Economics 470/570
Spring 2004
Final Exam
Part I - Definitions. Define EACH of the following (4 points each, 40 points total).
1. Crowding out
2. Speculative demand for money
3. Potential output
4. Rational expectations
5. Debt monetization
6. Direct and indirect finance
7. Excess reserves
8. Policy ineffectiveness proposition
9. Recognition lag
10. Short-run and long-run in AD/AS model
Part II - Short Answer. Answer FOUR of the following questions (15 points each, 60 points total).
1. Is the economy self-correcting? Explain.
2. Derive the aggregate demand curve from the IS-LM model and explain intuitively why it slopes downward. What makes the AD curve steeper or flatter?
3. Using T-accounts show that the Fed can increase the monetary base by (a) an open market purchase of government bonds from banks, or (b) an open market purchase of government bonds from an individual.
4. Show that it is possible in a model with expectations (e.g. using the New Classical model) for an increase in the money supply to reduce output if the change in the money supply is smaller than expected.
5. Explain the shape of the supply curve for reserves.
Part III – Essays and problems. Answer FIVE of the following questions (20
points each, 100 points total)
1. Explain the activist and non-activist positions on the use of government policy to stabilize macroeconomic variables such as real output. What problems are encountered in the pursuit of activist policies?
2. Describe the structure and function of the Board of Governors of the Federal Reserve System. How has the power structure of the Federal Reserve System shifted over time?
3. Can budget deficits lead to inflation? Explain. Why might governments choose to monetize the debt?
4. (a) Explain intuitively how the money multiplier changes when (i) the required reserve ratio increases, (ii) the currency to deposit ratio increases, and (iii) the excess reserve to deposit ratio increases. What factors determine the quantity of excess reserves held by banks? (b) Explain how the money supply changes when discount loans increase. What might cause discount loans to change?
5. Use the IS-LM model to examine how the relative effectiveness of monetary and fiscal policy changes as investment becomes less sensitive to the interest rate. Explain the result intuitively.
6. (a) Compare and contrast the effects of an unexpected increase in the money supply on prices and output in the New Classical and New Keynesian models. (b) Compare and contrast the effects of an expected increase in the money supply on prices and output in the New Classical and New Keynesian models.