Transcript Economic Models The selection of variables

Economic Models
The selection of variables
• What is the difference between an endogenous
variable and an exogenous variable?
• What are the endogenous variables in the simple
Keynesian model (chapter 3)?
• What is the difference between a demand shock
and a supply shock? Which of these shocks is
most prevalent in the simple Keynesian model as
applied to the Great Depression?
Planned expenditure
• What are the four components of planned
expenditure?
• What are the autonomous versus induced
components of the consumption function?
• What is the marginal propensity to consume?
• How does the marginal propensity to consume
relate to the marginal propensity to save?
• Why did U.S. savings almost vanish in 2001?
The Ep Function
• What is the general linear form for planned
spending function?
• What is represented by a 450 line?
• At what level of income is the economy in
equilibrium?
• What happens to inventory investment when the
economy is out of equilibrium?
• How does this influence future production and
income in the movement toward equilibrium
income?
The multiplier effect
• How does a change in autonomous spending
induce more consumption spending?
• How is the value of the multiplier determined by
the marginal propensity to consume domestically?
• How does the multiplier relate to the leakage rate
from domestic income?
• How would you derive a leakage function for a
private, domestic economy?
Fiscal Policy
• What is the multiplier for government spending?
• What is the multiplier for a change in autonomous
taxes?
• How can fiscal policy change equilibrium income
through a change in government spending or
taxes?
• What is the balanced budget multiplier in the
simple Keynesian model?
The Role of Interest Rates on
Planned Spending
• What is the difference between “short-term” and
“long-term” interest rates?
• What does “the” interest rate in our model
represent?
• What determines the rate of return (m.e.c.) on a
particular investment project?
• How does the rate of return (m.e.c.) relate to the
interest rate to determine the profitable level of
investment?
• How does this translate into an investment
demand function?
The Fed’s 4 Cylinders
• What are the “four channels” by which the
Fed affects planned spending through
changes in the interest rate?
• The Case Study describes the Fed in 2001
as a “four-cylinder engine running on only
one cylinder.” Which cylinder worked?
The IS Curve
• Why is the autonomous planned spending
function, Ap, is sometimes called the “injection
function?”
• Why is the induced savings function sometimes
called the “leakage function?”
• How do income taxes and imports affect the slope
of the “leakage function?”
• How is the IS curve derived from the injection and
leakage functions? (Four diagrams)
Slope and Shifts of the IS Curve
• What happens to the slope of the IS curve when
autonomous spending is less sensitive to a change
in the interest rate?
• What happens to the slope of the IS curve if the
leakage rate (slope of the leakage function) is
increased?
• How do autonomous changes (including fiscal
policy) affect the IS curve?
• How would President Bush’s tax plan affect the IS
curve?
The Money (and Bond) Markets
• What are the three functions of money?
• How does the demand for real money
balances relate to real income?
• If money and bonds are substitutes and
money pays no interest but bonds pay
interest, why would people demand less
money when the interest rate increases?
• How does this affect the velocity of money?
The LM Curve
• How does the demand for money relate to real
income and the real interest rate?
• Who determines the real money supply, given the
price level?
• How can you derive an LM curve for a given
demand and supply for money?
• If the Central Bank adds to the money supply by
buying bonds, what initially happens to the
interest rate?
• How can this affect real income in the economy?
Slope and Shift of the LM Curve
• What happens to the slope of the LM curve
if the demand for money is extremely
sensitive (interest elastic) to changes in the
nominal interest rate (liquidity trap)?
• What is the slope of the LM curve if the
demand for money is interest inelastic?
• Which of the two functions results in the
velocity of money being volatile?
General Equilibrium
• Why is the IS=LM intersection necessary for
general equilibrium income to exist?
• Why does the central bank depend upon the
transition between the money market and goods
market to effect the economy?
• Does a flat LM curve make monetary policy more
or less effective compared with a steeper LM
curve? How does this relate to the “liquidity
trap?”
• How does a steep IS curve affect the effectiveness
of monetary policy?
Choosing Fiscal v. Monetary Policy
• Which stabilization policy is likely to have the
most positive influence on economic growth?
• Does the fiscal multiplier depend upon monetary
response in the Japanese economy?
• What is meant by the crowding out effect?
• What conditions in the money market add to the
potential crowding out effect of a fiscal deficit?
• Has monetary policy been an effective stimulus to
economic recovery from the 2001 recession?
• What about the timing associated with each of the
two policies (recognition, administration, impact
lags.)?
Effects of Government Budget
• What determines the budget deficit or surplus?
• How does a budget deficit affect domestic savings,
other things equal?
• How does a government deficit “crowd out” net
exports as well as investment?
• Why are the “twin deficits” not always twins?
• How does the government deficit impact on future
generations through investment in the stock of
capital?
The Size of Government
• How does war relate to deficits as a share of
natural GDP?
• How does recession relate to deficits as a share of
natural GDP?
• Why happened to the deficit as a percent of
natural GDP after the 1980 recession until 1997?
• Why did a government surplus emerge from 19972000?
• Alan Greenspan’s Testimony
http://www.federalreserve.gov/BoardDocs/HH/
2003/february/testimony.htm
The Structural Budget
• What is the difference between the structural
budget balance and the actual budget balance, that
also includes the effect of cyclical forces?
• How do automatic stabilizers affect the budget
deficit or surplus over the cycle?
• Can you derive a budget line, BB, that relates the
budget deficit or surplus to real income, for given
autonomous spending and the income tax rate?
• How does discretionary government policy affect
the level and slope of the budget line?
Actual and Natural Surplus or Deficits
• What is meant by the natural employment surplus
or natural employment deficit (NED)?
• Is the current economy experiencing a NED?
• How would a change in fiscal policy that lowered
t0 affect the NED?
• Under what circumstances could this result in a
natural employment surplus in the future?
• How does your argument relate to the national
savings rate, including both government savings
and private savings?
Solutions to the National Savings
Squeeze
• Is borrowing from abroad a permanent solution to
the lack of domestic savings?
• What has contributed to the drop in domestic a
private saving rates? Will this change in the
future?
• Should the government savings rate increase or be
reduced?
• What are the distributive effects of the Bush tax
reduction plan that could affect the private savings
rate?