Solve.

Part A.

1. During a period of contractionary monetary policy,

a)the price level is increased, which leads to an increase in the money supply.

b)the price level is decreased ,which leads to a decrease in the money supply.

c)the rate of growth of the money supply is increased, leading to an increase in the price level.

d)the rate of growth of the money supply is reduced, leading to a decrease in the price level.

2. An increase in the money supply will affect aggregate demand

a) only if the increase in the money supply causes interest rates to rise.

b) only if the increase in the money supply causes people to buy less goods and services.

c )only if the increase in the money supply causes people to increase their saving.3. It has been observed that a change in monetary policy in the United States

a)impacts net exports.

b)has little or no effect on foreign markets.

c)leads to corresponding changes in other countries.

d)has only short run influences.

4.Suppose the Fed increases the money supply. As a result of this, people go out and spend more money on consumer goods, increasing aggregate spending. This is known as a(n)

a)direct effect of monetary policy.

b)indirect effect of monetary policy.

c)direct effect of fiscal policy.

d)indirect effect of fiscal policy.

5.

What happens when the Fed aims to change interest rates?

a)It asks Congress to legislate new interest rates.

b)It buys or sells government bonds on the open market to achieve the desired rate.

c)It buys or sells dollars on the foreign exchange market to achieve the desired rate.

d)It announces a new discount interest rate.

6.An expansionary monetary policy results in lower interest rates, which in turn

a)increases foreign demand for U.S. financial instruments, raising the international price of the dollar and reducing net exports.

b)increases the foreign demand for U.S. financial instruments, lowering the international price of the dollar and decreasing net exports.

c)reduces the international price of the dollar and increases net exports.

d)reduces the foreign demand for U.S. financial instruments and reduce net exports.

7.One result of a contractionary monetary policy would be

a)a decline in the price level.

b) an increase in the money supply.

c) an increase in business investment.

d)

lower interest rates.

8.According to the interest-rate-based transmission mechanism for monetary policy, an increase in the money supply will cause the

a) interest rate to fall, causing planned real investment spending to rise and leading to a decrease in aggregate demand.

b) interest rate to rise, causing planned real investment spending to rise and leading to a decrease in aggregate demand.

c) interest rate to fall, causing planned real investment spending to rise and leading to an increase in aggregate demand.

d) interest rate to fall, causing planned real investment spending to fall and leading to an increase in aggregate demand.

9.

If the economy is underutilizing its economic resources, the Fed should

a)discourage investment spending.

b)expand the money supply to increase aggregate demand.

c)decrease aggregate supply.

d)contract the money supply to decrease aggregate demand.

Part B

2. Phillips Curve with bargaining power's impact on labor productivity. The labor market model and the consequent Phillips Curve that we developed in the lectures assumed constant labor productivity. The evidence suggests that labor productivity grows both in the medium and long run (we will focus on the long run in the next lectures). Let us develop a more realistic model that pertains to medium run to evaluate the impact on unemployment rate and real wage of the factors that determine the bargaining power of workers: minimum wage, employment protection legislation, unemployment benefits, collective bargaining, ease with which employers relocate jobs. Recall that all these are captured in what we call catch-all variable, z.

As before wage-setting equation is given by W =Pe(1??u+z) (1) Consider the following production function that links the number of workers (N) to (real) out- put/income (Y ) via the level of labor productivity (A):

Y = AN (2) It follows that A = Y/N, that is to say, A is output per worker.1 What is the number of workers needed for the production of unit output? If one workers produces A much output then unit output requires 1/A workers. It follows that the cost of production of unit output is W ? (1/A) = W/A where W is the nominal wage rate. Using this observation and by assuming ?You can handwrite or type answers in a Word document. ?Please submit your answers in class. 1Note that in the lecture we simply assumed that A is constant and equal to one. 1 that firms set prices by adding a mark-up on the wage-cost, we can write the price-setting equation as follows:

P =(1+m)W (3) A where m is the mark-up rate. As we suggested in the beginning, in the medium (and long) run, the labor productivity is not constant at all. Moreover it is very likely that it depends on the bargaining power of workers measured by variable z. Consider the following association between the labor productivity, A, and z:

A = 1 + 2z (4) Equation (4) suggests that the greater the bargaining power of workers the higher the level of labor productivity. Plugging A given by equation (4) into the price-setting equation given by equation (3) yields

P = 1+mW (5) 1+2z The nominal wage that is compatible with price-setting relation then is W = P (1 + 2z)/(1 + m). Substitute it for the nominal wage in equation (1) to get P(1 + 2z) = Pe(1 ? ?u + z) 1+m Rearranging it gives us the following equation:

P =Pe(1+m)(1??u+z) (6) (1+2z)

You are almost ready to draw some conclusions! Now do ll the parts below.

(a) Derive the Phillips curve using equation (6). (Hint: To start, transform actual and expected price levels to obtain actual and expected inflation.)2

(b) Derive the suggested (not so much) natural rate of unemployment (that is, the equilibrium rate of unemployment in the medium run).

(c) What is the real wage that corresponds to the (not so much) natural rate of unemployment.

(d) Suppose workers win a substantial increase in the minimum wage in the overall economy. What happens to their real wage? What happens to (not so much) natural rate of unem- ployment? Is their achievement self-defeating?

Section c.

Use the information in the T-account for a single bank to answer questions 6- in Assets Liabilities Total Bank Reserves $100.000 Checkable Deposits $500,000 Loans $400,000 6. If the required reserve ratio is 20%, then required reserves are equal to: SO. b. $5,000. $15,000. $100,000. 7. If the required reserve ratio is 20%, then excess reserves are equal to: a. b. $5,000. $15,000. $115,000. If the required reserve ratio is 20%, then the maximum additional amount this bank can lend is: SO. b. $5,000. C. $15,000. d. $115,000. 9. If the required reserve ratio is 20% and this bank is *fully loaned up' (i.c., makes loans until excess reserves are equal to zero), then the bank's total loan assets will be equal to: a. $100,000. b. $400,000. C. $500,000. $1,000.000. 10. If the required reserve ratio is 20%, the simple deposit multiplier is equal to: 4. b. 5. C. 8. d. 12.5. Chapter 10 Assignments 214BANKING AND MONEY CREATION 1. Which of the following is correct? a. b. Total bank reserves = excess reserves/required reserves C. Total bank reserves = excess reserves + required reserves d. Excess reserves = total bank reserves + required reserves Required reserves = (excess reserves) x (total bank reserves) 2. Mr. Jones deposited $5,000 cash into his account at Bank A. If the required reserve ratio is 10%, Bank A has to keep equal to in the form of required reserves and can make a loan a. $500; $4,500 b. $1,000; $4,000 C . $500; $5,000 $5,000: $0 3. To support checkable deposits, banks are legally required to hold reserves equal to: a. total checkable deposits. b. vault cash. C. total checkable deposits multiplied by the required reserve ratio. d. total checkable deposits divided by the required reserve ratio. If the required reserve ratio is 10%, the banking system has total reserves in the amount 4. of $40 billion, there are no currency leakages, and each bank makes loans until excess reserves equal zero, then total checkable deposits for the banking system will equal: a. $10 billion. b. $40 billion. C. $200 billion. d. $400 billion. If the required reserve ratio decreases from 10 percent to 8 percent: 5. a. potential deposit expansion decreases. b. potential deposit expansion increases. the simple deposit multiplier decreases from 12.5 to 10. C. the simple deposit multiplier increases from 10 to 12.5. d. e . Both b. and d. are correct.QUESTION 3 Snow Security Services is a monopolist in the market for freeze-resistant wall-top security cameras. The rm has xed costs of 20 and a constant marginal cost of 5 at all levels of output. The demand function for the market is given by D (p) = 12.5 0.25p. (a) Rewrite demand as the inverse demand function. (h) Set up the monopolist's problem and solve for the optimal price and quantity. (c) Calculate the maximized prot for Snowr Security Services. 9 QUESTION 4 Suppose that the inverse demand function for a monopolist's product is p (q) = 9 0.05q while the rm's total cost function is C(q) = 10+ 10g- 4g2 + 3:13. (3) Plot or sketch carefully the demand curve, marginal revenue curve, and marginal cost curve. ([1) At what volume of output does marginal revenue equal marginal cost? (c) What are the prot- maximizing output and price? (Note: you should check the second-order condition to verify that your answer is a maximum)