Macroeconomics, Endogenous Money
and the Contemporaneous Crisis:
A Teaching Model
By
Giuseppe Fontana (Univ. of Leeds, UK and Univ. of Sannio, Italy),
Marc Lavoie (Univ. of Ottawa, Canada) and Mark Setterfield
(Trinity College, USA)
Outline
• Introduction: A Research-driven Approach to
Macroeconomic Teaching
• Endogenous Money and the Conduct of
Macroeconomic Policy
• Deriving the Aggregate Demand Curve
• Completing the Model: Pricing, Production, and the
Labour Market
• The Contemporaneous Crisis and Some Policy
Markers’ Responses
2
Introduction
• A Research-driven Approach to
Macroeconomic Teaching
–Revolutions and Counter-revolution in
Macroeconomics
–Moving beyond the old IS-LM model
–Transcending the current New
Consensus Macroeconomics (NCM)
model
3
Endogenous Money and the Conduct
of Macroeconomic Policy
• Endogenous Money versus Exogenous
Money
• The Main Tenets of Endogenous Money
Theory:
– Loans create deposits
– Deposits make monetary reserves
• A Graphical Illustration: Figure 1
4
The Endogenous Money Supply Process
(Fig. 1)
Interest Rate
rL1
A
CS
m
B
RS
CD
i1
Monetary Reserves
R1
C1
Bank Loans
BD1
LD
DR
Bank Deposits
5
Deriving the Aggregate Demand (AD)
Curve
–A simple set of equations
–No Pigou effect (M is endogenous)!
–The shape of the AD curve is a policy
construct
–A Graphical Illustration: Figure 2
P
i Equ. 3
cD with fixed c
rL Equ. 1; with fixed m
D
Y (Equ. 2)
6
Deriving the Aggregate Demand (AD)
Curve
• Basic Glossary
ND = Components of Aggregate Demand that are
not debt-financed by loans from banks
D = Planned or desired debt-financed (by loans from
banks) spending
c = Proportion of creditworthy households and
business loans
rL = bank loans rate (set as a mark-up m over the
central bank’s short-run interest rate i)
7
AD ND cD
D f rL , f ' 0
rL
(1 m)i
AD
i
ND cf rL
g P , g' 0
8
A Conventional (Downward-Sloping)
Aggregate Demand Schedule (Fig. 2)
Price Level
i
P2
P1
AD
Short-Run
Interest Rate
i2
i1
Y2
Y1
Output
AD
rL1
rL2
rL
Bank Loans Rate
9
Completing the Endogenous Money Model:
Pricing, Production, and the Labour Market
Monetary Sector
Short-run Interest
rate (i)
Goods Market
Bank loans rate
(rL)
Labour Market
Debt-financed
component of
Aggregate Demand
(AD), Output (Y)
Unemployment level
(L-N)
10
Completing the Endogenous Money Model
• Basic Glossary
P = firms set prices as a fixed mark-up n over the
average cost of labour Wa
W= nominal wage (fixed for length of contract)
a = labour/output ratio, namely N/Y (like the capital
output ratio K/Y this is given in short-run)
S N = Labour supply schedule
L = entire labour force
11
P
(1 n)W a
W
w
P
SN L
1
1 na
12
Completing the Model: Pricing, Production,
and the Labour Market
•
•
•
•
•
•
The Aggregate Production Function (Fig. 3)
The Aggregate Supply Schedule (Fig. 4)
The Goods Market (Fig. 5)
Equilibrium Output and Employment (Fig. 6)
The Labour Market (Fig. 7)
A Graphical Illustration: Figures 3-7
W1
P1 (Equ. 4; given n and a)
AS
AS (together with AD curve)
Y1 (Fig. 5)
Y1 (via Production Schedule)
N1 (Fig. 6)
U1 (Fig. 7)
13
The Aggregate Production Function (Fig. 3)
K
YL
KL
Y0
K0
N0
L
N
14
The Aggregate Supply Schedule (Fig. 4)
P
P0 = (1 + n)W 0a
AS
YL
Y
15
The Goods Market (Fig. 5)
P
AD
P1 = (1 + n)W 1a
AS
Y1
YL
Y
16
Equilibrium Output and Employment
(Fig. 6)
P
K
YL
AD
KL
P1
K1
AS
Y1
YL
Y
Y1
N1
L
N
17
The Labour Market (Fig. 7)
w
SN
1/(1+n)a
.
N1
U1
L
N
18
The Contemporaneous Crisis and the
Endogenous Money Supply Process (Fig.8a)
Interest Rate
rL1
m
B
R0S
A
rL2
B
C2S
m`
F
i1
i2
R1S
Monetary Reserves
R1
C1S
C2
C2D
C1
C1D
Bank Loans
BD2
BD1
LD
DR
Bank Deposits
19
Consequences and Some Policy Responses
to the Contemporaneous Crisis (Fig. 8b)
P
K
YL
KL
AD2
AD1
P1
AS
K1
K2
Y2
Y1
YL
Y1
Y
Y2
N2
N1
L
N
20
The Effects of the Contemporaneous Crisis
in the Labour Market (Fig. 8c)
K
YL
KL
Y0
K0
N0
L
N
21
Further Developments
22