Economics 470/570
Summer 2003
Midterm
Answer FIVE of the following six questions (20 points each). Put a large X on
the page of the question you are omitting so as to clearly and unambiguously
designate the skipped question.
1. (a) Derive the LM curve graphically. Explain intuitively why it slopes upward. (b) Consider points above or below the LM curve. Explain why there is excess demand or excess supply at each point and the forces that cause the interest rate to change so as to restore equilibrium.
2. According to Baumol and Tobin, the transactions demand for money depends upon the interest rate as well as nominal income. Explain why the transactions demand for money depends upon the interest rate. Why is this important?
3. Describe the three tools available to the Fed for controlling the money supply. Using T-accounts show that the Fed can increase the monetary base by (a) making discount loans to banks, (b) an open market purchase of government bonds from banks, or (c) an open market purchase of government bonds from an individual.
4. Describe the structure and function of the Board of Governors of the Federal Reserve System. What is the FOMC? What does it do?
5. What are the functions of money? Relative to a barter economy, what problems are overcome by the use of money? What properties must money satisfy in order to be useful?
6. Show that the Fed can control the monetary base better than it can control reserves. Can the Fed control the monetary base perfectly? Why or why not?
