Assignment:
1. Define and explain the following concepts (use illustrative examples where necessary)
a) Structural vs Cyclical unemployment
b) Monetary Vs Fiscal Policy
c) Open Market Operations
2. Assume that total reserves are equal to $150 and total checkable bank deposits are equal to $1,000. Also assume that the public does not hold any currency. Now suppose that the required reserve ratio falls from 15% to 10%. Trace out how this leads to an expansion in bank deposits.
3. You have to make a decision weather to invest on a plot of land. The plot of land you found costs $140,000. The land will be worth $200,000 in five years.
a) Should you buy the lot if the real interest rate, r , is 5%?
b) Should you buy it if the real interest rate,r, is 10%?
4. An economy is in long-run macroeconomic equilibrium with an unemployment rate of 5% when the government passes a law requiring the central bank to use monetary policy to lower the unemployment rate to 3% and keep it there. How could the central bank achieve this goal in the short run? What would happen in the long run? Illustrate with a diagram.
5. Unlike households, governments are often able to sustain large debts. For example, in 2011, the U.S. government's total debt reached $14.8 trillion, approximately equal to 102.7% of GDP. At the time, according to the U.S. Treasury, the average interest rate paid by the government on its debt was 2.2%. However, running budget deficits becomes hard when very large debts are outstanding.
a) Calculate the dollar cost of the annual interest on the government's total debt assuming the interest rate and debt figures cited above.
b) If the government operates on a balanced budget before interest payments are taken into account, at what rate must GDP grow in order for the debt-GDP ratio to remain unchanged?
c) Calculate the total increase in national debt if the government incurs a deficit of $600 billion in 2012.
d) At what rate would GDP have to grow in order for the debt-GDP ratio to remain unchanged when the deficit in 2012 is $600 billion?
e) Why is the debt-GDP ratio the preferred measure of a country's debt rather than the dollar value of the debt? Why is it important for a government to keep this number under control?