Macroeconomics (Fourth Edition)
4th Edition
ISBN: 9780393603767
Author: Charles I. Jones
Publisher: W. W. Norton & Company
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Chapter 20, Problem 8E
To determine
Currency crises and
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Currency crises and the demand for dollars: Suppose there is a currency crisisin the rest of the world, leading to an increase in demand for U.S. dollars (a“fight to safety”). Use the AS/AD framework to explain the efects of thisshock on the U.S. economy. Be sure to explain carefully how and why theshock enters the AS/AD model. (Hint: If the rest of the world would likemore dollars, what does it have to give in exchange for those dollars?
Consider the relationship among exchange-rate changes, aggregate demand, and monetary policy. Assume we begin in a situation with real GDP equal to Y∗.Y*.
Suppose the world price for raw materials rises because of growing demand for these products. Given that Canada is a net exporter of raw materials, what is the likely effect on Canadian aggregate demand? Show this in an AD/AS diagram (assuming no change in the exchange rate).
Suppose instead that there is an increase in the demand by foreigners for Canadian financial assets such as government bonds. What is the direct effect on Canadian aggregate demand? Show this in an AD/AS diagram (assuming again no change in the exchange rate).
Both of the shocks described above are likely to cause an appreciation of the Canadian dollar on foreign-exchange markets. As the Canadian dollar appreciates, what are the effects on aggregate demand in part (a) and in part (b)? Show these “secondary” effects in your diagram and explain.
Given your…
Consider the aggregate demand function,
D(EPF/PH, Y-T, I, G) = C(Y-T) + I + G +
CA(EPF/PH, Y-T).
When Foreign price fell, how would the
consumption, the current account and the
aggregate demand change:
Increase, Decrease or No change?
Consumption:
Current account:
Aggregate demand:
Chapter 20 Solutions
Macroeconomics (Fourth Edition)
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- Explain how changes in exchange rates impact the economy through the aggregate demand- aggregate supply (AD/AS) model. Explain how fluctuations in exchange rates can influence loans and banks.arrow_forwardBusiness executives and policymakers are often concerned about the competitiveness of Pakistani industry (the ability of industries to sell their goods profitably in world markets). i. How would an increase in the nominal exchange rate ($/Rs) affect competitiveness in the short run? Explain. ii. Suppose you wanted to make domestic industries more competitive but did not want to alter aggregate income. According to the Mundell–Fleming model, what combination of monetary and fiscal policies should you pursue? Graphically explain.arrow_forwardSuppose that the central bank decreases the tax rate. What happens to the output (Y), real interest rate (r), exchange rate (e), investment (I), and net export (NX) under the following model environment? (Note: (1) The exchange rate e is the amount of foreign currency per unit of domestic currency. (2) Explain your answers using the graph/figure.) Short-run closed economy. Short-run small-open economy (Floating exchange rate). Short-run small-open economy (Fixed exchange rate). Short-run large-open economy (Floating exchange rate). Long-run closed economy.arrow_forward
- What gap would be created on an AS-AD model if the US dollar became weaker against other currencies?arrow_forwardConsider the classical open-economy macroeconomic model. Explain how a Federal Reserve action such as buying bonds impacts an economy that is operating under the following assumptions: exchange rates are flexible but wages and prices are sticky, there is perfect capital mobility and the economy is already at full employment. Be clear how it impacts GDP, unemployment, inflation, and the exchange rate. Provide the necessary equations to support your answer and diagrams.arrow_forwardQUESTION 9 As a result of entering the world economy, Neverland experiences economic boom and its GDP goes up to y= 13250: The functions that describe consumption and investment are still the same: cd(r) = 5000 – 1000r+ 0.25Y and Id(r) = 500 – 1800r +0.2Y. The government wants to take advantage of growth and increases its expenditures to: G- 1000: What is Neverland's current account balance? Note: Type in your answer approximated to two decimal points, i.e., your answer must be of the form "999.99". I will not be able to fix correct answers that were entered incorrectly, such as "999.999" or "999,99" or "999". In case the last digit in the correct answer is zero, e.g., "999.90" or "999.00", Blackboard will automatically delete it and you should not do anything about it.arrow_forward
- Assume in a given month, Japan's export to the U.S. increased. How such an increase will affect the Japanese Yen? From a U.S. perspective, how this increase will affect the U.S. dollar? Knowing that both currencies can float, verbally explain your answers using the demand/supply model (no need to draw a graph).arrow_forwardIn your macroeconomic lectures you are often told that exchange rates and interest rates are important for macroeconomic decision-making. How does an increase in Japan’s government budget deficit affect each of the following? The real interest rate in the short run in Japan. Explain. Private domestic investment in plant and equipment in Japan. Draw a correctly labeled graph of the foreign exchange market for the euro, and show the effect of the change in the real interest rate in Japan from part (a)(i) on each of the following. Supply of euros. Explain. Yen price of the euro To reverse the change in the yen price of the euro identified in part (b) (ii), should the European Central Bank buy or sell euros in the foreign exchang market? Explain.arrow_forwardShort-answer questions 1. Consider the following linear version of the AA-DD model: consumption is given by C = (1- s)(YT) and the current account balance is given by CA =aE-m(YT). (s is sometimes referred to as the marginal propensity to save and m is called the marginal propensity to import.) Then the condition of equilibrium in the goods market is Y=C+I+G+CA = (1-s) (Y-T)+ I+G+aE-m(YT). We will write the condition of money-market equilibrium as M³/P = bY dR. Assume that the central bank can hold both the interest rate R and exchange rate E constant, and assume that investment I is also constant. = a) Consider the equilibrium in the output market. Other things equal, what is the effect of an increase in government spending G by 1 unit on output Y? (This number is often called the open-economy government spending multiplier, but as you can see it is relevant only under strict conditions.) How does a higher value of m affect the government spending multiplier? Explain your result…arrow_forward
- For each of the following situations, use the IS-LM-FX model to illustrate the effects of the shock and the policy response. (Note: Assume the government responds by using monetary policy to stabilize output.) For each case, state the effect of the shock on the following variables (increase, decrease, no change, or ambiguous): Y, i, E, C, I, TB. Assume the government allows the exchange rate to float and makes no policy response a. Foreign Output Increases b. Investors expect an appreciation of the home currency in the future c. The home money supply decreases d. Government spending at home decreasesarrow_forwardAssess the validity of the following statement: A monetary shock leads to exchange rate overshooting.arrow_forwardWhich of the following is likely to occur for the United States, if the U.S. dollar appreciates relative to the Japanese yen, Answers: A. Aggregate demand will increase (shift right). B. SRAS will decrease (shift left). C. Aggregate demand will decrease (shift left). D. LRAS will increase (shift right).arrow_forward
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