home3_03 - Kevin D Salyer Economics 137 Spring 2003 1 Homework#3 Due May 29 1 Consider the following IS-LM model Y = a0 a1 r u M = b0 b1 Y b2 r v where

home3_03 - Kevin D Salyer Economics 137 Spring 2003 1...

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Kevin D. Salyer, Economics 137, Spring 2003 1 Homework #3 - Due May 29 1.Consider the following IS-LM model:Y=a0+a1r+uM=b0+b1Y+b2r+vwhereu, vdenote random shocks to the goods and money market respectively.Express the model in reduced form under the assumption that the money supplyis the instrument of monetary policy.2.According to Blinder, why have virtually all central banks adopted aninterest rate instrument?3.The Poole analysis predicts that, under certain conditions, an interest ratetarget is optimal.Explain what is meant by optimal and give the intuitionbehind this result.Under what conditions is a money target optimal?4.Consider the following two-period problem.Jerry lives for two periods andreceives incomeywhen young and nothing when old.Consequently, consump-tion in old age (the second period of life) isfinanced out of savings.The returnon savings is random and take on two values,R1andR2,with equal probability.This implies that consumption next period is random.

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