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A New Interpretation of the Mechanism for the Determination of Interest Rate and Its Policy Implications

Author

Listed:
  • Huang, Wenge
  • Zhang, Jinsong

Abstract

This paper first indicates that saving equals to the liquidity preference plus the supply of loanable funds and the liquidity preference is just opposite to the supply of loanable funds. Meanwhile, the paper proposes a new model in which interest rate is determined by the investment demand curve and the symmetrical curve of the liquidity preference curve about Y axis. On such basis, the paper notes that the existence of liquidity preference makes effective demand always deficient. Thus market failure becomes the norm and the government is obliged to take aim at the interest rate which is determined by the desired investment and desired saving. So far the paper has thoroughly clarified how interest rate is determined and constructed a new and compact macroeconomic analytical framework. Further, the paper attempts to discuss the new model’s inspiration to Taylor rule and other deductions brought by the new model.

Suggested Citation

  • Huang, Wenge & Zhang, Jinsong, 2015. "A New Interpretation of the Mechanism for the Determination of Interest Rate and Its Policy Implications," MPRA Paper 66208, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:66208
    as

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    File URL: https://mpra.ub.uni-muenchen.de/66208/1/MPRA_paper_66208.pdf
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    References listed on IDEAS

    as
    1. Don Patinkin, 1958. "Liquidity Preference and Loanable Funds : Stock and Flow Analysis," Economica, London School of Economics and Political Science, vol. 25(100), pages 300-318, November.
    2. Victoria Chick, 1983. "Macroeconomics after Keynes: A Reconsideration of the General Theory," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262530457, December.
    3. J. M. Keynes, 1937. "The General Theory of Employment," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 51(2), pages 209-223.
    Full references (including those not matched with items on IDEAS)

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    Cited by:

    1. Abeti, Wilson, 2020. "The State of Ghana's Economy: A Comparative Analysis," MPRA Paper 102131, University Library of Munich, Germany.

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    More about this item

    Keywords

    liquidity preference; supply of loanable funds; saving; determination of interest rate; insufficient effective demand;
    All these keywords.

    JEL classification:

    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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