The Liquidity-Preference Theory Assumes That the Interest Rate Adjusts to Balance

question 43

Essay

The liquidity-preference theory assumes that the interest rate adjusts to balance the money demand and supply, where the money supply is arbitrarily determined by the central bank. However, we have previously learned that the central bank controls the money supply precisely by changing the interest rate. How do you reconcile the liquidity-preference theory with using the interest rate as a monetary policy tool?

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Definitions:

Prejudice

Preconceived opinion or bias, often stemming from stereotypes, towards an individual or group without sufficient knowledge, reason, or direct experience.

Stereotyping

The act of assigning a set of characteristics to a group of people, disregarding individual differences.

Frustration-Aggression Principle

A theory suggesting that frustration often leads to aggressive behavior, as aggression is a result of blocked goal achievement.

Implicit Associations

The automatic and unconscious associations people make between different concepts and beliefs, which can influence attitudes and behavior.