answerMidterm - ECO 3355-001 Money and Banking Southern...

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ECO 3355-001: Money and Banking Southern Methodist University Spring 2008 Midterm Answer Key Total Points 200 – 10 points for each part 1. Give a short explanation of the following terms. (a) Fiat money
(b) Feasible set
(c) The rate of return on fiat money .
(d) Inside money
(e) Real interest rate
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2 2. Consider an overlapping generations model with two countries: US (country a ) and UK (country b ). In each country the population of every generation is 100. Each young person in US and UK wants money balances worth 20 and 10 goods, respectively. The fiat money supplies are $400 in US and £200 in UK. We are given N = 100 , , 20 1 = a a c y , 10 1 = b b c y , 400 = a t M and . 200 = b t M (a) With foreign currency controls in effect, what is the value of a dollar ( a t υ )? Of a pound ( b t υ )? Under foreign currency controls, values of currency are determined independently, depending upon each country’s money market clearing. 5 200 ) 10 ( 100 ) ( 5 400 ) 20 ( 100 ) ( 1 1 = = = = = = b t b b b t a t a a a t M c y N M c y N υ υ (b) Find the exchange rate of British pounds per US dollar. 1 5 5 = = = b t a t t e υ υ It means that 1 US dollar can exchange for 1 UK pound. (c) Given the exchange rate you found in part (b), what does it mean if US experiences an appreciation of its exchange rate at period t +1? What factors can cause such a change?

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