ECON&202.Tst3W.Key.Spr08

ECON&202.Tst3W.Key.Spr08 - Name ECON&202 Spring 2008...

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Name __________________ ECON&202: Spring 2008 Suggested Solutions… Test 3-White Test: Covers 16, 17, 18, 20 & 21 Question 1-5 : Test worth 40 points, 10 points each. ONLY ANSWER 4 Questions! If you answer all 5 questions, I will grade the first 4. Remember explain all your answers. 1. This question is a combination of many topics. a. Explain the difference between real and nominal variables. According to monetary neutrality, which variables are affected by changes in the money supply? b. If the Fed began supplying the market with large quantities of dollars, what would happen to the nominal exchange rate between Japan and United States? Don’t just say appreciate or depreciate, be specific when explaining your solution. c. Why is long-run aggregate supply curve vertical? Do prices influence the long run aggregate supply? Solution: a. Nominal variables are measured in monetary units, dollars in our case. Real Variables are variables measured in physical units, bushels, barrels, and so forth. Monetary neutrality simply means that changes in the money supply do not change real variables. This is one of the classic arguments against the Fed in that the Fed only changes nominal variables in the long run or in other words, prices. b. As the Fed increases money supply, prices will eventually rise in the long run (See below) and the value of money will fall. (Note: As the price level on the vertical axis goes down, the prices are actually rising. Be sure to check out the graph in the book if you do not understand this concept.) If prices begin to rise relative to another country, the domestic (US) currency will depreciate because it will cost more to purchase goods in other currencies. Value MS MS’(Money Supply) Price Of Level Money c. The economy’s production of goods and services depends on its supplies of labor, capital, and
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