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Chapter 16: Q.21 - Problems (page 370)

Consider figure 16.3, Discuss a policy action that trading desk at the federal reserve bank of New York could undertake in order to generate the decrease in aggregate demand displayed in this figure

Short Answer

Expert verified

The desk should sell government securities in open market operations, to generate decrease in aggregate demand

Step by step solution

01

Aggregate Demand Concept 

Aggregate Demand includes the sum total value of all final commodities & services, which are planned to be bought by all the sectors of an economy.

  • AD is positive related to level of money supply in the economy. Higher money supply means more AD & lower money supply means less AD
02

FOMC Concept 

Federal Open Market Operations is defined as buying & selling of government securities in open market. It is used as a monetary (quantitative) tool to regulate Aggregate Demand

  • Central bank tends to buy securities (giving commercial banks & public cash) - for increasing money supply, AD in the economy.
  • Central bank prefer selling securities (to get cash from commercial banks & public) - to reduce money supply, AD in economy

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Most popular questions from this chapter

Suppose that, initially, the U.S. economy was in an aggregate demand-aggregate supply equilibrium at point A along with the aggregate demand curve AD in the diagram below. Now, however, the value of the U.S. dollar suddenly appreciates relative to foreign currencies. This appreciation happens to have no measurable effects on either the short-run or the long-run aggregate supply curve in the United States. It does, however, influence U.S. aggregate demand.

a. Explain in your own words how the dollar appreciation will affect net export expenditures in the United States.

b. Of the alternative aggregate demand curves depicted in the figure- AD1versus AD2which could represent the aggregate demand effect of the U.S. dollar's appreciation? What effects does the appreciation have on real GDP and the price level?

c. What policy action might the Federal Reserve take to prevent the dollar's appreciation from affecting equilibrium real GDP in the short run?

To implement a credit policy intended to expand the liquidity of the banking system, the Fed desires to increase its assets by lending to a substantial number of banks. How might the Fed adjust the interest rate that it pays banks on reserves in order to induce them to hold the reserves required for funding this credit policy action? What will happen to the Fed's liabilities if it implements this policy action?

Suppose that each 0.1percentage point decrease in the equilibrium interest rate induces a \(10billion increase in real planned investment spending by businesses. In addition, the investment multiplier is equal to 5, and the money multiplier is equal to 4. Furthermore, every \)20billion increase in money supply brings about 0.1percentage point reduction in the equilibrium interest rate. Use this information to answer the following questions under the assumption that all other things are equal.

a. How much must real planned investment increase if the Federal Reserve desires to bring about a $100billion increase in equilibrium real GDP ?

b. How much must he money supply change for the Fed to induce the change in real planned investment calculated in part (a) ?

c. What dollar amount of open market operations must the Fed undertake to bring about the money supply change calculated in part (b) ?

Suppose that the quantity of money in circulation is fixed but the income velocity of money doubles. If real GDP remains at its long-run potential level, what happens to the equilibrium price level?

Consider the data in Problem 16-10. Suppose that the money supply increases by $ 100 billion and real GDP and the income velocity remain unchanged.

a. According to the quantity theory of money and prices, what is the new equilibrium price level after full adjustment to the increase in the money supply?

b. What is the percentage increase in the money supply?

c. What is the percentage change in the price level?

d. How do the percentage changes in the money supply and price level compare?
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