Download AP Week 12 - Ector County ISD.

Week 12 AP
This week you need to read modules 25-29 and create vocabulary cards.
You read module 22 last week and did the cards for that module.
Due next Monday
Copy the PP that have a star on them this week at home so that you can
practice more in class.
Monday- This week make sure you are reading
modules 25, 28, 29 (26 and 27 if you miss classes) Do
Vocabulary in 22, 25, 28, 29- test on Monday
able to describe and create a Loanable funds graph and explain what causes shifts. They will be able to
• Objective beexplain
what happens to the real interest rate and what crowding out is. They will be able to create a
Phillips curve and analyze where the points from ADAS would go on the Phillips curve.
Objective
they will be able to read the notes on PP, be able to discuss them with the class and write in their
notebooks. They will be able to use correct terms for the graphs and in the explanations
EQ
How does the demand for money change the interest rates? What impact does the government have on the
interest rates when it borrows to pay for the spending?
Voc
Crowding out, Loanable Fund Graph, Phillips curve
1. Explain the results of
Calvin’s proposal using AS
and AD. Start at
equilibrium and show the
shift.
2. Draw an Inflationary Gap.
3. Draw a Recessionary Gap.
4. Define Stagflation.
5. Bonus. If gap is 20 Million and
the MPC is ____ what is the
multiplier and how much is
needed to close the gap? YOU
MUST SHOW THE MATH!
3
Review from last week
• What does it mean when you hear, “pay yourself first?”
• THE RULE OF 72 (SOMETIMES CALLED RULE OF 70)
• This rule tells you how long it would take to double your savings at
different interest rates.
• 72/interest percent.
• So you can double 5000.00 at an interest rate of 2% in 36 years.
• How long would it take at 5%? At 10%?
• Does the interest rate matter when you are saving or investing your
money?
Copy at home
Discuss and make sure understood the differences
• The amount of savings is equal to the amount of investment.
• Banks loan savings to businesses and consumers.
• Economist view investment spending as spending on real capital. The
investment discussed in this module is financial investment (savings
accounts, stocks, bonds. . .)
Two instrumental sources of ECONOMIC
GROWTH:
• 1. INCREASE IN SKILLS AND KNOWLEDGE – HUMAN CAPITAL
• 2. INCREASES IN CAPITAL (GOODS USED TO MAKE OTHER GOODS)
ALSO REFERRED TO AS PHYSICAL CAPITAL.
Review
At home
Module 29
Unit 4:
Money and
Monetary Policy
7
Loanable Funds Market
8
Loanable Funds Market
• The Loanable Funds Market is a variety of financial markets like banks
and bond markets that bring together borrowers and lenders of
money.
In class
Loanable funds:
The money for investment
Comes from savings.
The cost of borrowing is the
Interest rate.
When the rates go up
Then firms are less likely
To invest in capital goods.
All businesses weigh the
Benefits of investment purchases
The marginal benefit has to be
Greater than the cost.
How would the investment demand curve
Relate to the loanable funds?
CROWDING OUT.: is the concept that when
government increases spending, but has to
borrow the funds or reduces the savings it
depletes the amount of loanable funds and
drives the real interest rates up.
Loanable Funds Market
Is an interest rate of 50% good or bad?
Bad for borrowers but good for lenders
The loanable funds market is the private sector
supply and demand of loans.
• This market shows the effect on REAL
INTEREST RATE
• Demand- Inverse relationship between real
interest rate and quantity loans demanded
• Supply- Direct relationship between real
interest rate and quantity loans supplied
This is NOT the same as the money market.
(supply is not vertical)
11
Loanable Funds Market
At the equilibrium real interest rate the amount
borrowers want to borrow equals the amount lenders
want to lend.
Real Interest
Rate
SLenders
re
DBorrowers
QLoans
Quantity of Loans
12
Loanable Funds Market
Example: The Gov’t increases deficit spending?
Government borrows from private sector
Increasing the demand for loans
Real Interest
Rate
SLenders
Real interest
rates increase
causing
crowding out!!
r1
re
D1
DBorrowers
QLoans Q1
Quantity of Loans
13
Loanable Funds Market
Demand Shifters
Supply Shifters
1. Changes in perceived
business opportunities
2. Changes in
government
borrowing
• Budget Deficit
• Budget Surplus
1. Changes in private
savings behavior
2. Changes in public
savings
3. Changes in foreign
investment
4. Changes in expected
profitability
14
Interest Rates and Inflation
If the nominal interest rate is 10% and the inflation
rate is 15%, how much is the REAL interest rate?
Real Interest RatesThe percentage increase in purchasing power that a
borrower pays. (adjusted for inflation)
Real = nominal interest rate - expected inflation
Nominal Interest Ratesthe percentage increase in money that the borrower
pays not adjusting for inflation.
Nominal = Real interest rate + expected inflation
Nominal vs. Real Interest Rates
Example #1:
You lend out $100 with 20% interest. Inflation is 15%.
A year later you get paid back $120.
What is the nominal and what is the real interest rate?
Nominal interest rate is 20%. Real interest rate was 5%
In reality, you get paid back an amount with less
purchasing power.
Example #2:
You lend out $100 with 10% interest. Prices are expected
to increased 20%. In a year you get paid back $110.
What is the nominal and what is the real interest rate?
Nominal interest rate is 10%. Real rate was –10%
In reality, you get paid back an amount with
less purchasing power.
Phillips Curve
• William Phillips: 1958
• Basic Assumptions:
• There is an inverse relationship between inflation and unemployment. When
one increases the other decreases.
• If an economy has inflation, usually due to demand pull growth, (the AD shifts
right) then more workers are being hired to produce the greater number of
goods being produced
• If an economy is in a recession, more resources are being left idle, therefore
fewer workers are needed and less pressure is put on the resources base.
This results in less inflation.
• Movement along the Phillips Curve represents year to year changes in the
business cycle.
Stagflation in the late 1970’s to 1981 had high inflation and high unemployment so the model was not accurate
and a new approach
The SRPC shifts outward and inward due to the shift on the SRAS. (outward at negative supply shock and inward
for positive supply shock)
The SRPC has movement when it’s a shift on the AD
Long Run Phillips Curve is the equivalent of the PPC’s frontier line or the Full Employment/potential output of the
LRAS.
2007B Practice FRQ
Exit Ticket
19
Tuesday
• Students will practice the time value formula and the MPC/MPS for
spending multiplier to show their ability to read different cases and
be able to calculate in different ways.
• Students will work with a shoulder partner to read the different
situations and answer the questions by calculation. They will show
their work and explain to the partners when confused.
• Do Now: go back in your notes from last week for the spending
multiplier.
• EQ: What does the spending multiplier do for the economy?
Wednesday
• Students will be able to create all of the graphs learned so far on a foldable
and describe what each element of the graph indicates.
• Students will work in their groups and discuss each graph as they all draw
them on their foldables. They will share what they know about the graphs
and how each graph relates to the others. They will be able to verbalize
what shifts the graphs and what happens to the price and unemployment.
• Do Now: Go back over your notes from yesterday and highlight the
elements of the two new graphs.
• Vocabulary: the terms for each element for each graph
• EQ: What goes on each axis for each graph? What is each graph called?
How might it be referred to? How might it relate to the other graphs?
• Each student will create a foldable booklet
• They will create: PPC, Business Cycle, CFM, Supply and Demand with
ceiling and floor marked, ADAS at equilibrium, Recessionary gap,
Inflationary gap, Investment Demand, Loanable Funds, Phillips Curve
• The booklet will have a graph and have key concepts to know about
the graph written out.
• Use cards on the desks to help you make sure you have everything on
each graph
Thursday- corrections to test must be done
this week
• Be able to calculate PV and FV
• Be able to explain what they are and why they are used in the
economy
• Do Now: Do you have all the graphs done?
• EQ: What does present value of money and future value have to do
with the economy?
• The time value of money (TVM) is the idea that money available at
the present time is worth more than the same amount in the future
due to its potential earning capacity. This core principle of finance
holds that, provided money can earn interest, any amount
of money is worth more the sooner it is received.
• future value and present value
• FV= PV(1+i)t
• PV= FV/(1+i)t dollars today =x dollars in t years
Where i is the interest and t is the time
• Compound interest is where interest is figured based on adding the
interest earned to the principal and then calculating the new interest
earned.
• The chart shows the impact of compounding interest for $100.00 at
8%
Years of
compounding
Compounding computation X(1+i)
Value at years end
1
$100.00
100(1+.08)
$108.00
2
$108.00
108(1+.08)
3
$100
100(1+.08)3
0r 100(1+.08)2
$116.64
4
5
17
Finish the chart to practice finding the FV of 100.00 invested today
Investors know that if X dollars is invested today and earns compound interest at the rate of I, it will grow into
exactly (1+i)t X dollars in t years
• By the same reasoning then and that you can determine X dollars
today- which is what essentially is what happens with a loan.
• If you took out a loan for $100 will accumulate interest at 8% per year
for 5 years. (1.08)5 $100=$146.93 in five years
• This formula defines not only the rate at which present amounts of
money can be converted to future amounts of money but also the
rate at which future amounts of money can be converted into present
amounts of money.
• It allows us to measure the so called time-value of money.
Why do we care
• Because it allows an investor to know how to pay for an asset
• If Cecilia has the chance to buy an asset that is guaranteed to return a
single payment of exactly $370.00 in 17 years and the interest rate is
8% per year. Then the present value for that asset or investment can
be determined by using the formula.
• $370.00/(1+.08)17 = 370.00/(1.08)= $100.00 today.
• This can be useful for determining what to pay for an investment or
asset, if you should take the lottery in installments or a smaller lump
sum, and for salary caps like in professional sporting teams
• Exit ticket is the completed chart
Friday
• Objective: Students will be able to describe the Federal Reserve Structure
and its function. They will compare the monetary policy to the fiscal policy
• Students will fill out the monetary policy study guide from their readings
and from lecture. They will work with their shoulder partner to complete
the comparison of fiscal and monetary policy on the graphic organizer
• Do Now: Look back over your notes and find information on Fiscal Policywho does it? How? What actions are to expand and what contracts?
• EQ: When the economy is in trouble what are the two different policies
used? How are they alike? How do they differ?
• Vocabulary: Open Market Operations, Federal Funds Rate, Discount Rate,
Required Reserve Ratio
• Exit tickets: Show me your completed handouts
• Handouts- monetary policy study guides
• Fiscal and monetary comparison sheets
Friday
• Objective: Students will be able to draw the money supply graph and
explain its function. Be able to calculate the Money Multiplier
• Students will look at the graph and duplicate, they will share with
partners and class what the elements are, verbally using correct
terms.
• Do Now: Look at your notes from yesterday and mark the tools used
by the Federal Reserve to change the money supply.
• EQ: How does the Money Supply Graph work? How does it relate to
the other graphs?
• Vocabulary: Easy money, Tight money
Buy- bigger
Sell --smaller
• On whiteboards practice creating and working with the MS graph
• Then add it to your booklet with the other graphs. And take down the
notes
• On the whiteboards practice shifting the MS from different cases.
• Make sure you understand what the tools are,
• Which tools are used most often
• How they are applied
• What expands and what contracts the money supply
Module 28 in Krugman’s
The Money Market
(Supply and Demand for Money)
36
The Demand for Money
At any given time, people demand a certain amount of
liquid assets (money) for everyday purchases
The Demand for money shows an inverse
relationship between nominal interest rates
and the quantity of money demanded
1. What happens to the quantity demanded of
money when interest rates increase?
Quantity demanded falls because individuals
would prefer to have interest earning assets instead
2. What happens to the quantity demanded when
interest rates decrease?
Quantity demanded increases. There is no incentive
to convert cash into interest earning assets
37
The Demand for Money
Inverse relationship between interest rates and
the quantity of money demanded
Nominal
Interest Rate
(ir)
20%
5%
2%
0
DMoney
Quantity of Money
(billions of dollars)
38
The Demand for Money
What happens if price level increase?
Nominal
Interest Rate
(ir)
20%
Money Demand Shifters
1. Changes in price level
2. Changes in income
3. Changes in taxation
that affects investment
5%
2%
0
DMoney1
DMoney
Quantity of Money
(billions of dollars)
39
The Demand for Money
At any given time, people demand a certain amount of
liquid assets (money) for everyday purchases
The Demand for money shows an inverse
relationship between nominal interest rates
and the quantity of money demanded
1. What happens to the quantity demanded of
money when interest rates increase?
Quantity demanded falls because individuals
would prefer to have interest earning assets instead
2. What happens to the quantity demanded when
interest rates decrease?
Quantity demanded increases. There is no incentive
to convert cash into interest earning assets
40
This shows the 12 different Federal
Reserve Districts
Monetary Policy
When the FED adjusts the money supply to
achieve the macroeconomic goals
41
The Supply for Money
The U.S. Money Supply is set by the Board of
Governors of the Federal Reserve System (FED)
Interest
Rate (ir)
20%
The FED is a nonpartisan
government office that sets and
adjusts the money supply to
adjust the economy
5%
This is called Monetary
Policy.
SMoney
2%
DMoney
200
Quantity of Money
(billions of dollars)
42
Increasing the Money Supply
Interest
Rate (ir)
SM SM1
10%
5%
If the FED increases the
money supply, a temporary
surplus of money will
occur at 5% interest.
The surplus will cause the
interest rate to fall to 2%
2%
DM
200
Increase
money supply
250
How does this
affect AD?
Quantity of Money
(billions of dollars)
Decreases
interest rate
Increases
investment
Increases
AD
43
Decreasing the Money Supply
Interest
Rate (ir)
SM1 SM
10%
5%
2%
If the FED decreases the
money supply, a temporary
shortage of money will occur
at 5% interest.
The shortage will cause the
interest rate to rise to 10%
How does this
affect
AD?
D
M
150
Decrease
money supply
200
Quantity of Money
(billions of dollars)
Increase
interest rate
Decrease Decrease AD
investment
44
45
Goes with module 25-27 in Krugman’s
Unit 4:
Money and
Monetary Policy
46
Showing the Effects of
Monetary Policy Graphically
Three Related Graphs:
• Money Market
• Investment Demand
• AD/AS
47
Interest
Rate (i)
Interest
Rate (i)
S&D of Money
SM SM1
10%
10%
5%
5%
2%
2%
DM
200
PL
250
QuantityM
AD/AS
PL1
PLe
Qe
Q1
DI
Quantity of Investment
The FED increases the
money supply to
stimulate the economy…
AS
AD
Investment Demand
AD1
GDPR
1. Interest Rates Decreases
2. Investment Increases
3. AD, GDP and PL Increases
48
Interest
Rate (i)
Interest
Rate (i)
S&D of Money
SM1 SM
10%
10%
5%
5%
2%
2%
DM
175
PL
200
QuantityM
AD/AS
PLe
Quantity of Investment
1. Interest Rates increase
2. Investment decreases
3. AD, GDP and PL decrease
PL1
AD
AD1
Qe
DI
The FED decreases the
money supply to slow
down the economy…
AS
Q1
Investment Demand
GDPR
49
The role of the Fed is to “take away the punch bowl just as the
party gets going”
50
How the Government Stabilizes the Economy
51
How the FED Stabilizes the Economy
These are the three Shifters of
Money Supply
52
3 Shifters of Money Supply
The FED adjusting the money supply by
changing any one of the following:
1. Setting Reserve Requirements (Ratios)
2. Lending Money to Banks & Thrifts
•Discount Rate
3. Open Market Operations
•Buying and selling Bonds
The FED is now chaired by
Janet Yellen
Janet L. Yellen took office as chair of the Board of Governors of the
Federal Reserve System in February 2014, for a four-year term ending
in January 2018. Her term as a member of the Board of Governors
will expire in January 2024.
53
#1. The Reserve Requirement
If you have a bank account, where is your money?
Only a small percent of your money is in the safe. The
rest of your money has been loaned out.
This is called “Fractional Reserve Banking”
The FED sets the amount that banks must hold
The reserve requirement (reserve ratio) is
the percent of deposits that banks must hold in
reserve (the percent they can NOT loan out)
• When the FED increases the money supply it increases the
amount of money held in bank deposits.
• As banks keeps some of the money in reserve and loans out
their excess reserves
• The loan eventually becomes deposits for another bank that
will loan out their excess reserves.
54
The Money Multiplier
Example: Assume the reserve ratio in the US is 10%
You deposit $1000 in the bank
The bank must hold $100 (required reserves)
The bank lends $900 out to Bob (excess reserves)
Bob deposits the $900 in his bank
Bob’s bank must hold $90. It loans out $810 to Jill
Jill deposits $810 in her bank
SO FAR, the initial deposit of $1000 caused the
CREATION of another $1710 (Bob’s $900 + Jill’s $810)
Money
Multiplier
1
= Reserve Requirement (ratio)
Example:
• If the reserve ratio is .20 and the money supply increases
2 Billion dollars. How much the money supply increase?
55
Using Reserve Requirement
1. If there is a recession, what should the FED do to
the reserve requirement? (Explain the steps.)
Decrease the Reserve Ratio
1.
2.
3.
Banks hold less money and have more excess reserves
Banks create more money by loaning out excess
Money supply increases, interest rates fall, AD goes up
2. If there is inflation, what should the FED do to the
reserve requirement? (Explain the steps.)
Increase the Reserve Ratio
1. Banks hold more money and have less excess reserves
2. Banks create less money
3. Money supply decreases, interest rates up, AD down
56
#2. The Discount Rate
The Discount Rate is the interest rate that the
FED charges commercial banks.
Example:
• If Banks of America needs $10 million, they borrow it
from the U.S. Treasury (which the FED controls) but
they must pay it bank with 3% interest.
To increase the Money supply, the FED should
_________ the Discount Rate (Easy Money Policy).
DECREASE
To decrease the Money supply, the FED should
_________ the Discount Rate (Tight Money Policy).
INCREASE
57
#3. Open Market Operations
• Open Market Operations is when the FED buys
or sells government bonds (securities).
• This is the most important and widely used
monetary policy
To increase the Money supply, the FED should
BUY
_________
government securities.
To decrease the Money supply, the FED should
SELL government securities.
_________
How are you going to remember?
Buy-BIG- Buying bonds increases money supply
Sell-SMALL- Selling bonds decreases money supply
58
Practice
Don’t forget the Monetary Multiplier!!!!
1. If the reserve requirement is .5 and the FED
sells $10 million of bonds, what will happen
to the money supply?
2. If the reserve requirement is .1 and the FED
buys $10 million bonds, what will happen to
the money supply?
3. If the FED decreases the reserve requirement
from .50 to .20 what will happen to the
money multiplier?
59
Federal Funds Rate
The federal funds rate is the interest rate that
banks charge one another for one-day loans of
reserves.
The FED can’t simply tell banks what interest
rate to use. Banks decide on their own.
The FED influences them by setting a target rate
and using open market operation to hit the
target
The federal funds rate fluctuates due to market
conditions but it is heavily influenced by
monetary policy (buying and selling of
bonds)
60
2007
2008
December
November
October
September
August
July
June
May
April
March
February
January
December
November
October
September
August
July
June
May
April
March
February
January
December
November
October
September
August
July
June
May
April
March
February
January
Percent
Federal Funds Rate
Target Federal Funds Rate
6
5
4
3
2
1
0
.25%
2009
61
62
2009B Practice FRQ
63
64