Madeline Conway
April 8, 2014
Dr. Kassens
Macroeconomics
122
How does the usefulness of monetary
policy in the presence of neutrality make money “neutral” to answer this
question one must know what neutrality of money means. It is an economic theory that states that changes in the
aggregate money supply only affect nominal variables, rather than real
variables; therefore, an increase in the money supply would increase all prices
and wages proportionately, but have no effect on real economic output (GDP),
unemployment levels, or real prices (“Neutrality of Money”, 2014). This idea is
formed around the changing of money supply, saying it will not change supply
and demand of goods, technology or services.
The
neutrality of money is accepted as a credible policy because it is more
successful over long – term economic systems. There are also short-term systems
as well that affect GDP and employment levels in the market. The fed oversees
the money supply in our country and adjusts the supply when they feel it’s
necessary. Short – term economic systems impact the neutrality of money more
frequently because short-term factors are more interchangeable (“Neutrality of
Money”, 2014). Another aspect of monetary neutrality is the classical
dichotomy, which is the separation of real and nominal variables. The first
group is the nominal variables, measured in monetary variables. The second is
real variables that are measured in physical units (Mankiw, 2012, p. 353). An example of this idea from the book, is
the income of a farmer, their salary is measured in dollars opposed to corn
produced is a real variable, measured in the amount that results.
Monetary
policy is referred to as either being expansionary or contractionary, where an
expansionary policy increases the total supply of money in the economy more
rapidly than usual, and contractionary policy expands the money supply more
slowly than usual or even shrinks it. Expansionary policy is traditionally used
to try to combat unemployment in
a recession by lowering interest rates in the hope that easy credit will entice businesses
into expanding. Contractionary policy is intended to slow inflation in order to
avoid the resulting distortions and deterioration of asset values.
In
conclusion, many factors go into the usefulness of monetary policy in the
neutrality of money. The economic variables that give money neutrality are
production, employment, wages and real interest rates. Wages tend to fluctuate
because of employers raising and lowering them, making it harder to make send
of them. Companies don’t tend to make changes to pricing because of money
supply. There are actions that policy makers can take
to prevent increases in the money supply that cause inflation. The government
and fed can control and stop changes to the monetary supply. The Fed, which is
the central bank of the United States, does this through close monitoring of
the money supply and the prices of goods through measures like GDP and the
consumer price index.
Refrences
Mankiw, N. G. (2012). Principles of macroeconomics .
(Sixth ed.). Mason, OH: South-Western Cengage Learning.
(2014). Neutrality of
money. Investopedia US, A Division of IAC.
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