ECON1101 Chapter Notes - Chapter 2: Mixed Economy, Root Mean Square

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31 May 2018

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Chapter 2 - Observing and explaining the economy:

Explaining real world economic trends and events os essential for sound policy making. The ﬁrst

step is to ﬁnd accurate data to describe the trend or event, then to identify what factors may have

caused the trend and ﬁnally assess how changes elsewhere in the economy could affect the

explanation.

When applying economic ideas to explain real world trends and events, it is best to recognise the

limitations of the analysis and think critically about all causal factors.

Variables, Correlation and Causation:

An economic variable is any economic measure that can vary over a range of values. Two

variables are said to be correlated if they move up or down together. A positive correlation is both

variables moving up or down together. A negative correlation exists if one variables goes up while

the other variable goes down.

Correlation vs causation:

Correlation - one event usually occurs with another

Causation - one event brings about another

Correlation does not imply causation

One signiﬁcant challenge for an economist is to identify whether one variable has a causal impact

on another. Even though two variables may be strongly correlated, correlation does not imply

causation.

In the natural sciences, controlled experiments are used to establish causation. Because controlled

experiments (empirical tests in a controlled setting) are rare in economics, establishing causation is

more difﬁcult. Fortunately experimental economics (laboratory experiments to analyse economic

behaviour) is beginning to have a impact on research.

Economic Models:

An explanation of how the economy or part of the economy works. Economic models are

simpliﬁcations/abstractions of the real world. Taking controlled phenomena such as behaviour of

people, ﬁrms and governments and simpliﬁes them.

Positively related - a situation in which an increase in one variable is associated with an increase in

another variable; also called directly related.

Negatively related - a situation in which an increase in one variable is associated with a decrease

in another variable; also called inversely related.

Mixed economy: a market economy in which the govt. plays a very large role

Positive economics: economic analysis that explains what happens in the economy and why,

without making recommendations about economic policy. About what is

Normative economics: economic analysis that makes recommendations about economic policy.

About what should be

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Document Summary

Chapter 2 - observing and explaining the economy: Explaining real world economic trends and events os essential for sound policy making. The rst step is to nd accurate data to describe the trend or event, then to identify what factors may have caused the trend and nally assess how changes elsewhere in the economy could affect the explanation. When applying economic ideas to explain real world trends and events, it is best to recognise the limitations of the analysis and think critically about all causal factors. An economic variable is any economic measure that can vary over a range of values. Two variables are said to be correlated if they move up or down together. A positive correlation is both variables moving up or down together. A negative correlation exists if one variables goes up while the other variable goes down. Correlation - one event usually occurs with another.

Related Questions

5. Plots of the yield curve can be useful for: a. Predicting the future course of inflation b. Predicting the future trends in international trade c. Predicting the future course of interest rates d. Prediction the future policy actions of the Federal Reserve System

6. An upward sloping yield curve means that, a. Short-term interest rates are expected to fall, so that long-term interest rates will be higher than short-term interest b. Short-term interest rates are expected to rise, so that short-term interest rates will be higher than long-term interest c. Short-term interest rates are expected to rise, so that long-term interest rates will be higher than short-term interest d. Short-term interest rates are expected to fall, so that short-term interest rates will be lower than long-term interest

7. Which of the following is NOT a stylized fact about the yield curve. a. The yield curve is generally upward sloping b. The yield curve is generally downward sloping c. The yield curve tends to shift over time d. The yield curve tends tend to predict future economic activity

8. If the Expectations Hypothesis holds true about long-term and short-term bonds being substitutes, then if the U.S. government decides to issue a large stock of long-term bonds, we could expect, a. The yield curve to become steeper b. The yield curve to become flatter c. The yield curve to shift down d. The yield curve to shift up

9. Suppose that businesses believe that the economy is about to expand, then we could expect, a. The yield curve to become steeper b. The yield curve to become flatter c. The yield curve to shift down d. The yield curve to shift up

10. Empirical evidence in US shows that when the spread between long term bonds and short-term bonds is negative (that is: the yield curve slopes downward or is inverted) then __________ is highly possible. a. Higher inflation b. Lower inflation c. A recession d. An economic expansion

11. According to the pure expectations theory of term structure, a flat yield curve is interpreted to mean that, a. Interest rates are expected to rise b. Interest rates are expected to fall c. Interest rates are expected to remain constant d. Interest rates are expected to rise and then to fall e. None of the above

12. Yield curves can be classified as: a. Upward sloping b. Downward sloping c. Flat d. All of the above e. Only (a) and (b)

13. Yield curves can be: a. Steeply upward sloping b. Moderately upward sloping c. Downward sloping d. All of the above e. Only (a) and (b)

14. Typically, yield curves are: a. Gently upward sloping b. Gently downward sloping c. Flat d. Bowl shaped e. Mound shaped

15. When yield curves are steeply upward sloping, a. Long-term interest rates are above short-term interest rates b. Short-term interest rates are above long-term interest rates c. Short-term interest rates are about the same as long-term interest rates d. Medium-term interest rates are above both short-term and long-term interest rates e. Medium-term interest rates are below both short-term and long-term interest rates

16. An inverted yield curve: a. Slopes up b. Is flat c. Slopes down d. Has a U shape e. Has an inverted U shape

17. According to the expectations theory of the term structure, a. The interest rate on long-term bonds will equal an average of short-term interest rates that people expect to occur over the life of the long-term bonds b. Buyers of bonds do not prefer bonds of one maturity over another c. Interest rates on bonds of different maturities move together over time d. All of the above e. Only (a) and (b)

18. According to the expectations theory of the term structure, a. The interest rate on long-term bonds will equal an average of short-term interest rates that people expect to occur over the life of the long-term bonds b. Interest rates on bonds of different maturities move together over time c. Buyers of bonds prefer short-term to long-term bonds d. All of the above e. Only (a) and (b)

19. According to the expectations theory of the term structure, a. When the yield curve is steeply upward sloping, short-term interest rates are expected to rise in the future b. When the yield curve is downward sloping, short-term interest rates are expected to decline in the future c. Buyers of bonds do not prefer bonds of one maturity over another d. All of the above e. Only (a) and (b)

20. According to the expectations theory of the term structure, a. When the yield curve is steeply upward sloping, short-term interest rates are expected to rise in the future b. When the yield curve is downward sloping, short-term interest rates are expected to decline in the future c. Investors have strong preferences for short-term relative to long-term bonds, explaining why yield curves typically slope upward d. All of the above e. Only (a) and (b)

21. According to the expectations theory of the term structure, a. When the yield curve is steeply upward sloping, short-term interest rates are expected to rise in the future b. When the yield curve is downward sloping, short-term interest rates are expected to decline in the future c. Yield curves should be as equally likely to slope downward as slope upward d. All of the above e. Only (a) and (b)

22. According to the expectations theory of the term structure, a. The interest rate on long-term bonds will equal an average of short-term interest rates that people expect to occur over the life of the long-term bonds b. Buyers of bonds do not prefer bonds of one maturity over another c. Yield curves should be as equally likely to slope downward as slope upward d. All of the above e. Only (a) and (b)

23. According to the expectations theory of the term structure, a. The interest rate on long-term bonds will equal an average of short-term interest rates that people expect to occur over the life of the long-term bonds b. Buyers of bonds do prefer short-term to long-term bonds c. Interest rates on bonds of different maturities do not move together over time d. All of the above

24. Assume that over the next two years, the expected path of 1-year interest rates is 4 percent and 1 percent. The expectations theory of the term structure predicts that the current interest rate on 2-year bond is: a. 1% b. 1.5% c. 2% d. 2.5% e. 4%

25. Assume that over the next two years, the expected path of 1-year interest rates is 1 percent and 4 percent. The expectations theory of the term structure predicts that the current interest rate on 2-year bond is: a. 1% b. 1.5% c. 2% d. 2.5% e. 4%

26. Assume that the current 1-year interest rate is 3 percent and the current 2-year interest rate is 2 percent. The expectations theory of the term structure predicts that the interest rate expected on 1-year bonds next year is: a. 1% b. 1.5% c. 2% d. 2.5% e. 4%

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ECON1101 Chapter Notes - Chapter 2: Mixed Economy, Root Mean Square

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