Assume that in a certain economy the LM curve is given by Y = 2,000r – 2,000 + 2(M/P), and the IS curve is given by Y = 8,000 – 2,000r + u, where u is a shock that is equal to +200 half the time and –200 half the time. The price level (P) is fixed at 1.0. The natural rate of output is 4,000. The government wants to keep output as close as possible to 4,000 and does not care about anything else. Consider the following two policy rules: i. Set the money supply M equal to 1,000 and keep it there. ii. Manipulate M from day to day to keep the interest rate constant at 2 percent. a.Under rule i, what will Y be when u = +200? What will Y be under rule i when u = –200? b.Under rule ii, what will Y be when u = +200? What will Y be under rule ii, when u = –200? c.Which rule will keep output closer to 4,000?
81.Assume that in a certain economy the LM curve is given by Y = 2,000r – 2,000 + 2(M/P), and the IS curve is given by Y = 8,000 – 2,000r + u, where u is a shock that is equal to +200 half the time and –200 half the time. The price level (P) is fixed at 1.0. The natural rate of output is 4,000. The government wants to keep output as close as possible to 4,000 and does not care about anything else. Consider the following two policy rules: i. Set the money supply M equal to 1,000 and keep it there. ii. Manipulate M from day to day to keep the interest rate constant at 2 percent.
a.Under rule i, what will Y be when u = +200? What will Y be under rule i when u = –200?
b.Under rule ii, what will Y be when u = +200? What will Y be under rule ii, when u = –200?
c.Which rule will keep output closer to 4,000?
82.Assume that in a certain economy the LM curve is given by Y = 2,000r – 2,000 + 2(M/P) + u, where u is a shock that is equal to +200 half the time and –200 half the time, and the IS curve is given by Y = 8,000 – 2,000r. The price level (P) is fixed at 1.0. The natural rate of output is 4,000. The government wants to keep output as close as possible to 4,000 and does not care about anything else. Consider the following two policy rules: i. Set the money supply M equal to 1,000 and keep it there. ii. Manipulate M from day to day to keep the interest rate constant at 2 percent.
a.Under rule i, what will Y be when u = +200? Under rule i, what will Y be when u = –200?
b.Under rule ii, what will Y be when u = +200? Under rule ii, what will Y be when u = –200?
c.Which rule will keep output closer to 4,000?
83.Let the symbol ? stand for the rate of inflation, with E? the expected inflation rate, both measured in percent. The letter u is the
a.Suppose that ? = 0.5 and ? = 0.05. What are the expected and actual inflation rates?
b.Suppose ? = 0.5 and ? = 0.50. In this case, does the Fed have greater or lesser relative distaste for inflation than in part a? What are the expected and actual inflation rates with ? = 0.50? Why do they differ from the inflation rates in part a?
84.You are hired as a consultant to set up the central bank of a new country. Suggest at least two possible ways to structure the central bank to keep inflation levels low.
85.For each of the following policies indicate whether the policy is i. a monetary or a fiscal policy, ii an active or a passive policy, and iii a policy by rules or with discretion:
a.the central bank follows a policy of allowing the money supply to grow at a constant 4 percent per year;
b.a government follows a policy of keeping government spending over a calendar year equal to government revenue over the calendar year;
c.the central bank uses judgment to adjust the growth of the money supply based on expectations of what will happen to output and inflation over the next five years.
d.the government keeps tax laws unchanging and allows government spending to change, depending on which spending bills are passed by the legislature.
e.the central bank follows a policy of adjusting the money supply according to a formula based on deviations of unemployment from the natural rate of unemployment.
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