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Unformatted text preview: Practice Questions for Final - Answer Key Econ 4721: Money and Banking, Fall 2009 Question 3: Money Stock Fluctuations Suppose there is a permanent decrease in transaction costs as represented by φ . Find its e ect on s * , the price level, the deposit-to-currency ratio, the money multiplier, the total nominal money stock, capital, and output. Explain each of these e ects. Verify that the model economy displays a correlation between the nominal money stock and real output. Will a one-time increase in the monetary base cause an increase in real output? Answer Consumers decide whether holding money or depositing accoding to the following inequality: r- φ s i ≷ n z Then, if φ decreases, depositing in the bank account gives you higher rate of return. • So, if φ increases, the total amount of deposit in the banks H t increases. • The deposit-to-currency ratio, H t Q t increases though H t + Q t doesn't change. (So, Q t decreses) • p t = 1 v t = M t Q t + γH t increases as φ decreases since the reserve requirement γ < 1 , and H t Q t increases keeping H t + Q t as constant. ( Δ Q t + Δ γH t < ). That is, in the denominator of the price equation, the amount of increase of γH t is less than the amount of decrease of Q t . • The money multiplier is de ned as M 1 t M t = p t ( Q t + H t ) M t , and it increases as φ decreases since p t increases and H t + Q t is constant. • As H t increases, investment, I t , increases. • Then, Y t = C t + I t + G t also increases. • If φ increases, both M 1 t = p t ( Q t + H t ) and Y t increase, so, they are observed as a positive correlation in this economy....
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- Spring '10
- Fractional-reserve banking, bank account, Answer Banks