ECON 2000 Lecture Notes - Lecture 80: Fiscal Policy, Monetary Policy, Money Supply

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14 May 2018

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ECON 2000

Lecture 80

Fiscal policy

- Increase govt spending or cut taxes, shifts IS* curve to right and puts

upward pressure on market exchange rate

- Because central bank stands ready to trade foreign and domestic

currency at fixed rate, arbitrageurs quickly respond to rising exchange

rate by selling foreign currency to the central bank, leading to an

automatic monetary expansion

- Rise in money supply shifts LM* curve to right

- Fiscal expansion under fixed exchange rates raises aggregate

income

Monetary policy

- Increase money supply (e.g. buying bonds from public)

- Initial impact is to shift LM* curve to right, lowering exchange rate

- But because central bank is committed to trading foreign and

domestic currency at fixed exchange rate, arbitrageurs quickly

respond to falling exchange rate by selling domestic currency to

central bank causing money supply and LM* curve to return to their

initial positions

- Monetary policy as usually conducted is ineffectual under fixed

exchange rate

- By agreeing to fix exchange rate, the central bank gives up its control

over the money supply

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Document Summary

Increase govt spending or cut taxes, shifts is* curve to right and puts upward pressure on market exchange rate. Because central bank stands ready to trade foreign and domestic currency at fixed rate, arbitrageurs quickly respond to rising exchange rate by selling foreign currency to the central bank, leading to an automatic monetary expansion. Rise in money supply shifts lm* curve to right. Fiscal expansion under fixed exchange rates raises aggregate income. Increase money supply (e. g. buying bonds from public) Initial impact is to shift lm* curve to right, lowering exchange rate. Monetary policy as usually conducted is ineffectual under fixed exchange rate. By agreeing to fix exchange rate, the central bank gives up its control over the money supply. Country with fixed exchange rate can conduct a type of monetary policy: can decide to change level at which exchange rate is fixed. Reduction in official value of currency called devaluation and increase in its official value called revaluation.

Related Questions

All the questions from "Output, Exchange Rates, Macroeconomic Policy, and Open-economy IS-LM-FX Model."

Please answer these questions completely. It is important to me.

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6. The TB (i.e., EX â IM) is part of the short-run spending equation. With sticky prices, what would be the effect on the TB with an increase (depreciation) of the home nation's exchange rate?

A. Consumers in the home nation would find it more expensive to buy domestic goods compared to foreign goods, and the trade balance would decrease.

B. Consumers in the home nation would cut back on both domestic and foreign goods and the trade balance would decrease.

C. Consumers in the home nation would increase spending on both domestic and foreign goods, and the trade balance would be unchanged.

D. Consumers in the home nation would increase spending on domestic goods and decrease spending on foreign goods, causing the trade balance to increase.

11. A shift to the left by the IS curve can be achieved by all of the following EXCEPT a(n):

A. decrease in government spending.

B. increase in taxes.

C. increase in the foreign interest rate.

D. decrease in future expected exchange rate Ee.

13. The LM curve will shift to the left, if there is a(n):

A. increase in money supply.

B. increase in interest rate.

C. decrease in money supply.

D. increase in output.

14. If taxes fall and foreign income falls, what will happen to output, ceteris paribus?

A. It will rise.

B. It will stay the same.

C. It will fall.

D. It is uncertain what will happen.

15. Using the IS-LM-FX framework, if we observe that income and interest rate both rise in the Eurozone, this could be the result of

A. contractionary monetary policy pursued by the European Central Bank.

B. expansionary monetary policy pursued by the Federal Reserve System (U.S. central bank).

C. a stock market crash in the Eurozone.

D. increases in government spending in the Eurozone.

18. Whenever U.S. government spending increases,

A. output will not change at all if the U.S. fixes the exchange rate of dollar against major currencies.

B. output will increase by a larger amount when dollar floats than when dollar pegs to other currencies.

C. output will increase by a smaller amount when dollar floats than when dollar pegs to other currencies.

D. output will not change at all since the U.S. adopts a flexible exchange rate.

6) Which of the following would be the most pessimistic with regard to the ability of the government to reduce unemployment by monetary of fiscal policy? a. Monetarists b. Keynesians c. rational expectations school d. Klingons e. supply-siders

7) Which of the following would tend to increase a country's imports?

a. an increase in the domestic rate of interest

b. an increase in the exchange rate ( i.e an increase in the price of foreign exchange)

c. an increase in domestic income

d. an increase in foreign prices

e. none of the above

8) Which of the following would decrease a country's exports ?

a. a decrease in the exchange rate( i.e a an decrease in the price of foreign exchange)

b. an increase in the domestic rate of interest

c. an increase in domestic price

d. an increase in domestic income

e. none of the above

9) Which of the following would indicate a conflict between the goals of full employment and balance of payments equilibrium ?

a. inflation and a balance of payments deficit

b. unemployment and a balance of payments surplus

c. unemployment and a balance of payments deficit

d. full employment and a balance of payments surplus

e. none of the above would indicate a conflict

10) Which of the following would result if the county's currency depreciated ? a. an increase in both imports and exports

b. a decrease in both imports and exports

c. an increase in imports and a decrease in exports

d. a decrease in imports and an increase in exports

e. a decrease in net capital inflows

11) Under the gold standard, if a nation had a balance of payments surplus, the difference would have been resolved by:

a. gold shipments from the surplus to the deficit country

b.gold shipments from the deficit to the surplus country

c. appreciation of the country's currency in the foreign exchange markets

d. depreciation of the country's currency in the foreign exchange markets

e. human sacrifices in the deficit country

12.Under a system of flexible exchange rates, if a nation had a balance of payments deficit, which of the following would occur ?

a. gold shipment from the surplus to the deficit country

b. gold shipments from the deficit to the surplus country

c. appreciation of the current in the foreign exchange markets

d. depreciation of the currency in the foreign exchange markets

e. the money supply increase

13. Depreciation of a country's currency would generally result in:

a. the aggregate demand curve shifting to the left

b. the aggregate demand curve shifting to the right

c. the aggregate supply curve shifting to the left

d. the aggregate supply curve shifting to the right.

e) both A and B

salmonbutterfly872

. Suppose that with the upcoming Winter Olympics in Russia, US citizens decide that they want to buy numerous Russian souvenirs associated with the Olympics. This would shift the

a. supply of dollars curve upward and to the left and lead to an appreciation in the value of the dollar.

b. demand for dollars curve upward and to the right and lead to an appreciation in the value of the dollar.

c. supply of dollars curve to the right and lead to a depreciation in the value of the dollar.

d. demand for dollars curve downward and to the left and lead to a depreciation in the value of the dollar.

15. If, as a part of monetary policy, the Federal Reserve pursues policies that raise the interest rate, one of the following is predicted, other things equal:

a. capital inflows will decrease and the dollar will appreciate.

b. capital outflows will decrease and the dollar will appreciate.

c. capital outflows will increase and the dollar will depreciate.

d. capital flows will not be affected, because they respond only to real economic conditions..

16. The monetaristsÃÂ¢Ã¯Â¿Â½Ã¯Â¿Â½ prescription for the monetary policy is called the ÃÂ¢Ã¯Â¿Â½Ã¯Â¿Â½monetary rule.ÃÂ¢Ã¯Â¿Â½Ã¯Â¿Â½ The monetary rule means that:

a) monetary policy does not have an impact on the economy until 6 to 9 months after the money supply is changed.

b) expansionary fiscal policy should be accompanied by an easy monetary policy.

c) the annual rate of increase in the money supply should be equal to the long-term increase in the price level.

d) The annual rate of increase in the money supply should be equal the potential annual growth rate of real GDP.

17. If a country is borrowing from the IMF in order to maintain the current value of its currency in international markets then:

a. Its currency current value is below its equilibrium value and it has an excess supply of its currency in the market.

b. Its currency current value is below its equilibrium value and it has an excess demand for its currency in the market

c. Its currency current value is above its equilibrium value and it has an excess supply of its currency in the market

d. Its currency current value is above its equilibrium value and it has an excess demand for its currency in the market

ECON 2000 Lecture Notes - Lecture 80: Fiscal Policy, Monetary Policy, Money Supply

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