FLOW OF FUNDS EXERCISE

Flow of Funds Exercise

Flow of Funds Exercise

Monetary policy can be used to raise aggregate demand. If the central bank increases the money supply, the rate of interest will fall. That, in turn, will tend to raise investment, consumption, and net exports. Keynes argued in his General Theory (1936/1964) that monetary policy may be ineffective in a severe recession or depression because even very low interest rates may not rise spending sufficiently if investors and consumers have pessimistic expectations about the future.

According to Tobin (1993), the interest rate effect was first discussed by Keynes (1936/1964). Yet Keynes himself did ...