 (slide 5) The Theory of Liquidity Preference this  (slide 7) change money supply

theory about is based on the famous book of the
general theory of employment interest and money
written by john miner Keynes. Basically this is due to
or it was the aim of this book to explain the factors
that determine the economy interest rate
The first one is money supply The quantity of money
supplied in the money market is fixed according to
the policies of the central bank, in other words, the
supply of money does not depend on interest rates.
Money demand The liquidity of money explains the
demand for money itself. While the interest rate is
the opportunity cost of holding money. When the 
interest rate increases, the cost of holding money
increases and the result reduces the quantity of
money demanded, and vice versa
Equilibrium in the Money Market. The interest rate
adjusts to the balance of supply and demand. The
equilibrium interest rate is when the quantity of
money demanded is equal to the quantity of money
supplied. If the interest rate is at another level,
people will try to adjust their assets so that the result
will push the interest rate to the point of equilibrium
One important variable that shifts the aggregate
demand curve is monetary policy.
When the central bank increases the money supply,
interest rates fall and the quantity demanded of goods
and services at a given price level increases, causing the
aggregate demand curve to shift to the right. On the
other hand, when the central bank decreases the
money supply, interest rates rise and the quantity
demanded of goods and services at a given price level
falls, causing the aggregate demand curve to shift to the
left.
(slide 12) how fiscal policy influences aggregate
demand The government can influence the behavior of
the economy not only with monetary policy, but also
with fiscal policy. Fiscal policy refers to the
government’s choices regarding the overall level of
government purchases or taxes
Changes in Government Purchases. When policymakers
change the money supply or taxes, the effect on
aggregate demand is indirect - through the spending
decisions of firms or households. When the government
changes its own purchases of goods or services, it shifts
the aggregate direct demand curve. There are two
macroeconomic effects that cause a shift in the
aggregate demand curve to differ from a change in
government spending: The first is the Multiplier effect,
The second is the crowding-out effect

Multiplying Effect: Government purchases The Crowding-Out Effect In addition, increase in

are said to have a multiplier effect on
aggregate demand, The additional shift in
aggregate demand that occurs when an
expansionary fiscal policy increases income
causing an increase in consumer spending.
A Formula for the Spending Multiplier. If you
get another dollar of income and you choose
to spend ¾ (three fourths) of it and save ¼
(one fourths) the marginal propensity to
consume would be ¾ the marginal propensity
to save would be ¼ so the marginal
propensity to save is 1 minus the marginal
propensity to consume, so the multiplier is
the equal to 1 over 1 minus MPC
Other Applications of the Multiplier Effect.
The multiplier is an important concept in
macroeconomics because it shows how the
economy can amplify the impact of changes
in spending. A small initial change in
consumption, investment, government
purchases, or net exports can end up having a
large effect on aggregate demand and,
therefore, the economy’s production of
government spending is going end up causing an
increase in the interest rate which causes a decrease in
investment which ends up causing decrease in
aggregate demand
Changes in Taxes Another fiscal policy tool, tax cut
means that households have more money to spend.
Some is going to saved but some is going to be spent. It
depends on the marginal propensity to consume and
the marginal propensity to save some is spend and that
increases aggregate demand. Tax increase shifts
aggregate demand to the left
apart from the level of government spending, is the
level of taxation. If the government lowers the personal
income tax, for example, the net income of the
household will also increase. Households will save some
of this additional income, but they will also spend some
on consumer goods. Because it increases consumer
spending, a decrease in taxes shifts the aggregate
demand curve to the right. Similarly, a tax increase
depresses consumer spending and shifts the aggregate
demand curve to the left.
 (slide 18) Automatic stabilizers are changes in fiscal
policy that stimulate aggregate demand when the
economy goes into a recession without policy makers
having to take any deliberate action. Automatic
stabilizers include the tax system and some forms of
government spending.
goods and services.