Macroeconomics Finals
Real and nominal variables are highly intertwined, and changes in the money supply change real GDP. Most economist would agree that this statement accurately describes
The short run, but not the long run
shifts in aggregate supply curve
labor, capital, natural resources, technological knowledge,
classical theory is believe to describe ___ but not ___ by most economist
long run short run
aggregate supply curve
long run : vertical short run : upward only impacts overall price level but not output
exchange-rate effect
lower price level reduces the interest rate, investors move some of their funds overseas in search of higher returns. Real value of the domestic currency to fall in the market for foreign-currency exchange. Domestic goods become less expensive relative to foreign goods. This increases the quantity of goods and services demanded.
Stick wage theory
- In the short run, nominal wages do not adjust to market forces quickly. - When nominal wages are fixed, an increase in price level decreases the real wages. - Firms will hire more workers due to lower real wages, which increases the quantity of goods and services supplied.
If the sacrifice ratio is 3, then reducing the inflation rate from 5 percent to 3 percent would require sacrificing
6% of annual output
If M = 2,000, P = 2.25, and Y = 6,000. What is the velocity?
6.75 (MV=PY or V = PY/M = 2.25 * 6,000 / 2,000 = 6.75)
Board of Governors
7 members appointed 14 year terms chair is most important - presides over board meetings, testifies in front of congressional committees, 4-year terms
interest-rate effect
A lower price level reduces the amount of money people want to hold. People try to lend out their excess money holdings, the interest rate falls. The lower interest rate stimulates investment spending and thus increases the quantity of goods and services demanded.
Consider the figure above with four different lines A, B, C and D. In this order, which curve is a long-run Phillips curve and which is a short-run Phillips curve?
A, D
The short-run relationship between inflation and unemployment is often called
The Phillips curve
The long-run aggregate supply curve shifts right if
Technology improves
reserves
deposits that banks have received but have not loaned out
rational expectations
expectations formed by using all available information about an economic variable and policies, people adjust their expectations of inflation
quantity theory of money
expl
Unit of account
the yardstick people use to post prices and record debts
problems Fed's have to handle
1 : Fed does not control the amount of money that households choose to hold as deposits in banks 2 : Fed does not control the amount that bankers lend
reasons for fall in price level and increase in demand
1 : consumers become wealthier 2: interest rate falls 3: currency depreciates (NX increase) all can work conversely
Steps to analyzing fluctuations
1 : decide which curve it changes 2 : decide direction it shifts 3 : determine the impact on the price level and demand 4 : move the curve and analyze how he economy moves to adjust to this change
The Employee Act
1 : government should avoid being a cause in economic fluctuation 2 : government should respond to changes in the private economy to stabilize aggregate demand
analysis of interest-rate effect
1 : higher prices raise money demanded 2 : higher money demanded leads to higher interest rates 3 : higher interest rates reduces the quantity of goods and service demanded
Feds jobs
1. Regulate banks and ensure the health of the banking system 2. Control the quantity of money that is available in the economy
If the reserve ratio is 12.5%, then 2,000 of additional reserves can create up to __
16,000 of new money ( 1 / 0.125 = 8; 8 * 2,000 = 16,000)
The nominal interest rate is % and the inflation is 3%. What is the real interest rate?
3% (R - i - inflation: 6% - 3% = 3%)
If the MPC = 0.75, then the government purchases multiplier is about
4
How long does it take for monetary policies to impact? How long does the impact stay?
6 months several years
Which of the following effects helps to explain the slope of the aggregate demand curve?
ALL - interest-rate effect, wealth effect, exchange-rate effect.
multiplier effect
An effect in economics in which an increase in spending produces an increase in national income and consumption greater than the initial amount spent. and has an effect on aggregated DEMAND
Which of the following is an example of crowding out?
An increase in government spending increases interest rates, causing investment to fall
supply shock
An unexpected event that causes the short-run aggregate supply curve to shift and the phillips curve - pandemic
If the central bank unexpectedly increases the money supply, then in the short run unemployment will move
Below its natural rate. The short-run Phillips curve shifts right as the economy moves back to its natural rate of unemployment
In 2009 Congress passed legislation providing states with funds to build roads and bridges. It also institutes tax cuts. Which of these shifts aggregate demand right?
Both increased funding for states and the tax cuts
Consider the economy is in long-run equilibrium. Then stock prices rise more than expected and stay high for some time. In the short run what happens to the price level and real GDP?
Both the price level and real GDP rise
When the Federal Reserve conducts open-market operations to increase the money supply, it
Buys government bonds from the public
Proponents of rational expectations argued that the sacrifice ratio
Could be low because people might adjust their expectations quickly if they found anti-inflation policy credible
Which list ranks assets from most to least liquid?
Currency, stocks, fine art
Sale of bonds
Decreases the money supply
When the price level falls, the number of dollars needed to buy a representative basket of goods
Decreases, so the value of money rises
According to the quantity equation (also known as the equation of exchange), the price level would change less than proportionately with a rise in the money supply if there were also
Either a rise in output or a fall in velocity
Consider the figure above, if the current money supply is MS1, then
Equilibrium exists when the value of money is 2
During a recession the economy experiences
Falling employment and income
If the Fed increases the money supply, the 1/P
Falls, so the value of money falls
business cycle
Fluctuations in economic activity, such as employment and production
FORMULA
GDP : Y = C + I + G + NX
Fiscal policy
Government policy that attempts to manage the economy by controlling taxing and spending.
Fiat Money :
Has no intrinsic value
Last year, Jane spent all of her income to purchase 200 units of corn at $5 per unit. This year, she spent all of her income to purchase 180 units of corn for $6 per unit.
Jane's nominal income increased this year, but her real income decreased.
If the reserve ratio decreases, the money multiplier
Increase
Keynes believed that economies experiencing high unemployment should adopt policies to
Increase aggregate demand
If monetary neutrality holds, then an increase in the money supply
Increases nominal but not real variables. Most economists think that monetary neutrality is a good description of the long run.
Buying of bonds
Increases the money supply
When the interest rate increases, the opportunity cost of holding money
Increases, so the quantity of money demanded decreases
theory of liquidity preferance
Keynes's theory that the interest rate adjusts to bring money supply and money demand into balance
Martha lends money at a fixed interest rate and then inflation turns out to be higher than she expected it to be. The real interest rate she earns is
Lower than she had expected, and the real value of the loan is lower than she had expected.
Higher inflation makes relative prices
More variable, making it less likely that resources will be allocated to their best use
FORMULA
Multiplier = 1+MCP +MPC^2+MCP^3+... -OR- Multiplier = 1/(1-MPC)
According to Friedman and Phelps, policymakers face a tradeoff between inflation and unemployment
Only in the short run
The left-hand graph shows a short-run aggregate-supply (SRAS) curve and two aggregate-demand (AD) curves. On the right-hand diagram, there is a Philips curve and the axis label U represents the unemployment rate. If the price level in the previous year was 100, point F on the right-hand graph corresponds to
Point B on the left hand graph
FORMULA
Quantity Equation = M*Y=P*Y
Economic variables whose values are measured in goods are called
Real variables
In 2021 the U.S. has seen ______ inflation and if it continues you would expect the Federal Reserve to _____ interest rates.
Relatively high; raises
Other things the same, when the price level rises, interest rates
Rise, so firms decrease investments
Which is included in M2 but not in M1?
Savings deposits
Money
Set of assets in the economy that people regularly use to buy goods and services from each other
Suppose that the MPC is 0.7, and there are no crowding-out effects. If government expenditures increase by $30 billion, then aggregate demand
Shifts rightward by $100 billion
Again consider the economy is in long-run equilibrium and then stock prices rise more than expected and stay high for some time. In the long run, the change in price expectations created by the stock market boom shifts
Short-run aggregate supply left
You save $500 in currency on your piggy bank to purchase a new laptop. The $500 you kept in your piggy bank illustrates money's function as a ____. The laptop's price is posted as $500. The $500 price illustrates money's function as a ______. You use the $500 to purchase the laptop. This transaction illustrates money's function as a ____.
Store of value, unit of account, medium of exchange
shoeleather cost
The cost of inflation from reducing real money balances, such as the inconvenience of needing to make more frequent trips to the bank.
The interest rate the Fed charges on loans it makes to banks is called
The discount rate
Using the liquidity-preference model, when the Federal Reserve decreases the money supply,
The equilibrium interest rate increases
Marginal Propensity to Consume (MPC)
The fraction of any change in disposable income spent for consumer goods; equal to the change in consumption divided by the change in disposable income
Critics of stabilization policy argue that
The lag problem ends up being a cause of economic fluctuations
Which of the following is not an automatic stabilizer?
The minimum wage
If aggregate demand shifts left, then in the short run
The price and real GDP both fall
Again consider the economy is in long-run equilibrium and then stock prices rise more than expected and stay high for some time. After the economy adjusts to a new long run equilibrium how is the new long-run equilibrium different from the original one?
The price level is higher and real GDP is the same
The sticky-wage theory of the short-run aggregate supply curve says that the quantity of output firms supply will increase if
The price level is higher than expected making production more profitable
crowding-out effect
The reduction in aggregate demand that results when a fiscal expansion raises the interest rate
A change in expected inflation shifts
The short-run Phillips curve, but not the long run Phillips curve
An increase in the expected price level shifts the
The short-run but not the long-run aggregate supply left
A basis for the slope of the short-run Phillips curve is that when UNEMPLOYMENT is LOW there are
Upward pressures on prices and wages
FORMULA
Velocity of Money = (P [Price of output] * Y [amount of output])/M [quantity of money]
wealth effect
a lower price level increases real wealth, which stimulates spending on consumption
depression
a severe recession
inflation tax
a tax to everyone that is holding money price levels rise and money falls, so money in wallets become less valuable
double coincidence of wants
the unlikely occurrence that two people each have a good or service the other wants
Fisher effect
adjustment of the nominal interest rate to the inflation rate
Federal Reserve - Fed
agency in America that is responsible for regulating the money system
money multiplier
amount of money the banking system generates with each dollar of reserves
excess reserves
amount that the banks choose to hold over the legal minimum
central bank
an institution designed to oversee the banking system and regulate the quantity of money
Store of value
an item that can use to transfer purchasing power from the present to the future
Medium of exchange
an item that the buyer givers the seller when they purchase goods or services
demand deposit
balances in bank accounts that depositors can access on demand simply by writing a check or swiping a debit card at a store
capital requirement
bank regulators require banks to hold a certain amount of capital
discount rate
banks borrow from the Fed's discount window and pay an interest rate on a loan high rates discourage borrowing - decrease supply low rates encourage borrowing - increase supply
Automatic stabilizers
changes in fiscal policy that stimulate aggregate demand when the economy goes into a recession without policymakers having to take any deliberate action - tax system - government spending
real interest rate
corrects nominal interest rate for the effect of inflation to tell how fast you the purchasing power of your saving account will raise overtime
menu cost
cost of price adjustment
Why should I NOT reject the conclusions of the rational expectations theorists?
cost was not as large as economist originally expects it was aimed at monetary policies to lower inflation, although people did not believe it, the inflation lower quickly
M1
currency, demand deposits, traveler's checks, and other checkable deposits
monetary policy
decisions by policy makers concerning the money supply
a ___ price level reduces the interest rate. Therefore, __ the demand
decrease, raises
a ___ in price levels encourages spending and raises the real value of money and makes consumers wealthier. This _____ the demand of items.
decrease; increase
module of aggregate supply and aggregate demand
demand downward sloping supply upward sloping price level as vertical axis quantity of output as horizontal axis
short run
focuses on fluctuations in 1 : economy's output in goods and services measured by real GDP 2 : average level of prices measured by CPI or GDP deflator
reserve ratio
fraction of total deposits that banks hold as reserves
misery index
gauge the health of the economy
aggregate demand curve
if the price level changes, it inversly changes the quantity demands (low price = high demand)(high price = low demand) GDP is shown in demand curve
Federal Reserve Board
in Washington DC 12 regional Federal Reserve Banks
Monetary policies
in terms of money supply or interest rates 1 : expanding aggregate demand = increase money supply or decrease interest rates 2 : contracting aggregated demand = lower money supply or increase interest rates
a ___ price level raises the interest rate. Therefore, __ the demand
increase, lowers
a ___ in price levels does not encourage spending and lowers the real value of money and makes consumers poorer. This _____ the demand of items.
increase; decrease
money neutrality
irrelevance of monetary changes to real variables
reserve requirement
minimum amount of reserves that banks must hold
FORMULA
money multiplier = 1/(reserve ratio)
Fiat money
money that does not have real value attached to it other than the value that the government (or maker of the money) states
Commodity money
money that takes form of a commodity with intrinsic value - gold, cigarettes
inflation
overall increase in prices
the misperceptions theory
overall price changes can temporarily mislead suppliers about what it happening in their market. this can cause suppliers to change the levels of prices and response equals an upward facing aggregate supply curve
sacrifice ratio
percentage points of annual output lost per 1 percentage point reduction in inflation
recession
period when income is falling and unemployment is rising relatively mild
investment accelerator
positive feedback from demand to investment
equilibrium interest rate
quantity of money demanded exactly balances the quantity of money supplied
money supply
quantity of money that is made available in the economy
nominal inter
rate that your hear about at your bank
leveraging ratio
ratio of the banks total assets to bank captial
FORMULA
real interest rate = nominal interest rate - inflation rate
inflation rate DOES NOT
reduce people's real purchasing power itself
deflation
reduction in the price level
disinflation
reduction in the rate of inflation
Quantity equation
relates the quantity of money to the nominal value of output
bank captial
resources that a bank obtains from issuing equity to its owners
M2
savings deposits, small time deposits, money market mutual funds, a few minor categories, and everything in M1
classical dichotomy
separation of real and nominal variables
when price levels rise
the value of money falls
Phillips curve
short run relationship between inflation and unemployment
aggregate-demand curve
shows quantity of goods and services that households, firms, and the government want to buy at each price level
aggregate-supply curve
shows the quantity of goods and services that firms produce and sell at each level
velocity of money
speed at which the typical dollar bill travels around the economy from wallet to wallet
Shifts in aggerate demand curve
taxes, saving for retirement, investment, money policies, government purchases, net exports (consumption, investment, government purchases, net exports)
fractional-reserve banking
the amount of reserves held are a fraction of the amount of deposits made
Liquidity
the easy with which an asset can be converted into the economy's medium of exchange
stagflation
the economy is experiencing both stagnation (falling output) and inflation (rising prices) the event is called
federal funds rate
the interest rate banks charge each other for short-term loans
natural rate of unemployment
the normal rate of unemployment around which the unemployment rate fluctuates
Currency
the paper bills and coins in the hands of the public
reserve requirements
the regulations that set the minimum amount of reserves that banks must hold against their deposits
quantitative easing
the targeted use of open market operations in which the central bank buys securities specifically targeted in certain markets (mortgaged backed securities and longer-term government bonds) to lower interest rates
barter
to exchange of good or service for another
FORMULA
unemployment rate = natural rate of unemployment - a (actual inflation - expected inflation)
leverage
use of borrowed money to supplement existing funds
real variables
variables measured in physical units
natural level of output
what the economy produces when unemployment is at its natural or normal rate
open-market operations
when the Feds buy or sell government bonds