Fed target interest rate = real risk free interest rate + current actual inflation rate + 0.5 × (inflation gap) – 1.0 x (unemployment gap) The Taylor Rule is based on economists' widely held belief that central bankers are willing to tolerate modest positive rates of ( inflation, unemployment ) if doing so will help to generate ( low inflation, full employment ). To capture that preference, in the Taylor rule equation, the coefficient on the inflation gap is 0.5 while the coefficient on the unemployment gap is This reflects the fact that policymakers care ( less, more ) about the unemployment gap than they care about the inflation gap. That is, they are assumed to care two times ( less, more ) about the unemployment gap than the inflation gap. The Fed has ( an official, no official ) allegiance to this rule. They ( are, are not ) free to change interest rates however they deem appropriate.

Fed target interest rate = real risk free interest rate + current actual inflation rate + 0.5 × (inflation gap) – 1.0 x (unemployment gap) The Taylor Rule is based on economists' widely held belief that central bankers are willing to tolerate modest positive rates of ( inflation, unemployment ) if doing so will help to generate ( low inflation, full employment ). To capture that preference, in the Taylor rule equation, the coefficient on the inflation gap is 0.5 while the coefficient on the unemployment gap is This reflects the fact that policymakers care ( less, more ) about the unemployment gap than they care about the inflation gap. That is, they are assumed to care two times ( less, more ) about the unemployment gap than the inflation gap. The Fed has ( an official, no official ) allegiance to this rule. They ( are, are not ) free to change interest rates however they deem appropriate.

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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C = 50 + 0.9 · (Y – T) I = 50 – 1000 - r where Y is real output and r is the real interest rate. Government purchases and taxes are Ğ = 500, T = 500. The money market equilibrium curve-or LM curve-is where P is the price level and i is the nominal interest rate. The Central Bank (CB) is initially supplying M = 10000 units of money, and expected inflation is zº = 0.05. The long-run aggregate supply (LRAS) is Y, = 1000. Suddenly, there is a climate shock that changes the marginal propensity to consume (MPC), and the consumption function changes to C' = 50 + 0.8 · (Y – T). 1. Explain how the short-run values of (r, i) are determined before the climate shock. 2. Which, if any, of the graphs from Appendix A best depicts the short-run change in the interest rate(s) due to the climate shock? Explain. 3. Which, if any, of the graphs from Appendix B best depicts the short-run change in output and price due to the climate shock? Explain. 4. Which, if any, of the graphs from Appendix C best…
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Consider the following hypothetical scenario: actual GDP is measured to be 3% below potential. Measured unemployment, by most accounts, is thought to be 2% above the natural rate of unemployment. If inflation is relatively low: In this scenario, what would the Federal Reserve most likely do at the next few Federal Open Market Committee (FOMC) meetings? Assuming the Fed follows the policy course you set forth in part (1), what should the Fed be concerned with in the years that follow?
Use the data in the following table to calculate the refinancing rate (i) using the Taylor rule, and fill in the last cell in table. Variable Value Equilibrium real refinancing rate (r*) 2% Four-quarter average inflation (1) Inflation target („T) 2% 1% Output (Y) 11.5 Potential output (Y*) 12 Weight on the output gap (w1) 0.5 Weight on the inflation gap (w2) 0.5 Refinancing rate (i) Suppose that the equilibrium real refinancing rate (r*) is 1% instead of 2%. Based on the Taylor rule and assuming everything else remains the same, how would this change the refinancing rate (i) you calculated in the previous question? The central bank should set the refinancing rate at 1.42%. The central bank should set the refinancing rate at -0.58%. For every percentage point lower the equilibrium real refinancing rate goes, the nominal refinancing rate should be 1 percentage point higher. Suppose the inflation rate over the last four quarters has been 3% instead of 2%. Assuming everything else is the…
C = 100 + 0.5 - (Y –T) I = 500 – 1000 - r where Y is real output and r is the real interest rate. Government purchases and taxes are Ĝ = 500, Ť= 100. The LM (money market equilibrium) curve is M Y where P is the price level and i is the nominal interest rate. The Central Bank (CB) is initially supplying M = 8000 units of money, and expected inflation is xª = 0. Assume that the long-run equilibrium level of output is Y = 2000. Short-run equilibrium output is initially at the same level (Y = 2000). Suddenly, news of a new world-beating super-vaccine raises expected inflation to “ = 0.05. 3. Continue to suppose the government doesn't do anything, and the CB wants to stabilise the shock in the short-run but instead of output, the CB wants to bring the nominal interest rate i back to its long-run equilibrium level. Explain whether it should decrease or increase money supply M, and what happens to short-run output Y and the real interest rate r if this policy is followed. 4. Suppose the CB…