ch_05 - Chapter 5 Monetary Theory and Policy Questions 1....

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Monetary Theory and Policy Questions 1. How does the Fed’s monetary policy affect economic conditions? ANSWER: The Fed’s monetary policy can affect the supply of loanable funds available in financial markets and therefore may affect interest rates. It may also affect inflation (with a lag) and therefore affect the demand for loanable funds by influencing inflationary expectations. 2. Describe the economic tradeoff faced by the Fed in achieving its economic goals. ANSWER: In general, a stimulative monetary policy can increase economic growth and reduce unemployment, but may increase inflation. A restrictive monetary policy can keep inflationary pressure low but may cause low economic growth and higher unemployment. 3. What is a criticism of a loose-money policy? ANSWER: A loose-money policy may result in higher inflation 4. When does the Fed use a loose-money policy and when does it use a tight-money policy? ANSWER: A loose monetary policy may be used to stimulate the economy, especially if inflation is not a concern. A tight monetary policy may be used to slow economic growth in order to reduce inflationary fears. 5. Briefly summarize the pure Keynesian philosophy and identify the key variable considered. ANSWER: The pure Keynesian philosophy suggests that the money supply should be adjusted by the Fed to influence interest rates and aggregate spending for goods and services. A loose-money policy can lower interest rates and increase aggregate spending, while a tight- money policy can increase interest rates and reduce aggregate spending. 6. Briefly summarize the Monetarist approach. ANSWER: The Monetarist philosophy advocates a stable, low growth in the money supply. Monetarists may contend that sporadic changes in money supply growth are likely to result in volatile business cycles. 7. Why may the Fed have difficulty in controlling the economy in a manner desired? Be specific. ANSWER: The Fed has difficulty in controlling the economy because it cannot always maintain money growth within its target boundaries. In addition, the impact of monetary growth on the economy may be different than what was anticipated. 8. What is the recognition lag? Explain why it occurs. ANSWER: The recognition lag represents the time from when a problem exists until it is recognized by the Fed. It occurs because the economic statistics that are monitored to detect problems are only reported periodically. 27
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This note was uploaded on 04/12/2011 for the course ECON 101 taught by Professor Buddin during the Spring '08 term at UCLA.

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ch_05 - Chapter 5 Monetary Theory and Policy Questions 1....

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