EC202 final exam review sheet

EC202 final exam review sheet - EC 202 Final Review Sheet...

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EC 202 Final Review Sheet Demand for money – the amount of wealth an economic agent desires to hold in the form of money. If the money supply is less than money demand, people will SELL bonds which will cause bond prices to FALL and the nominal interest rate to RISE until demand equals money supply. An increase in the Nominal money supply will SHIFT THE AGGREGATE DEMAND CURVE TO THE RIGHT. Higher interest rates lower the quantity demanded of money. Higher real output raises the demand for money Higher price level raises the demand for money Interest rates DO NOT shift money D curve, all else does. Money Supply curve is vertical Inverse relationship between Interest rates and bond prices If nominal IRs are too low , Qd>Qs of money => IR rises, Qd falls and equilibrium happens The Fed sets the short-run IR => if money supply increases, the interest rate falls, vice versa Fed’s primary tool – open market operations (buy bonds to increase the money supply, sell bonds to decrease money S) Fed targets the Federal Funds Rate (short-term IR move together) Quantity Theory of Money – in the long-run, the velocity of money is constan t and output is constant at the potential output level Velocity of Money – the average speed with which a dollar circulates in the economy as people use it to buy goods and services- nominal GDP divided by quantity of money Nom GDP = P(price)*Y(real GDP) Velocity of circulation = (PxY)/M(quantity of money) Equation of exchange = MxV=PxY Long-Run Inflation Rate = Gr(P)=Gr(M)+Gr(V) +Gr(Y*) Growth rate rules are the same as logs : Gr(X x Y)=Gr(X)+Gr(Y) Gr(X/Y)= Gr(X)-Gr(Y) Since the velocity of money is constant: Gr(P)=π=Gr(M)-\Gr(Y*) (how fast prices will rise in the long-run) Y* is also constant in the long-run so π=Gr(M) Aggregate Demand shows Price level and Qd Shifts AD curve right : increase in money supply, autonomous levels of C, Ip, G, Nx Long-Run Aggregate supply curve is vertical @Y* Short-Run Aggreg. Supply curve is Horizontal AD curve shifts with monetary or fiscal expansion IR=Gr(M) in LONG_RUN PAE has inverse relationship with Interest Rates Hyperinflation – Inflation that grows at over 50%/month With Recessionary Gap : Feds reduce IR to stimulate C and Ip, increase PAE, and increase output and employment (vice versa with expansionary gap) The best policies for the govt to eliminate a recessionary gap would be to reduce the discount rate, reduce saving, and increase exports. Expansionary monetary policy or monetary easing – a reduction in IRs by the Fed, made with the intention of reducing recessionary gap Reducing IR=Increasing Money Supply Flexible Exchange Rate – value is not fixed but varies acc. To the supply and demand for the currency in the foreign exchange market Fixed Exchange Rate – value is set by official govt policy Real Exch. Rate – e*P/Pforeign (# of foreign goods that can be purchased instead of one domestic good)
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