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business
foundations macroeconomics
Macroeconomics 6th Edition Andrew B. Abel, Ben S. Bernanke, Dean Croushore - Solutions
9 What effects does expansionary monetary policy have on the nominal exchange rate in both the short and long run? Explain.
8 How are net exports affected by expansionary fiscal policy? By expansionary monetary policy? What is the potential ambiguity in determining these effects?
7 How does the IS-LM model for an open economy differ from the IS-LM model for a closed economy? Illustrate the use of the open-economy IS-LM model in describing how a recession in one country may be transmitted to other countries.
6 Why do foreigners demand dollars in the foreign exchange market? Why do U.S. residents supply dol- lars to the foreign exchange market? Give two exam- ples of changes that would lead to an increased demand for dollars and two examples of changes that would lead to an increased supply of dollars
5 For a given real exchange rate, how are a country's net exports affected by an increase in domestic income?An increase in foreign income? How does an increase in the domestic real interest rate affect the real exchange rate and net exports? Explain.
4 What is the J curve? What explains the behavior of net exports represented by the J curve?
3 Define purchasing power parity, or PPP. Does PPP work well empirically? Explain.
2 What are the two main types of exchange-rate systems? Currently, which type of system determines the values of the major currencies, such as the dollar, yen, and euro?
1 Define nominal exchange rate and real exchange rate. How are changes in the real exchange rate and the nominal exchange rate related?
3. For each year since 1948, calculate the share of total unemployment accounted for by people unemployed for fifteen weeks or more. How is this ratio related to the business cycle (for peak and trough dates, see Table 8.1), and to the overall unemployment rate? What are the implications of these
2. The purpose of this question is to obtain estimates of how the natural rate of unemployment for various demographic groups has changed over time. The idea is to look for periods in which the actual inflation rate equals the expected inflation rate. In those periods, according to the
1. Using annual data since 1956, create scatter plots of the following variables:a. CPI inflation rate (December to December) against the average unemployment rate for the year. h. CPI inflation rate against the cyclical unemployment rate. (The cyclical unemployment rate is the actual unemployment
6. How would each of the following likely affect the natural unemployment rate?a. A new law prohibits people from seeking employment before age eighteen.b. A new Internet service, Findwork.com, makes it easy for people to check on the availability of jobs around the country.c. The length of time
5. To fight an ongoing 10% inflation, the government makes raising wages or prices illegal. However, the government continues to increase the money supply (and hence aggregate demand) by 10% per year. The economy starts at full-employment output, which remains constant.a. Using the Keynesian AD-AS
4. Some economists have suggested that someday we will live in a "cashless society" in which all businesses (including stores) and banks will be linked to a centralized accounting system. In this system you will be able to pay for purchases directly from your bank account without using cash. What
3 In this problem you are asked to show that the expectations-augmented Phillips curve (derived in the text using the extended classical model) can be derived using the Keynesian model. Consider a Keynesian economy in which fullemployment output is constant, and in which the nominal money supply
2 Two extended classical economies (in which the misperceptions theory holds) differ only in one respect: In economy A money growth and inflation have been low and stable for many years, but in economy B money growth and inflation have fluctuated erratically between very low and very high levels.
1. Suppose that the government institutes a program to help unemployed workers learn new skills, find new jobs, and relocate as necessary to take the new jobs.a. If this program reduces structural unemployment, what is the effect on the expectations-augmented Phillips curve and the long-run
4 An economy is described by the following equations: AD SRAS Okun's law Y = 4000 + 2(M/P) Y = Y + 100(P - P') (Y - y)/y = -2(u - /I) In this economy full-employment output y equals 6000 and the natural unemployment rate II equals 0.05.a. Suppose that the nominal money supply has long been constant
3 In a certain economy the expectations-augmented Phillips curve is 1[ = 1[' - 2(u - /I) and /I = 0.06.a. Graph the Phillips curve of this economy for an expected inflation rate of 0.10. If the Fed chooses to keep the actual inflation rate at 0.10, what will be the unemployment rate?b. An aggregate
2 Consider the following extended classical economy (in which the misperceptions theory holds): AD Y = 300 + lO(M/P). SRAS Y=Y+P-P'. Okun's law (Y - y )/y = -2(u - /I). Full-employment output y = 500. Natural unemployment rate 11 = 0.06.a. Suppose that the money supply M = 1000 and that the
1 Consider an economy in long-run equilibrium with an inflation rate, It, of 12% (0.12) per year and a natural unemployment rate, u, of 6% (0.06). The expectationsaugmented Phillips curve is It = Jt' - 2(u - u). Assume that Okun's law holds so that a 1 percentage point increase in the unemployment
10. Why does the Federal Reserve work hard to establish its credibility? What benefits might the public gain if the Federal Reserve has a great deal of credibility?
9. Discuss at least two strategies for reducing expected inflation rapidly. What are the pros and cons of these strategies?
8 What is the greatest potential cost associated with dis- inflation? How does the responsiveness of the public's inflation expectations affect the size of this potential cost?
7 Give two costs of anticipated inflation and two costs of unanticipated inflation. How is the magnitude of each affected if, instead of a moderate inflation, hyperinfla- tion occurs?
6 Why is the natural unemployment rate an important economic variable? What factors explain the changes in the natural rate over time in the United States? What government policies, if any, might be used to reduce the natural unemployment rate?
5 Why do policymakers want to keep inflation low? Who suffers when there is unemployment?
4. Can policymakers exploit the Phillips curve relation- ship by trading more inflation for less unemployment in the short run? In the long run? Explain both the classical and Keynesian points of view.
3. How do changes in the expected inflation rate account for the behavior of the Phillips curve in the 1960s, 1970s, and 1980s in the United States? What role do supply shocks play in explaining the behavior of the Phillips curve in the United States?
2 How does the expectations-augmented Phillips curve differ from the traditional Phillips curve? According to the theory of the expectations-augmented Phillips curve, under what conditions should the traditional Phillips curve relationship appear in the data?
1 What is the Phillips curve? Does the Phillips curve relationship hold for U.S. data? Explain.
3. Working with Macroeconomic Data Exercise 1, Chapter 10, asked you to look at the cyclical behavior of total factor productivity. If you have not completed that problem, do it now and compare productivity changes with changes in the producer price index for fuels and related prod ucts and power.
2. Because of price stickiness, the Keynesian model predicts that an increase in the growth rate of money will lead to higher inflation only after some lag, when firms begin to adjust their prices. Using data since 1960, graph the inflation rate and the rate of growth of M2. Prior to 1980, is it
1. Keynesian theory predicts that expansionary fiscal policy-either higher spending or lower taxes-will raise the real interest rate. Using data since 1960, graph the Federal government budget deficit, the state-local government budget deficit (both relative to GOP), and the real interest rate
5. Some labor economists argue that it is useful to think of the labor market as being divided into two sectors: a primary sector, where "good" (high-paying, long-term) jobs are located, and a secondary sector, which has "bad" (low-paying, short-term) jobs. Suppose that the primary sector has a
4. Classical economists argue that using fiscal policy to fight a recession doesn't make workers better off. Suppose, however, tha t the Keynesian model is correct. Relative to a policy of doing nothing, does an increase in government purchases that brings the economy to full employment make
3. Suppose that the Fed has a policy of increasing the money supply when it observes that the economy is in recession. However, suppose that about six months are needed for an increase in the money supply to affect aggregate demand, which is about the same amount of time needed for firms to review
2 According to the Keynesian IS-LM model, what is the effect of each of the following on output, the real interest rate, employment, and the price level? Distinguish between the short run and the long run.a. Financial deregulation allows banks to pay a higher interest rate on checking accounts.b.
1 According to the Keynesian IS-LM model, wha t is the effect of each of the following on output, the real interest rate, employment, and the price level? Distinguish between the short run and the long run.a. Increased tax incentives for investment (the tax breaks for investment are offset by
6 Consider the following economy. Desired consumption Cd = 325 + O.5(Y - T) - 500r. Desired investment Id = 200 - 500r. Government purchases G = 150. Taxes T = 150. Real money demand L = 0.5Y - 1000r. Money supply M = 6000. Full-employment output Y = 1000.a. Calculate the full-employment values of
5 Consider an economy in which all workers are covered by contracts that specify the nominal wage and give the employer the right to choose the amount of employment. The production function is Y = 20JN, and the corresponding ma rginal product of labor is MPN = �. Suppose that the nominal wage is
4 An economy is described by the following equations: Desired consumption Cd = 300 + O.5(Y - T) - 300,.. Desired investment Id = 100 - 100,.. Government purchases G = 100. Taxes T = 100. Real money demand L = O.5Y - 200r. Money supply M = 6300. Full-employment output Y = 700.a. Write the equation
3 An economy is described by the following equations: Desired consumption Cd = 600 + 0.8(Y - T) - 500,.. Desired investment Id = 400 - 500r. Real money demand L = O.5Y - 200i, for i > O. Government purchases G and taxes T both equal 1000. The initial price level P equals 2.0, and expected inflation
2 An economy is described by the following equations: Desired consumption Cd = 130 + O.5(Y - 1") - 500r. Desired investment ]d = 100 - 500r. Government purchases G = 100. Taxes T = 100. Real money demand L = 0.5Y - 1000r. Money supply M = 1320. Full-employment output Y = 500.Assume that expected
1 A firm identifies the following relationship between the real wage it pays and the effort exerted by its workers: Real Wage Effort 8 7 10 10 12 15 14 17 16 19 18 20 The marginal prod uct of labor for this firm is MPN = E(100 - N) 15 ' where E is the effort level and N is the number of workers
10. According to the Keynesian analysis, in what two ways does an adverse supply shock reduce output? What problems do supply shocks create for Keynesian stabilization policies?
9. What does the Keynesian model predict about the cyclical behavior of average labor productivity? How does the idea of labor hoarding help bring the pre- diction of the model into conformity with the busi- ness cycle facts?
8. Use the Keynesian model to explain the procyclical behavior of employment, money, inflation, and investment.
7. Describe three alternative responses available to policymakers when the economy is in recession. What are the advantages and disadvantages of each strategy? Be sure to discuss the effects on employ- ment, the price level, and the composition of output. What are some of the practical difficulties
6. In the Keynesian model, how do increased govern- ment purchases affect output and the real interest rate in the short run? In the long run? How do increased government purchases affect the composition of output in the long run?
5 What does the Keynesian model predict about mone- tary neutrality (both in the short run and in the long run)? Compare the Keynesian predictions about neu- trality with those of the basic classical model and the extended classical model with misperceptions.
4 Define menu cost. Why might small menu costs lead to price stickiness in monopolistically competitive mar- kets but not in perfectly competitive markets? Why can a monopolistically competitive firm profitably meet demand at its fixed price when actual demand is greater than the firm anticipated?
3 What is price stickiness? Why do Keynesians believe that allowing for price stickiness in macroeconomic analysis is important?
2. How is full-employment output, Y, determined in the Keynesian model with efficiency wages? In this model, how is full-employment output affected by changes in productivity (supply shocks)? How is it affected by changes in labor supply?
1 Define efficiency wage. What assumption about worker behavior underlies the efficiency wage theory? Why does it predict that the real wage will remain rigid even if there is an excess supply of labor?
3. Are people's inflation forecasts rational? To investigate this question, go to the Web site of the Federal Reserve Bank of Philadelphia at wwwphiladelphiafed.org. Find the Web pages for economic research and look for data from the Survey of Professional Forecasters on forecasts of CPI
2. This question asks you to study whether unanticipated declines in the money stock tend to raise interest rates and lead to recessions, as implied by the misperceptions theory.a. Using quarterly data from 1960 to the present, define unanticipated money growth in each quarter to be the rate of M2
1. According to the real business cycle theory, productivity shocks are an important source of business cycles. Using the Cobb-Douglas prod uction function (for example, Eq. 3.2, p. 64) and annual data since 1961, calculate and graph U.s. total factor productivity. Use real GOP for Y, the capital
5. Starting from a situation with no government spending and no taxes, the government introduces a foreign aid program (in which domestically produced goods are shipped abroad) and pays for it with a temporary 10% tax on current wages. Future wages are untaxed. What effects will the temporary wage
4. This problem asks you to work out in more detail the example of reverse causation described in the text. Suppose that firms that expect to increase production in the future have to increase their current transactions (for example, they may need to purchase more raw materials). For this reason,
3. Consider a business cycle theory that combines the classical IS-LM model with the assumption that temporary changes in government purchases are the main source of cyclical fluctuations. How well would this theory explain the observed cyclical behavior of each of the following variables? Give
2 Use the classical TS-LM model to analyze the effects of a permanent increase in government purchases of 100 per year (in real terms). The increase in purchases is financed by a permanent increase in lump-sum taxes of 100 per year.a. Begin by finding the effects of the fiscal change on the labor
1 The discovery of a new technology increases the expected future marginal product of capital.a. Use the classical IS-LM model to determine the effect of the increase in the expected future MPK on current output, the real interest rate, employment, real wages, consumption, investment, and the price
8 Consider the following economy. IS curve r = 2.47 - 0.0004 Y. Real money demand Short-run aggregate supply L = O.5Y - 500(r + 1t'). Y = Y + 100(P - pel.Here, r is the real interest rate, Y is output, and P is the price level. Assume that expected inflation, 1t', is 0, nominal money supply, M, is
7 In a particular economy the labor force (the sum of employed and unemployed workers) is fixed at 100 miJIion. In this economy, each month 1 % of the workers who were employed at the beginning of the month lose their jobs, and 19% of the workers who were unemployed at the beginning of the month
6 Try the following experiment: Flip a coin fifty times, keeping track of the results. Think of each "heads" as a small positive shock that increases output by one unit; similarly, think of each "tails" as a small negative shock that reduces output by one unit. Let the initial value of output, Y,
5 Output in an economy is given by the production function Y = AKo.3N°.7, where Y is output, A measures productivity, the capital stock K is fixed at 30, and employment N is fixed at 100. Output equals 100 in the year 2006 and equals 105 in 2007.a. Find the Solow residual in the years 2006 and
4 An economy has the following AD and AS curves. AD curve Y = 300 + 30(M/P). AS curve Y = Y + 10(P - P').Here, Y = 500 and M = 400.a. Suppose that P' = 60. What are the equilibrium values of the price level, P, and output, Y? (Hint: The solutions for P in this Part and in Part (b) are multiples of
3 Consider the following economy. Desired consumption Cd = 250 + O.5(Y - T) - 500r. Desired investment Id = 250 - 500r. Real money demand L = 0.5Y - 500i. Full-employment output Y = 1000. Expected inflation rr' = O.a. Suppose that T = G = 200 and that M = 7650. Find an equation describing the IS
2 An economy is described as follows. Desired consumption Cd = 600 + O.5(Y - T) - 50y. Desired investment rd = 450 - 50r. Real money demand L = 0.5Y - 100i. Full-employment output Y = 2210. Expected inflation rr' = 0.05. In this economy the government always has a balanced budget, so T = G, where
1 In a certain economy the production function is Y = A(IOON - 0.5N2), where Y is output, A is productivity, and N is total hours worked. The marginal product of labor associated with this production function is MPN = A(IOO - N). Initially, A = 1.0, but a beneficial productivity shock raises A to
10. Define rational expectations. According to the classical model, what implications do rational expectations have for the ability of the central bank to use monetary policy to smooth business cycles?
9. What conclusion does the basic classical model (with no misperceptions of the price level) allow about the neutrality or nonneutrality of money? In what ways is this conclusion modified by the extended classical model based on the misperceptions theory?
8. According to the misperceptions theory, what effect does an increase in the price level have on the amount of output supplied by producers? Explain. Does it matter whether the increase in the price level was expected?
7. In the context of the relationship between the money supply and real economic activity, what is meant by reverse causation? Explain how reverse causation could occur. What business cycle fact is it intended to explain?
6 What effects does an increase in government purchases have on the labor market, according to the classical theory? What effects does it have on output, the real interest rate, and the price level? According to classical economists, should fiscal policy be used to smooth out the business cycle?
5 What is the Solow residual and how does it behave over the business cycle? What factors cause the Solow residual to change?
4 What major business cycle facts does the RBC theory explain successfully? Does it explain any business cycle facts less well?
3 Define real shock and nominal shock. What type of real shock do real business cycle economists consider the most important source of cyclical fluctuations?
2 What are the two main components of any theory of the business cycle? Describe these two components for the real business cycle theory.
1 What main feature of the classical IS-LM model dis- tinguishes it from the Keynesian IS-LM model? Why is the distinction of practical importance?
5 Recall from Chapter 7 that an increase in im, the nominal interest rate on money, increases the demand for money. To capture that effect, let's replace Eq. (9.B.17) with How does this modification change the solutions for the general equilibrium values of the variables discussed in Appendix 9.B,
4. In some macroeconomic models, desired investment depends on both the current level of output and the real interest rate. One possible reason that desired investment may depend on output is that, when current production and sales are high, firms may expect continued strong demand for their
3 Suppose that the price level is fixed in the short run so that the economy doesn't reach general equilibrium immediately after a change in the economy. For each of the following changes, what are the short-run effects on the real interest rate and output? Assume that, when the economy is in
2. Use the IS-LM model to analyze the general equilibrium effects of a permanent increase in the price of oil (a per- manent adverse supply shock) on current output, employment, the real wage, national saving, consumption, investment, the real interest rate, and the price level. Assume that,
1 Use the IS-LM model to determine the effects of each of the following on the general equilibrium values of the real wage, employment, output, real interest rate, con- sumption, investment, and price level.a. A reduction in the effective tax rate on capital increases desired investment.b. The
6 (Appendix 9.B) This question asks you to use the for- mulas in Appendix 9.B to find the general equilibrium values of variables for the economy described in Numerical Problem 4. Assume that G = 50. 1. Use the data from Numerical Problem 4 to find the numerical values of the parameters A, f f and
5 Consider the following economy: Desired consumption Cd = 1275 + 0.5(Y - T) - 200r. Desired investment Id = 900 - 200r. Real money demand L = 0.5Y - 200i. Full-employment output Y = 4600. Expected inflation It' = O.a. Suppose that T = G = 450 and that M = 9000. Find an equation describing the IS
4. The production function in an economy is Y = A(SN - 0.002SN'), where A is productivity. With this production function, the marginal product of labor is MPN = SA - O.OOSAN. Suppose that A = 2. The labor supply curve is NS = SS + 10(1 - t)w,where NS is the amount of labor supplied, w is the real
3. An economy has full-employment output of 1000. Desired consumption and desired investment are Cd = 200 + 0.8(Y - T) - SOOr; Id = 200 - SOOr. Government purchases are 196, and taxes are T = 20 + 0.2SY. Money demand is Md P = 0.5Y - 2S0(r + It'), where the expected rate of inflation, It', is 0.10.
2 In a particular economy the real money demand function is Md P = 300 +0.1Y - 1O,000i. Assume that M = 6000, P = 2.0, and rr' = 0.02.a. What is the real interest rate, r, that clears the asset market when Y = 8000? When Y = 9000? Graph the LM curve.b. Repeat Part (a) for M = 6600. How does the LM
1 Desired consumption and investment are Cd = 4000 - 4000r + 0.20Y; Id = 2400 - 4000r. As usual, Y is output and r is the real interest rate. Government purchases, G, are 2000.a. Find an equation relating desired national saving, Sd, to r and Y.b. What value of the real interest rate clears the
9 Use the AD-AS framework to analyze whether money is neutral in the short run and whether it is neutral in the long run.
8 Describe the short-run aggregate supply (SRAS) curve and the long-run aggregate supply (LRAS) curve. Why is one of these curves horizontal and the other vertical?
7 What two variables are related by the aggregate demand (AD) curve? Why does the AD curve slope downward? Give two examples of changes in the economy that shift the AD curve up and to the right and explain why the shifts occur.
6 Define monetary neutrality. Show that, after prices adjust completely, money is neutral in the IS-LM model. What are the classical and Keynesian views about whether money is neutral in the short run? In the long run?
5. Define general equilibrium and show the general equilibrium point in the IS-LM diagram. If the economy isn't in general equilibrium, what determines output and the real interest rate? What economic forces act to bring the economy back to general equilibrium?
3 What relationship does the LM curve capture? Derive the LM curve graphically and show why it slopes as it does. Give two examples of changes in the economy that would cause the LM curve to shift down and to the right.4 For constant output, if the real money supply exceeds the real quantity of
2 What relationship does the IS curve capture? Derive the IS curve graphically and show why it slopes as it does. Give two examples of changes in the economy that would cause the 15 curve to shift down and to the left.
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