might as well hold

724
00:30:39,599 --> 00:30:43,199
if the Central Bank goes out there and

725
00:30:40,960 --> 00:30:44,720
doesn't man open market operation you

726
00:30:43,200 --> 00:30:46,640
don't need to be compensated for that

727
00:30:44,720 --> 00:30:49,159
because you you're totally willing to

728
00:30:46,640 --> 00:30:51,200
hold your wealth in the form of money

729
00:30:49,159 --> 00:30:54,039
and so monetary policy is no longer

730
00:30:51,200 --> 00:30:56,480
effective when you when you reach the

731
00:30:54,038 --> 00:30:59,558
what is called the zero lower bound and

732
00:30:56,480 --> 00:31:01,919
that's what we call the liquidity TR

733
00:30:59,558 --> 00:31:04,798
okay it's called the liquidity trap let

734
00:31:01,919 --> 00:31:07,000
me not get into why but but essentially

735
00:31:04,798 --> 00:31:08,319
is is that is said you can inject more

736
00:31:07,000 --> 00:31:10,720
and more liquidity but you cannot move

737
00:31:08,319 --> 00:31:13,278
the interest rate so you lost a policy

738
00:31:10,720 --> 00:31:16,000
tool this was the tragedy of Japan for

739
00:31:13,278 --> 00:31:18,679
many decades okay they they they were

740
00:31:16,000 --> 00:31:20,798
stuck against the zero lower bound the

741
00:31:18,679 --> 00:31:23,360
liquidity trap and so they had to go

742
00:31:20,798 --> 00:31:24,839
through massive fiscal expansions

743
00:31:23,359 --> 00:31:26,879
because they didn't have they were in

744
00:31:24,839 --> 00:31:29,000
recession chronic recessions and they

745
00:31:26,880 --> 00:31:31,000
didn't have powerful monetary policy

746
00:31:29,000 --> 00:31:34,200
tool because they were against the zero

747
00:31:31,000 --> 00:31:36,919
lower B so why did I use this

748
00:31:34,200 --> 00:31:39,159
opportunity to bring this about because

749
00:31:36,919 --> 00:31:41,880
that's for the reason I just described

750
00:31:39,159 --> 00:31:44,039
the case of Japan but

751
00:31:41,880 --> 00:31:46,000
but I asked the question here what would

752
00:31:44,038 --> 00:31:47,679
you advise the government to do when I

753
00:31:46,000 --> 00:31:50,558
already told you the answer if if you

754
00:31:47,679 --> 00:31:52,840
have an economy is and a recession and

755
00:31:50,558 --> 00:31:55,798
and this means you use all the monetary

756
00:31:52,839 --> 00:31:57,359
policy that you had conventional mon

757
00:31:55,798 --> 00:31:59,359
monetary policy that you have now we

758
00:31:57,359 --> 00:32:00,638
have UNC conventional monetary but I'll

759
00:31:59,359 --> 00:32:04,199
tell you a little bit more about that

760
00:32:00,638 --> 00:32:05,519
later but once you run out of this and

761
00:32:04,200 --> 00:32:08,480
you're still in a recession what would

762
00:32:05,519 --> 00:32:08,480
you tell the government to

763
00:32:10,720 --> 00:32:15,038
do use fiscal policy that's the other

764
00:32:13,319 --> 00:32:17,558
tool you are so that's a typical

765
00:32:15,038 --> 00:32:19,519
situation you see when countries are the

766
00:32:17,558 --> 00:32:21,398
interest rate are already very low they

767
00:32:19,519 --> 00:32:22,919
tend to use much more actively fiscal

768
00:32:21,398 --> 00:32:24,719
policy because it's the only policy they

769
00:32:22,919 --> 00:32:27,440
have left and that has been the case of

770
00:32:24,720 --> 00:32:32,038
Japan again since the crash of their

771
00:32:27,440 --> 00:32:36,120
financial bubble in the late 80s early

772
00:32:32,038 --> 00:32:38,480
90s so look at the covid-19 response

773
00:32:36,119 --> 00:32:41,719
something happened to my figure here but

774
00:32:38,480 --> 00:32:42,880
anyways this is zero essentially so this

775
00:32:41,720 --> 00:32:46,200
is

776
00:32:42,880 --> 00:32:48,440
covid okay the covid shock happened

777
00:32:46,200 --> 00:32:51,000
clearly the economy was imploding into

778
00:32:48,440 --> 00:32:53,519
recession the FED immediately reacted

779
00:32:51,000 --> 00:32:56,200
and cut interest very very aggressively

780
00:32:53,519 --> 00:32:57,519
to zero and then we were stack there

781
00:32:56,200 --> 00:33:00,080
this is effectively zero I mean they're

782
00:32:57,519 --> 00:33:02,079
Technic things why thing moves a little

783
00:33:00,079 --> 00:33:05,240
but but this is effectively

784
00:33:02,079 --> 00:33:08,638
zero so the US was during that period

785
00:33:05,240 --> 00:33:10,519
against really a a a liquidity against

786
00:33:08,638 --> 00:33:13,079
the zero lower bound there was no more

787
00:33:10,519 --> 00:33:15,240
power for the kind of monetary policy

788
00:33:13,079 --> 00:33:17,798
that we have describe

789
00:33:15,240 --> 00:33:20,720
here so let

790
00:33:17,798 --> 00:33:22,000
me so so that tells you that that

791
00:33:20,720 --> 00:33:23,639
there's going to have to be a lots of

792
00:33:22,000 --> 00:33:25,159
fiscal policy if you want to get out of

793
00:33:23,638 --> 00:33:28,398
that and I'll show you that later there

794
00:33:25,159 --> 00:33:29,840
was a lot of fiscal policy but but

795
00:33:28,398 --> 00:33:31,079
before getting there I'm going to show

796
00:33:29,839 --> 00:33:33,319
you something that you don't need to

797
00:33:31,079 --> 00:33:36,359
really know for the quiz But but so you

798
00:33:33,319 --> 00:33:39,879
can understand what is going on the

799
00:33:36,359 --> 00:33:41,798
newspapers a little better the FED that

800
00:33:39,880 --> 00:33:43,519
was not the only precisely because

801
00:33:41,798 --> 00:33:46,879
because the situation of

802
00:33:43,519 --> 00:33:49,120
Japan was so chronic people began to

803
00:33:46,880 --> 00:33:51,840
develop lots of tools alternative tools

804
00:33:49,119 --> 00:33:53,518
for central banks to use when you your

805
00:33:51,839 --> 00:33:55,798
interest rate this the main interest

806
00:33:53,519 --> 00:33:57,880
rate you use is stuck against zero

807
00:33:55,798 --> 00:33:59,119
against the zero lower bound and that's

808
00:33:57,880 --> 00:34:01,720
what you may have heard is called

809
00:33:59,119 --> 00:34:04,479
sometimes unconventional monetary policy

810
00:34:01,720 --> 00:34:06,600
QE quantitative easing all those kind of

811
00:34:04,480 --> 00:34:09,559
things they represent essentially

812
00:34:06,599 --> 00:34:11,480
policies that are like monetary policy

813
00:34:09,559 --> 00:34:12,398
but they're not exactly the way we have

814
00:34:11,480 --> 00:34:14,119
because they don't they're not

815
00:34:12,398 --> 00:34:16,358
interventions in very shortterm bonds

816
00:34:14,119 --> 00:34:18,200
there interventions in other assets out

817
00:34:16,358 --> 00:34:20,719
there in this course we have it very

818
00:34:18,199 --> 00:34:22,398
simple we have only one interest rate in

819
00:34:20,719 --> 00:34:24,279
reality there are multiple bonds they

820
00:34:22,398 --> 00:34:25,838
are risky bonds they are spread somebody

821
00:34:24,280 --> 00:34:27,480
asked about risky Bonds in a few

822
00:34:25,838 --> 00:34:28,838
lectures ago there are Express there

823
00:34:27,480 --> 00:34:31,079
lots of of interest rates floating

824
00:34:28,838 --> 00:34:32,559
around so in principle a central bank

825
00:34:31,079 --> 00:34:34,639
could intervene in those other rates as

826
00:34:32,559 --> 00:34:36,719
well in fact in Japan they have even

827
00:34:34,639 --> 00:34:39,519
intervened in the stock market that

828
00:34:36,719 --> 00:34:41,398
tells you how far they can go okay so

829
00:34:39,519 --> 00:34:43,918
you so in a richer environment with more

830
00:34:41,398 --> 00:34:45,918
financial Assets in principle the FED

831
00:34:43,918 --> 00:34:47,799
could go beyond the standard short-term

832
00:34:45,918 --> 00:34:50,358
bonds that they go for for their open

833
00:34:47,800 --> 00:34:52,800
market operation and that's

834
00:34:50,358 --> 00:34:54,519
exactly what they have been doing a way

835
00:34:52,800 --> 00:34:56,679
of thinking about that is remember when

836
00:34:54,519 --> 00:34:59,079
when we look at a Monet expansion

837
00:34:56,679 --> 00:35:00,680
conventional monetary policy we start

838
00:34:59,079 --> 00:35:02,920
with a balance sheet like that remember

839
00:35:00,679 --> 00:35:04,838
we said the the central bank has bonds

840
00:35:02,920 --> 00:35:06,639
and then money if he wants to have an

841
00:35:04,838 --> 00:35:09,679
expansion in monetary policy goes out

842
00:35:06,639 --> 00:35:13,480
there it buys more bonds and gives them

843
00:35:09,679 --> 00:35:15,598
the gives the banks money okay and that

844
00:35:13,480 --> 00:35:16,838
expands the balance sheet you end up

845
00:35:15,599 --> 00:35:19,760
with more the balance sheet of the

846
00:35:16,838 --> 00:35:21,320
Central Bank ends up with more bonds and

847
00:35:19,760 --> 00:35:23,640
also with more liabilities because it

848
00:35:21,320 --> 00:35:27,800
gave more money to people out Banks and

849
00:35:23,639 --> 00:35:29,400
so on so he owes more money so monetary

850
00:35:27,800 --> 00:35:31,519
policy naturally expansion and monetary

851
00:35:29,400 --> 00:35:33,760
policy naturally leads to an expansion

852
00:35:31,519 --> 00:35:36,519
of the balance sheet now for

853
00:35:33,760 --> 00:35:39,040
years outside of Japan nobody really

854
00:35:36,519 --> 00:35:40,358
cared too much about that because this

855
00:35:39,039 --> 00:35:42,400
effect relative to what you saw in the

856
00:35:40,358 --> 00:35:43,838
interet was very small I mean yeah the

857
00:35:42,400 --> 00:35:47,320
balance sheet was moving a little bit

858
00:35:43,838 --> 00:35:48,440
but it was mild no so here we hit the

859
00:35:47,320 --> 00:35:50,760
zero lower

860
00:35:48,440 --> 00:35:53,679
bound and essentially the FED went out

861
00:35:50,760 --> 00:35:56,839
and bought all sort of things first of

862
00:35:53,679 --> 00:35:58,239
all the when you hear QE quantitative

863
00:35:56,838 --> 00:36:00,960
easing

864
00:35:58,239 --> 00:36:04,159
that means mostly that the FED goes out

865
00:36:00,960 --> 00:36:07,920
there and buys not only shortterm US

866
00:36:04,159 --> 00:36:09,279
Treasury bonds but long-term BS okay

867
00:36:07,920 --> 00:36:10,760
because there something called the term

868
00:36:09,280 --> 00:36:13,519
spread typically interest rates in the

869
00:36:10,760 --> 00:36:16,400
long run are higher than than interest

870
00:36:13,519 --> 00:36:18,358
rate in the short right typically

871
00:36:16,400 --> 00:36:21,160
controlling for a bunch of things and

872
00:36:18,358 --> 00:36:23,239
that's called the term premium well they

873
00:36:21,159 --> 00:36:25,759
went and bought those kind of bones they

874
00:36:23,239 --> 00:36:29,039
also bought bought bones issued by

875
00:36:25,760 --> 00:36:34,119
frenan f

876
00:36:29,039 --> 00:36:35,838
what is Freddy ma no Freddy and Fanny H

877
00:36:34,119 --> 00:36:38,079
mortgage back Securities a bunch of

878
00:36:35,838 --> 00:36:40,679
stuff even loans in fact they created a

879
00:36:38,079 --> 00:36:42,720
facility to buy corporate

880
00:36:40,679 --> 00:36:45,679
bonds and at some point they created a

881
00:36:42,719 --> 00:36:47,598
facility to buy Fallen Angels Bond

882
00:36:45,679 --> 00:36:49,159
initially it was only investment great

883
00:36:47,599 --> 00:36:51,480
bonds all the companies that have the

884
00:36:49,159 --> 00:36:53,960
best possible rating but that wasn't

885
00:36:51,480 --> 00:36:57,119
enough so they went out there and and

886
00:36:53,960 --> 00:36:59,119
created a facility to buy Fallen angin B

887
00:36:57,119 --> 00:37:02,440
Fallen were essentially companies that

888
00:36:59,119 --> 00:37:04,039
were Prime companies before covid but

889
00:37:02,440 --> 00:37:07,119
you know but after covid they didn't

890
00:37:04,039 --> 00:37:10,679
look so good Airlines you know cruises

891
00:37:07,119 --> 00:37:12,039
and stuff like that hotels and so on so

892
00:37:10,679 --> 00:37:14,559
that was a massive expansion of the

893
00:37:12,039 --> 00:37:18,719
balance sheet so in terms of this this

894
00:37:14,559 --> 00:37:20,318
guy grew a lot okay but the purpose

895
00:37:18,719 --> 00:37:21,679
that's like monetary policy that's what

896
00:37:20,318 --> 00:37:23,119
we call unconvention it's different from

897
00:37:21,679 --> 00:37:26,358
the standard one but they were doing

898
00:37:23,119 --> 00:37:28,318
trying to operate very much like

899
00:37:26,358 --> 00:37:31,239
monetary policy operates here you see

900
00:37:28,318 --> 00:37:33,400
the balance sheet of the fed you see

901
00:37:31,239 --> 00:37:36,959
before the the the global financial

902
00:37:33,400 --> 00:37:38,559
crisis or the Great Recession of 2008

903
00:37:36,960 --> 00:37:40,639
2009

904
00:37:38,559 --> 00:37:42,400
ER the balance sheet wasn't an

905
00:37:40,639 --> 00:37:43,838
interesting thing to look at as the

906
00:37:42,400 --> 00:37:46,880
central bank because the idea they did

907
00:37:43,838 --> 00:37:49,199
the regular open market operations and

908
00:37:46,880 --> 00:37:51,240
you know for for anti-al policy but you

909
00:37:49,199 --> 00:37:52,480
would see small Wiggles in the size of

910
00:37:51,239 --> 00:37:54,399
the balance sheet relative to the size

911
00:37:52,480 --> 00:37:56,000
of the balance sheet in the global

912
00:37:54,400 --> 00:37:59,039
financial crisis they hit the zero lower

913
00:37:56,000 --> 00:38:02,039
Bound for the first time the US and so

914
00:37:59,039 --> 00:38:03,960
there you saw massive expansion of the

915
00:38:02,039 --> 00:38:05,639
bance this is the number of assets the

916
00:38:03,960 --> 00:38:07,240
same happen to liabilities they out side

917
00:38:05,639 --> 00:38:10,879
of it is they're injecting massive

918
00:38:07,239 --> 00:38:13,479
amount of money into the economy okay so

919
00:38:10,880 --> 00:38:15,838
there use a big expansion the recovery

920
00:38:13,480 --> 00:38:18,159
from the global fin was hard because the

921
00:38:15,838 --> 00:38:20,119
financial sector was very compromised so

922
00:38:18,159 --> 00:38:21,598
it took them a while they kept doing

923
00:38:20,119 --> 00:38:24,720
these kind of policies then they began

924
00:38:21,599 --> 00:38:26,359
to unwind the balance sheet and then Co

925
00:38:24,719 --> 00:38:29,000
came and that's what I was showing you

926
00:38:26,358 --> 00:38:29,880
before massive they send the interest

927
00:38:29,000 --> 00:38:32,559
rate to

928
00:38:29,880 --> 00:38:34,720
zero that wasn't enough and then they

929
00:38:32,559 --> 00:38:37,559
went out and bought lots of other

930
00:38:34,719 --> 00:38:40,279
Financial assets which work very much

931
00:38:37,559 --> 00:38:42,000
like monetary policy big thing and now

932
00:38:40,280 --> 00:38:43,280
they're unwinding the thing now we're

933
00:38:42,000 --> 00:38:44,719
we're in the opposite process we have

934
00:38:43,280 --> 00:38:46,880
inflation we want to get out of this

935
00:38:44,719 --> 00:38:48,879
situation they unwinding but you can see

936
00:38:46,880 --> 00:38:50,760
the size of that is

937
00:38:48,880 --> 00:38:54,119
huge

938
00:38:50,760 --> 00:38:56,520
huge I mean this is you know the balance

939
00:38:54,119 --> 00:38:58,039
sheet that a couple of decades ago had

940
00:38:56,519 --> 00:38:59,880
was was when the of the order $1

941
00:38:58,039 --> 00:39:02,960
trillion which is more or less the money

942
00:38:59,880 --> 00:39:05,920
that is circulating around ER now it's

943
00:39:02,960 --> 00:39:08,240
$9 trillion massive

944
00:39:05,920 --> 00:39:09,800
theion and all central banks major

945
00:39:08,239 --> 00:39:12,479
central banks look like this I mean the

946
00:39:09,800 --> 00:39:14,519
ACB also looks like

947
00:39:12,480 --> 00:39:17,240
this the bank of

948
00:39:14,519 --> 00:39:18,759
Japan H looks like this but actually you

949
00:39:17,239 --> 00:39:21,519
don't see this blips that much because

950
00:39:18,760 --> 00:39:23,359
they began to do them here okay so they

951
00:39:21,519 --> 00:39:25,880
have been accumulating for a long

952
00:39:23,358 --> 00:39:28,318
time they have been using this kind of

953
00:39:25,880 --> 00:39:30,720
policy what about

954
00:39:28,318 --> 00:39:33,279
so coming back now to the course what

955
00:39:30,719 --> 00:39:34,838
about fiscal policy well I'm showing you

956
00:39:33,280 --> 00:39:37,119
different countries around the world

957
00:39:34,838 --> 00:39:40,559
massive fix fiscal expansion during the

958
00:39:37,119 --> 00:39:42,800
covid episode massive I mean this is you

959
00:39:40,559 --> 00:39:44,639
know the US the fiscal expansion if you

960
00:39:42,800 --> 00:39:46,039
combine all the packages so the order of

961
00:39:44,639 --> 00:39:49,039
20% of

962
00:39:46,039 --> 00:39:51,039
GDP that's huge for fiscal you don't see

963
00:39:49,039 --> 00:39:53,920
things like this and this happen almost

964
00:39:51,039 --> 00:39:56,838
everywhere okay now you don't see things

965
00:39:53,920 --> 00:39:59,240
like that outside of Wars this was

966
00:39:56,838 --> 00:40:01,519
really like a war there's no doubt of

967
00:39:59,239 --> 00:40:03,879
that the kind amount of expansion in

968
00:40:01,519 --> 00:40:06,480
fiscal policy we saw was comparable to

969
00:40:03,880 --> 00:40:06,480
what you see in a

970
00:40:06,800 --> 00:40:12,880
war so there you have it big recession

971
00:40:10,119 --> 00:40:15,760
huge recession massive policy response

972
00:40:12,880 --> 00:40:19,440
both monetary of a conventional and

973
00:40:15,760 --> 00:40:21,079
unconventional kind and fiscal and again

974
00:40:19,440 --> 00:40:23,800
this was not unique to the US it

975
00:40:21,079 --> 00:40:26,079
happened essentially everywhere China is

976
00:40:23,800 --> 00:40:29,680
a little different for reasons I think I

977
00:40:26,079 --> 00:40:32,560
mentioned uh in the first lecture

978
00:40:29,679 --> 00:40:34,199
but I may talk more about that

979
00:40:32,559 --> 00:40:37,880
later

980
00:40:34,199 --> 00:40:39,960
good okay so another policy mix this is

981
00:40:37,880 --> 00:40:42,519
different so what do we have

982
00:40:39,960 --> 00:40:45,280
there that's another policy mix that we

983
00:40:42,519 --> 00:40:47,400
see fairly

984
00:40:45,280 --> 00:40:50,319
frequently so what is

985
00:40:47,400 --> 00:40:51,400
that LM going down that's expansion in

986
00:40:50,318 --> 00:40:54,239
monetary

987
00:40:51,400 --> 00:40:57,800
policy I going to the left that's

988
00:40:54,239 --> 00:41:01,159
contractionary fiscal policy okay so

989
00:40:57,800 --> 00:41:01,160
when do you think you would do such a

990
00:41:03,280 --> 00:41:07,440
thing or countries would engage and

991
00:41:05,800 --> 00:41:09,200
things like this again what if you want

992
00:41:07,440 --> 00:41:11,800
to like reduce like government spending

993
00:41:09,199 --> 00:41:15,039
you want to off a recession exactly

994
00:41:11,800 --> 00:41:17,280
that's that's exactly the the conditions

995
00:41:15,039 --> 00:41:19,239
when you want to do this it's called

996
00:41:17,280 --> 00:41:20,440
consolidation of the fiscal deficit

997
00:41:19,239 --> 00:41:23,078
sometimes you you you know you have a

998
00:41:20,440 --> 00:41:24,960
large fiscal deficit that's leading to

999
00:41:23,079 --> 00:41:30,359
accumulation of public debt that doesn't

1000
00:41:24,960 --> 00:41:32,760
look so good so the the the government

1001
00:41:30,358 --> 00:41:37,239
the central the treasur in the case of

1002
00:41:32,760 --> 00:41:40,200
the US may may decide that he wants to

1003
00:41:37,239 --> 00:41:42,279
reduce fiscal policy but he's afraid

1004
00:41:40,199 --> 00:41:44,279
because and doing so is going to cause a

1005
00:41:42,280 --> 00:41:46,359
recession and the purpose and there is

1006
00:41:44,280 --> 00:41:47,839
no problem of output being overheating

1007
00:41:46,358 --> 00:41:50,519
that it's just that the fiscal accounts

1008
00:41:47,838 --> 00:41:54,759
look look they

1009
00:41:50,519 --> 00:41:56,239
weak so if that's a situation that is if

1010
00:41:54,760 --> 00:41:57,560
the economy is not going is not going

1011
00:41:56,239 --> 00:42:01,239
through an overheating period perod and

1012
00:41:57,559 --> 00:42:03,400
so on and you want to reduce the fiscal

1013
00:42:01,239 --> 00:42:06,000
deficit in some places it will be

1014
00:42:03,400 --> 00:42:07,599
explicit in some places implicit but you

1015
00:42:06,000 --> 00:42:10,800
know the central because the central

1016
00:42:07,599 --> 00:42:13,680
bank has a goal to keep prices stable

1017
00:42:10,800 --> 00:42:16,519
and an output close to the potential

1018
00:42:13,679 --> 00:42:18,679
output so even if there's no explicit

1019
00:42:16,519 --> 00:42:21,039
coordination if the if the government

1020
00:42:18,679 --> 00:42:23,399
announce a massive fiscal consolation

1021
00:42:21,039 --> 00:42:26,000
package say reduce going expenditure by

1022
00:42:23,400 --> 00:42:28,000
10% the Central Bank knows that that's

1023
00:42:26,000 --> 00:42:30,119
going to cause a recession and so the

1024
00:42:28,000 --> 00:42:32,079
Central Bank naturally will respond by

1025
00:42:30,119 --> 00:42:35,559
cutting interest rate to that because

1026
00:42:32,079 --> 00:42:38,160
the recession is not needed if if the if

1027
00:42:35,559 --> 00:42:40,160
the US announced today a a fiscal

1028
00:42:38,159 --> 00:42:42,879
contraction of 5% I'm not sure the FED

1029
00:42:40,159 --> 00:42:46,118
would do anything just stay there put

1030
00:42:42,880 --> 00:42:48,559
okay because we have an economy is

1031
00:42:46,119 --> 00:42:50,760
overheating but but so that's what you

1032
00:42:48,559 --> 00:42:53,000
would do in a situation in which you

1033
00:42:50,760 --> 00:42:55,319
want to fix the fiscal account and the

1034
00:42:53,000 --> 00:42:59,119
economy is more or less at the at the

1035
00:42:55,318 --> 00:42:59,119
normal time it's not it's not over here

1036
00:43:00,519 --> 00:43:04,318
heating when would you do the

1037
00:43:08,159 --> 00:43:13,960
opposite or when it's not when would you

1038
00:43:11,800 --> 00:43:16,519
do the opposite is when are you likely

1039
00:43:13,960 --> 00:43:16,519
to see the

1040
00:43:19,519 --> 00:43:24,759
opposite so first of all what is the

1041
00:43:21,719 --> 00:43:29,118
opposite the opposite is a combination

1042
00:43:24,760 --> 00:43:29,119
of a fiscal expansion with a Monet

1043
00:43:29,679 --> 00:43:34,879
contraction okay when do you think you

1044
00:43:32,159 --> 00:43:34,879
would see such a

1045
00:43:37,039 --> 00:43:44,199
thing either maybe when government has a

1046
00:43:42,199 --> 00:43:47,598
budging maybe

1047
00:43:44,199 --> 00:43:50,000
when rates are too

1048
00:43:47,599 --> 00:43:53,519
high

1049
00:43:50,000 --> 00:43:56,920
yeah okay that's

1050
00:43:53,519 --> 00:43:58,759
true but but I'm not sure that's yeah

1051
00:43:56,920 --> 00:44:02,400
but that requires a to concerted

1052
00:43:58,760 --> 00:44:04,040
decision and so on H it's true yeah

1053
00:44:02,400 --> 00:44:06,880
valid question it's not the one I wanted

1054
00:44:04,039 --> 00:44:09,960
I wanted something more interesting but

1055
00:44:06,880 --> 00:44:13,400
more exciting but but those

1056
00:44:09,960 --> 00:44:13,400
are valid

1057
00:44:15,719 --> 00:44:20,759
answers War you know War typically is

1058
00:44:18,480 --> 00:44:20,760
all

1059
00:44:23,280 --> 00:44:30,519
in no okay let me not I know it's a

1060
00:44:28,000 --> 00:44:34,079
strange question but but I know where

1061
00:44:30,519 --> 00:44:36,280
I'm heading a um suppose that the

1062
00:44:34,079 --> 00:44:38,480
government decides to

1063
00:44:36,280 --> 00:44:40,920
spend for whatever

1064
00:44:38,480 --> 00:44:43,599
reason and the Central Bank says Whoa We

1065
00:44:40,920 --> 00:44:45,680
don't need that expenditure now so you

1066
00:44:43,599 --> 00:44:47,039
know we don't need this exp fiscal

1067
00:44:45,679 --> 00:44:49,159
expansion now because we're on the

1068
00:44:47,039 --> 00:44:51,639
margin of overheating and now I'm going

1069
00:44:49,159 --> 00:44:53,838
to get this big fiscal expansion then

1070
00:44:51,639 --> 00:44:56,719
the fed the central bank is likely to

1071
00:44:53,838 --> 00:44:58,519
react to that and high interest rate

1072
00:44:56,719 --> 00:45:00,799
that will will make very upset the

1073
00:44:58,519 --> 00:45:02,599
government it always happens the

1074
00:45:00,800 --> 00:45:03,880
government gets very upset guy say look

1075
00:45:02,599 --> 00:45:06,640
I'm trying to span the economy and

1076
00:45:03,880 --> 00:45:08,079
you're fighting me okay but that's the

1077
00:45:06,639 --> 00:45:10,400
nature of the that's the reason central

1078
00:45:08,079 --> 00:45:13,000
banks are meant to be independent so

1079
00:45:10,400 --> 00:45:14,720
they can they can offset that and the

1080
00:45:13,000 --> 00:45:16,318
reason I wanted to highlight the example

1081
00:45:14,719 --> 00:45:17,519
is I think some of that and somebody

1082
00:45:16,318 --> 00:45:21,279
asked that question I think in the

1083
00:45:17,519 --> 00:45:23,960
previous lecture ER happened to the US

1084
00:45:21,280 --> 00:45:26,440
economy one of the reasons we are in an

1085
00:45:23,960 --> 00:45:28,199
overheating situation right now is

1086
00:45:26,440 --> 00:45:30,519
because the US had a big fiscal

1087
00:45:28,199 --> 00:45:32,838
expansion early in

1088
00:45:30,519 --> 00:45:34,559
2021 and that fiscal expansion was at

1089
00:45:32,838 --> 00:45:36,239
the time in which there wasn't much

1090
00:45:34,559 --> 00:45:38,280
spare capacity in the economy so we were

1091
00:45:36,239 --> 00:45:41,078
very close to Full Employment the supply

1092
00:45:38,280 --> 00:45:42,960
side was very constrained and so on and

1093
00:45:41,079 --> 00:45:44,800
so there may have been good reasons for

1094
00:45:42,960 --> 00:45:46,760
the fiscal package transfers to people

1095
00:45:44,800 --> 00:45:48,839
that you need to transfer and so on but

1096
00:45:46,760 --> 00:45:50,839
the macroeconomic consequence of that

1097
00:45:48,838 --> 00:45:53,358
very naturally was going to lead to

1098
00:45:50,838 --> 00:45:56,199
overheating and and the and the FED did

1099
00:45:53,358 --> 00:45:58,039
not respond to that and I think that's

1100
00:45:56,199 --> 00:45:59,960
one of the reasons people think

1101
00:45:58,039 --> 00:46:02,440
sometimes that the fed well there's no

1102
00:45:59,960 --> 00:46:04,960
doubt exposed that the Fed was behind

1103
00:46:02,440 --> 00:46:06,679
the curve but one of the reasons they

1104
00:46:04,960 --> 00:46:09,599
were behind the curve is

1105
00:46:06,679 --> 00:46:11,279
that they there was this big fiscal

1106
00:46:09,599 --> 00:46:13,599
expansion which naturally was going to

1107
00:46:11,280 --> 00:46:16,000
span output and they did not react to

1108
00:46:13,599 --> 00:46:17,599
it and eventually they reacted but it

1109
00:46:16,000 --> 00:46:19,440
took them a long time and by then we had

1110
00:46:17,599 --> 00:46:21,160
inflation and all that okay so that's a

1111
00:46:19,440 --> 00:46:23,280
situation in which we should have seen a

1112
00:46:21,159 --> 00:46:24,679
picture like the opposite of this but we

1113
00:46:23,280 --> 00:46:26,680
didn't see the picture we didn't see the

1114
00:46:24,679 --> 00:46:30,879
monetary part and that's the reason we

1115
00:46:26,679 --> 00:46:35,239
end up ended up with an economy that is

1116
00:46:30,880 --> 00:46:35,240
overheating okay

1117
00:46:37,159 --> 00:46:42,440
yeah I mean it's always it's a very

1118
00:46:40,639 --> 00:46:43,799
uncertain environment here yeah they

1119
00:46:42,440 --> 00:46:46,000
thought this was going to be very

1120
00:46:43,800 --> 00:46:48,599
transitory that that that there was

1121
00:46:46,000 --> 00:46:50,280
enough inflationary Dynamics

1122
00:46:48,599 --> 00:46:53,119
disinflationary dynamics that that would

1123
00:46:50,280 --> 00:46:54,640
have settled that Expos is obviously it

1124
00:46:53,119 --> 00:46:56,200
was a mistake but it's exposed I mean

1125
00:46:54,639 --> 00:46:57,558
there was a lot of noise and so on then

1126
00:46:56,199 --> 00:47:00,799
it cames the

1127
00:46:57,559 --> 00:47:03,000
the Russian war that sort of increased

1128
00:47:00,800 --> 00:47:06,519
the price of oil dramatically and that

1129
00:47:03,000 --> 00:47:07,440
sort of created lots of bad Dynamic so

1130
00:47:06,519 --> 00:47:10,838
they were

1131
00:47:07,440 --> 00:47:13,079
unlucky that part is a part that I think

1132
00:47:10,838 --> 00:47:14,838
that that again they thought we were

1133
00:47:13,079 --> 00:47:16,160
going through a temporary situation they

1134
00:47:14,838 --> 00:47:17,400
didn't think that it was going to be

1135
00:47:16,159 --> 00:47:19,879
strong enough they thought the supply

1136
00:47:17,400 --> 00:47:23,039
side was going to expand a lot faster

1137
00:47:19,880 --> 00:47:25,039
than it did ER so they may have been

1138
00:47:23,039 --> 00:47:27,000
right in not fighting it but over a

1139
00:47:25,039 --> 00:47:28,400
horizon of three years and they found

1140
00:47:27,000 --> 00:47:31,318
everything very compressing to three

1141
00:47:28,400 --> 00:47:34,480
months and that led to to a

1142
00:47:31,318 --> 00:47:38,199
problem uh so the last thing I want to

1143
00:47:34,480 --> 00:47:40,920
show you is is is is

1144
00:47:38,199 --> 00:47:43,318
um that this mod how this mod Works in

1145
00:47:40,920 --> 00:47:44,760
practice if you if you I mean obviously

1146
00:47:43,318 --> 00:47:47,039
you're not going to estimate exactly the

1147
00:47:44,760 --> 00:47:49,040
model I show you if you have a real

1148
00:47:47,039 --> 00:47:51,920
model we have Dynamics and many more

1149
00:47:49,039 --> 00:47:54,679
things but the the the the more complete

1150
00:47:51,920 --> 00:47:57,440
version of what I just show you the islm

1151
00:47:54,679 --> 00:48:01,159
show you many people have estimated sort

1152
00:47:57,440 --> 00:48:04,039
of you know how do for

1153
00:48:01,159 --> 00:48:06,679
example I've estimated the response of

1154
00:48:04,039 --> 00:48:09,719
of of the economy to monetary shocks or

1155
00:48:06,679 --> 00:48:12,039
to fiscal expansion and so on and they

1156
00:48:09,719 --> 00:48:13,799
trace out different Dynamics different

1157
00:48:12,039 --> 00:48:15,318
variables and and you know and check

1158
00:48:13,800 --> 00:48:17,640
whether that's consistent with the slm

1159
00:48:15,318 --> 00:48:19,358
framework or not and the point of this

1160
00:48:17,639 --> 00:48:20,679
figure is that it's is very consistent

1161
00:48:19,358 --> 00:48:22,838
with that but let me show you a little

1162
00:48:20,679 --> 00:48:25,279
bit all time so this is the effect on

1163
00:48:22,838 --> 00:48:27,519
different variable of a surprise

1164
00:48:25,280 --> 00:48:29,200
increase in the in the federal funds

1165
00:48:27,519 --> 00:48:31,000
rate that's the monetary policy rate

1166
00:48:29,199 --> 00:48:34,159
okay federal funds rate is the is the

1167
00:48:31,000 --> 00:48:36,039
interest rate that the FED sets and what

1168
00:48:34,159 --> 00:48:38,920
you see that in practice what what you

1169
00:48:36,039 --> 00:48:43,000
see is um this is the impact on retail

1170
00:48:38,920 --> 00:48:45,960
sales on sales out really more or less

1171
00:48:43,000 --> 00:48:48,679
and yeah in practice the output doesn't

1172
00:48:45,960 --> 00:48:50,440
respond immediately it takes a while it

1173
00:48:48,679 --> 00:48:52,318
takes several quarters but eventually

1174
00:48:50,440 --> 00:48:54,400
hits you and that's one of the big

1175
00:48:52,318 --> 00:48:56,318
issues with monetary policy today that

1176
00:48:54,400 --> 00:48:59,280
is that clearly inflation is not under

1177
00:48:56,318 --> 00:49:02,679
control but they have done a lot and we

1178
00:48:59,280 --> 00:49:04,680
know that that it takes time for the

1179
00:49:02,679 --> 00:49:07,239
economy to really perceive the full

1180
00:49:04,679 --> 00:49:08,759
impact of a monetary policy and so

1181
00:49:07,239 --> 00:49:10,399
that's a tension now because lots of

1182
00:49:08,760 --> 00:49:12,920
people pushing the FED to do more

1183
00:49:10,400 --> 00:49:14,760
because we still have 6% inflation but

1184
00:49:12,920 --> 00:49:16,639
they have done a lot and they know the

1185
00:49:14,760 --> 00:49:18,319
monetary policy works with lags with

1186
00:49:16,639 --> 00:49:20,960
long and variable lags is a famous

1187
00:49:18,318 --> 00:49:23,279
sentence and so you know it takes about

1188
00:49:20,960 --> 00:49:25,599
six quarters to really see the mess how

1189
00:49:23,280 --> 00:49:27,960
much mess has been cost right now it

1190
00:49:25,599 --> 00:49:30,119
will take a while so I have to see you

1191
00:49:27,960 --> 00:49:32,358
see output well it's more like sales the

1192
00:49:30,119 --> 00:49:34,200
same thing initially declines slowly but

1193
00:49:32,358 --> 00:49:35,239
but it takes a while but it does have a

1194
00:49:34,199 --> 00:49:39,318
very large

1195
00:49:35,239 --> 00:49:41,838
effect this is employment same

1196
00:49:39,318 --> 00:49:44,599
thing something this these diagrams you

1197
00:49:41,838 --> 00:49:47,000
don't you don't well this unemployment

1198
00:49:44,599 --> 00:49:49,359
naturally the other side of it is

1199
00:49:47,000 --> 00:49:51,559
unemployment also will build up slowly

1200
00:49:49,358 --> 00:49:53,199
so unemployment is very low now but we

1201
00:49:51,559 --> 00:49:55,160
don't know when you the economy really

1202
00:49:53,199 --> 00:49:57,279
feels the impact of all the monetary

1203
00:49:55,159 --> 00:50:01,519
policy has been done in the last eight

1204
00:49:57,280 --> 00:50:04,280
months or so where will unemployment end

1205
00:50:01,519 --> 00:50:05,519
and the big problem for the FED today is

1206
00:50:04,280 --> 00:50:07,000
something that you don't need to

1207
00:50:05,519 --> 00:50:09,838
understand until the second part of the

1208
00:50:07,000 --> 00:50:12,838
course is that prices do decline

1209
00:50:09,838 --> 00:50:14,400
eventually but it takes a long time so

1210
00:50:12,838 --> 00:50:16,719
to control inflation with monetary

1211
00:50:14,400 --> 00:50:19,160
policy takes a while a long time let's

1212
00:50:16,719 --> 00:50:21,879
see whether the economy consumers and so

1213
00:50:19,159 --> 00:50:24,879
on have the patience to to hang in

1214
00:50:21,880 --> 00:50:24,880
there

1215
00:50:25,639 --> 00:50:29,679
okay e