Answer to Question #282485 in Macroeconomics for ABEX

Question

1. Explain the following terms.

(a) Liquidity trap

(b) Monetary accommodation

(c) The Marshall-Lerner condition

(d) Crowding out

(e) Monetary transmission mechanism

(f) Neutrality of money

(g) Sterilization

(h) Devaluation

Answer 1

Solution:

a.). Liquidity Trap - A liquidity trap occurs when monetary policy becomes ineffective as a result of extremely low-interest rates combined with consumers who prefer to save rather than invest in higher-yielding bonds or other investments.

 

b.). Monetary accommodation - When central banks increase the money supply to stimulate the economy, this is referred to as accommodating monetary policy. Lowering the Federal funds rate is one example of accommodative monetary policy. These policies are intended to make borrowing money less expensive and to encourage more spending.

 

c.). The Marshall-Lerner condition - This refers to the assertion that a country's currency depreciation will improve its trade balance with the rest of the world only if the sum of the price elasticities of its exports and imports is greater than one.

 

d.). Crowding Out - Crowding out is a phenomenon that occurs when increased government involvement in a market economy sector has a significant impact on the rest of the market, either on the supply or demand side of the market.

 

e.). Monetary transition mechanism - This is the process by which monetary policy decisions affect the economy and, in particular, the price level. Long, variable, and uncertain time lags characterize the transmission mechanism. As a result, predicting the precise impact of monetary policy actions on the economy and price level is difficult.

 

f.). Neutrality of money -  This is an economic theory that states that changes in the money supply affect only nominal variables and not real variables.

 

g.). Sterilization - This is a monetary action taken by central banks to mitigate the negative effects of capital inflows or outflows from a country's economy.

 

h.). Devaluation - This is the intentional depreciation of a country's currency in relation to another currency, group of currencies, or currency standard. This monetary policy tool is used by countries with a fixed or semi-fixed exchange rate.