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The Liquidity-Augmented Model of Macroeconomic Aggregates

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  • Athanasios Geromichalos

    (University of California – Davis)

  • Lucas Herrenbrueck

    (Simon Fraser University)

Abstract

We propose a new model of the macroeconomy which is simple and tractable, yet explicit about the foundations of liquidity. Monetary policy is implemented via swaps of money for liquid bonds in a secondary asset market, and these have real effects because money, bonds, and capital are imperfect substitutes. The model unifies two classical channels through which the price of liquidity affects the economy (Friedman’s real balance effect vs Mundell’s and Tobin’s asset substitution effect), and it shines light on important macroeconomic questions: optimal monetary policy in the long run, the causal link between interest rates and inflation, and the existence and persistence of a liquidity trap where interest rates are zero but inflation is positive.

Suggested Citation

  • Athanasios Geromichalos & Lucas Herrenbrueck, 2017. "The Liquidity-Augmented Model of Macroeconomic Aggregates," Discussion Papers dp17-16, Department of Economics, Simon Fraser University.
  • Handle: RePEc:sfu:sfudps:dp17-16
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    Cited by:

    1. Lukas Altermatt, 2017. "Inside money, investment, and unconventional monetary policy," ECON - Working Papers 247, Department of Economics - University of Zurich, revised Jul 2019.
    2. Wang, Zijian, 2020. "Liquidity and private information in asset markets: To signal or not to signal," Journal of Economic Theory, Elsevier, vol. 190(C).
    3. Altermatt, Lukas, 2019. "Savings, asset scarcity, and monetary policy," Journal of Economic Theory, Elsevier, vol. 182(C), pages 329-359.
    4. Lukas Altermatt & Christian Wipf, 2020. "Liquidity, the Mundell-Tobin Effect, and the Friedman Rule," Diskussionsschriften dp2013, Universitaet Bern, Departement Volkswirtschaft.
    5. Athanasios Geromichalos & Lucas Herrenbrueck & Sukjoon Lee, 2018. "Asset Safety versus Asset Liquidity," Working Papers 326, University of California, Davis, Department of Economics.
    6. Carli, Francesco & Gomis-Porqueras, Pedro, 2021. "Real consequences of open market operations: The role of limited commitment," European Economic Review, Elsevier, vol. 132(C).
    7. Lucas Herrenbrueck, 2019. "Interest Rates, Moneyness, and the Fisher Equation," Discussion Papers dp19-01, Department of Economics, Simon Fraser University.
    8. Lee, Sukjoon, 2020. "Liquidity Premium, Credit Costs, and Optimal Monetary Policy," MPRA Paper 104825, University Library of Munich, Germany.
    9. Herrenbrueck, Lucas, 2019. "Frictional asset markets and the liquidity channel of monetary policy," Journal of Economic Theory, Elsevier, vol. 181(C), pages 82-120.

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    More about this item

    Keywords

    monetary theory; monetary policy; financial frictions; liquidity trap;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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