Econ 175 exam 4 (2023) - with Revised and Verified Solutions

1. Consider the exchange market for the Swedish krona (abbreviation: SEK) with the U.S. dollar (USD) as shown in the graphs below. For the following situations, determine whether demand and/or supply will change, whether the Swedish krona will appreciate or depreciate, and if the quantity of kronor exchanged will increase or decrease. a. The central bank of Sweden raises its key interest rates, thereby increasing the yield on Swedish bonds compared to the yield of similar bonds in the United States. Instructions: Use the tools provided 'D1,SEK' and 'S1,SEK' to plot the endpoints of each line and show the new equilibrium. As a result, the krona will and the quantity of kronor exchanged will . b. The central bank of the United States raises its key interest rates, thereby increasing the yield on U.S. bonds compared to the yield of similar bonds in Sweden. As a result, the krona will and the quantity of kronor exchanged will . 2. Suppose that people in the economy are going to spend $4 million in the current period based on nominal GDP. The table shows the demand for money to be saved for future use at a variety of interest rates. a. Use the information above to complete the "Transaction Demand" column and then complete the "Total Demand" column for this economy. Interest Rate (percent) Asset Demand (millions of dollars) Transaction Demand (millions of dollars) Total Demand (millions of dollars) 25% $0 $ $ 20 4 15 8 10 12 appreciate increase, decrease, or stay the same depreciate increase, decrease, or stay the same 4 4 4 8 4 12 4 16 5 16 0 20 b. Graph the asset demand, transaction demand, and money demand curves. Instructions: Use the tools provided 'Asset Demand,' 'Transaction Demand,' and 'Money Demand' to plot each line point by point (6 points total for each line). 3. Consider the foreign exchange market between the British pound (GBP) and the U.S. dollar (USD), as shown in the graph below. The exchange rate, measured in U.S. dollars per British pound, is shown on the vertical axis while the quantity of pounds is shown on the horizontal axis. Assume that you want to buy stock in a British hotel called Fawlty Towers and that you want to use $10,000 of your savings to do so. The current price per share of Fawlty Towers stock is 50 British pounds. a. At the current exchange rate, what is the total value of your Fawlty Towers stock in British pound (GBP)? GBP b. If the exchange rate remains constant and your shares increase in value by 5%, what is the pound value and the dollar value of your financial investment? GBP USD c. Suppose that the foreign exchange market for the British pound (GBP) changes according to the graph below. At the new exchange rate, and if your shares still increase in value by 5%, what is the dollar value of your financial investment? USD d. Now suppose that the foreign exchange market for the British pound (GBP) instead changes according to the graph below. At the new exchange rate, and if your shares still increase in value by 5%, what is the dollar value of your financial investment? USD 4 20 4 24 6250 6562.5 10500 9843.75 11156.2 4. Determine the category of money that correctly records each of the following. a. The $4,000 in your savings account. Neither M1 nor M2 M2 only M1 only Both M1 and M2 b. The $500 in your checking account. Both M1 and M2 Neither M1 nor M2 M2 only M1 only c. The $1,500 balance on your credit card. Both M1 and M2 M2 only Neither M1 nor M2 M1 only 5. Solve the monetary policy solution for each of the following scenarios. a. Suppose there is a surge in consumer confidence that creates an increase in aggregate demand in the economy. The Federal Reserve estimates that a change in the money supply of $120 billion will adjust interest rates enough to offset the change in aggregate demand. If the reserve requirement is 25%, what action should the Fed take to reach the desired change in the money supply? The Fed should conduct an of $ billion. open market sale 30 b. Suppose there is a political crisis in Europe that causes a reduction in investment demand in the United States. To stimulate investment demand, the Federal Reserve decides the money supply needs to change by $150 billion. If the reserve requirement is 10%, what action should the Fed take to reach the desired change in the money supply? The Fed should conduct an of $ billion. 6. The money market in the United States, the investment demand, aggregate demand, and aggregate supply curves are as shown in the graphs below. Currently, the Federal Reserve has a money supply of $120 billion and the money market is in equilibrium. a. Suppose the Federal Reserve decreases the money supply by $60 billion. Use the money market, investment demand, and AD/AS graphs to show the effects of the decrease in the money supply on interest rates, money demand, and investment, and in the AD/AS model. Instructions: In the money market graph below, use the tool provided 'MS,1' to draw a new money supply curve. Use the tool provided 'New Equilibrium' to plot a new equilibrium and interest rate. b. When the Federal Reserve wants to decrease the money supply it uses policy, which interest rates and causes prices to while in the short run real GDP . 7. a. The discount rate is the: lowest interest rate that banks can charge for loans to their most creditworthy customers. lowest interest rate that banks can charge for lending reserves to other banks or financial institutions. interest rate at which banks can borrow reserves from other banks. interest rate at which banks can borrow reserves from the Federal Reserve. b. If the Fed were to decrease the discount rate, banks will borrow: more reserves, causing a decrease in lending and the money supply. more reserves, causing an increase in lending and the money supply. open market purchase 15 contractionary raises decrease falls fewer reserves, causing a decrease in lending and the money supply. fewer reserves, causing an increase in lending and the money supply. 8. The Federal Reserve District Banks are: divided into geographical regions with the majority of the district banks located in the eastern half of the United States. divided geographically to encompass the 12 largest metropolitan and financial areas in the United States. divided into geographical regions with the same number of states located in each of the districts. divided evenly geographically to ensure the same amount of area coverage for the regions of the United States. 9. The part of the Federal Reserve that determines and implements the nation's monetary policy and controls the money supply to promote stable prices and economic growth is the: Board of Governors. president of the Board of Governors. 12 Federal Reserve District Banks. Federal Open Market Committee. 10. Correctly identify each of the following functions of the Federal Reserve. a. The Federal Reserve’s purchase or sale of government securities to change the money supply. b. The fraction of checkable deposits that banks must keep on hand, either as currency or on deposit with the Federal Reserve. c. The interest rate at which banks can borrow money directly from the Federal Reserve. Open market operations Reserve requirement 11. a w Assume the reserve requirement is 10% and the MPC = 0.6 for the economy when a stock market downturn reduces aggregate demand by $100 billion. a. Suppose the Federal Reserve wants to increase investment demand to offset the reduction in aggregate demand. To accomplish this goal, how much does investment demand need to increase? $ billion not 6,10,4 b. To increase investment demand by the desired amount, the Fed estimates that interest rates will need to by 4% and the money supply will need to by $200 billion. c. In order to achieve the $200 billion change in the money supply, the Fed will make an of $ billion. 12. value: 10.00 points The money market in the United States, the investment demand, aggregate demand, and aggregate supply curves are as shown in the graphs below. Currently, the Federal Reserve has a money supply of $100 billion and the money market is in equilibrium. a. Suppose the Federal Reserve increases the money supply by $40 billion. Use the money market, investment demand, and AD/AS graphs to show the effects of the increase in the money supply on interest rates, money demand, and investment, and in the AD/AS model. Instructions: In the money market graph, use the tool provided 'MS,1' to draw a new money supply curve. Use the tool provided 'New Equilibrium' to plot a new equilibrium and interest rate. Discount rate decrease increase open market purchase 20 -2-2 b. When the Federal Reserve wants to increase the money supply it uses policy, which interest rates and causes pric