home5_05 - Kevin D Salyer Economics 137 Spring 2005 1 Homework#5 Due June 2(in Section 1 Consider the following IS-LM model Y = a0 a1 r u M = b0 b1 Y b2

home5_05 - Kevin D Salyer Economics 137 Spring 2005 1...

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Kevin D. Salyer, Economics 137, Spring 2005 1 Homework #5 - Due June 2 (in Section) 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.Blinder states (on p.27): “Returning to Poole’s dichotomy, let me remindyou of his basic conclusion: that large LM shocks militate in favor of targetinginterest rates while large IS shocks militate in favor of targeting the moneysupply.”Explain why Poole reached this conclusion.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.

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