CH. 5-6 macro
According to the quantity theory of money, a 5 percent increase in money growth increases inflation by ___ percent. According to the Fisher equation, a 5 percent increase in the rate of inflation increases the nominal interest rate by ____ percent.
5;5
An economy with constant velocity has real GDP growth of 3 percent, money growth of 7 percent, and a real interest rate of 2 percent. The nominal interest rate is
6
Purchasing Power Parity
A monetary measurement of development that takes into account what money buys in different countries.
How will a permanent (once-and-for-all) increase in the level of interest rates affect the level and growth rate of velocity?
A one-time increase in the nominal interest rate will cause a one-time increase in velocity, but it will not affect the growth rate of velocity.
If real income growth were higher, inflation would be
Lower
According to the quantity equation, the percentage change in P is approximately equal to the percentage change in:
M minus the percentage change in Y plus the percentage change in velocity.
quantity equation
M x V = P x Y, which relates the quantity of money, the velocity of money, and the dollar value of the economy's output of goods and services
Which equation is used to derive the quantity theory of money?
MV=PY
public savings formula
T-G
if an import restriction does not influence domestic investment or saving, it causes a country's currency to
appreciate, resulting in an unchanged trade balance
If an import restriction does not influence domestic investment or saving, it causes the country's currency to __________, resulting in an _____________ trade balance
appreciate, unchanged
if the demand for real money balances depends on the nominal interest rate then higher inflation
arise from the expectation of future money growth
If the demand for money depends on the nominal interest rate, then via the quantity theory and the Fisher equation, the price level depends on:
both the current and expected future money supply.
Hyper inflation tend to occur
central banks finance large government deficits
monetary neutrality
changes in the money supply have no real effects on the economy
other things equal , an increase in government purchases of goods and services pushes the trade balance toward_______ and causes the currency to ______
deficit, appreciate
nominal exchange rate
determined by the real exchange rate and the price levels in the two countries. other things equal a high rate of inflation leads to a depreciating currency.
real exchange rate =
e x (P/P*) e.g. (yen per dollar x $per unit U.S. goods) / yen per unit Japanese goods
the impact of any policy on the trade balance can be determined by
examining its impact on saving and investment. Policies that raise saving or lower investment lead to a trade surplus and policies that lower saving or raise investment lead to a trade deficit.
NX formula
exports - imports
inflation and nominal interest rates are:
highly positively correlated
Fisher equation
i = π + r
the world interest rate determines the country's level of
investment S - I = NX
When a nation runs a trade deficit,
it experiences a capital inflow.
According to the classical theory of money, reducing inflation will not make workers richer because firms will increase product prices _____ each year and give workers _____ raises.
less; smaller
When investment decreases,
net exports increase
Variables expressed in terms of money are called _____ variables.
nominal
Suppose the government increases both taxes (T) and government purchases (G) by equal amounts. Assuming income (Y) is fixed by the factors of production, the change in national saving (ΔS) will be
(MPC - 1) * (change in T)
Purchasing Power Parity (PPP)
- a doctrine that states that goods must sell at the same (currency-adjusted) price in all countries - the nominal exchange rate adjusts to equalize the cost of a basket of goods across countries e x P = P*
In an open economy,
- spending need not equal output - saving need not equal investment
Assumptions about capital flows
1. Domestic and foreign bonds are perfect substitutes 2. Perfect capital mobility, no restrictions on international trade in assets 3. Economy is small, cannot affect world interest rate r*
An economy produces 50 widgets, which sell for $4 each and has a money supply of $100. The velocity of money is
2
Suppose the price of a cup of coffee is $3 in Boston and 6 euros in Berlin. Use this information to properly answer the following question.According to the theory of purchasing power parity, the exchange rate is
2 euros per dollar
suppose the price of a cup of coffee is $3 in boston and 6 euros in Berlin. According to the theory of purchasseing power parity , the exhange rate is
3 euros per dollar
Some economic historians have noted that during the period of the gold standard, gold discoveries were most likely to occur after a long deflation. What might explain this observation?
After a long period of deflation, an ounce of gold would buy more goods and services. This created a greater incentive to look for new gold deposits.
expansionary fiscal policy abroad
An increase in world interest rate r* lowers real exchange rate and raises NX
According to the Fisher effect, an increase in _______ inflation causes an equal increase in the _________interest rate.
Expected, nominal
Net capital outflow
S-I= net outflow of "loanable funds"
Does S or I depend on real exchange rate?
No NX(epsilon) = S - I(r*)
A newspaper article once reported that the U.S. economy was experiencing a low rate of inflation. It said that "low inflation has a downside: 45 million recipients of Social Security and other benefits will see their checks go up by just 2.8% next year." Is the small increase in benefits a "downside" of low inflation, as the article suggested?
No, as long as inflation is measured correctly, Social Security beneficiaries' purchasing power will not change.
national savings formula
Private savings plus public savings
Trade policy to restrict imports
Raises real exchange rate and S-I, NX stays the same
Expansionary Fiscal Policy Abroad
Raises the world interest rate and lowers Investment while raising NX
Real Exchange rate when there is expansionary fiscal policy at home
Reduces national saving, net capital outflow, and supply of dollars in the market causing REAL EXCHANGE RATE to rise and NX to fall
A country is a borrower when
S < I and when NX < 0
A country is a lender when
S > I
Suppose that instead of a constant money demand function, the velocity of money in this economy was growing steadily due to financial innovation. Assuming everything else was unchanged, how would that affect the inflation rate?
The inflation rate would increase.
real money balances
The quantity of money expressed in terms of the quantity of goods and services it can buy; the quantity of money divided by the price level (M/P).
If real exchange rate rises
U.S. goods become more expensive relative to foreign goods exports fall, imports rise net exports fall
Because most loans are specified in nominal terms, high______inflation hurts____
Unexpected, creditors
The national income identity in an open economy:
Y = C + I + G + NX or NX = Y - (C + I + G)
Private Savings Formula
Y-C-T
which of the following events would cause a currency to depreciate
a rise in the price level
When a person purchases a 90-day Treasury bill, he or she cannot know the: a. ex post real interest rate. b. ex ante real interest rate. c. nominal interest rate. d. expected rate of inflation.
a. ex post real interest rate.
The ex post real interest rate will be greater than the ex ante real interest rate when the:
actual rate of inflation is less than the expected rate of inflation
If nominal wages cannot be cut, then the only way to reduce real wages is by:
adjustments via inflation
Expansionary Fiscal Policy at home
an increase in G and a reduction in T reduces savings and NX is decreased; I is not changed
The concept of monetary neutrality in the classical model means that an increase in the money supply growth rate will increase:
nominal interest rates.
trade surplus
output > spending and exports (x) > imports (IM) size of trade surplus: NX
To end a hyperinflation, a government trying to reduce its reliance on seigniorage would:
raise taxes and cut spending.
An increase in investment demand
raises the interest rate but the equilibrium level of investment cannot increase because the supply of loanable funds is fixed
A decrease in amount of currency
raises the real exchange rate, making the country less competitive in the global markets
Fisher Equation
real interest rate = nominal interest rate - inflation rate
An increase in investment demand
reduces S-I and the supply of dollars in the foreign market, raising real exchange rate and lowering NX
the net exports function
reflects the inverse relationship between NX and real exchange rate NX = NX(epsilon)
Seigniorage
revenue raised by printing money
The larger is the MPC (the closer it is to 1), the _____ will be the decline in investment, and the _____ will be the increase in the interest rate.
smaller; smaller
other things equal, an increase in the world interest rate pushes the trade balance toward_______and causing the currency to__________
surplus, depreciate
how do economists define the 'real interest rate'?
the difference between the nominal interest rate and the rate of inflation
net capital outflow
the excess of domestic saving over domestic investment
real exchange rate
the price of domestic goods relative to foreign goods
nominal exchange rate (e)
the relative price of domestic currency in terms of a foreign currency e.g. yen per dollar
real exchange rate (epsilon)
the relative price of domestic goods in terms of foreign goods e.g. # Japanese Big Macs per U.S. Big Mac
classical dichotomy
the theoretical separation of nominal and real variables
Which is true concerning the relationship between money growth and inflation?
there is a strong correlation between growth in the money supply and inflation
A newspaper article once reported that the U.S. economy was experiencing a low rate of inflation. It said that "low inflation has a downside: 45 million recipients of Social Security and other benefits will see their checks go up by just 2.8% next year." Policymakers link increases in Social Security and other benefits to inflation because:
they wish to ensure that the real value of these benefits is constant over time.
Quantity equation if V is constant
π = %change in M - Real GDP Growth
What is the relationship between the parameter k and the velocity of money?
𝑉=1/𝑘: k is inversely related to velocity, i.e., the more money people hold for a given real income, the smaller velocity is, and vice versa.