Free Economics Dissertations - 2) Now If The Parameter O Is 0, Equation (1.1) Is Obtained Equation (1.2) Can
2)
Now if the parameter O is 0, equation (1.1) is obtained equation (1.2) can also be rearranged to give:
Et Xt + I=(I + 0) Xt 0Xt I(1.3)
Where the expectation is a weighted average of the two most recent actual values used. This can be regarded as a particular case of
Et Xt + I=bo Xt + b1 Xt 1 + b2 Xt 2 + (n) (1.4)
Where the expectation is determined by the current and all past actual values. A common restriction for equation (1.4) and which has theoretical attractions, is to assume
Bi=(I 1) 1i0 < 1 < I(1.5)
Which gives the geometric distributed Lag or the Koyck Lag. Substitution of (1.5) into (1.4) and by lagging the resulting equation one period we obtain:
Et Xt + I- Et I Xt = I 1 (Xt Et IXt)(1.6)
This was used by Cagan (1956), who evaluates the right hand side for different values of 1.
In equation (1.6), the current expectation is a weighted average of the previous expectation and the current actual rate of X. Alternatively, (1.6), which is the version commonly known as the adaptive expectations model or the error learning mechanism expresses the change in the expectation as an adjustment depending on the error between the actual rate of X from t 1 to t and the expectations for that period.
Carlson and Parkin (1975) modified equation (1.6) by the addition of a of a second error term. Frenkel (1975) suggested a model which combines both regressive and adaptive components. These variations require the appropriate adjustment coefficients to be constant.
A criticism which applies to these models id that information other than past actual value of X and past expectations is ignored. Therefore, a much wider information set will thus be relevant in determining current expectations.
DEMAND MANAGEMENT POLICIES
In relation to monetarist policies effect on demand, it is argued that a rough correlation between changes in the money supply and changes in the level of economic activity is accepted by most economists. But there is controversy over how this correlation is to be interpreted. Do changes in money supply cause changes in the level of aggregate demand, and hence of business activity or vice-versa? Friedman and Schwartz (1963) argue that changes in the money supply cause changes in business activity. There argument was based on the Great Depression of the 1930’s, where a major contraction in the money supply, shifted the aggregate demand curve far to the left. This led the monetarists to advocate a policy of stabilizing the growth of money supply.
Keynesians believe that both monetary and non-monetary forces are important in explaining cycles. Although they accept serious monetary mismanagement as one potential source of economic fluctuations, they do not believe that it is the only, or even the major, source of such fluctuations.
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