/*! This file is auto-generated */ .wp-block-button__link{color:#fff;background-color:#32373c;border-radius:9999px;box-shadow:none;text-decoration:none;padding:calc(.667em + 2px) calc(1.333em + 2px);font-size:1.125em}.wp-block-file__button{background:#32373c;color:#fff;text-decoration:none} Q.3 - Problems Assume that the following condit... [FREE SOLUTION] | 91影视

91影视

Log out

Learning Materials

Features

Discover

Chapter 16: Q.3 - Problems (page 373)

Assume that the following conditions exist :

a. All banks are fully loaned up - there are no excess reserves, and desired excess reserves are always zero.

b. The money multiplier is 3.

c. The planned investment schedule is such that at a 6percent rate of interest, the investment is \(1200billion; at 5 percent, investment is \)1225billion

d. The investment multiplier is 3.

e. The initial equilibrium level of real GDP is \(18trillion.

f. The equilibrium rate of interest is 6percent.

Now the Fed engages in expansionary monetary policy. It buys \)1billion worth of bonds, which increases the money supply, which in turn lowers the market rate of interest by 1percentage point. Determine how much money supply must have increased, and then trace out the numerical consequences of the associated reduction in interest rates on all the other variables mentioned.

Short Answer

Expert verified

Bonds bought of $1 billion Increase inmoney supply by $3billion, decrease interest rate by 1%鈥�& increases investmentby $25billion, and raisesincome by $75 billion

Step by step solution

01

Investment Multiplier 

Change in investment due to change in interest rates can be calculated by =

(1225-1200)/(6-5). So, 1%change in interest rates leads to $25billion change in investment.

Investment multiplier shows multiple times increase in income due to change in income.

Formula = Change in Income/ Change in Investment

So, change in Income =3x25=$75 billion

02

Money Multiplier Concept 

Money multiplier shows the multiple times increase in money supply due to change in government monetary policy (FOMC bonds buying here).

Money Multiplier = Money supply change / Monetary policy change (bonds' purchase)

As money multiplier = 3, bonds purchase value = $1billion

So, 3= Money supply change /1

Money supply change = 3x1=$3billion dollars

Unlock Step-by-Step Solutions & Ace Your Exams!

  • Full Textbook Solutions

    Get detailed explanations and key concepts

  • Unlimited Al creation

    Al flashcards, explanations, exams and more...

  • Ads-free access

    To over 500 millions flashcards

  • Money-back guarantee

    We refund you if you fail your exam.

Over 30 million students worldwide already upgrade their learning with 91影视!

One App. One Place for Learning.

All the tools & learning materials you need for study success - in one app.

Get started for free

Most popular questions from this chapter

Suppose that each 0.1percentage point increase in the equilibrium interest rate induces a \(5billion decrease in real planned investment spending by businesses. In addition, the investment multiplier is equal to 4, and the money multiplier is equal to 3. Furthermore, every \)9billion decrease in money supply brings about 0.1-percentage-point increase in the equilibrium interest rate. Use this information to answer the following questions under the assumption that all other things are equal.

a. How much must real planned investment decrease if the Federal Reserve desires to bring about an $80billion decrease in equilibrium real GDP ?

b. How much must the money supply change for the Fed to induce the change in real planned investment calculated in part (a)?

c. What dollar amount of open market operations must the Fed undertake to bring about the money supply change calculated in part (b) ?

Assume that the following conditions exist :

a. All banks are fully loaned up - there are no excess reserves, and desired excess reserves are always zero.

b. The money multiplier is 4.

c. The planned investment schedule is such that at a 4percent rate of interest, investment is \(1400billion. At 5percent, investment is \)1380billion.

d. The investment multiplier is 5.

e. The initial equilibrium level of real GDP is \(19trillion.

f. The equilibrium rate of interest is 4percent.

Now the Fed engages in contractionary monetary policy. It sells \)2billion worth of bonds, which reduces the money supply, which in turn raises the market rate of interest by 1 percentage point. Determine how much the money supply must have decreased, and then trace out numerical consequences of the associated increase in interest rates on all other variables mentioned.

Evaluate how expansionary and contractionary monetary policy actions affect equilibrium real GDP and the price level in the short run.

Explain how the Federal Reserve has implemented a credit policy since 2008.

You learned in an earlier chapter that if there is an inflationary gap in the short run, then in the long run a new equilibrium arises when input prices and expectations adjust upward, causing the short-run aggregate supply curve to shift upward and to the left and pushing equilibrium real GDP per year back to its long-run value. In this chapter, however, you learned that the Federal Reserve can eliminate an inflationary gap in the short run by undertaking a policy action that reduces aggregate demand.

a. Propose one monetary policy action that could eliminate an inflationary gap in the short run.

b. In what way might society gain if the Fed implements the policy you have proposed instead of simply permitting long-run adjustments to take place?
See all solutions

Recommended explanations on Economics Textbooks

Taxation Economics

Read Explanation
View all explanations

What do you think about this solution?

We value your feedback to improve our textbook solutions.

Study anywhere. Anytime. Across all devices.