Principles of Economics (12th Edition)
12th Edition
ISBN: 9780134078779
Author: Karl E. Case, Ray C. Fair, Sharon E. Oster
Publisher: PEARSON
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Chapter 27, Problem 3.1P
To determine
Identify the effects of decreases in the oil price level on aggregate price level and real GDP.
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Suppose a wave of negative “ animal spirits” overruns the economy, and people become pessimistic about the future.What happens to aggregate demand? If the Fed wants to stabilize aggregate demand, how should it alter the money supply? If it does this, what happens to the interest rate? Why might the Fed choose not to respond in this way?
The central bank decided to raise interest rates when it wanted to reduce aggregate demand to fight inflation. How does an increase in interest rates reduce aggregate demand?
Two tools the Federal Reserve would use to implement the decision to increase the federal funds would be Open market operations and the IOER rate.
Show in a graph of the federal funds market the effect the tools mentioned above have on this market. What effect do the two tools used have on the interest rates faced by firms and households? What do you expect to happen to the money supply? What do you expect to happen to the inflation rate? How would you expect all these decisions to affect employment in the economy? How do the effects on the money supply and inflation rate align with what the Fed was hoping to attain(to achieve maximum employment and inflation at the rate of 2 percent over the longer run)?
Chapter 27 Solutions
Principles of Economics (12th Edition)
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- Assume the economy is suffering from massive inflation and you are the Chairperson of the FED. What type of monetary policy would you employ and describe what changes are made to the “three tools” of monetary policy. Describe the subsequent impact on the money supply, interest rates, aggregate spending, and real GDP.arrow_forwardIf the Federal Reserve wants to keep aggregate demand (i.e. spending growth) stable, what will it do to the growth rate of money supply when a lot of good news comes out about the economy increase it, decrease it, or leave it unchanged? Explain your answer.arrow_forwardSuppose the economy is initially at long run equilibrium, when there is an unexpected decrease in oil prices in the country.How does this impact the economy? (write out either "inflationary" or "recessionary" In response to this what monetary policy would the Fed employ? (write one of the following: "raise taxes", "lower taxes", "raise money supply", or "lower money supply"What is the most likely way the Fed will accomplish this change in the monetary policy? (write one of the following: "buy securities", "sell securities", "raise discount rate", "lower discount rate", or "legislation"This action by the Fed will cause interest rates to _______. (Write out "increase" or "decrease"The end result of the monetary policy is a shift of which curve in which direction. (Write out one of the following: "AD right", "AD left" "AS left", "AS right"arrow_forward
- If the Federal Reserve wanted use an open market operation to combat a recession, what would they do, and what would its effect be? The Federal Reserve expands the money supply by 5%. Draw an aggregate supply/aggregate demand diagram to show the short run effect of this scenario. What happens to price and output? Which curve shifts? Which component of that curve accounts for the shift?arrow_forwardRecently, some members of Congress have proposed a law that would make price stability the sole goal of monetary policy. Suppose such a law were passed. How would the Fed respond to an event that contracted aggregate demand? How would the Fed respond to an event that caused an adverse shift in short-run aggregate supply? In each case, is there another monetary policy that would lead to greater stability in output?arrow_forwardExplain the links between changes in the nation’s money supply, the interest rate, investment spending, aggregate demand, and real GDP (and the price level).arrow_forward
- The following graph shows an increase in the demand for money from 2013 (MD2013) to 2014 (MD2014) caused by an increase in aggregate output. 5.00% 5.25% The initial equilibrium interest rate in 2013 was Suppose the Federal Reserve (the Fed) chooses not to alter the money supply between 2013 and 2014. On the following graph, use the grey point (star symbol) to indicate the equilibrium interest rate and quantity of money that would result from this lack of intervention. NOMINAL INTEREST RATE (Percent) 6.25 6.00 5.75 5.50 5.25 5.00 4.75 4.50 4.25 0.9 1.0 1.1 1.2 1.3 1.4 QUANTITY OF MONEY (Trillions of dollars) Because Money Supply 1.5 B MD MD 2013 Suppose the Fed wants to keep 2014 interest rates at their 2013 level. 2014 ☆ No Intervention New MS Curve With Intervention 5.50% 5.75% 6.00% ? A-rapidly increasing the money supply causes hyperinflati investment responds to changes in the interest rate markets prefer low inflation to stable interest rates On the previous graph, place the green…arrow_forwardA problem that the Fed faces when it attempts to control the money supply is that the Fed can only control excess reserves but not total reserves. the Fed has to get the approval of the U.S. Treasury Department whenever it uses any of its monetary policy tools. the Fed does not have a tool that it can use to change the money supply by either a small amount or a large amount. the Fed does not control the amount of money that households choose to hold as deposits in banks.arrow_forwardWhat will be the effect of a rise in the interest rate on the money supply. Explain in detail.arrow_forward
- The central bank of Wakanda is tasked with providing the nation with expansionary polcies to help combat severe Wakandian unemployment following the war. As a central bank it has multiple tools they can use to boost aggregate demand. List three of these and describe each of them using one sentence.arrow_forwardAnswer to 2 decimal digitsarrow_forwardPlease answer everything in the photos including the graph.arrow_forward
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