Econ420S10_HW10_Solution

Econ420S10_HW10_Solution - Economics 420 - Spring 2010...

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Economics 420 - Spring 2010 Mike Aguilar UNC at Chapel Hill HW # 10 Due - 04/28/2010 Instructions : Please explain your answers thoroughly and show all necessary work. State your assumptions carefully. There may be more than one correct solution. Please type your answers whenever possible. Students may work together, but each must submit their own work. The honor code is in effect. Note: Maintain a ceteris paribus assumption when interpreting all shocks. 1. (7pts) Consider an economy where the market for federal funds is described by: S R = 100, and D R = 120 - 400 · FFR . In addition, the money supply is described by: S M = 100 + 10 · S R . Suppose there is a well defined relationship between the fed funds rate and the real rate of interest on long term bonds r , which is characterized by: r = 0 . 05 + 0 . 7 · FFR . Take r to be the interest used in IS/LM space. Note: All the numbers are in decimal format, i.e. 3% is written as 0 . 03. (a) What is the equilibrium Fed funds rate? What is the money supply in this market? (b) Suppose the Fed decides to set a target fed funds rate of 3%. What actions must the Fed take in order to achieve this target? Is this considered a loosening or tightening of monetary policy relative to the initial equilibrium? (c) What is the new equilbrium long term real interest rate? What is the deposit multiplier? (d) The LM curve is:
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This note was uploaded on 11/02/2010 for the course ECON 420 taught by Professor Hill during the Spring '08 term at UNC.

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Econ420S10_HW10_Solution - Economics 420 - Spring 2010...

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