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Unformatted text preview: ECON 202 Macroeconomic Theory
Fall 2011 MIDTERM II Tuesday, 13 December 2011
17:4019:40 Please answer the following questions. Write your answers Clearly on the midterm. You can
achieve a total 100 points. There are 6 short questions followed by three long questions. You
should read all of the questions ﬁrst. There is a blank page attached at the end of the midterm to be used as scratch paper. GOOD LUCK! NAB/IE .............................................................. . . NUMBER ..../E?+.N.SLO.E§....L€.TJ ............................ .. (This table is for the instructor use only: Short Questions SHORT QUESTIONS (15 points, 2.5 points each)
Please state whether the following two statements are TRUE or FALSE with a short explanation (3 or 4 lines). True,I false answer 1 pointI correct
explanation 1.5 points. 1) In the medium run, a permanent increase in the nominal money growth of,
say 10%, is reﬂected in a 10% incr e in the inﬂation rate, leaving the output level and investments constant.( UE FALSE) .... 9‘} nae)
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TRUE ALSE) 3+...c..n¢.§......¢L.has ~40) ............................................. ..
..... ............... 3) Suppose that E (nominal exchange rate, 1TL=E$) increases by 4%, This will
result in a real appreciation if and o 'f price level in the domestic country increases more than 4%. (TRUE ALS ..... we.3....era..........o.s.2f...as...a.osmosis....................
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' bigger the higher the margina propensity to 5) Assuming the inﬂatio ° nominal appreciation wi
the Marshall Lerner condition. (TRUE ALSE Marcher...L¢:nyr....3..£.f....s=).h.?9:& ............................... .. ..... P ‘5 “kcAt 1 “40¢; a
6) . er aﬁxed exchange rate regime, the central bank must keep 153*.
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“'9”? .... ..'i..§..s..$.\.F.' .......................... .. LONG QUESTION I: ISLM and AS—AD (35 points) Consider an economy characterized by the following relationships: Goods Market: Y=C(YT)+I(Y,i)+G Financial Markets: M/P=Y*L(i) Wage Setting: W=Pe*F(u,z) Price Setting: P=(l+m)*W Production Technology: Y=N Constant Size of Labor Force: L All variables and functions are deﬁned as they were in lectures and the textbook.
Aggregate Supply (AS) relationship relates the price level in the economy to the
expected price level, the level of ﬁrm competition (m), labor market conditions
(2), and the output level in the economy. a) Solve for the output level as a function of unemployment and express your
AS equation in terms of Y (and not u). Do not write down AS equation from your memory show your work! (5 points)
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notion that “high economic activity puts upwards pressure on prices”. In
particular, describe the channels through which an increase in output leadsto an
increase in the price level. ' (5 pomts) ¢
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kaOA he)“ gar hang *‘ Cm thw (\’L) 9D M ven three policy changes. For each, you are to On the next page, you are gi
dium—run dynamics of the economy. To get ﬁill describe the shortrun and me credit, you must provide: In the topleft graph, a clear accounting of the shifting AS and/or AD curves. Use the bottom—left graph to show how the underlying IS and LM curves are moving. In each graph, the drawn curves represent the initial equilibrium. “1”, and mediumrim movements with a Label shortrun movements these equilibriums with a “2”. Include the following axis or curve labels (Yn is the natural rate of output): Pena Yo ‘fun» in Short—Run Equilibrium: ASI,AD1. IS]. LM 1. Pi. Pei. Y1. Y‘H. ii
ADz. lSz. LMz. P2. P62. Y2. Ynz, i2 initial Equilibrium: ASg, ADD. ISO. LMo. Pu. I MediumRun Equilibrium: A82. ISLM graph to show how this model’s shortrun If appropriate, use the
om the ﬁxedprice model studied in the ﬁrst section of response is different fr
this course. Please also mention how we move from short run equilibrium to medium run equilibrium! c) The government cuts taxes.
Show the changes in the graphs below (2.5 points). Explain what happens to investment, consumption, price level, output
and interest rate inathe ShortRun and Mediuni Run. (2.5 points) AS—AD _..__— __;_..—_— level d) The central bank decreases the money supply and government increases vernrnent urchases simultaneousl . the defense expenditures (go 9 1 3: Show the changes in the graphs below (5 points). Explain what happens to investment, consumption, price level, output level e Short—Run and Medium Run. (5 points) and interest rate in th AS—AD as ASSamij *‘V‘* 4"“ S‘nura
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and interest rate in the ShortRun and Medium Run. (5 points) «= ‘51,
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Q *5 (“RAF 1': u LONG QUESTION 11:
OPEN ECONOMY (30 points, 5 points each) 1) We know from the exchange rate market that 1TL=0.5£. (Turkey is the domestic country and UK is the foreign country here) Price level in Turkey:100, Price level in UK=200. What is the real exchange rate? What does it suggest intuitively? (5 points) a
? (Pin 2 .1. vr‘u '5
0‘: ‘9“ 3“." u!) 2) What is the interest parity condition? Let’s assume that the interest rate in
Turkey is initially 5% and interest rate in UK is 7%. Does the foreign exchange market expect the Turkish Lira to appreciate or depreciate? Mention the exact amount of appreciation] depreciation. (5 points)
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C = 650
I = 100
G = 50
IM = Y8 + 305 IF
=L—205
2 Y* = 100
(For simplicity I assume C,'G and I areexogen 3) A) What is the domestic demand for goods in the domestic cou points) .
B) What is the demand for domestically produced goods, Z? (This will
depend on Y, Y* and real exchange rate) (2.5 points) '
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' " ups s1: (3 decreases from 1 to 0.5) on the domestic country. Using hs show the effects of this depreciation on goods market orts. (LABEL THE AXIS AND LINES) (5 points) 5) What is the effect of depreciation by 50% equilibrium output level and trade balance in two separate grap
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6) Explain the ﬁxed exchange rate system Why would a country decrde to
peg its currency to a foreign currency“? What would happen 1f government
expenditures suddenly increase as a result of an unexpected earthquake?
(5 points)
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PHILIPS CURVE (20 points) Suppose the Phillips curve is given by TI: = 1T: + 02 — 5'”: where 7‘3 = 975?; ent in this economy? (5 points)
R: deﬁned OJ
PPQU. eﬂlgn\l ’rK _1. What is the natural rate of unemploym
’rH WW 2. For now assume that 9:0. (What does that mean?) Suppose that the government decides to lower unemployment to 3% and keep it there forever.
What is the rate of inﬂation for t=100? Is this realistic? Why? (7 points) Sing; 9 :9 t Thazo (This man‘s Artoa H'£ oft/*5”?
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3. Assume that only for the first three periods (t=1, t=2, and t=3) people form ‘ 8 their expectations using 9=O. After the third period, from t=4 on, they start n I using 9:1 forever. Also, the government still wants to keep unemployment at . E
3%. What is the rate of inﬂation for t = 4, 5, and 6? What is the expected rate Q 3 5. I" of inﬂation for t=4, 5, and 6? Is this setup more realistic? Why? (8 points)
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C 0 \g * \uak’iral' nunHA \ngKomun BONUS QUESTIONS: (3 points) (No partial points) e double digit numbers, what could be the 1) Inﬂation in Turkey reached th
the monetary policy in reasons of it? Does the inﬂation problem affect Turkey? (1.5 point)
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" " GA. Q5u°\\j wkﬂbﬁm lain the Central Bank of Turkey’s interventions to the foreign
exchange markets from August 2011. What are the reasons of these interventions? What are the results of these interventions on the exchange
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This note was uploaded on 03/22/2012 for the course ECONOMICS 202 taught by Professor Pinarderingure during the Spring '12 term at Middle East Technical University.
 Spring '12
 PINARDERINGURE
 Macroeconomics

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