# HW2_Answerkey - ECON202 HW Assignment #2 (Suggested...

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ECON202 HW Assignment #2 (Suggested Answerkey) Q #s 2 & 9 of Ch. 4 in problems and applications 2. Real interest rate = nominal interest rate-inflation rate 11% - inflation rate Equation of Exchange: %∆ in Ms + %∆ in V = %∆ in P + %∆ in Y Or, %∆ in P = %∆ in Ms + %∆ in V - %∆ in Y Substituting the values, we get as follows: %∆ in P = 14% +0%- 5% = 9% Therefore, real interest rate = 11% -9% = 2% 9. The website economist.com is not free resources. The info is available to paid subscribers only. However, imf.org has a lot of free resources including inflation data by country ( www.imf.org ) for comparison. For example, in 2001 data shows that Turkey had one of the highest inflation rate (69%) and monetary growth rate (M1 55%, M2 52%) along with nominal interest rate of 54%. At the same time, the CPI growth rate and Ms growth rate for the US were 2% and 8% respectively along with nominal interest rate growth at 2%. These data are fully consistent with the theories that high inflation economies will have high Ms growth rates and high nominal interest rates. Q #s 2, 3, 5, 6, 7, 8, 9, &10 of Ch. 5 in problems and applications 2. a. S = Y- C – G = 5,000- 250 - 0.75(5,000-1,000) -1,000 = 750 I = 1,000 – 50 X 5 = 750; (r =r* = 5) NX = S-I = 750- 750 = 0 NX = 0 = 500-500e; e = 500/500 =1 2.b. S = Y-C – G = 5,000- 250 -.75(5,000-1,000) -1,250 = 500

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I = 750 NX = S- I = 500-750 = -250 NX = -250 = 500 – 500e; or e = 750/500 = 1.5 The rise G reduces national saving, but with no change in world real interest rates, and thus no change in investment. So, I exceeds S and the saving gap is financed by foreign borrowing causing capital inflow. This transmission process reduces net exports requiring appreciation of currency. Therefore, higher G and increasing capital inflow implies higher exchange rate from 1 to 1.5. 2.c. S = Y-C – G = 5,000- 250 -.75(5,000-1,000) -1,000 = 750 I = 1,000 – 50 X 10 = 500 NX = S-I = 750- 500 = 250 NX = 250 = 500-500e; e = 250/500 =0.5 Increase in world interest rates from 5% to 10% creates capital outflow (by declining investments), and exchange rates falls to have trade surplus
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## This note was uploaded on 08/29/2008 for the course ECON 202 taught by Professor Aman during the Spring '08 term at University of Massachusetts Boston.

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HW2_Answerkey - ECON202 HW Assignment #2 (Suggested...

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