Conceptual

1. In the text we describe the effect of an open market purchase by the Fed. a. Define an open market sale by the Fed. b. Show the impact of an open market sale on the interest rate and output. Show both the immediate-and the longer-term impacts.

3. What is a liquidity trap? If the economy was stuck in one, would you advise the use of mon-etary or fiscal policy?

4. What is crowding out, and when would you expect it to occur? In the face of substantial crowding out, which will be more successfulfiscal or monetary policy?

Technical

1. the economy is at full employment. Now the government wants to change the composition of demand toward investment and away from consumption without, however, allowing aggregate demand to go beyond full employment. What is the required policy mix? Use an IS-LM diagram to show your policy proposal

2. Suppose the government cuts income taxes. Show in the IS-LM model the impact of the tax cut under two assumptions: (1) the government keeps interest rates constant through an accommodating monetary policy. (2) the money stock remains unchanged. explain the difference in results.

3. Consider two alternative programs for contraction. One is the removal of an investment subsidy; the other is a rise in income tax rates. Use the IS-LM model and the investment schedule, as shown in Figure 12-9, to discuss the impact of these alternative policies on income, interest rates, and investment.

4. In Figure 12-10 the economy can move to full employment by an expansion in either money or the full-employment deficit. Which policy leads to E1 and which to E2? how would you expect the choice to be made? Who would most strongly favor moving to E1? versus E2? What policy would correspond to "balanced growth"?

SEE FIGURES BELOW

LM Interest rate Interest rate 279 Yo Investment Income, output (o) (b) FIGURE 12-9 AN INVESTMENT SUBSIDY SHIFTS THE INVESTMENT SCHEDULECHAPTER 12.MONETARY AND FISCAL POLICY 281 LM DE E Interest rate Ez Yo Income, output FIGURE 12-10 EXPANSIONARY POLICIES AND THE COMPOSITION OF OUTPUT. a boom. Over time, given enough cycles, the government sector becomes very small, as a conservative would want it to be. The counterpart view belongs to those who believe that there is a broad scope for government spending on education, the environment, job training and rehabilitation, and the like, and who, accordingly, favor expansionary policies in the form of increased government spending and higher taxes to curb a boom. Growth-minded people and the construction lobby argue for expansionary policies that operate through low interest rates or investment subsidies. The recognition that monetary and fiscal policy changes have different effects on the composition of output is important. It suggests that policymakers can choose a policy mix-a combination of monetary and fiscal policies-that will not only get the economy to full employment but also make a contribution to solving other policy problems. We now discuss the policy mix in action. 12-5 THE POLICY MIX IN ACTION In this section we review the U.S. monetary-fiscal policy mix of the 1980s, the economic debate over how to deal with the U.S. recession in 1990 and 1991, the behavior of mon- etary policy during the long expansion of the late 1990s and the subsequent 2001 reces- sion and its recovery, the use of fiscal policy during the Great Recession of 2007-2009