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ANSWERS

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ANSWERS

    ECO 212 Macroeconomics

    Yellow Pages

    ANSWERS

    Unit 3

Mark Healy

    William Rainey Harper College E-Mail: mhealy@harpercollege.edu Office: J-262

    Phone: 847-925-6352

    Consumption and Saving Functions

    Y C S APC MPC APS MPS

    _____________________________________________________________________________________

     0 40 - 40 -- -- -- --

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    100 120 - 20 1.2 .8 -0.2 .2

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    200 200 0 1 .8 0 .2

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    300 280 20 .93 .8 .07 .2

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    400 360 40 .90 .8 .10 .2

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    500 440 60 .88 .8 .12 .2

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    600 520 80 .87 .8 .13 .2

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    700 600 100 .86 .8 .14 .2

    _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

    Given the graphs below, calculate the change in government spending that is

    needed for this economy to achieve full employment.

1. MPC = ___change in C / change in income = 75/100 = .75___

2. MPS = __change in S / change in income - .25/100 = .25_OR MPC+MPS=1__

3. initial GDP = __$400_____ full employment GDP = ____$500____

4. multiplier = __1/MPS = 1/.25 = 4__

    5. What change in government spending is needed to achieve

    full employment?

    Change in GDP = change in G x multiplier

    100 = change in G x 4

    Change in G - $25

    6. What happens to the size of the multiplier with the addition of Taxes and Imports?

    It gets smaller

    7. What would happen to your answer in #5 if we included Taxes and Imports?

    We would need a larger change in government spending

    8. Notice that as this economy approaches full employment, there is no inflation.

    What happens to the size of the multiplier if there is inflation?

    If there is inflation the multiplier is smaller

    9. What would happen to your answer in #5 if there was some inflation?

    If there is inflation the change in government spending needed to achieve full

    employment would have to be larger

    10. What is the lump-sum tax multiplier?

    -3;

    the lump-sum tax multiplier is always one less than the simple multiplier and

    negative_

    or = -MPC/MPS = _.75/.25 = -3

    11. What change in taxes is needed to achieve full employment? ________________

    Change in GDP = change in taxes x lump-sum tax multiplier

    $100 billion = change in taxes x -3

    change in taxes = -$33 billion

    ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

    If the MPC = .6 and government spending decreases by $100 B, what happens to equilibrium GDP?

    Change in GDP = change in spending x multiplier

    Multiplier 1/MPS

    MPC + MPS = 1

    MPC + MPS = 1

    .6 + MPC = 1

    MPS = .4

Multiplier = 1/MPS = 1/1-MPC = 1/.4 = 2.5

Change in GDP = change in spending x multiplier

    Change in equilibrium GDP = -$100 x 2.5 = - $250

    YELLOW PAGE

    ECO 212 - Chapters 10 and 13 - Fiscal Policy

    REVIEW EXERCISES

    Level of output and income (GDP = DI) Consumption Saving APC APS MPC MPS $480 $488 $8 1.02 0.2 0.8 0.2

    520 520 0 1.00 0.0 0.8 0.2

    560 552 8 0.99 0.1 0.8 0.2

    600 584 16 0.99 0.3 0.8 0.2

    640 616 24 0.96 0.4 0.8 0.2

    680 648 32 0.95 0.5 0.8 0.2

    720 680 40 0.94 0.6 0.8 0.2

    760 712 48 0.94 0.6 0.8 0.2

    800 744 56 0.93 0.7 0.8 0.2

     How Banks Create Money

     Major Point: An initial increase in funds available to the banking industry results in a MULTIPLE increase in the money supply.

    Three Step Process per Round:

    1. An increase in demand deposits or other liabilities of a bank increases the

    bank’s reserves.

    2. Bank can make loans equal to its excess reserves. Loans made by increasing

    demand deposits.

    3. The loan check is spent, deposited in a different bank, and CLEARS. First

    bank now has no excess reserves, but second does and can therefore make a

    loan.

Given:

    Required Reserve Ratio = 20%

    FNB = First National Bank

    SNB = Second National Bank

    TNB = Third National Bank

    ER = excess reserves

    All banks initially have no excess reserves

    Banks make loans equal to their excess reserves

    $10 cash is deposited in a checking (DD) account at FNB

    Show:

    The CHANGES in the balance sheets of each bank as a result of this $10 cash deposit and the increased loan making ability of the banks.

Round One

    Step 1: $10 deposited in FNB

    Step 2: FNB makes loan equal to its excess reserves

    Step 3: Loan is spent, deposited in SNB, and the check clears

Round Two

    Step 1: Check from round one deposited in SNB

    Step 2: SNB makes loan equal to its excess reserves

    Step 3: Loan is spent, deposited in TNB, and the check clears

Round Three

    Step 1: Check from round two deposited in TNB

Money Supply Changes:

    How much money was created in round one? ____$ 8____ How much money was created in round two? ____$ 6.40_ How much money can be created in round three? ____$ 5.12_ Deposit Expansion Multiplier = 1 / Required Reserve Ratio (also called Money multiplier)

    Money Multiplier = total increase in money supply / initial excess reserves What is the money multiplier? _____5______

    What is the maximum total increase in the money supply that can occur as a result

    of the initial $10 cash deposit? ____$ 40_____

    What are the limitations on this money creation process? _____1) banks may hold ER _______________________ _____2) people may hold money_________________________ _____3) the required reserve ratio_______________________

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