IntMacro2018Springproblemset6March26rev.pdf

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Professor Mark Gertler Intermediate Macroeconomic Theory Spring 2018 Problem Set 6 Problem 1 Let Y t ° output, i t ° the nominal interest rate, P t ° price level. The consider the following °xed price IS/LM Model: ± IS Curve: Y t = [(1 + r n t ) P t P t +1 ° ] ° ° Y t +1 LM Curve: M P t = a m ° 1 r n t + 1 ± ° a m Y t with P t + i = P t + i ; i = 0 ; 1 M t = M t ± Questions: ° Find the equilibrium values of ( Y t ; r n t ) : (Use a diagram.) ° What is the impact of decline in Y t +1 on ( Y t ; r n t ) ° Describe how the central bank should adjust money supply to keep Y t from falling in response to the drop in Y t +1 : ° Now suppose that the drop in Y t +1 is large enough so that the zero lower bound on r n t is binding (see the lecture notes). Describe how this complicates the ability of the central bank to keep output from falling. 1

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Problem 2 : Consider a long term government bond, speci°cally a "consol" that pays a °xed coupon payment

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