Solutions - Macroeconomia - Blanchard - 3 Ed.

Blanchard – Macroeconomia – 3ª edição

ANSWERS TO END-OF-CHAPTER PROBLEMS CHAPTER 1 Quick Check 1.

a. b. c.

d. e. ,. .

True. True. True/Uncertain. Average growth i lower ince 1!"3. #owever$ ince the mid%1!!&$ out'ut 'er wor(er ha growth growth at about the 're%1!"3 rate. )t* too oon to tell whether whether thi mar( a return to 're%1!"3 growth rate or im'l+ a ,ew luc(+ +ear. True. -ale. -ale.

a. a. U0 U 4a'an

3.

1!&%&&&

&&1%&&

3.2 3.12 .2

&.!2 1.2 %&.!2

b.

5robabl+ cloer to long%run average$ becaue average over hort time 'eriod re,lect buine c+cle. #owever$ 4a'an wa growing e6ce'tionall+ ,at in the earl+ 'otwar 'eriod a it caught u' to the United 0tate. ven i, 4a'an recover ,rom it current lum' over the ne6t decade$ it ma+ not reume growth a high a it 'reviou average.

a.

7ow 7ow unem unem'l 'lo+ o+me ment nt migh mightt lead lead to an incr increa eae e in in,l in,lat atio ion. n.

b.

Although meaurement error ma+ contribute to the meaured lowdown in growth$ there are other relevant iue$ including the 'roductivit+ o, new reearch and the accumulation o, new ca'ital.

c.

Although labor mar(et rigiditie ma+ be im'ortant$ it i alo im'ortant to conider that thee rigiditie ma+ not be e6ceive$ and that high unem'lo+ment ma+ arie ,rom ,lawed macroeconomic 'olicie.

d.

Alth Althou ough gh 'oo 'oorr regul regulat atio ion n o, the the ,inan ,inanci cial al +t +tem em ma+ ma+ be cont contri ribu buti ting ng to to the the lengt length h o, 4a'an* 4a'an* lum' lum'$$ mo mott econom economit it believ believee that that the the colla' colla'e e in 4a'ane 4a'anee e aet aet 'rice 'rice triggered the economic economic downturn. Moreover$ tightening tightening regulation would li(el+ involve more 'ain in the hort run ince ome ban( and ,irm would be ,orced to cloe.

e.

Alth Althou ough gh the the ur uro o will will rem remov ovee obt obtac acle le to ,re ,reee trad tradee betw betwee een n uro uro'e 'ean an cou count ntri rie e$$ each each countr+ will be ,orced to give u' it own monetar+ 'olic+.

Dig Deeper 8.

9icuion :uetion.

.

a.

1& +ear; <1.&1=1&>1.1& or 1& 2 higher? & +ear; 2 higher? & +ear; 82 higher

b.

!2? "2? 12 higher higher

5earon ducation do Brail

1


.

c.

Ta(e out'ut 'er wor(er a a meaure o, the tandard o, living. 1& +ear; 1.!/1.1>1.1"$ o the tandard o, living would would be about 1"2 higher? & +ear; 3"2 higher? & +ear; 1&2 higher

d.

@o. 7abor 'roductivit+ growth ,luctuate a lot ,rom +ear to +ear. The lat ,ew +ear ma+ re'reent re'reent good good luc(. )t i too oon to tell whether whether there ha been a change change in the trend oberved ince 1!"3.

!.!<1.&3=t>1.1<1.&=t !><1.&8!=t t > ln
Explre Fur!her ".

a%c.

d.

A o, 4une &&$ there have been  receion. The number are eaonall+% eaonall+% adCuted annual 'ercentage growth rate o, D95 in chained 1!! dollar. 1!8!;1 1!8!;

%. %1.1

1!"8;3 1!"8;8 1!";1

%8.8 %. %.&

1!3;3 1!3;8 1!8;1

%. %.3 %.&

1!&; 1!&;3

%".! %&.

1!";8 1!;1

%8.1 %1&.3

1!1;8 1!;1

%8. %.

1!!;8 1!"&;1

%".! %&.

1!!&;3 1!!&;8 1!!1;1

%&." %3. %.&

@o. Drowth rate ,or &&1; &&1;1 &&1; &&1;3 &&1;8

.

a%b. a%b.

1.32 &.32 %1.32 1."2

2 'oint 'oint incre increae ae in unem' unem'lo+ lo+men mentt rate rate ,or the  rece receion ion 1!8! 1.! 1!"8%" 1!3%8 3.1 1!& 1!"% . 1!1% 1!!%"& &." 1!!&%!1

3.1 &. 1.1 1.3

The unem'lo+ment rate increaed b+ 1.8 'ercentage 'oint between 4anuar+ &&1 and 4anuar+ &&.

CHAPTER " Quick Check 1.

a.

-ale.





.

3.

8.

.

b. c. d. e. ,.

Uncertain; real or nominal nominal D95. True. True. -ale. The level o, the E5) mean nothing. )t rate o, change tell u about in,lation. Uncertain. Fhich inde6 i better de'end on what we are tr+ing to meaureGin,lation ,aced b+ conumer or b+ the econom+ a a whole.

a.

HI1& HI1&& &? 5er 5erona onall Eonu onum m'ti 'tion 6'en 6'end diture ture

b.

no change; intermediate intermediate good

c.

HI&& million? Dro 5rivate 9ometic -i6ed )nvetment

d.

HI&& million? @et 6'ort

e.

no cha chang nge; e; the the Cet Cet wa wa alr alrea ead+ d+ cou count nted ed whe when n it wa wa 'rod 'roduc uced ed$$ i.e.$ i.e.$ 're 'reum umab abl+ l+ whe when n 9elta
a.

I1$& I1$&& &&$&& &$&&& & the the val value o, the the ilv ilver er nec( nec(la lace ce.

b.

1t 0tage; I3&&$&&&. I3&&$&&&. nd 0tage; I1$&&&$&&%I3&&$&&&>I"&&$&&&. I1$&&&$&&%I3&&$&&&>I"&&$&&&. D95; I3&&$&&&HI"&&$&&&>I1$&&&$&&&. I3&&$&&&HI"&&$&&&>I1$&&&$&&&.

c.

Fage; I I&&$&& $&&& H I I&$&&&>I8&$&&&. 5ro,it; I1&&$&&&HI8&$&&&>I&$&&&. D95; I8&$&&&HI&$&&&>I1$&&&$&&&. I8&$&&&HI&$&&&>I1$&&&$&&&.

a.

&&1 D95; 1&JI$&&&H8JI1$&&&H1&&&JI1>I$&&& && D95; 1JI3$&&&HJI&&H1&&&JI1>I8& 1JI3$&&&HJI&&H1&&&JI1>I8&$&&& $&&& @ominal D95 ha increaed b+ &2.

b.

&&1 real <&&1= D95; I$&&& I$&&& && real <&&1= D95; 1JI$&&&HJI1$&&&H1&&&JI1>I3 1JI$&&&HJI1$&&&H1&&&JI1>I31$&&& 1$&&& Keal <&&1= D95 ha increaed b+ 82.

c.

&&1 &&1 rea reall <&& <&&= = D95 D95;; 1&JI 1&JI3$ 3$&& &&&H &H8J 8JI I&& &&H1 H1$& $&&& &&JI JI1> 1>I3 I33$ 3$&& &&& & && real <&&= D95; I8&$&&&. Keal <&&1= D95 ha increaed b+ 1.2.

d.

The The anw anwer er mea meau ure re rea reall D95 D95 gro growt wth h in in di, di,,e ,ere rent nt uni unit t.. @eit @eithe herr anw anwer er i i inco incorr rrec ect$ t$ Cut a meaurement in inche i not more or le correct than meaurement in centimeter.

a.

&&1 bae +ear; 9e,lator<&&1=>1? 9e,lator<&&1=>1? 9e,lator<&&=>I8&$&&&/I31$&&&>1 9e,lator<&&=>I8&$&&&/I31$&&&>1.! .! )n,lation>!2

b.

&&1 bae +ear; 9e,lator<&&1=>I$&&&/I33$&&&>&."? 9e,lator<&&1=>I$&&&/I33$&&&>&."? 9e,lator<&&=>1


3


)n,lation><1%&."=/&.">.3>32

.

c.

Analogou to 8d.

a.

&&1 &&1 real real D95 D95 > 1&JI 1&JI$ $& && & H 8JI" 8JI"& & H 1&&& 1&&&JI JI1 1 > I!$ I!$&& &&& & && real D95 > 1JI$&& H JI"& H 1&&&JI1 > I3$&&

b.

<3$&&%!$&&&=/!$&&& <3$&&%!$&&&=/!$&&& > .8 > .82

c.

9e,lator in & &&1>I$&& $&&&/I!$&& $&&&>. . 9e,lator in &&>I8&$&&&/I3$&&>1.13 &&>I8&$&&&/I3$&&>1.13 )n,lation > <1.13 %.=/. > .318 > 31.82.

d.

Le$ e$ e ee a' a''en 'endi6 ,or ,or ,ur ,urth ther er dicu icuio ion.

Dig Deeper ".

.

!.

a.

The :ual :ualit it+ + o, a rou routin tine chec chec(u (u' ' im' im'rove rove over over tim time. Ehec Ehec(u (u' ' now ma+ incl inclu ude D D$ ,or e6am'le. Medical ervice are 'articularl+ 'articularl+ a,,ected b+ thi 'roblem due due to contant im'rovement in medical technolog+. technolog+.

b.

Lou need to (now how the mar(et value 'regnanc+ chec(u' with and without ultra% ound in that +ear.

c.

Thi Thi in,or in,ormat mation ion i not not avai availab lable le inc incee all all docto doctor r ado' ado'ted ted the the new new tech techno nolog log+ + imultaneoul+. 0till$ +ou can tell that the :ualit+%adCuted increae will be lower than &2.

a.

Meaured Meaured D95 increae increae b+ I1&HI1>I I1&HI1>I. . <0trictl+ <0trictl+$$ thi involve involve mi6ing mi6ing the ,inal good good and income income a''roache a''roache to D95. Aume Aume here that the the I1 'er hour o, wor( create a ,inal good worth I1.=

b.

True D95 hould increae b+ much le than I becaue b+ wor(ing ,or an e6tra hour$ +ou are no longer 'roducing 'roducing the wor( o, coo(ing coo(ing within the houe. 0ince coo(ing within within the houe i a ,inal ervice$ it hould count a 'art o, D95. Un,ortunatel+$ it i hard to meaure the value o, wor( within the home$ which i wh+ meaured D95 doe not include it.

Anwer will var+ de'ending on the webite i acceed.

CHAPTER # Quick Check 1.

a. b. c. d. e. ,. g.

True. -ale. Dovernment 'ending 'ending without tran,er tran,er wa 12 o, D95 without without tran,er. -al -ale. e. The The 'ro 'ro'e 'en nit it+ + to to con conum umee mut mut be be le le than than one one ,or ,or our our mod model el to to be be wel welll de, de,in ined ed.. True. -ale. -al -ale. e. The The incr increa eae e in out' out'ut ut i one one tim time e the the mul multi ti'l 'lie ier. r. True.


8


.

3.

a.

L> L>1&H&.J1&&&

b.

L9>L%T>1&&&%1&&>!&&

c.

E>1&H&.J"&&

a.

:ui :uili libr briu ium m out' out'ut ut i 1&&& 1&&&.. Tota Totall dema demand nd>E >EH) H)HD HD>" >"&& &&H1 H1& &H1 H1& &>1 >1&& &&&. &. Tot Total al deman demand d e:ual 'roduction. That i the e:uilibrium condition condition ued to olve ,or out'ut.

b.

Nut'ut ,all b+; 8&Jmulti'lier > 8&/.8>1&&. 0o e:uilibrium out'ut i now !&&. Total demand>EH)HD>1&H&.J<&&=H1&H11& demand>EH)HD>1&H&.J<&&=H1&H11&>!&&. >!&&. Again$ total demand e:ual 'roduction. 'roduction.

c.

5riv 5rivat atee av avin ing> g>L% L%E% E%T> T>!& !&&% &%1 1&% &%&. &.J J< <&& &&=% =%1& 1&&> &>1 1&. &. 5ubl 5ublic ic avi aving ng >T%D >T%D>% >%1& 1&.. @ati @ation onal al aving aving
Dig Deeper 8.

.

.

a.

L increae b+ 1/<1%c 1=

b.

L decreae b+ c1/<1% c1=

c.

The anwer anwer di,,er di,,er becau becauee 'en 'endin ding g a,,e a,,ect ct demand demand direct directl+ l+$$ but but ta6e ta6e a,,e a,,ect ct demand demand through conum'tion$ conum'tion$ and the 'ro'enit+ to conume i le than one.

d.

The change in L e:ual 1/<1%c 1= % c1/<1% c1= > 1. Balanced budget change in D and T are not macroeconomicall+ neutral.

e.

The 'ro'enit+ to conume ha no e,,ect becaue the balanced budget ta6 increae abort the multi'lie multi'lierr 'roce. 'roce. L and T both increae increae b+ on unit$ o di'oable di'oable income$ income$ and hence conum'tion$ do not change.

a.

L>c&Hc1L9H)HD im'lie L>O1/<1%c1Hc1t1=PJOc&%c1t&H)HDP

b.

The multi'lier > 1/<1%c1Hc1t1= Q1/<1% c 1=$ o the econom+ re'ond le to change in autonomo autonomou u 'ending 'ending when t 1 i 'oitiv 'oitive. e. A,ter A,ter a 'o 'oiti itive ve change change in autono autonomo mou u 'ending$ the increae in total ta6e
c.

Becaue o, the automatic e,,ect o, ta6e on the econom+$ the econom+ re'ond le to change in autonomou 'ending than in the cae where ta6e are inde'endent o, income. 0o out'ut tend to var+ le$ and ,ical 'olic+ i called an automatic tabiliRer.

a.

L>O1/<1%c1Hc1t1=PJOc&%c1t&H)HDP

b.

T > c1t& H t1JO1/<1%c1Hc1t1=PJOc&%c1t&H)HDP





c.

Both L and T decreae.

d.

), D i cu cut$ L decreae ev even more.

CHAPTER $ Quick Check 1.

a. b. c. d. e. ,. g.

-ale. -ale. True. True. -ale. -ale. True.

.

a.

i>&.&; Mone+ demand > I1$&&&? Bond demand > I3$&&& i>&.1&; Mone+ demand > I1$&&&? I1$&&&? Bond demand demand > I3$&&& I3$&&&

b.

Mone+ demand decreae when the interet rate increae becaue bond$ which 'a+ interet$ become more attractive. attractive. -or the ame reaon$ bond demand demand increae.

c.

The demand ,o ,or mone+ ,all b+ &2.

d.

The de demand ,o ,or mo mone+ ,a ,all b+ b+ &2.

e.

A 12 12 incr increa eae e
a.

i>1&&/I5B –1? i>332? 12? 12? 2 when I5B >I"? I? I!.

b.

@egative.

c.

I5B >1&&/<1.&=  I!3

a.

I&>M9>I1&&J<.%i= i>2

b.

M>I1&&J<.%.1= M>I1&

a.

B9 > &$&&& % &$&&& <.3%i= An increae in the interet rate o, 1&2 increae bond demand I$&&&.

b.

An increae in wealth increae bond demand$ demand$ but ha no e,,ect on mone+ demand$ demand$ which de'end on income
c.

An inc incre rea aee in inc incom omee incr increa eae e mon mone+ e+ dem deman and$ d$ but but dec decre rea ae e bon bond d dema demand nd$$ inc incee we im'licitl+ hold wealth contant.

3.

8.

.





d.

Fhen Fhen 'eo 'eo'l 'lee earn earn mor moree incom income$ e$ thi thi doe doe not not cha chang ngee thei theirr weal wealth th rig right ht awa awa+ +. Thu Thu$$ the+ the+ increae their demand ,or mone+ and decreae their demand ,or bond.

Dig Deeper .

a.

9emand ,or central ban( mone+>&.1JILJ<.%8i=

b.

I1&& b > &.1JI$&&&bJ<.%8i= &.1JI$&&&bJ<.%8i= i>12

c.

M><1/.1=JI1&& b>I1$&&& b M> Md at the interet derived in 'art
d.

), # inc incre rea ae e to I3&& I3&& b$ the the int inter ere ett rat ratee ,al ,all l to 2. 2.

e.

The The inte intere rett rate rate ,al ,all l to to 2$ 2$ inc incee when when # e:ua e:ual l I3& I3&& & b$ M>< M><1/ 1/.1 .1=J =JI3 I3&& && b>I b>I3$ 3$&& &&& & b.

".

The ratio o, currenc+ to total mone+
.

a.

I1 i withdrawn on each tri' to the ban(.

b.

Mone+ holdingGda+ one; one; I1? da+ two; I1? I1? da+ three; I? da+ ,our; ,our; I8. Average mone+ holding are ar e I1&.

c.

I dollar withdrawal.

d.

Mone+ holding o, I? I8? I? I8. Average mone+ holding are I.

e.

I1 I1 dol dolla larr wit withd hdra rawa wal l?? mon mone+ e+ hol holdi ding ng o o,, I&? I&? I&? I&? I&? I&? I1. I1.

,.

Average mo mone+ holding are I8.

g.

Bae Baed d on on the thee e anw anwer er$ $ ATM ATM and and cred credit it card card h hav avee red reduc uced ed mo mone+ ne+ dema demand nd..

a.

velocit+>1/1/7
b.

Selocit+ more than doubled doubled between 1!& and and &&&.

c.

ATM0 ATM0 and and cre cred dit card card red reduc uced ed 7
!.

CHAPTER % Quick Check 1.

a. b. c. d. e.

True. True. -ale. -al -ale. e. The The bala balanc nced ed bud budge gett mul multi ti'l 'lie ierr i 'oi 'oiti tive ve

"


,. g. .

3.

8.

Uncertain. An inc increae in D lead to an in increae in L
a.

L>O1/<1%c1=PJOc&%c1TH)HDP The multi'lier i 1/<1%c 1=.

b.

L>O1/<1%c1%b1=PJOc&%c1TH b&%bi HDP The multi'lier i 1/<1%c 1%b1=. 0ince the multi'lier multi'lier i larger than than the multi'lier multi'lier in 'art
c.

0ub 0ubti titu tuti ting ng ,or ,or the the inte intere ret t rate rate in the the anw anwer er to 'art 'art O1/<1%c1%b1H bd1/d=PJOc&%c1TH b&H
d.

The The mult multi' i'li lier er i i grea greate terr
The )0 curve curve hi,t hi,t le,t. le,t. Nut'u Nut'utt and and the inter interet et rate rate ,all ,all.. The e,,ect e,,ect on invet invetme ment nt i ambigu ambiguou ou becaue the out'ut and interet rate e,,ect wor( wor( in o''oite direction; direction; the ,all in out'ut out'ut tend to reduce invetment$ but the ,all in the interet rate tend to increae it. a.

-rom 3c; L>O1/<1%c1%b1H bd1/d=PJOc&%c1TH b&H
b.

-rom the 7M relation; i> LJd LJd 1/d –
c.

)> b&H b1L% bi> b&H
d.

-rom -rom 'art 'art b and and d$ d$ hol holdi ding ng M/5 M/5 con cont tan ant$ t$ ) inc incre rea ae e b+
e.

A ,all ,all in in D lea lead d to to a ,al ,alll in out' out'ut ut
a.

L>EH)HD>&&H.J11&&%&&&i

b.

M/5>1&&>L%&&&i M/5>1&&>L%&&&i i>L/8&&&%1/





c.

0ubtituting b in into a; L> L>1&&&

d.

0ubtituting c into b; i>1/&>2

e.

E>8&&? )> )>3&? D> D>&? EH EH)HD>1&&&

,.

L>1& L>1&8& 8&?? i>32 i>32?? E>81 E>81&? &? )>3 )>3& &.. A mon monet etar ar+ + e6'a e6'an nio ion n redu reduce ce the the inte intere ret t rat ratee and and increae out'ut. out'ut. The increae in out'ut out'ut increae conum'tion. The increae in out'ut out'ut and the ,all in the interet rate increae invetment.

g.

L>1&& L>1&&?? i>1& i>1&2? 2? E>8&? E>8&? )>3&. )>3&. A ,ical ,ical e6'an e6'anio ion n increa increae e out'ut out'ut and the the int intere eret t rate. rate. The increae in out'ut increae conum'tion.

Dig Deeper .

-irm -irm decid decidin ing g how how to ue ue thei theirr own ,un ,und d wil willl com'a com'are re the the retur return n on bond bond to the the retur return n on invetment. Fhen the interet interet rate on bond increae$ increae$ the+ become become more attractive$ and ,irm are more li(el+ to ue their ,und to 'urchae bond$ rather than to ,inance invetment 'roCect.

.

a.

5eo' 5eo'le le woul would d hold hold onl+ onl+ mone+ one+$$ and and not not bond bond$ $ when when the the inte intere ret t rate rate wa wa nega negati tive ve.. Mone+ would be a better tore o, value than bond.

b.

0ee hint.

c.

0ee hint.

d.

7ittle 7ittle e,,ect. e,,ect. ), the interet interet rate i actuall+ actuall+ Rero$ than the increae increae in M ha literall+ literall+ no e,,ect.

e.

@o. ), there i no e,,ect on the interet rate$ which a,,ect invetment$ monetar+ 'olic+ cannot a,,ect out'ut.

a.

-all in T hi,t 7M right. )ncreae in M hi,t 7M u'. Nut'ut increae.

b.

Elinton%Dreen'an
c.

Keceion$ ,all in the growth rate. 0ome other hoc(; ,all in invetment 'ending and conumer con,idence ,ollowing ,all in toc( mar(et? the event o, 0e'tember 11$ which had direct e,,ect and a,,ected conumer con,idence.

a.

)ncrea reae D
b.

Keduce D
".

.

CHAPTER & Quick Check 1.

a. b.

-ale. -ale.


!


.

3.

c. d. e. ,. g. h.

-ale. True. -ale. Uncertain. True. -ale.

a.

/! >/!3. 3.> >.8 .82 2

b.

1./.>2

c.

.8/ .8/. .> >3"2. 3"2. 9urat uratio ion n i 1/.3 1/.3" " or ." month onth. .

d.

8.!/".3>!2.

e.

new wor(er; .3/8.!>"2.

a.

F/5>1/<1H=>1/1.&>.!

b.

Fage etting; u>1%F/5>2

c.

F/5> F/5>1/ 1/1. 1.1> 1>.! .!1? 1? u>1% u>1%.! .!1> 1>!2 !2.. The The incr increa eae e in the the mar( mar(u' u' lowe lower r the the real real wage wage.. -rom -rom the wage%etting e:uation$ the unem'lo+ment unem'lo+ment rate mut rie rie ,or the real wage to ,all. ,all. 0o the natural rate increae.

Dig Deeper 8.

.

a.

Anwer will var+.

b%c.

Mot li(el+$ the Cob +ou +ou will have ten +ear later will 'a+ a lot more more than +our reervation wage at the time
d.

The The late laterr Cob Cob i mor moree li(e li(el+ l+ to to re:u re:uir iree trai traini ning ng and and wil willl 'rob 'robab abl+ l+ be be a much much hard harder er Cob Cob to to monitor. 0o$ a e,,icienc+ wage theor+ ugget$ +our em'lo+er will be willing to 'a+ a lot more than +our reervation wage ,or the later Cob$ to enure low turnover and low hir(ing.

a.

The com com'ute 'uterr net networ( wor( adm admini initra trato torr ha ha more ore barg argain aining ing 'owe ower. 0he 0he i much uch harder rder to re'lace.

b.

The rate o, unem'lo+ment unem'lo+ment i a (e+ tatitic. -or e6am'le$ when there are man+ unem'lo+ed wor(er wor(er it become become eaier ,or ,irm ,irm to ,ind re'lacement. re'lacement. Thi reduce the bargaining 'ower o, o, wor(er.

Explre Fur!her .

a.

/3>"2? </3= > 882? </3=  > !2

b.

</3= > !2

c.

<,or &&1=; "!"/8> 12 7ong%term unem'lo+ed e6it unem'lo+ment le ,re:uentl+ than the average.


1&


".

a%b. a%b.

Anw Anwer er will will de'e de'end nd on when when the the 'age 'age i acce acce ed ed..

c.

The The decli declin ne in unem unem'l 'lo+ o+me ment nt doe doe not not e:ual e:ual the the incr increa eae in em'l em'lo+ o+me ment nt$$ becau becaue e the the labor ,orce i not contant. contant. )t ha increaed over the the 'eriod.

CHAPTER ' Quick Check 1.

a. b. c. d. e. ,. g.

True. True. -ale. -ale. True. -ale. -ale.

.

a.

)0 right$ A9 right$ A0 u'$ 7M u'$ L ame$ i u'$ 5 u'

b.

)0 le,t$ A9 le,t$ A0 down$ 7M down$ down$ L ame$ i down$ 5 down

3.

8.

a. 0hort run; Medium run;

F0 u' u'

50 ame ame

A0 u' u' ,urther

A9 ame ame

0hort run; Medium run;

L down down ,urther

i u' u' ,urther

5 u' u' ,urther

0hort run; Medium Medium run; run;

F0 ame ame ame

A0 down down down ,urthe ,urtherr

A9 ame ame ame

0hort run; Medium run;

L u' u' ,urther

i down down ,urther

5 down down ,urther

50 u' u'

7M u' u' ,urther

7M down down down ,urthe ,urtherr

)0 ame ame

)0 ame ame ame

a.

Mone+ i ne neutral in in th the e ene th that th the no nominal mo mone+ u''l+ ha ha n no o e, e,,ect on on ou out'ut or or the interet rate in the medium run. run. Nut'ut return to it natural natural level. The interet rate i i determine determined d b+ the 'oition o, the )0 curve and the natural natural level o, out'ut. out'ut. 9e'ite 9e'ite the neutralit+ o, mone+ in the medium run$ an increae in mone+ can increae out'ut and reduce the interet rate in the the hort run. )n 'articular$ e6'anionar+ e6'anionar+ monetar+ 'olic+ can be ued to 'eed u' the econom+* return to the natural level o, out'ut when out'ut i low.

b.

)n the medium run$ invetment invetment and the interet rate both both change with ,ical 'olic+. 'olic+.

c.

-al -ale. e. 7abo 7aborr mar mar(e (ett 'ol 'olic icie ie$ $ uch uch a unem unem'l 'lo+ o+me ment nt in inur uran ance ce$$ can can a,,e a,,ect ct the the nat natur ural al level o, out'ut.


11


Dig Deeper .

.

".

a.

N'en 'en anwer wer.. -irm irm ma+ be o 'ei eim mitic tic abou aboutt ale ale tha that the+ do not want ant to borro orrow w at an+ interet rate.

b.

The )0 curve i vertical? the the interet rate doe not not a,,ect e:uilibrium out'ut. out'ut.

c.

@o change.

d.

The The A9 curv curvee i vert vertic ical al?? the the 'ric 'ricee leve levell doe doe not not a,, a,,ec ectt e:ui e:uili libr briu ium m out' out'ut ut..

e.

The The incr increa eae e in R redu reduce ce the the nat natur ural al lev level el o, out out'u 'utt and and hi hi,t ,t the the A0 A0 curv curvee u'. u'. 0inc 0incee the the A9 curve i vertical$ vertical$ out'ut out'ut doe not change$ change$ but the 'rice level increae. increae. @ote that that out'ut i above it natural level.

,.

The The A0 A0 cur curve ve hi, hi,t t u' ,ore ,oreve ver$ r$ and and the the 'ri 'rice ce leve levell inc incre rea ae e ,ore ,oreve ver. r. Nut' Nut'ut ut doe doe not not change? it remain above it natural level ,orever.

a.

The 7M curve i ,lat.

b.

@o e,,ect.

c.

The A9 curve i vertical. A change in 5$ which a,,ect M/5$ ha no e,,ect on the interet rate or out'ut.

d.

@o e,,ect on out'ut in the hort run or the medium run. 0ince the mone+ toc( doe not a,,ect the interet rate$ it doe not a,,ect out'ut.

a.

The natural level o, out'ut i L n. Auming that out'ut out'ut tart at i natural natural level$ 5&> M&% <1/c=JL n

b.

Auming that 5e>5&; L > cM&%c5>cM&%c5&%cdLHcdLn. Kecalling that L n>c Ln H
c.

)nve )nvet tme ment nt goe goe u u' ' beca becau uee out out'u 'utt i i h hig ighe herr and and the the int inter ere ett rate rate i i lowe lower. r.

d. e.

)n the medium run$ L > Ln )n the the mediu medium m run$ run$ inve invetm tmen entt retur return n to it it 'rev 'revio iou u leve level$ l$ beca becau uee out' out'ut ut and and the the interet rate return to their 'reviou level.

CHAPTER ( Quick Check 1.

a. b. c. d. e. ,.

True. -ale. -ale. True. -ale. True.


1


.

3.

8.

a.

@o. )n th the 1! 1!"&$ we we e6 e6'erienced hi high in in,lation an and hi high un unem'lo+ment. The e6'e e6'ect ctat atio ion n%a %aug ugme ment nted ed 5hil 5hilli li' ' curv curvee i a rela relati tion onh hi' i' betw betwee een n in,l in,lat atio ion n and and unem'lo+ment unem'lo+ment conditional on the natural rate and in,lation in,lation e6'ectation. Diven in,lation e6'ectation$ increae in the natural rate
b.

@o. The e6'ectation%augmented e6'ectation%augmented 5hilli' curve im'lie that maintaining a rate o, unem'lo+ment below the natural rate re:uire increaing
a.

un>&.1/ >2

b.

Vt >&.1%J.&3 > 82 ever+ +ear beginning with +ear t.

c.

Vet> & and V t>82 ,orever. )n,lation e6'ectation e6'ectation will will be ,orever ,orever wrong. Thi i unli(el+.

d.

W might might incr increa eae e beca becau uee 'eo'l 'eo'le e in,la in,lati tion on e6'e e6'ect ctat atio ion n ada' ada'tt to 'er 'eri ite tent ntl+ l+ 'oi 'oiti tive ve in,lation. The increae in W ha no e,,ect on u n.

e.

V> V 8H.1%.&>82H82>2 -or t X $ re'eated ubtitution im'lie$ V t> V  H 2? V 1>82.

,.

)n,l )n,lat atio ion n e6'e e6'ect ctat atio ion n will will agai again n be ,ore ,oreve verr wro wrong ng.. Thi Thi i unli unli(e (el+ l+..

a.

A highe igherr cot cot o, 'ro 'roduct ductio ion n mean ean a hig higher her mar(u ar(u' ' o, 'rice rice over ver wage age.. The The mar(u ar(u' ' re,lect all nonwage com'onent o, the 'rice o, a good.

b.

un><&.&H&.1=/? Thu$ the natural rate rate o, unem'lo+ment unem'lo+ment increae ,rom 2 to 2 a  increae ,rom &2 to 8&2.

Dig Deeper .

a.

V t > V t%1 H &.1 % u t > V t%1 H 2>2 V t > 2? V tH1 > 82? V tH > 2? V tH3 > 2.

b.

V t > &. V t H &. V t%1 H &.1 % u t or$ V t > V t%1 H 82

c.

V t > 82? V tH1 > 2? V tH > 12? V tH3 > 12


13


.

d.

A ind inde6 e6at atio ion n incr increa eae e$ $ low low une unem' m'lo lo+m +men entt lead lead to to a larg larger er inc incre rea aee in in, in,la lati tion on ove overr time.

a.

Le. The averag rage rat rate o, unem'lo+ment ent wa lower in the 1!!&. )ndeed$ even though the unem'lo+ment rate wa at a hitorical low$ in,lation roe ver+ little.

b.

The natural rate o, unem'lo+ment unem'lo+ment 'robabl+ decreaed. decreaed.


a%c.

The e:uation that eem to ,it well i V t – Vt%1 >  –  t$ which im'lie a natural rate o, a''ro6imatel+ 2.

.

The The rel relat atio ion nhi hi' ' im'l im'l+ + a lowe lowerr natu natura rall rat ratee in in the the mo more re rec recen entt 'er 'erio iod. d.

CHAPTER ) Quick Check 1.

a. b. c. d. e. ,. g. h. i.

-ale. True. True. -ale. -ale. True. True. True. True.

.

a.

The un unem'lo+ment ra rate wi will in increae b+ b+ 12 12 'e 'er +e +ear wh when g> g>&.2. Abent ou out'ut growt growth$ h$ 'rodu 'roducti ctivit vit+ + growth growth tend tend to increa increae e the unem' unem'lo+ lo+men mentt rate$ rate$ ince ince ,ewer ,ewer wor(er are re:uired to 'roduce a given given :uantit+ o, good. Abent out'ut out'ut growth$ labor ,orce growth growth alo tend to increae the unem'lo+ unem'lo+ment ment rate$ ince ince more wor(er are com'eting ,or the ame number number o, Cob. There,ore$ unem'lo+ment unem'lo+ment will increae increae unle the growth rate e6ceed the um o, 'roductivit+ growth and labor ,orce growth.

b.

Fe need growth o, 8.2 'er +ear ,or each o, the ne6t ,our +ear. +ear.

c.

N(un law i li(el+ to become; u t%ut%1>%&.8J
a.

un> 2

b.

Aume the econom+ ha been at the natural rate o, unem'lo+ment ,or two +ear 32? gmt > g+t H Vt > 112

3.

c. t%1; t; tH1; tH; tH3;

V 2 82 82 82 82


u 2 !2 2 2 2

g+t 32 %"2 132 32 32

gmt 112 %32 1"2 "2 "2

18


8.

.

a.

0ee 0ee te6t te6t ,or ,or ,ull ,ull anw anwer er.. Drad Dradua uali lim m redu reduce ce need need ,or ,or larg largee 'oli 'olic+ c+ win wing g$$ with with e,,e e,,ect ct that are di,,icult to 'redict$ but immediate reduction ma+ be more credible and encourage ra'id$ ,avorable change in in in,lation e6'ectation. e6'ectation. Nn the other hand$ the taggering taggering o, wage deciion ugget that$ i, the 'olic+ i credible$ a gradual diin,lation i the o'tion conitent with no change in the unem'lo+ment rate.

b.

@ot clear. Baed in Ball* evidence$ evidence$ 'robabl+ ,at diin,lation$ diin,lation$ de'ending on the ,eature lited in 'art
c.

0ome 0ome im'or im'ortan tantt ,eat ,eature ure; ; the degree degree o, inde6a inde6atio tion$ n$ the nature nature o, the wage% wage%ett etting ing 'roce 'roce$ $ and the initial rate o, in,lation.

a.

)n,lation will tart increaing.

b.

)t hould let unem'lo+ment unem'lo+ment increae to it new$ new$ higher$ natural rate.

Dig Deeper .

".

a.

acri,ice ratio>1

b.

Vt > 1&2? VtH1 > 2? VtH > 2? VtH3 > 82? VtH8 > 2

c.

 +ear +ear? ? acr acri, i,ic icee ratio ratio>< ><1& 1& 'oi 'oint nt +ear +ear o, e6ce e6ce  une unem' m'lo lo+m +ment ent=/ =/<1 <1& & 'erce 'ercent ntag agee 'oint 'oint reduction in in,lation=>1

d.

Vt > .2? VtH1 > ."2? V tH > 3.!&2? VtH3 > .83&2? V tH8 > 1.32 7e than  +ear are re:uired. acri,ice ratio; 1&/<1%1.3=>.!38 The The acri acri,i ,ice ce rati ratio o i lowe lowerr beca becau uee 'eo' 'eo'le le are are ome omewh what at ,orw ,orwar ard d loo( loo(in ing g and and incor'orate the target in,lation rate into their e6'ectation.

e.

tH1. The e6 'o 'ot ac acri, ri,ice rat ratio ,ro ,rom thi thi ce cenario rio > <1 'oi 'oint +ear +ear o, o, e6c e6ce unem'lo+ment=/<1& unem'lo+ment=/<1& 'oint reduction in,lation= > &.1

,.

Ta(e meaure to enhance cred redibilit+. t+.

a.

Vt%Vt%1> % %.8J
b.

Auming gm$t%1>132$

t; tH1; tH; tH3; tH8; tH; tH; tH"; tH;

V ".12 3.12 %&."2 %3.2 %8.12 %3.2 %.12 %&.2 &.2


Vt%1> 1&2$ ut%1>2$ and gm>32 beginning in +ear t; u ".!2 !.12 .2 ".2 .!2 8.82 3.2 3.82 3."2

1


tH!; tH1&;

1.2 1.2

8.32 8.!2

c.

)n,lation )n,lation doe not decline decline moo moothl+ thl+.. )n the earl+ +ear$ +ear$ the large unem'lo+ unem'lo+ment ment rate 3 2 > normal out'ut growth in thi e6am'le$ negative in,lation drive real mone+ growth
d.

u>2 and V>&2 in the medium run.

CHAPTER 1* Quick Check 1.

a. b. c. d. e. ,. g. h.

True. True. -ale. -ale. -ale. -ale. True. Uncertain.

.

a.

6am'le; -rance; <1.&81= &J$8!>I8&.! (. Derman+; I8.8 (? 4a'an; I.! (? U; I. (? U.0.; I3.3 (

b.

.3

c.

-or -or 4a' 4a'an an and and U U$ +e +e?? ,o ,or -ra -ranc ncee aan nd Der Derm man+ an+$ no. no.

a.

I$&&&

b.

&&& 'eo

c.

I&&

d.

I&&

e.

Me6ica Me6ican n tanda tandard rd o, living living relati relative ve to the U.0.Ge U.0.Ge6ch 6chang angee rate rate method method;; &&/ &&/&& &&& & >.1? >.1? 555 method; &&/&&&>.1

a.

L>3

b.

L double.

c.

Le.

d.

L/@></@= 1/

3.

8.


1


e.

/@> /@>8 8 im'l im'lie ie L/@> L/@>. . /@> /@>  im'l im'lie ie L/@> L/@>. .3 3.. Nut' Nut'ut ut le le than than doub double le. .

,.

@o.

g.

@o. @o. )n 'art 'art <,= <,=$$ we are are loo( loo(in ing g at at what what ha' ha''e 'en n to out' out'ut ut when when we we inc incre rea aee ca'i ca'ita tall onl+ onl+$$ not ca'ital and labor labor in e:ual 'ro'ortion. 'ro'ortion. There are decreaing return to ca'ital.

h.

Le.

Dig Deeper .

.

a.

d ln +/dt > . d ln (/dt growth rate o, out'ut > 1/ growth rate o, ca'ital

b.

82

c.

/L increae.

d.

@o. 0ince ca'ital i growing ,ater than out'ut$ the aving rate will have to increae to maintain maintain the ame ame 'ace. ventual ventuall+$ l+$ the re:uired re:uired aving aving will will e6ceed e6ceed out'ut. out'ut. Ea'ital Ea'ital mutt grow mu grow ,ater ,ater than out'ut out'ut becaue becaue there there are decreai decreaing ng return return to ca'ita ca'itall in the 'roduction ,unction. ,unction.

ven though the United 0tate wa ma(ing the mot im'ortant technical advance$ the other countrie were growing ,ater becaue the+ were im'orting technologie 'revioul+ develo'ed in the United 0tate. )n other word$ the+ were reducing their technological technological ga' with the United 0tate.


a%d. a%d.

Eonver Eonvergen gence ce ,or the the -rance -rance$$ Belgi Belgium$ um$ and )tal+ )tal+?? no conver convergen gence ce ,or the econ econd d et o, countrie.

CHAPTER 11 Quick Check 1.

a. b. c. d. e. ,. g. h.

i.

Uncertain. True i, i, a aving in include 'u 'ublic an and 'r 'rivate a aving. -ale i, i, a aving on onl+ include 'rivate aving. -ale. Uncertain. Uncertain. True. True.

1"


the e6'ene o, current current conum'tion. N, coure$ there are other argument ,or ubidiRing ubidiRing education$ 'articularl+ ,or low%income houehold. .

@o. @o. <1= The 4a'ane 4a'anee e rate rate o, o, grow growth th i not o high high an+ an+mo more. re. <= ), the 4a'ane 4a'anee e aving aving rate rate ha ha alwa+ been high$ then thi cannot e6'lain the di,,erence between the rate o, growth in 4a'an and the United 0tate in the lat 8& or & +ear. <3= ), the 4a'anee aving rate ha been higher than it ued to be$ then thi can e6'lain ome o, the high 4a'anee growth. The contribution o, high aving to growth in 4a'an hould$ however$ come to an end.

3.

A,te A,terr a deca decade de;; high higher er gro growt wth h rate rate.. A,te A,terr ,ive ,ive dec decad ade e;; grow growth th rat ratee bac( bac( to to norm normal al$$ high higher er lev level el o, out'ut 'er wor(er.

Dig Deeper 8.

.

.

"

a.

#igh igher avi aving. ng. #igh igher out'ut t'ut 'er 'er wor( or(er

b.

0ame out'ut 'er wor(er. #igher out'ut 'er ca'ita. ca'ita.

a.

/@></<Y==? L/@>/<8Y=

b.

E/@><1%=L/@><1%=/<8Y= E/@><1%=L/@><1%=/<8Y=

c%e.

L/@ increae with ? E/@ increae until >.$ then decreae.

a.

Le.

b.

Le.

c.

Le.

d.

L/@ > </@=1/3

e.

)n tead+ tead+ tate$ tate$ ,</@ ,</@== > Y/@$ Y/@$ which which$$ give given n the the 'roduc 'roductio tion n ,unct ,unction ion in 'art 'art </Y=

,.

L/@ ></Y=1/

g.

L/@ > 

h.

L/@ > 1/

a.

0ubtituting ,rom e; /@>1

b.

0ubtituting ,rom ,; ,; L/@>1

c.

/@>.3? L/@>."1

d.

Uin Uing g e:u e:uat atio ion n <11. <11.3= 3=$$ the the evol evolut utio ion n o, /@ /@ i; i; &.! &.!$$ &. &.$ $ &." &.".. The evolution o, L/@ i; &.!"$ &.!3$ &.!1


1


CHAPTER 1" Quick Check 1.

a. b. c. d. e. ,. g. h. i.

True. True. -ale. True. -ale. True. Uncertain. -ale. -ale.

.

a.

Mot tech Mot techno nolo logi gica call 'rog 'rogre re  eem eem to com come ,rom ,rom KZ9 KZ9 acti activi viti tie e.. 0ee 0ee dic dicu ui ion on on ,ertilit+ and a''ro'riabilit+ in Eha'ter 1..

b.

7ower growth in 'oorer 'oorer countrie. #igher growth in rich countrie.

c.

)ncrea reae in KZ9 and in out'ut growth.

d.

A decr decrea eae e in in the the ,ert ,ertil ilit it+ + o, o, a''l a''lie ied d ree reearc arch? h? a <ma <mall ll== decr decrea eae e in in grow growth th..

e.

A decr decrea eae e in in the the a''r a''ro' o'ri riab abil ilit it+ + o, dru drug g ree reear arch ch.. A dro' dro' in in the the deve develo lo'm 'men entt o, new new drug. 7ower technological technological 'rogre and lower growth. growth.

3.

A hi, hi,tt to to a ,ull ,ull+ + ,und ,unded ed +tem +tem ho hould uld increa increae e out'ut out'ut 'er wor(e wor(err in in the the long long run. run. )t ho hould uld have have no e,,ect on the long run r un growth rate o, out'ut 'er wor(er.

8.

0ee dicuion in Eha'ter 1..

Dig Deeper .

.

a.

Both lead to an initial decreae in growth.

b.

Nnl+ the ,irt lead to to a 'ermanent decreae in growth. growth.

a.

Lear 1; 3&&&? Lear ; 3!&

b.

Keal D95> 33&&? growth growth rate o, real D95>1&2

c.

&2

c.

Keal Keal D95/ D95/Fo For( r(er er>3 >3& & in in bot both h +ear +ear? ? labo laborr 'ro 'rodu duct ctiv ivit it+ + gro growt wth h i i Rer Rero. o.

e.

Uin Uing g I13 I13 a the the 'ri 'rice ce o, ban( ban(in ing g erv ervic ice e in Lear Lear ; real real D95 D95 >3! >3!!& !&?? out'ut growth> 332.

,.

%&.2

g.

5ro' 5ro'er er mea meau ure reme ment nt im' im'li lie e rea reall gd'/ gd'/wo wor( r(er er>3 >3. .3 3 in +ear +ear . . 7abo 7aborr 'rod 'roduc ucti tivi vit+ t+ gro growt wth h i 12.


1!


".

.

h.

True$ auming there i 'rogre in the ban(ing ervice ector.

a.

</ </ 1? <1= 1/? gL/ &? gL/@ > 82? gL > 2

b.

</ <8/=? <8/=? g L/ &? gL/@ > 2? gL > 1&2

c.

</ <8/=? <8/=? g L/ &? g L/@ > 82? gL > 1&2 5eo'le are better o,, in cae cae a. Diven an+ et o, initial value$ value$ the level o, technolog+ technolog+ i the ame in cae a and c$ but the level o, ca'ital 'er e,,ective wor(er i higher at ever+ 'oint in time in cae a. Thu$ ince L/@>AJAJ</AJAJ</
a.

5robabl+ a,,ect A. Th T hin( o, climate.

b.

A,,ect #.

c.

A,,e A,,ect ct A. A. 0tro 0trong ng 'rot 'rotec ecti tion on tend tend to to enco encour urag agee mor moree KZ9 KZ9 but but alo alo to lim limit it di, di,,u ,ui ion on o, technolog+.

d.

Ma+ a,,ect A through di,,uion.

e.

Ma+ Ma+ a,, a,,ec ectt $ $ #$ and and A. A. 7owe 7owerr ta6 ta6 rat rate e incr increa eae e the the a,t a,ter er%t %ta6 a6 retu return rn on inve invet tme ment nt$$ and and thu tend to lead to more accumulation o,  and # and more KZ9 'ending.

,.

), we inter'ret  a 'rivate ca'ital$ than in,ratructure a,,ect A
g.

Au Aumi ming ng no tec techn hnol olog ogic ical al 'rog 'rogre re $$ lower lower 'o'u 'o'ula lati tion on gro growt wth h im'l im'lie ie a highe higherr tead+ tead+ tate tate level o, out'ut out'ut 'er wor(er. 7ower 7ower 'o'ulation 'o'ulation growth lead lead to higher ca'ital ca'ital 'er wor(er. wor(er. ), there i technologica technologicall 'rogre$ 'rogre$ there i no tead+%tate tead+%tate level o, out'ut out'ut 'er wor(er. )n thi cae$ however$ however$ lower 'o'ulation growth growth im'lie that that out'ut 'er wor(er will be higher at ever+ 'oint 'oint in time$ ,or an+ given 'ath o, o, technolog+. 0ee the anwer to 'roblem "c.

Explre Fur!her !.

a%,. a%,.

Ther Theree i i a low lowdo down wn in grow growth th and and the the rate rate o, tech techno nolo logi gica call 'ro 'rogr gre e in in th the mod moder ern n 'eriod. 4a'an growth rate o, technological 'rogre i higher becaue it i catching u' to the U.0. level o, technolog+ technolog+.. @ot all o, the di,,erence di,,erence in growth growth rate o, out'ut 'er wor(er i attributable attributable to the di,,erence in rate o, technological technological 'rogre. A big 'art i attributable to the di,,erence in rate o, growth o, ca'ital 'er wor(er.

CHAPTER 1# Quick Check 1.

a. b. c. d. e.

-ale. -ale. True. True. True.


&


.

,. g. h.

True. -ale. True.

a.

u > 1%<1/<1H==
b.

u > 1%<1/<1H== > 8.2

c.

@o. @o. 0inc 0incee wag wage e adCu adCut t to e6'e e6'ect cted ed 'rod 'roduc ucti tivi vit+ t+$$ an incre increa aee in in 'ro 'rodu duct ctiv ivit+ it+ even eventu tual all+ l+ lead to e:ui'ro'ortional increae in the real wage im'lied b+ wage etting and the real wage im'lied im'lied b+ 'rice etting etting$$ at the original natural natural rate rate o, unem'lo+ment. unem'lo+ment. Thu$ Thu$ e:uilibrium can be maintained without an+ change in the natural rate o, unem'lo+ment.

3.


8.

a.

Kedu Keduce ce the the ga' ga'$$ i, i, th thi lead ead to to an an incr increa eae in in the the re relat lative ive u u''l+ ''l+ o, ( (ille illed d wor wor(e (er r..

b.

Keduce the ga'$ ince it lead lead to a decreae in the relative relative u''l+ o, un(illed un(illed wor(er.

c.

Kedu Keduce ce the the ga' ga'$$ i, it it lead lead to an inc incre rea aee in the the rela relati tive ve u' u''l 'l+ + o, o, (il (ille led d wor( wor(er er. .

d.

)ncrea )ncreae e the ga'$ ga'$ i, i, U.0. U.0. ,irm ,irm hire hire un( un(ill illed ed wor(er wor(er in in Eent Eentral ral Am Ameri erica$ ca$ ince ince it reduce reduce the relative demand ,or U.0. un(illed wor(er.

a.

Te6tile 'roduction i moving to low wage countrie.

b.

5oibl+ demogra'hic change$ increaed availabilit+ o, childcare outide the home$ decline in labor u''l+ ,or thee 'oition. 'oition.

c.

Technological 'rogre.

.

.

Eonider Eonider an increae increae in the level level o, A in the A9%A0 diagram. diagram. Eombine Eombine the wage%ett wage%etting ing and 'rice%etting e:uation e:uation into an A0 e:uation; e:uation; 5 > 5e<1H=
Dig Deeper ".



1




a.

5 > 5e<1H=
b.

A0 hi,t down. Diven Ae/A>1$ an increae in A im'lie im'lie a ,all in 5$ given L. Thi occur becaue ,or a given level o, L$ unem'lo+ment i higher$ o wage are lower and o$ in turn$ i the 'rice level.

c.

There i i no now an an ad additional e, e,,ect$ a ,a ,all in in A e/A. )n e,,ect$ e,,ect$ wor(er wor(er do not not receive receive a much o, an increae in in wage a warranted b+ the increae in 'roductivit+. 'roductivit+. Eom'ared to 'art
CHAPTER 1$ Quick Check 1.

a. b. c. d. e. ,. g. h. i.

True. True. True. -ale. True. -ale. True. Tru True. The The nom nominal inal inte intere ret t rate rate i alwa alwa+ + 'oi 'oiti tive ve.. -al -ale. e. The real real inter ntere ett rate ate can can be neg negativ ative. e.

.

a.

Kea Keal. @om omiinal nal 'ro 'ro,,it it are are li li(el+ (el+ to mo move with ith in, in,lat lation? ion? rea real 'ro 'ro,i ,it t are are ea eaiier to ,o ,oreca recat.

b.

@ominal. The 'a+ment are nominal. nominal.

c.

@omi @omina nal. l. ), lea leaee 'a+ 'a+me ment nt are are in nom nominal inal term term$ $ a i t+'i t+'ica cal. l.

a.

6ac 6act; t; r > <1H. <1H.&8 &8=/ =/<1 <1H. H.& &=% =%1 1 > 1.! 1.!2? 2? A'' A''ro ro6i 6ima mati tion on;; r >.&8 >.&8%.& %.&  > 2

b.

3.&2? 82

c.

.82? 2

a.

@o. Ntherwie$ no nobod+ would hold bond. Mone+ would be more a' a''ealing; it 'a+ at at leat a Rero nominal interet rate and can be ued ,or tranaction.

b.

Le. The real interet rate will be negative i, e6'ected in,lation e6ceed the nominal interet rate. ven o$ the real interet interet rate on bond
c.

A nega negati tive ve rea reall inte intere ret t rat ratee ma(e ma(e borr borrow owin ing g ver+ ver+ att attrac racti tive ve and and lea lead d to to a larg largee dema demand nd ,or invetment.

d.


a.

The di dicount ra rate i i th the in interet ra rate. 0o 5 59S ar are
3.

8.

.





b.

The interet rate doe not enter the calculation. &2Q2.

#ence$ +ou 're,er
@ote that the anwer to 'art
a.

I1&&&

b.

0ince the ,irt 'a+ment 'a+ment occur at the end o, the +ear$ +ear$ n n IS > IRO<1Hi= %<1Hi=P/OiJ<1Hi= P. 1& +ear; I".!&? & +ear; I3.8!? 3& +ear; I!3.!? & +ear; I!!.3!

c.

i > 2; con conol ol I& I&&& &&?? 1& +ear +ear; ; I1 I1. .? ? & & +ear +ear; ; I1 I1" ". . ? 3& +ear +ear; ; I1 I18. 8.88 88?? & +ear; I388.1 i > 2; conol I&&&? 1& +ear; I"1&."? & +ear; I1&.3? 3& +ear; I118.11? & +ear; I1".

".

a.

)n th the me medium ru run$ ch change in in in in,lation ar are re re,lected on one ,o ,or on one in in ch change in in th the nominal nominal interet interet rate. )n other word$ word$ in the medium run$ change change in in,lation in,lation have no e,,ect on the real interet rate.

b.

0u''ort.

c.

The line hould not go through the origin. The real interet rate i 'oitive.

d.

@o. ven ven i, mon moneta etar+ r+ 'olic+ 'olic+ doe doe not not a,,ect a,,ect out'u out'utt or or the the real real intere interet t rate rate in in the medium medium run$ it can be ued in the hort run.

Dig Deeper .

a.

The )0 )0 h hi,t ri right. At th the a ame no nominal in interet ra rate$ th the re real in interet ra rate i i lo lower$ o o out'ut i higher.

b.

The 7M curve doe not hi,t. Mone+ demand de'end on the nominal interet rate$ not the real interet rate.

c.

Nut' Nut'ut ut incr increa eae e. . The The nom nomin inal al inte intere ret t rate rate i high higher er than than in -igu -igure re 18% 18%.. Fhet Fhethe herr the the nominal interet rate i lower or higher than be,ore the increae in mone+ growth i ambiguou ambiguou.. Thin(ing Thin(ing in term o, the mone+ mar(et mar(et e:uilibrium e:uilibrium$$ the increae increae in the nominal mone+ u''l+ tend to reduce the nominal interet rate$ but the increae in nominal mone+ demand

3


d.

Nut'u Nut'utt i i high higher er than than in -igure -igure 18%. 18%. Keaon Keaoning ing ,rom ,rom the the )0 relati relation on$$ the the real real inte intere rett rate rate mut be lower$ ince no e6ogenou variable in the )0 relation have changed. <)n other word$ while the nominal interet rate ma+ increae relative to -igure 18%$ it increae b+ le than the increae increae in e6'ected in,lation. in,lation. 0o the real interet rate decreae.= decreae.=

CHAPTER 1% Quick Check 1.

a. b. c. d. e. ,. g. h.

-ale. True. True. -ale. True. True. -ale. Uncertain/-ale.

.

a.

1Hi ><1&&&/&&= 1/3%1 > "."2

b.

."2

c.

8.12

3.

8.

The +ield +ield i a''ro6 a''ro6im imate atel+ l+ the the averag averagee o, o, the the hor hortt term term inte intere rett rate rate over over the the li,e li,e o, the bon bond. d. a.

2.

b.

.2

c.

.2

a.

Une6'e Une6'ecte cted d hi,t hi,t down down o, the 7M curve. curve. Une6' Une6'ect ected ed ,all ,all in the the intere interet t rate rate and increa increae e in L. 0toc( 'rice 'rice increae. increae.

b.

@o change in toc( 'rice. 'rice.

c.

Ambigu Ambi guou ou e,,ec e,,ectt on toc toc( ( 'ric 'rice e.. Une6 Une6'e 'ect cted ed e6' e6'an ani ion onar ar+ + ,ic ,ical al 'ol 'olic ic+ + mean mean the the interet rate i higher than e6'ected
Dig Deeper .

a.

0ee Eha'ter 1.

b.

)nitiall+ a,ter the increae$ the +ield curve will lo'e down out to one%+ear maturitie$ then lo'e u'. A,ter one +ear$ +ear$ the +ield curve curve will lo'e u'. A,ter three +ear$ +ear$ the +ield curve will be ,lat.


8


.

".

a.

An inverted inverted +ield +ield curve curve im'lie im'lie that the e6'ected e6'ected ,uture ,uture interet interet rate i lower lower than the current interet rate. Thee e6'ectation e6'ectation could arie arie ,rom a belie, that the )0 curve will hi,t to the le,t in the ,uture
b.

Diven the -iher e,,ect$ a tee' +ield curve 'robabl+ im'lie that ,inancial mar(et 'artici'ant believe believe that ,uture in,lation in,lation will be ubtantiall+ ubtantiall+ higher than current current in,lation.

7et r be be the the real real intere interet t rate$ rate$ g the growth growth rate rate o, o, divi dividen dend$ d$ and 6 be be the the ri( ri( 'rem 'remium ium.. The The 'rice 'rice i given b+; 1&&&/<1 H r H 6= H 1&&&<1 H g=/<1 H r H 6=  H 1&&&<1 H g= /<1 H r H 6= 3 . . . > O1&&&/<1 H r H 6=PO1 H <1 H g=/<1 H r H 6= H <1 H g= /<1 H r H 6=  H . . .P > 1$&&&/
I&$&&&? I&$&&&

b.

I1&$&&&? I"!.31

c.

I1$."? I11$111.11

d.

)ncre )ncrea ae. e. A ,al ,alll in in the the ri( ri( 'rem 'remiu ium m i i li( li(ee a ,all ,all in the the rea reall int inter ere ett rat rate. e.

Explre Fur!her .

!.

a.

The The -ed -ed can can redu reduce ce the the grow growth th rate rate o, mo mone+ ne+.. The The nomi nomina nall inte intere ret t rate rate incr increa eae e in the the hort run$ but ,all in the medium run.

b.

)n,lation wa highet in earl+ 1!&. The 1%month in,lation rate 'ea(ed at 18.2 in March and A'ril o, 1!&.

d.

A decl declin inin ing g 're 'read ad im'l im'lie ie that that ,utu ,uture re ho hort rt%t %term erm int inter ere ett rate rate are e6' e6'ec ecte ted d to dec decli line ne in the ,uture. ,uture. The one%+ear one%+ear T%bill rate wa increain increaing g the late 1!"&$ but the 'read 'read wa declining$ o mar(et were not e6'ecting the trend to continue.

e.

There There wa a larg largee decl decline ine cloe cloe to a one one 'erce 'ercent ntage age 'oint 'oint declin declinee in in the the 'read 'read$$ whic which h i i conitent with e6'ectation o, lower in,lation in the ,uture.

,.

The one%+ear interet rate ,ell.

g.

At the tart o, the diin,lation$ mar(et e6'ected that ,uture interet rate would be lower$ thu credible. 9uring the rate cut in the receion$ 'read went u'$ which im'lie that mar(et were e6'ecting the anti%in,lationar+ 'olic+ to continue with high hort term interet rate a,ter the receion$ a it did.

Anw Anwer er wil willl de' de'en end d on on whe when n the the Feb ite ite i acce acce ed ed..

CHAPTER 1& Quick Check 1.

a. b. c.

-ale. True. -ale.





.

3.

8.

d. e. ,. g.

-ale. -ale. True. True.

a.

."J<1H1.&H1.&=JI8&$&&&>I!8$"

b.

I1!8$"

c.

I1!$8".&

d.

b+ I$&&&

e.

Bene Bene,i ,it t im'l im'l+ + e6t e6tra ra annu annual al con conum um't 'tio ion n o,; o,; &.J &.J<1 <1.& .&  =JI8&$&&&J"/1&>I1$

59S i [/ I1$&& $&&&/
Bu+. 59S>I13$8XI1&&$&&&

b.

Brea(%even. 59S>I1&&$&&&

c.

9o not bu+. 59S>I"$&QI1&&$&&& 59S>I"$&QI1&&$&&&

a.

I88$ I88$&& &&&J &J<1 <1%. %.8= 8=J3 J3% %I8 I8&$ &$&& &&&J &J<1 <1%. %.8= 8=J3 J3> >I3 I3$ $8& 8&& &

b.

I88$&&&J<1%.3=J3%I8&$&&&J<1%.3=J3> I88$&&&J<1%.3=J3%I8&$&&&J<1%.3=J3>I88$&& I88$&&

Dig Deeper .

a.

59S o, ,uture labor income > I3&? conum'tion>I1& in all three 'eriod.

b.

+oung; %? middle middle age; 1? old; %1&

c.

Total aving >nJ<%H1%1&=>&

d.

& % @ H 1&@ > @

e.

+oung +oung;; ? middle middle age; age; 1. 1.?? old; old; 1.? 1.? cannot cannot borrow borrow again againt t ,uture ,uture incom incomee when when +oung +oung..

,.

& H 1.@ % 1.@ > &

g.

& H & H 1.@ > 1.@

h.

B+ all allow owin ing g 'eo'l 'eo'lee to borr borrow ow to to con conum umee when when +oun +oung$ g$ ,ina ,inanc ncia iall libera liberali liRa Rati tion on ma+ ma+ lead lead to le overall accumulation o, ca'ital.


a%d. a%d.

Nn aver averag age$ e$ con conum um't 'tio ion n acc accou ount nt ,or ,or abou aboutt 2 2 o, D95 D95 and and inve invet tme ment nt ,or ,or abo about ut 182$ 182$ o conum't conum'tion ion i more than than ,our time time bigger than than invetmen invetment. t. Kelative Kelative to average average change$ movement in conum'tion and invetment are o, imilar magnitude$ which im'lie invetment i much more volatile than conum'tion.





CHAPTER 1' Quick Check 1.

a. b. c. d. e. ,. g.

True. -ale. -ale. True True/U /Unc ncer erta tain in
.

a.

#igher #igher real toc( toc( 'rice 'rice increae increae real wealth wealth directl+ directl+$$ and there,ore there,ore tend to increae increae conum'tion. Moreover$ the h+'e h+'e about the @ew conom+$ conom+$ combined with with increaing toc( 'rice$ ma+ have led to ,avorable e6'ectation about ,uture labor income$ which would alo tend to increae conum'tion.

b.

0ube:uent decline in in the toc( mar(et decreaed wealth and and ma+ have led conumer to revie
a.

)0 hi,t right.

b.

The e6'ected ,uture real interet rate increae relative to the current real interet rate. B+ itel,$ thi tatement tatement im'lie nothing nothing about the the level o, interet rate. rate. The +ield curve could get tee'er tee'er even i, all real interet interet rate ,ell at at all maturitie. maturitie. Auming$ however$ however$ that at a minimum the e6'ected ,uture real interet rate increae$ the )0 'robabl+ hi,t le,t. ), the current current real real interet interet rate doe doe not ,all$ ,all$ then )0 )0 de,initel+ de,initel+ hi,t hi,t le,t. ), the current current real interet interet rate doe ,all$ ,all$ then )0 'robabl+ 'robabl+ hi,t le,t$ becaue becaue the e,,ect o, the e6'ected ,uture real interet rate
c.

7M hi,t right.

d.

The The e6'e e6'ect cted ed ,ut ,utur uree real real int inter ere ett rate rate dec decre rea ae e and and e6' e6'ec ecte ted d ,utu ,uture re out out'u 'utt
e.

Fith Fithin in the the con conte te6t 6t o, o, )0%7 )0%7M$ M$ wit with h a ,i6e ,i6ed d ca'i ca'ita tall toc toc($ ($ an an incr increa eae e in in e6'e e6'ect cted ed ,ut ,utur uree ta6e caue caue )0 to hi,t hi,t le,t. le,t. #owever$ #owever$ the increae increae in ,uture ,uture ta6e ta6e
,.

)0 hi,t le,t.

3.

8.

Kati Kation onal al e6'e e6'ect ctat atio ion n ma+ ma+ be unr unrea eali lit tic ic$$ but it it doe doe not not im'l im'l+ + that that ever ever+ + con conum umer er ha ha 'er,e 'er,ect ct (nowledg (nowledgee o, the econom+. econom+. )t im'lie im'lie that conumer conumer ue the bet available available in,ormationG in,ormationG model$ data$ and techni:ueGto ae the ,uture ,uture and ma(e deciion. deciion. Moreover$ the+ do not


"


have to wor( out the im'lication o, economic model ,or the ,uture b+ themelve? the+ can rel+ on the 'rediction o, e6'ert e6'ert on televiion or in the the new'a'er. entiall+$ entiall+$ rational e6'ectation rule out +tematic +tematic mita(e on the 'art o, conumer. conumer. Thu$ although rational rational e6'ectation ma+ ma+ not literall+ be true$ it eem a reaonable benchmar( ,or 'olic+ anal+i. .

Thee anwer ignore an+ e,,ect on ca'ital accumulation and out'ut in the long run. a.

)n the the ,utu ,uture re$$ ta6 ta6 cut cut wil willl lead lead to to a boo boom. m. Thi Thi lead lead to to high higher er e6' e6'ec ecte ted d out out'u 'ut$ t$ low lower er e6'ected ta6e$ but a higher e6'ected interet rate in the ,uture. The e,,ect on current out'ut i ambiguou.

b.

Thi mean that the -ed will increae the interet rate in the ,uture <hi,t 7M le,t=. The e6'ected interet rate will increae more$ but there i till the e,,ect o, lower e6'ected ta6e on current current conum'tion. conum'tion. The e,,ect toda+ on out'ut out'ut i till till ambiguou$ ambiguou$ but more li(el+ to be negative than in 'art
c.

-utu -uture re out out'u 'utt will will be be high higher er$$ the the ,utu ,uture re int intere eret t rat ratee will will not not inc incre rea ae$ e$ and and ,ut ,utur uree ta6e ta6e will be lower. The current )0 curve de,initel+ hi,t right$ right$ and current out'ut increae.

Dig Deeper .

a%b.

0ee the dicuion in the te6t.

c.

The The get getur uree eem eemed ed to to indi indica cate te tha thatt the the -ed -ed u'' u''or orte ted d de,i de,ici citt redu reduct ctio ion$ n$ and and wou would ld be be willing to conduct e6'anionar+ monetar+ 'olic+ in the ,uture to o,,et the direct negative e,,ect on out'ut ,rom 'ending cut and ta6 ta6 increae. A belie, that the -ed would would be willing to act in thi wa+ would tend to increae e6'ected ,uture out'ut

a.

The The +ield ield curv curvee got got ,lat ,latte terr betw betwee een n @ove @ovem mber ber 1!! 1!! and and Augu Augut t 1!!3 1!!3$$ with with ver+ ver+ litt little le change change in hort%ter hort%term m interet rate. rate. Thi ugget ugget that the e6'ected e6'ected ,uture hort%term hort%term interet rate ,ell$ i.e.$ that the -ed wa e6'ected to ado't a more e6'anionar+ tance.

b.

@o receion a,ter 1!!3. Thi i conitent with e6'ectation that the -ed would u''ort the de,icit reduction with relativel+ e6'anionar+ 'olic+.

c.

Le.

d.

#igh #igher er grow growth th rate rate in in the the 1!!& 1!!& inc incre rea aed ed ta6 ta6 rev reven enue ue. .

CHAPTER 1( Quick Check 1.

a. b. c. d. e. ,.

True. -ale. -ale. -ale. True. -ale.





.

Domestic Country Balance of Payments
 18 <>1&&H8= %1& <>%18= & 1 %1 <>&%1= % %1& <>%1&%1%=

Ea'ital Account )ncr )ncrea eae in -ore -oreig ign n #old #oldin ing g o, 9om 9omet etic Aet et )ncreae in in 9o 9ometic #o #olding o, o, -o -oreign A Aet @et )ncreae in -oreign #olding #olding 0tatitical 9icre'anc+

& <> <>H1 H1= = % & 13& <>&%<%&== 3& <>1&%13& or >3%=

Foreign Country Balance of Payments ($) Eurrent Account 6'ort )m'ort Trade Balance )nve )nvet tme ment nt )nco )ncom me Kece Keceiv ived ed )nvetment )ncome 5aid @et )nvetment )ncome )ncome @et Tran,er Keceived Eurrent Account Balance

Ea'ital Account )ncreae in -oreign #olding )ncreae in 9ometic #olding @et )ncreae in -oreign #olding #olding 0tatitical 9icre'anc+ 3.

18  1& 1 & 1  1&

%& & %13& %3&

a.

The The nomi nomina nall retu return rn on the the U.0. U.0. bond bond i 1&$&& 1&$&&&/ &/82. >82. The nominal return on the Derman bond i 2.

b.

Uncovered interet 'arit+ im'lie that the dollar i e6'ected to a''reciate b+ 12. Thu$ the e6'ected e6change rate i .!!J<.!=>&.!8& I/uro.

c.

), +ou +ou e6'e e6'ect ct the the dol dolla larr to de' de're reci ciat atee int intea ead$ d$ 'ur 'urch cha aee the the Derm Derman an bon bond d a +ou +ou e6'e e6'ect ct the return
d.

The The ur uro o de' de're reci ciat ate e b+ . .2 2$$ o the the tot total al ret retur urn n on on the the Derm Derman an bon bond d %&.2. )nveting in the U.0. U.0. bond would have 'roduced 'roduced a ure 82 return.

e.

The uncove uncovered red inter interet et 'arit+ 'arit+ condi conditio tion n i i abou aboutt e:ua e:ualit lit+ + o, o, e6'ec e6'ected ted return return$ $ not e:uali e:ualit+ t+ o, actual return.


!


Dig Deeper 8.

Eurr Eurren entt acc accou ount nt de,i de,ici cit t loo( loo( bad. bad. @et @et ca' ca'it ital al in,l in,low ow loo loo( ( goo good. d. Fe (now (now ,rom ,rom bala balanc ncee o, o, 'a+ment accounting$ however$ that we cannot have one without the other. The evidence doe not u''ort either either argument. Eontrar+ to what the 9emocrat aid$ the trade trade de,icit wa due to a large out'ut e6'anion in the United 0tate$ which led to a large increae in im'ort <ee the -ocu Bo6 in Eha'ter Eha'ter &=$ not 'rimaril+ 'rimaril+ to a lo o, com'etitiv com'etitivene ene.. Eontrar+ Eontrar+ to what the 5reident aid$ the large net ca'ital in,low were needed to ,inance the trade de,icit? the+ were not a ign that ,oreign invetor were eager to invet in the United 0tate.

.

a.

0im'l+ ubtitute - ,or  e in the derivation derivation o, uncovered uncovered interet 'arit+ in the te6t. Fe no longer need to ue the e6'ected e6change rate$ ince we (now the e6change rate at which uro and dollar dollar will be e6changed in the ,uture. ,uture. The+ will be e6changed at the the ,orward 'rice$ -.

b.

The ,orward rate conitent with covered interet 'arit+ i the ame a the e6'ected e6change rate conitent with uncovered interet 'arit+.

c.

Do long long or hor hortt in in U.0 U.0.. bon bond d$$ de' de'en endi ding ng on the the ,or ,orwa ward rd e6ch e6chan ange ge rate rate..

d.

0ur' 0ur'ri rie e in the the e6ch e6chan ange ge rat ratee no long longer er a,, a,,ec ectt actu actual al ret retur urn n on on +ou +ourr inve invet tme ment nt.. All All e6change rate e6'oure ha been eliminated b+ the ,orward contract.


".

a.

The +e +en a'' a''reciated ,or ,orm mid mid%1! %1! to mi mid%1! %1!!$ de' de'reciated unt until mid mid%1! %1!!$ a''reciat a''reciated ed through through the end o, 1!!!$ 1!!!$ and de'reciated de'reciated through through the end o, &&1. &&1. -rom a broader 'er'ective$ between between the end o, 1!8 and the end o, &&1$ the +en +en a''reciated b+ about 1&&2. The +en reached it tronget value againt againt the dollar in mid%1!!.

b.

9e'reciation o, the +en. +en.

c.

The +en de'reciated between 1!!! and &&1. Thi i 'robabl+ good ,or 4a'anee e6'ort and out'ut.

\U.0. Aet Abroad\ re,er to ,oreign aet ac:uired b+ the United 0tate. The ign convention i that a negative number im'lie a ca'ital out,low

3&


CHAPTER 1) Quick Check 1.

a. b. c. d. e. ,. g.

-ale. Uncertain. -ale. -ale. True. True. True/Uncertain. A''reciation A''reciation o, the dollar alo 'la+ed a role.

.

a.

] >5J/5. A''l+ 'ro' ro'oition  to <5J=/5 and then 'ro'oition " to <5J=.

b.

), ^5/5 X ^5J/5J and ^/ > &$ then ^]/] Q&$ o the real e6change rate i decreaing
a.

The The har haree o, 4a'an a'aneee 'en 'endi ding ng on U.0. .0. good good rela relattive ive to U.0. .0. D95 D95 i <&.1 <&.1=< =<& &.1=> .1=>1 12.

b.

U.0. D95 ,all b+ <.&=<.&1=>&.12. <.&=<.&1=>&.12.

c.

U.0. D95 ,all b+ <.&=<.1=>12.

d.

Thi Thi i an ove over rta tate teme ment nt.. The The numb number er abov abovee ind indic icat ated ed that that eve even n i, i, U.0. U.0. e6'o e6'ort rt ,all ,all b+ 2$ the e,,ect e,,ect i to reduce reduce growth growth b+ 12. Thi Thi i mall mall relativ relativee to D95$ D95$ but large large relative to normal growth
a.

)nit )nitia ialll+$ l+$ net e6' e6'ort ort and and out' out'u ut ,all. all.

b.

A,ter i6 month$ net e6'ort e6'ort and out'ut increae. increae.

3.

8.

Dig Deeper .

a.

L > E H ) H D H _ – ` > & H &.J O1/<1 % . H .3=P<1 H D H &.3LJ= > J<1 H D H &.3LJ= > 88 H &.LJ The multi'lie multi'lierr i  <>1/<1%. <>1/<1%.H.3== H.3== when ,oreign ,oreign out'ut out'ut i ,i6ed. The cloed cloed econom+ multi'lier i  <>1/.=. )t di,,er ,rom the the o'en econom+ multi'lier multi'lier becaue$ in the o'en econom+$ onl+ ome o, an increae in autonomou demand ,all on dometic good.

b.

0ince the countrie are identical$ L>LJ>11&. Ta(ing into account the endogeneit+ o, ,oreign income$ income$ the multi'lier e:ual O1/<1%&. O1/<1%&. %&.3J&. H&.3=P>3.1. The multi'lier multi'lier i higher than the o'en econom+ multi'lier in 'art

31


.

".

c.

), L>1 L>1 $$ then then ,or ,orei eign gn out out'u 'utt LJ> LJ> 88H& 88H&. .J1 J1 >1 >11! 1!.. Uin Uing g the theee two two ,act ,act and and the the e:uation e:uation L > <1HDH&.3 <1HDH&.3LJ= LJ= +ield; +ield; 1 > 8HDH&.J<11 8HDH&.J<11!=. !=. 0olving 0olving ,or D give give D>18.. )n the dometic countr+$ countr+$ @_ > &.3J<11!=%&.3J<1= &.3J<11!=%&.3J<1= > %1.? T%D > 1&%18.>%8.. )n the ,oreign countr+$ @_J>1.? TJ%DJ>&.

d.

), L>LJ L>LJ>1 >1 $$ the then n we we hav have; e; 1> 1>8 8H HDH DH&. &.J< J<1 1= =$$ whi which ch im'l im'lie ie D>D D>DJ> J>13 13.. )n both both countrie$ net e6'ort are Rero$ but the budget de,icit ha increaed b+ 3.

e.

)n 'art$ 'art$ ,ic ,ical al coo coordi rdinat nation ion i di,,ic di,,icult ult to achiev achievee beca becaue ue o, the bene,i bene,it t o, doing doing nothin nothing$ g$ a indicated ,rom 'art
a.

A ta6 ta6 on ,ore oreign ign good ood o, rate rate  a,,e a,,ect ct the 'ric 'ricee 'aid 'aid ,or ,or im'ort ort.. )n )ntead tead o, ]$ it i now e:ual to <1H=]. )m'ort are given b+ `<<1H=]$L=. The 'rice o, e6'ort i una,,ected$ una,,ected$ o e6'ort are till given b+ _<]$LJ=.

b.

-or a given level o, dometic income$ the higher 'rice o, ,oreign good to dometic conumer reduce im'ort$ but doe doe not a,,ect e6'ort$ e6'ort$ o @_ increae. increae. Thi hi,t the )0 curve to the right$ right$ increaing dometic dometic e:uilibrium income. income. #igher dometic income income o,,et ome o, the initial increae in @_$ but the overall e,,ect i till ,avorable.

c.

The The ta6 ta6 ha ha o''o o''oi ite te e,, e,,ec ect t in in the the ,orei ,oreign gn cou count ntr+ r+$$ a,,ec a,,ecti ting ng the their ir e6'o e6'ort rt negat negativ ivel el+ +$ hi,ting the )0 curve to the le,t$ which reduce e:uilibrium income.

d.

ach ach hi hi,t ,t in in the the )0 curv curvee will will be be reve rever red ed$$ but but the the over overal alll volu volume me o, o, trad trade$ e$ de decr crib ibed ed b+ b+ `H`J will ,all. ), agent im'l+ ubtitute ubtitute dometic good ,or ,oreign ,oreign good$ out'ut will remain the ame.


CHAPTER "* Quick Check 1.

a. b.

c. d. e. ,. .

a.

Uncertain. -ale/uncertain. -ale$ a long a the interet rate e,,ect on @_

3


3.

8.

b.

The dometic interet rate mut rie above the ,oreign rate becaue there i an e6'ected devaluatio devaluation. n. A a reult$ the increae increae in out'ut out'ut i le than the increae increae in 'art
a.

Monetar Mon etar+ + 'olic+ lic+ i ine ine,,ec ,,ecttive ive in the the -ol -ollowe lowerr cou countri ntriee. The ,i6e ,i6ed d e6ch e6chan ang ge rat ratee im im'lie lie that the dometic interet rate i ,i6ed$ given the 7eader interet rate.

b.

)t i true that the 7eader countr+ e6change rate i eentiall+ ,i6ed$ but it till o'erate a i, it were in a ,le6ible ,le6ible e6change e6change rate regime. regime. The leader leader countr+ countr+ i ,ree to change change interet rate a it it wihe$ ince the ,i6ed e6change e6change rate i not it it target. )n other word$ word$ monetar+ 'olic+ i e,,ective ,or the 7eader countr+.

c.

-oll -ollow ower er coun countr trie ie mut mut inc incre rea aee inte intere ret t rat rate e a wel well. l. Thi Thi lea lead d to to a contr contrac acti tion on in in out'ut. ), -ollower countrie did did nothing$ their currencie currencie would de'reciate. de'reciate.

a.

)0 hi hi,t ,t le, le,tt$ bec becau aue e dom dometi eticc e6' e6'or ort t ,all all giv given en an+ an+ e6ch e6chan ang ge ra rate
b.

 increae$ given an+ value o, the home interet rate$ o )0 hi,t right. The interet 'arit+ line alo hi,t right. A a reult$  increae$ @_ increae$ and L increae. The home interet rate alo increae$ but b+ le than the ,oreign interet rate.

c.

The The e,, e,,ect ect o, o, a mon monetar etar+ + con contrac ractio tion abro abroad ad on on hom home out' out'u ut are are ambi ambig guou uou.. A monetar+ contraction abroad reduce ,oreign out'ut and increae the ,oreign interet rate. The out'ut e,,ect tend tend to reduce home home out'ut
.

Under Under ,le6 ,le6ibl iblee e6cha e6change nge rate$ rate$ the 'ro'er 'ro'er 'olic+ 'olic+ combin combine e e6' e6'an anion ionar+ ar+ mon moneta etar+ r+ 'oli 'olic+ c+
.

Eon Eonum um't 'tio ion n and inve invet tm ment ent both both incre increa ae. e. The The e,,ec e,,ectt on net e6'o e6'ort rt i ambi ambigu guou ou; ; high higher er out'ut lead to lower net e6'ort$ but de'reciation lead to higher net e6'ort.

Dig Deeper ".

a.

Nut'u Nut'utt ho hould uld ,all$ ,all$ the the nom nomina inall intere interet t rate rate ho hould uld increa increae$ e$ and the e6cha e6change nge rate rate ho hould uld a''reciate.

b.

Nut'ut hould increae$ the nominal interet rate hould increae$ and the e6change rate hould a''reciate.

c.

entiall+$ entiall+$ +e.

CHAPTER "1 Quick Check 1.

a.

Uncertain

33


.

3.

8.

b. c. d. e.

True. Uncertain. True/uncertain. -ale.

a.

An in increae in th the ,o ,oreign 'r 'rice le level ca caue a rea real de de'reciation$ whi which le lead to to an increae in demand and out'ut.

b.

An increae in e6'ected in,lation in,lation caue a decreae in the real interet interet rate$ which lead to an increae in demand and out'ut.

c.

-ir -irt$ t$ une une:u :ual al in, in,la lati tion on rat rate e lea lead d to e,,ec e,,ect t on on the the real real e6c e6cha hang ngee rate rate.. ), in, in,la lati tion on i hig high h
a.

)n the ho hort rt run$ run$ out' out'u ut in increa creae e$ th the rea reall e6 e6chan change ge rate rate doe not not ch chang ange$ and and the the nom nominal inal interet rate doe not change
b.

)n the hort run$ conum'tion and invetment increae$ but net e6'ort ,all. )n the medium run$ conum'tion and invetment return to their original level$ ince out'ut return return to it natural natural level and the interet interet rate i unchanged unchanged.. @et e6'ort e6'ort ,all b+ an amount e:ual to the increae in government 'ending.

c.

Budg Budget et de, de,ic icit it do do lea lead d to to tra trade de de, de,ic icit it$ $ but but not not mech mechan anic ical all+ l+.. Ehan Ehange ge in in the the bud budge gett de,icit lead to change in out'ut and the real e6change rate$ both o, which a,,ect the trade de,icit directl+.

a.

1&2>2He6'ected no nominal de de'reciation$ o e6 e6'ected no nominal de de'reciation > 82 'e 'er +ear.

b.

1&2%2><2%32=He6'ected 1&2%2><2%32=He6'ected real de'reciation$ o e6'ected real de'reciation >12 'er +ear.

c.

Lou Lou woul would d 'urc 'urcha hae e the the dom dome eti ticc bond bond bec becau aue e the the ,or ,orei eign gn bon bond d will will onl onl+ + +iel +ield d 2 and and there i a lo on +our 'oition in the ,oreign currenc+.

Dig Deeper .

.

a.

Keu Keuni,i ni,ica cati tio on im'l im'liie an e6ce e6ceiv ive a'' a''reci reciat atiion o, the at at Derm Derman an cur curren renc+. c+. )t lead ead to a receion.

b.

Nut'ut remain low until 'rice have decreaed decreaed enough relative to Fet Fet Derman 'rice o a to reetablih the right real e6change rate.

c.

5ric 5rice e mu mut t ,al ,all. l. ), the there re i no 'rod 'roduc ucti tivi vit+ t+ grow growth th$$ nomi nomina nall wag wage e mu mut t ,all ,all..

An incr increa eae e in the 'erc 'ercei eive ved d 'rob 'robab abil ilit it+ + o, deva devalu luat atio ion n ma(e ma(e BraR BraRil ilia ian n toc toc( ( much much le le attractive than non%BraRilian non%BraRilian toc(. toc(. -inancial invetor invetor ell o,, their holding holding and toc( 'rice


38


,all. The+ ,all until the the e6'ected return in Keal i large enough to com'enate ,or the e6'ected e6'ected devaluati devaluation on o, the Keal. A,ter the devaluat devaluation$ ion$ however$ however$ i, invetor invetor do not e6'ect ,urther ,urther devaluation
CHAPTER "" Quick Check 1.

a. b. c. d. e.

-ale. True. Uncertain. True. -ale.

.

a.

0hort%term un unem'lo+ment ha ha mo more e, e,,ect. earching and ma+ not be ver+ em'lo+able.

b.

u>&.1/O<1.1=<1%&.=P

c.

), >&$ >&$ &.8$ &.8$ &.$ &.$ the the nat natur ural al rate rate >!.1 >!.12$ 2$ 11.8 11.82$ 2$ 1. 1.2. 2. The The lon long% g%te term rm unem unem'l 'lo+ o+ed ed 'ut 'ut le downward 'reure 'reure on wage than the hort%term unem'lo+ed. unem'lo+ed. Thu$ ,rom the wage% etting e:uation$ ,or a given aggregate unem'lo+ment rate$ an increae in the 'ro'ortion o, long%term long%term unem'lo+ unem'lo+ed ed would tend to increae increae the real wage. wage. 0ince 0ince the real wage i ,i6ed ,rom the 'rice%etting e:uation$ however$ the aggregate unem'lo+ment rate mut increae to o,,et the u'ward 'reure on the real wage ,rom the increae in the hare o, long%term unem'lo+ed. unem'lo+ed. )ntuitivel+$ )ntuitivel+$ i, the weight on the long%term long%term unem'lo+ed unem'lo+ed were Rero intead o, &.$ then the wage%etting and 'rice%etting e:uation would determine the natural natural hort%term hort%term rate o, unem'lo+ unem'lo+ment. ment. Additiona Additionall long%term unem'lo+ unem'lo+ed ed would would im'l+ increae the the aggregate unem'lo+ment unem'lo+ment rate. The ame (ind o, reaoning a''lie a''lie here$ but the e,,ect i le trong becaue the weight on long%term unem'lo+ed in the wage%etting e:uation i not Rero.

a.

#igher un unem' em'lo+m o+ment im im'lie lo lower wa wage gi given e6 e6'ected 'r 'rice. Thi im im'lie lo lower 'rice given e6'ected 'rice. :uivalentl+$ :uivalentl+$ it im'lie lower in,lation given e6'ected in,lation$ which here e:ual 'at in,lation.

b.

V % Vt%1 > <HR= % u 0 or e:uivalentl+; V % V t%1 > <HR= % 
c.

The The cur curve ve will will hi, hi,tt to to the the righ right. t. Mo More re ove overa rall ll unem unem'l 'lo+ o+me ment nt i i nee neede ded d to to ach achie ieve ve the the ame decreae in in,lation.

d.

Le Le. ), di diin,l in,lat atio ion n lead lead to an incr increa eae e in u 7$ diin,lation will be le than 'redicted b+ the tandard relation.

3.

8.

The lo long%term un unem'lo+ed ma ma+ no not be be

0ee dicuion in te6t and the anwer to 5roblem .

Dig Deeper .

a.

9raw 9raw the )0 and and 7M curv curve e o the+ the+ cro ro clo cloe to i>1. @ote$ however$ however$ that the the 7M curve cannot cro the horiRontal a6i.


3


b.

@o. 0ince the nominal interet rate cannot ,all below Rero$ an increae in the current mone+ u''l+ cannot increae out'ut.

c.

), the e6'ected nominal interet rate were 'oitive in the ,irt 'lace$ then the central ban( can announce that it will decreae it. Thi will tend to reduce reduce the e6'ected e6'ected real interet interet rate$ increae current invetment$ and hi,t the current )0 curve to the right.

d.

N'en.

e.

Le. )n the abence abence o, other other economic economic new$ new$ the +ield +ield curve hou hould ld become become le tee' a,ter a,ter the announ announcem cement ent o, the 'olic+ 'olic+$$ i, 'eo'le 'eo'le believ believee that that the centra centrall ban( ban( will will im'lement the 'olic+.

CHAPTER "# Quick Check 1.

a. b. c. d. e. ,.

True. -ale. -ale. -ale. -ale. -ale.

.

a.

), mone+ growth > 2$ &2$ "2$ eignorage>1.$ 3$ 8".

b.

)n the medium run$ i, mone+ growth > 2$ &2$ "2$ eignorage>1.$ &&$ 11.. The ,all in real mone+ balance aociated with higher ongoing in,lation reduce the 'otential ,or eignorage. eignorage. 5art
a.

Fould decreae the e,,ect o, in,lation on real ta6 revenue.

b.

Fould decreae the e,,ect o, in,lation in,lation on real ta6 revenue. revenue.

c.

Foul Fould d decre decrea aee the e,,e e,,ect ct o, in,l in,lat atio ion n on real real ta6 reve revenu nue e$$ but wou would ld alo alo have have othe otherr e,,ect. The income ta6 can ta6 ta6 the rich at a higher higher rate than the 'oor$ but the ale ale ta6 rate i the ame ,or rich and 'oor.

3.

8.

The end to the crii crii de'end de'end on on hi, hi,tin ting g the the com' com'oi oitio tion n o, o, ta6e ta6e. . For(e For(er r are alread alread+ + 'a+ 'a+ing ing an in,lation ta6. The central ban( mut ma(e a credible commitment that it will no longer automaticall+ monetiRe the governmen governmentt debt. Although Although a currenc+ currenc+ board would would do thi$ it i a dratic dratic and 'erha' 'erha' unnecear+ te'. 5rice control ma+ hel'$ but 'rice control without other 'olic+ change onl+ caue ditortion and are a reci'e ,or ,ailure. A receion receion i not needed$ needed$ but it ma+ ha''en. Although Although nominal nominal rigiditie rigiditie are le im'ortant im'ortant during h+'erin,lationGwhich im'lie that the acri,ice ratio i mallGthe iue o, credibilit+


3


remain. Unle ,irm and wor(er wor(er believe in the tabiliRation tabiliRation 'rogram$ 'rogram$ a evere receion ma+ be the reult. The 'roblem ha two two 'art;
Dig Deeper .

ma6 <&.!%^M/M=<^M/M=>82.

CHAPTER "$ Quick Check 1.

a. b. c. d. e. ,.

g.

-ale. True/Uncertain. -ale. -ale. True. Unce Uncert rtai ain. n. )t ma+ ma+ be be wie wie ,or ,or a gov gover ernm nmen entt to com comm mit not not to to nego negoti tiat atee with with ho hota tage ge ta(er a a mean to deter hiCac(ing$ even recogniRing that a,ter a hiCac(ing ha ta(en 'lace$ there i a trong incentive to negotiate. #owever$ the 'hrae under no circum circumta tance nce  i catego categoric rical. al. There There ma+ ma+ om omee circu circumt mtanc ance e und under er whic which h a government might wih to violate violate it commitment. Thi tatement$ tatement$ o, coure$ illutrate illutrate the di,,icult+ o, 'recommitment. Ean a government government reall+ commit commit not to negotiate$ negotiate$ no matter what the circumtance$ even i, thee circumtance ma+ not have been imagined at the time the commitment wa madef -ale.

.


3.

a.

), +ou thin hin( tha thatt vo voter er car caree a lot lot ab about out cu curren rrentt con condi dittion ion$$ +o +ou ma+ ma+ wan want to to com comee int into o th the election with low in,lation and low unem'lo+ment. unem'lo+ment. 0o$ +ou ma+ want want to have higher higher unem'lo+ment earl+ on$ to decreae in,lation$ and unem'lo+ment lower than the natural rate the +ear be,ore the election.

b.

), voter have rational e6'ectation$ the+ will undertand what +ou are tr+ing to do. Lou will not be able to a,,ect a,,ect the unem'lo+m unem'lo+ment ent rate. Lou are better better o,, (ee'ing in,latio in,lation n contant$ and unem'lo+ment unem'lo+ment at the natural rate.

8.


.

@ew ealan ealand d want want to to elim elimina inate te ,ear ,ear that that the the cent central ral ban( ban( migh mightt tr+ tr+ to to reduc reducee unem' unem'lo+ lo+men mentt below the natural rate rate with e6'anionar+ monetar+ monetar+ 'olic+ and higher in,lation. in,lation. 0ee Eha'ter $ ''. 3!%8& ,or a dicuion dicuion o, in,lation targeting. targeting.


3"


Dig Deeper .

".

a.

1/ 1/ time time the the e6'e e6'ect cted ed rate rate o, in,l in,lat atio ion n i, the the 9emo 9emocr crat at win win 'lu 'lu 1/ 1/ time time the the e6'e e6'ect cted ed rate o, in,lation i, the Ke'ublican win.

b.

7ow unem'lo+ment$ unem'lo+ment$ high in,lation
c.

#igh unem' em'lo+ment ent$ lo low in in,lation
d.

Le$ Le$ i, i, one one loo( loo( at the the ,ir ,irt t two two +ear ear o, eac each h admi admini nit tra rati tion on$$ not not Cut Cut the the ,ir ,irt t..

e.

Unem nem'lo+ lo+ment ent e:u e:ual to the the natu atural ral rate$ rate$ hig high in,l in,lat atio ion. n. e in,lation i ver+ high$ o V > V .

a.

), the Ke' Ke'ub ubli lica can n cu cut mil miliitar+ tar+ 'en 'ending$ ing$ the the 9em 9emoc ocra rat t get 1 i, i, th the+ cut cut wel wel,a ,are re$$ bu but 3 i, the+ do not. not. 0o their bet re'one i to vote againt againt wel,are cut. cut. The Ke'ublican Ke'ublican will get – in thi cae.

b.

), the Ke'ublican do not cut militar+ 'ending$ the 9emocrat get – i, the+ cut wel,are$ but onl+ –1 i, the+ do not. 0o their bet re'one i not to cut wel,are. The Ke'ublican will get –1 in thi cae.

c.

Diven iven the the anw anwer er abov above$ e$ the the Ke'u Ke'ubl blic ican an do bet better ter when hen the+ the+ do not not cut cut milit ilitar ar+ + 'ending 'ending$$ o the+ will will not cut. The 9emocrat 9emocrat will will not cut cut either. either. The two 'artie 'artie are are loc(ed in a bad e:uilibrium. e:uilibrium. The+ could ma(e ma(e a deal; both vote ,or cut. ), the+ do$ the+ will both be better o,,.

Thi hi i becau becaue e6'e e6'ect cted ed

CHAPTER "% Quick Check 1.

a. b. c. d. e. ,. g.

-ale. -ale. -ale. -ale/Uncertain. -ale. True True/U /Unc ncer erta tain in.. True True to the the e6t e6ten entt the the ta6 ta6 code code i not not inde inde6e 6ed d to in,l in,lat atio ion. n. True.

.

a.

9emand ,o ,or M1 M1 ,a ,all wh while de demand ,o ,or M M i i un unchanged. aving account to time de'oit.

b.

9emand ,or M1 increae a 'eo'le tran,er ,und ,rom mone+ mar(et ,und to chec(ing account. 9emand ,or M remain unchanged.

c.

0hi, 0hi,tt in the the com' com'o oit itio ion n o, M1
d.

The The dema demand nd ,or ,or M inc increa reae e a the the ben bene, e,it it o, o, hold holdin ing g gove govern rnme ment nt ecu ecuri riti tie e ,al ,all l..

a.

82%&2>82? 182%1&2>82

3.


5eo'le h hi,t ,u ,und ,r ,rom

3


b.

82 J <1%&.=%&2>32? 182 J <1%&.=%1&2>1&.2%1&2>&.2 <1%&.=%1&2>1&.2%1&2>&.2

c.

Le$ Le$ give given n the the deduct deductib ibili ilit+ t+ o, nom nomina inall mort mortgag gagee inte intere rett 'a+ 'a+men ment t in in the the United United 0tate 0tate..

8.

5rob 5robab abl+ l+ not not.. The Theee two two ,act ,act ugg ugge ett that that the there re ha ha bee been n a hi, hi,tt in mo mone+ ne+ dema demand nd tow towar ard d M1$ M1$ but not an increae in overall mone+ growth$ growth$ a re'reented b+ M.

.

The -ed ha three three intru intrume ment nt that that can can be ued ued to to redu reduce ce the e:uil e:uilibr ibrium ium inter interet et rate. rate. i= Keerve re:uirement. re:uirement. ), the -ed re:uire ban( ban( to hold a larger larger hare o, de'oit de'oit in reerve than the ban( would chooe to do on their own$ then lowering the reerve re:uirement will reduce ban( demand demand ,or central ban( mone+. mone+. Thi ,all in
Dig Deeper .

)n 'ri 'rinc nci' i'le le$$ +e. +e. )nve )nvet tme ment nt ta6 ta6 cre credi dit t$$ whic which h giv givee ta6 ta6 bre brea( a( to ,irm ,irm that that inv inve et$ t$ can can hel hel' ' increae invetment. invetment. #owever$ ,ical 'olic+ i 'robabl+ 'robabl+ le ,le6ible than monetar+ monetar+ 'olic+ in thi conte6t.

".

a.

), in,lation remain contant at VJ$ then unem'lo+ment will remain at the natural rate.

b.

5oibl+$ but in,lation targeting will not eliminate ,luctuation in unem'lo+ment unem'lo+ment or obviate the need ,or di,,icult di,,icult 'olic+ deciion deciion in the hort hort run. 0ee the dicuion dicuion on '. 8& in the te6t.

Explre Fur!her .

Anwer will de'end on current -ed 'olic+.

CHAPTER "& Quick Check 1.

a. b. c. d. e. ,.

True. -ale. Uncertain. -ale. -ale. -ale


3!


.

3.

8.

g.

-ale

a.

)nteret 'a+m a+ment ent are 1&2 o, D95$ o the 'rimar+ ur'lu i 1&2%82>2.

b.

Keal interet 'a+ment are <1&2%"2=J1&&2>32 <1&2%"2=J1&&2>32 o, D95. ur'lu i 2%32>32.

c.

Au Aume me tha thatt lat lat 'er 'erio iod d unem unem'l 'lo+ o+me ment nt wa wa at the the natu natura rall rate rate$$ o ther theree ha bee been n a two 'ercentage 'oint increae in the unem'lo+ment rate over the lat 'eriod. B+ N(un law 12. &.J2>12. 0o the c+clicall+ c+clicall+%adCu %adCuted$ ted$ in,lation% in,lation% adCuted ur'lu i 2.

d.

The The cha chang ngee in in the the debt debt to D95 D95 rati ratio o > <32 <32% %2= 2=J1 J1&& &&2 2 % 32 32 > %2 %2.. The The deb debtt to to D95 D95 ratio ,all b+ 2 a +ear.

e.

)n 1& +ea +ear r$$ th the deb debtt to to D9 D95 ra ratio tio will ill be &2. &2.

a.

The The new new inte intere ret t rate rate i 1&2H 1&2H&. &.J J& &2> 2>& &2. 2. 0o au aumi ming ng that that e6'e e6'ect cted ed de'r de'rec ecia iati tion on wa 'revioul+ Rero$ the dometic interet rate increae ,rom 1&2 to &2.

b.

The real interet rate increae ,rom 32 to 132. The high real interet rate i li(el+ to decreae growth.

c.

The The o,,i o,,ici cial al de, de,ic icit it inc incre rea ae e ,ro ,rom m 82 to 182 182 o, o, D95. D95. The The in,l in,lat atio ion% n%ad adCu Cut ted ed de, de,ic icit it increae ,rom –32
d.

The The chan change ge in the the deb debtt rat ratio io > <132 <132%< %<% %2= 2==J =J1& 1&&2 &2%3 %32> 2>1 12. 2. )t goe goe u u' ' ver+ ver+ :ui :uic( c(l+ l+..

e.

)n thi thi e6am e6am'l 'le$ e$ the the wor worri rie e were were el, el,%, %,ul ul,i ,ill llin ing g.

0o the in,lation%adCuted in,lation%adCuted

-ir -irt$ t$ eve even n a tem'o tem'ora rar+ r+ de,i de,ici citt lead lead to an an incr increa eae e in in the the nati nation onal al deb debt$ t$ and and the there re,o ,ore re to hig highe herr interet 'a+ment. 'a+ment. Thi$ in turn$ turn$ im'lie continued continued de,icit$ higher higher ta6e$ or lower lower government 'end 'ending ing in the the ,uture ,uture.. 0econd 0econd$$ the evidenc evidencee doe doe not u''ort u''ort the Kicard Kicardian ian e:uival e:uivalenc encee 'ro'oition. Third$ i, Kicardian e:uivalence did hold$ then government 'ending would have the ame e,,ect on out'ut regardle o, whether it wa ,inanced b+ bond
Dig Deeper .

9ic 9icu ui ion on :ue :ueti tion on.. Alo Alo ee ee the the bo6 bo6 on on 0oc 0ocia iall 0ec 0ecur urit it+ + in in Eha Eha't 'ter er 11 <'. <'. 1 1=. =.

.

), ,ina ,inanc ncia iall mar(e mar(ett 'arti 'artici ci'a 'ant nt dico dicoun untt ,utur ,uturee divid dividen end d at the the rate rate o, inte intere ret t on gove govern rnme ment nt bond$ then thi econom+ will e6hibit Kicardian e:uivalence. ), there i a ri(%'remium a''lied to toc($ then thi econom+ will not e6hibit Kicardian e:uivalence. To ee wh+$ let  t be the dividend ta6 ta6 rate at time t and conider the 're%dividend toc( 'rice under a ,i6ed e:uence o, e6'ected dividend.


8&


I`t > I9t<1 % t= H I9etH1<1 %tH1=/<1 H i1t=H . . . > OI9t H I9etH1/<1 H i1t=H . . .P % OI9tt H I9etH1tH1/<1 H i1t= H . . .P The econd term in brac(et i the 'reent dicounted value o, ta6 recei't ,or the government. To ,inance a given e6'enditure 'olic+$ the government mut (ee' the 59S o, ta6 recei't contant. Thu$ ,or a given e:uence e:uence o, e6'ected dividend$ dividend$ the timing o, dividend dividend ta6e will will not a,,ect a,,ect the toc( toc( 'rice$ 'rice$ conum' conum'tio tion n or invet invetmen ment. t. A a reult reult$$ thi thi econom econom+ + will will e6hibi e6hibitt Kicardian Kicardian e:uivalen e:uivalence. ce. @ote that$ that$ e6 'ot$ 'ot$ dividend dividend will var+ ,rom their e6'ected e6'ected value$ value$ o ta6e ma+ be adCuted in the ,uture. Thi new in,ormation could could a,,ect toc( toc( 'rice. )n addition$ note that the level o, dividend ta6e – the 59S o, ta6 recei't – could a,,ect toc( 'rice. ), toc( are aeed a ri( 'remium & ,orever ,orever but W i 'oitive. 'oitive. )n thi cae$ cae$ the governmen governmentt can ae ta6e ta6e at an+ time with no cone:uence$ but hi,ting hi,ting ta6e to the the ,uture will be ,avorable ,avorable to holder o, toc(. toc(. 0ince ,uture dividend are uncertain$ o are ,uture ta6 'a+ment – the+ might not have to be made i, dividend turn out to be low. low. )n thi cenario$ cenario$ hi,ting ta6e to the the ,uture would tend to increae the current toc( 'rice$ and thu increae conum'tion and invetment

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Solutions - Macroeconomia - Blanchard - 3 Ed.

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