Survey
* Your assessment is very important for improving the workof artificial intelligence, which forms the content of this project
* Your assessment is very important for improving the workof artificial intelligence, which forms the content of this project
Econ 212 Prof. Cotton In Class Exercise #3 Let: MS = money supply MD = money demand i = interest rate Assume for a given economy: (i) Consumers spend $100 billion plus 80% of after-tax income, or C 100 0.8(Y Tx) . (ii) Investment demand is decreasing in the interest rate, such that I 250 1000i . (iii) Government spending is $100 billion and taxes are $125 billion, or G 100 and Tx 125 . (iv) The total money demand curve for this economy is an inverse function of the rate of interest and is given by the equation MD 1200 1000i . (v) The required reserve ratio for banks in this economy is 15%. The total of reserves in the banks is $150 billion. No bank holds excess reserves. In addition to reserves, there is $100 billion in cash in the economy. Econ 212 Prof. Cotton FOR EACH ANSWER, SHOW ALL YOUR WORK. I. (a) What is the total money supply? (Hint: begin with (v) above, and use the required reserve ratio and total amount of reserves to find your answer.) (b) Graph the market for money, including the money demand curve and the money supply curve. (Hint: Remember that the money supply curve is a vertical line.) (c) What is the equilibrium interest rate? (Hint: in equilibrium, money supply equals money demand. This is the equilibrium price in the market for money from part (b). The answer is 5%, 10%, 15%, 20% or 25%.) (d) What is the equilibrium level of investment, I, given this interest rate? (e) What is the equilibrium level of national income, Y? II. The central bank wants to achieve national income of $1500 billion through open market operations. (a) What must investment be for the equilibrium level of national income to be $1500 billion? (b) At what interest rate is this level of investment achieved? (c) If the central bank pursues this level of national income through open market operations, should it buy or sell bonds? (d) Assume that the open market operation increases the money supply through its affect on deposits (i.e., cash stays constant at $100 billion). Banks hold no excess reserves. How many dollars in bonds must the central bank buy or sell to achieve this desired interest rate? (Hint: first determine the money supply necessary to achieve the desired i, then using the required reserve ratio, determine the dollars in bonds bought or sold.) (e) If instead of open market operations the central bank pursues this equilibrium level of national income by changing the required reserve ratio, should it increase or decrease the ratio?