Consider the economy of Carrot Republic which is characterized by the following IS-LM model: IS equation: Y = C(Y - T) + I(Y, r + x) + G LM equation: r =r Note: the policy rate is the real interest rate which can be interpreted as the federal funds rate adjusted for expected inflation. The interest rate that the firms can borrow (r + x) is much higher than the fed funds rate. x is the risk premium. a. (Financial policy) Suppose that the government takes action to improve the solvency of the financial system. If the government's action is successful and banks become more willing to lend - both to one another and to non-financial firms - what is likely to happen to the premium? What will happen to the IS-LM diagram? Answer: The risk premium is likely to ( Select ] . The [ Select ] curve will shift [Select] This will [ Select ] output. Investment [ Select ] This financial policy can be thought of as a sort of macroeconomic policy. b. (Quantitative easing) Faced with a zero nominal interest rate, suppose that the Fed decides to purchase securities directly to facilitate the flow of credit in the fınancial markets. This policy is called quantitative easing. If quantitative easing is successful, so that it becomes easier for financial and non-financial fırms to obtain credit, what is likely to happen to the premium? What will happen to the IS-LM diagram? Answer: The risk premium is likely to [ Select ] The [Select ] curve would shift ( Select ] and output would ( Select] Investment would [Select] Quantitative easing becomes a policy option when the nominal policy interest rate (the federal funds rate) is zero.
Consider the economy of Carrot Republic which is characterized by the following IS-LM model: IS equation: Y = C(Y - T) + I(Y, r + x) + G LM equation: r =r Note: the policy rate is the real interest rate which can be interpreted as the federal funds rate adjusted for expected inflation. The interest rate that the firms can borrow (r + x) is much higher than the fed funds rate. x is the risk premium. a. (Financial policy) Suppose that the government takes action to improve the solvency of the financial system. If the government's action is successful and banks become more willing to lend - both to one another and to non-financial firms - what is likely to happen to the premium? What will happen to the IS-LM diagram? Answer: The risk premium is likely to ( Select ] . The [ Select ] curve will shift [Select] This will [ Select ] output. Investment [ Select ] This financial policy can be thought of as a sort of macroeconomic policy. b. (Quantitative easing) Faced with a zero nominal interest rate, suppose that the Fed decides to purchase securities directly to facilitate the flow of credit in the fınancial markets. This policy is called quantitative easing. If quantitative easing is successful, so that it becomes easier for financial and non-financial fırms to obtain credit, what is likely to happen to the premium? What will happen to the IS-LM diagram? Answer: The risk premium is likely to [ Select ] The [Select ] curve would shift ( Select ] and output would ( Select] Investment would [Select] Quantitative easing becomes a policy option when the nominal policy interest rate (the federal funds rate) is zero.
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
Related questions
Question
![Consider the economy of Carrot Republic which is characterized by the following IS-LM model:
IS equation: Y = C(Y - T) + I(Y, r + x) + G
LM equation: r =r
Note: the policy rate is the real interest rate which can be interpreted as the federal funds rate adjusted for expected inflation. The interest rate that the firms can
borrow (r + x) is much higher than the fed funds rate. x is the risk premium.
a. (Financial policy) Suppose that the government takes action to improve the solvency of the financial system. If the government's action is successful and banks
become more willing to lend - both to one another and to non-fınancial firms - what is likely to happen to the premium? What will happen to the IS-LM diagram?
Answer:
The risk premium is likely to [ Select ]
v. The
[ Select ]
curve will shift [ Select]
This will
[ Select ]
output. Investment [ Select ]
This financial policy can be thought of as a sort of macroeconomic policy.
b. (Quantitative easing) Faced with a zero nominal interest rate, suppose that the Fed decides to purchase securities directly to facilitate the flow of credit in the
fınancial markets. This policy is called quantitative easing. If quantitative easing is successful, so that it becomes easier for financial and non-financial fırms to obtain
credit, what is likely to happen to the premium? What will happen to the IS-LM diagram?
Answer:
The risk premium is likely to
[ Select ]
The [Select]
curve would shift [ Select ]
and output
would [ Select]
Investment would [ Select ]
Quantitative easing becomes a policy option when the nominal
policy interest rate (the federal funds rate) is zero.](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2F500ad1db-a584-456e-b767-a13c304d1baf%2Fbf1c999d-36f4-42d2-9a25-e5fa65ed0e67%2Ft1l3ik3_processed.png&w=3840&q=75)
Transcribed Image Text:Consider the economy of Carrot Republic which is characterized by the following IS-LM model:
IS equation: Y = C(Y - T) + I(Y, r + x) + G
LM equation: r =r
Note: the policy rate is the real interest rate which can be interpreted as the federal funds rate adjusted for expected inflation. The interest rate that the firms can
borrow (r + x) is much higher than the fed funds rate. x is the risk premium.
a. (Financial policy) Suppose that the government takes action to improve the solvency of the financial system. If the government's action is successful and banks
become more willing to lend - both to one another and to non-fınancial firms - what is likely to happen to the premium? What will happen to the IS-LM diagram?
Answer:
The risk premium is likely to [ Select ]
v. The
[ Select ]
curve will shift [ Select]
This will
[ Select ]
output. Investment [ Select ]
This financial policy can be thought of as a sort of macroeconomic policy.
b. (Quantitative easing) Faced with a zero nominal interest rate, suppose that the Fed decides to purchase securities directly to facilitate the flow of credit in the
fınancial markets. This policy is called quantitative easing. If quantitative easing is successful, so that it becomes easier for financial and non-financial fırms to obtain
credit, what is likely to happen to the premium? What will happen to the IS-LM diagram?
Answer:
The risk premium is likely to
[ Select ]
The [Select]
curve would shift [ Select ]
and output
would [ Select]
Investment would [ Select ]
Quantitative easing becomes a policy option when the nominal
policy interest rate (the federal funds rate) is zero.
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