Exam 12: The Determination of Aggregate Output, the Price Level, and the Interest Rate

Assume the money supply is set by the Fed at $1000 billion and the money demand function is represented by the following algebraic equation Md = 3000 - 20000r, where r = the interest rate. Calculate the interest rate which will clear this money market.

Critically evaluate the assumption of autonomous investment.

Graphically illustrate and explain the effects of a reduction in government spending on the equilibrium interest rate, investment, and equilibrium output. Clearly label all curves and the initial and final equilibria. Does any crowding-out take place when government spending falls? Explain.

Describe in broad terms what the goods market is.

Show the impact on the LM curve of an decrease in the money supply. Make sure to draw the IS curve and illustrate the impact on the equilibrium interest rate and aggregate output.

Related to the Economics in Practice on p. 221 [533]: What was the estimates of the study concerning a one-percentage point increase in the interest rate? Be specific.

Discuss what is meant by the crowding-out effects of fiscal policy.

What does each point on the IS curve represent? What does each point on the LM curve represent? Using the IS-LM diagram, explain how equilibrium output is determined. On the graph, illustrate the effect of an increase in the money supply. Explain how this change affects the equilibrium level of output and the interest rate.

Suppose the Federal Reserve pursues expansionary monetary policy at the same time a reduction in taxes occurs (i.e., a fiscal expansion). Explain what effects this combination of monetary and fiscal policy will have on the macroeconomy.

Between the spring of 1990 and the spring of 1991, interest rates in the United States dropped nearly two full percentage points, but this did not have much of an effect on investment spending plans. Explain how this could happen. Draw a graph of the investment demand schedule that would represent this situation. During this time period would an expansionary monetary policy have been an effective way to stimulate the economy? Explain.

The size of the crowding-out effect, affecting the size of the government spending multiplier, depends on two things. Explain what those are.

Describe the sequence of events that occurs in response to a contractionary fiscal policy. Explain in terms of the impact on aggregate output, money demand, interest rates and planned investment.

Draw a flowchart showing the impact of an increase in interest rates on planned investment, planned aggregate expenditure and equilibrium output.

Describe expansionary monetary policy.

-According to the two investment demand schedules above which will allow an expansionary monetary policy to have its greater impact? Why?

Explain how capital utilization rates can have an impact on the investment of new capital.

Table 27.1 -Use the Table 27.1 to answer the following question.. Suppose the expenditure multiplier is 10 and the initial interest rate is 15%. What would be the impact on the equilibrium output if the interest rate fell to 6%?

Show the impact on the IS curve of an decrease in government spending. Make sure to draw in the LM curve as well and illustrate the impact on the equilibrium interest rate and the aggregate output level.

Define aggregate demand.

Scenario 1 Assume that the investment demand function is represented by the following algebraic function: I = $300 - 2000r where $300 represents autonomous investment and "r" represents the interest rate. -Using Scenario 1 calculate how high the interest rate would have to rise to drive planned investment to zero. Calculate the amount of investment that would take place at an interest rate of zero.