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

What is a policy mix?

Explain why a contractionary monetary policy would not necessarily result in interest rates rising by the full amount of what the initial contraction would produce. In other words, if there were no impact on the goods market the interest rate would rise to a higher level. Given that there is an impact explain how this works.

Using the short-hand symbols G, Y, Md, r and I, demonstrate the effects of an expansionary fiscal policy.

Explain the impact upon the crowding-out effect if the Federal Reserve changes the money supply when government spending increases.

Explain how the sensitivity of investment to the interest rate can have a bearing on the amount of crowding out that results from an expansionary fiscal policy.

Define the crowding-out effect. What factors can influence the extent to which crowding-out occurs when the government implements an expansionary fiscal policy?

Suppose investment becomes more responsive to (i.e., sensitive to) changes in the interest rate. What effect will this have on the effectiveness of monetary policy? Specifically, what will happen to the output effects of a given change in the money supply?

Did the anti-recession policies of 1974-1975 and 1980-1982 produce a crowding-out effect? Why or why not?

Explain what is meant by a contractionary monetary policy.

What is determined in the goods market? What is determined in the money market? Explain the two links between the goods market and the money market.

If the amount of money demanded by household and firms is less than the amount in circulation as determined by the Fed what will happen to the rate of interest and why?

Explain why the logic that illustrates why a simple demand curve slopes downward fails to explain why the AD curve also has a negative slope.

Graphically illustrate the relationship between interest rate changes and the level of planned investment.

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 the interest rate that would be necessary to bring about an investment of $200.

What are the two primary things on which the size of the "crowding-out" effect depend?

As interest rates increase what happens to planned investment and aggregate expenditure?

Explain how the relative labor and capital costs have an impact on the acquisition of new capital.

Draw an investment demand curve that would render monetary policy completely ineffectual. Make sure to explain why it looks the way it does.

Figure 27.1 -Assume that money demand is perfectly elastic. What implications would this have for an expansionary monetary policy?

Explain how the crowding out effect can be softened by the Federal Reserve accommodating an expansionary fiscal policy.