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Chapter 7
Numerical Problems
1.
a.
Real money demand is Md/P = 500 + 0.2Y 1000 i = 500 + (0.2 x 1000)  (1000 x 0. 10) = 600.
Nominal money demand is Md= (Md/P) x P = 600 x 100 = 60,000.
Velocity is V = PY / Md = 100 x 1000 / 60,000 = 1 2/3.
b.
Real money demand is unchanged, because neither Y nor i have changed.
Nominal money demand is Md = (Md / P) x P = 600 x 200 = 120,000.
Velocity is unchanged, because neither Y nor Md / P has changed, and we can write the equation for velocity as V =
PY/Md = Y/ (Md / P).
c.
It is useful to use the last expression for velocity,
V = Y / (Md / P) = Y / (500 + 0.2 Y  I 000i).
(1)
Effect of increase in real income:
When i = 0. 10,
V=Y/ [500 + 0.2Y  (1000 x 0. 10)]=Y/(400 + 0.2 Y)=1 /[(400/Y)+ 0.2].
When Y increases, 400 / Y decreases, so V increases. For example, if Y=2000, then V 2.5, which is an increase over
V = 2.5, that we got when Y = 1000.
(2)
Effect of increase in the nominal interest rate:
When Y = 1000, V = 1000 / [500 + (0.2 x 1000)  1000i]= 1000 / (700  1000i)= 1 / (0.7  i).
When i increases, 0.7  i decreases, so V increases. For example, if i=0. 20, then V=2, which is an increase over V =
1 2/3 that we got when i = 0. 10.
(3) Effect of increase in the price level:
There is no effect on velocity, since we can write velocity as a function just of Y and i. What happens
is that
nominal
money demand changes proportionally with the price level, so that real money demand, and hence velocity, is
unchanged.
2.
a.
Md = 100,000  50,000  [5000 x (i  im) x 100]. (Multiplying by 100 is necessary since i and i' are in decimals, not
percent.)
Simplifying this expression. we get Md= 50,000500,000(Iim).
b.
Bd = 50,000 + 500,000 (i  im).
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View Full Document Adding these together we get Md + Bd = 100,000, which is Mr. Midas's initial wealth.
c.
This can be solved either by setting money supply equal to money demand, or by setting bond supply equal to bond
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This note was uploaded on 07/24/2008 for the course ECON 360 taught by Professor Wang during the Fall '06 term at SUNY Buffalo.
 Fall '06
 wang

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