Money and finance in Keynesian models

Chapter 14 provides a retrospective look at literature from the 1960s to the mid-1990s that developed a general equilibrium approach to financial institutions and financial markets. Keynesian and monetarist economists stressed the interrelationships between financial and real factors in determining variables such as output and inflation. A literature also emerged that examined the role of “financial frictions†in the transmission mechanism for monetary policy. Notable developments during this period include models that feature an external finance premium and a financial accelerator mechanism. This older literature is a useful background for evaluating efforts to integrate financial factors into a newer generation of dynamic stochastic general equilibrium models. Also of interest are the reasons these considerations in the earlier literature were banished from mainstream frameworks for policy analysis. This chapter also touches on the theory of the banking firm.