Recent literature on structural vector autoregressions has attempted to identify the effects on the economy of an increase in the stock of money. This work has led to a broad consensus. Initially, an increase in money leads to an increase in economic activity. Output and employment go up, the interest rate declines, and prices respond weakly, if at all. Over time, these real effects die out and, in the long run, the only effect of higher money is higher prices. Most writers on the topic have attributed the real effects of money, in the short run, to a barrier of some kind that prevents markets from clearing. We show instead that a competitive market-clearing model in which money enters the production function can reproduce the broad features of data. Our argument exploits the existence of multiple equilibria in a rational-expectations model. Journal of Economic Literature Classification Numbers: E00, E4.
- Sunspots; indeterminacy; business fluctuations
ASJC Scopus subject areas
- Economics and Econometrics