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Chapter: CH4
Instruction:
Name: __________________________
Date: _____________
Short Answer
1.
Assume that a series of inflation rates is 1 percent, 2 percent, and 4 percent, while nominal
interest rates in the same three periods are 5 percent, 5 percent, and 6 percent, respectively.
a.
What are the
ex post
real interest rates in the same three periods?
b.
If the
expected
inflation rate in each period is the
realized
inflation rate
in the
previous
period, what are the
ex ante
real interest rates in periods
two and three?
c.
If someone makes a loan in period two, based on the
ex ante
inflation
expectation in part b, will he or she be pleasantly or unpleasantly
surprised?
Ans:
a. 4 percent; 3 percent; 2 percent
b. 4 percent; 4 percent
c. He or she will be unpleasantly surprised.
Topic:
Numerical Problems
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Assume that the demand for real money balance (
M
/
P
) is
M
/
P
= 0.6
Y
– 100
i
, where
Y
is
national income and
i
is the nominal interest rate. The real interest rate
r
is fixed at 3 percent by
the investment and saving functions. The expected inflation rate equals the rate of nominal
money growth.
a.
If
Y
is 1,000,
M
is 100, and the growth rate of nominal money is 1
percent, what must
i
and
P
be?
b.
If
Y
is 1,000,
M
is 100, and the growth rate of nominal money is 2
percent, what must
i
and
P
be?
Ans:
a.
i
= 4 percent,
P
= 1/2
b.
i
= 5 percent,
P
= 1
Topic:
Numerical Problems
3.
Consider two countries, Hitech and Lotech. In Hitech new arrangements for making
payments, such as credit cards and ATMs, have been enthusiastically adopted by the population
thereby reducing the proportion of income that is held as real money balances. Over this period
no such changes occurred in Lotech. If the rate of money growth and the growth rate of real GDP
were the same in Hitech and Lotech over this period, then how would the rate of inflation differ
between the two countries? Carefully explain your answer.
Ans:
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This note was uploaded on 03/29/2012 for the course ECON 101 taught by Professor Schneider during the Spring '11 term at Kansas State University.
 Spring '11
 Schneider

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