Homework 3: (55 points total) 1. Aggregate supply. In context of Short Run Aggerate Supply (SRAS), explain why as CPI decreases (increases), Real GDP supplied also decreases (increases): In other words, why is there a direct relationship between the CPI and the Real GDP in the short run? (5 points) 2. Fiscal policy Current macroeconomic situation in county X is shown on graph below. Help this economy move back to full employment at 10 trillion real GDP by answering the following questions. 140 Price level 130 120 1 10 100 90 80 1 1 Real GDP I. Is country X facing a) Recessionary gap, or b) Inflationary gap? (2 point) II. Country X should use, a) Expansionary, or b) Contractionary Fiscal Policy. (2 points) III. How is a contractionary fiscal policy implemented? (3 points) IV. Will a successful implementation of a contractionary fiscal policy result in a shift in AD or SRAS? Explain why. (4 points) 3. Money and Banking; Tracy deposits $2,000 in her checking account at her local bank. The bank maintains a reserve ratio of 3.7%: a. If every time the bank makes a loan, the loan results in a new checking deposit in a different bank equal to the amount of the loan, by how much could the total money supply in the economy expand in response to Tracy's initial cash deposit of $2,000? (3 points) b. By how much would total money supply expand if Tracy holds $220.00 of the $2,000 in cash? (3 points, 4. Demand for money: How will the following two events affect the demand for money at any given fixed interest rate? Briefly explain why. a. Economy experiences an inflationary period (a rise in overall level of prices). (4 points) b. An increase in level of Real GDP as the economy picks up. (4 points)5.Monetary policy: An economy is facing an inflationary gap, see graph below. How should the Central Bank react using each of the 3 monetary policy tools to eliminate the inflationary gap? (9 points) LRAS SRAS Price Level AD O ON O1 Real GDP a) Open Market operations: b) Discount rate: c) Required Reserve Ratio: d) A successful contractionary monetary policy will: Answer questions a - d. (This is not a multiple-choice question, answer each question): (2 points each) a. Increase/decreases the interest rate. b. Increase/decreases consumer spending. c. Increase/decreases real GDP. d. Increase/decreases the aggregate price. 7. Open-Economy Macroeconomics: Suppose the U.S. and Japan are the only two countries in the world. What will happen to the value of the U.S. dollar (appreciates or depreciates), and the U.S. exports, as a result of the following events (other things equal)? a. The United States imposes import tariffs on many Japanese goods. (4 points) b. Interest rates on savings bonds in the United States rise relative to interest rate on Japanese savings bonds. (4 points)
