The Macroeconomy in the Short Run II (Aggregate Demand)

Question 1

aggregate consumption function

Answer 1

C = C (+ Y - T , - r , other factors)

∂C/∂(Y-T) > 0 (but less than 1)
∂C/∂r < 0 (but small in absolute terms)

or as linear functional form:

C = C(0) + C(y) • (Y - T) - C(r) • r

C(0) = other factors
C(y) = element (0,1) {MPC}
C(r) > 0

Question 2

household maximizing utility with respect to current and future consumption

Answer 2

max U = u(C(current)) + 1/1+p • u(C(future))

Question 3

instantaneous utility function

Answer 3

u(C) = log(C)

Question 4

current, future consumption ration

Answer 4

C(current)/C(future) = (1+p/1+r)

Question 5

MPC

Answer 5

marginal propensity to consume:

∂C(current)/∂(Y(current) - T(current)) = C(y)

Question 6

future consumption

Answer 6

C(future) = (1+r) • (PVR - C(current))

Question 7

current consumption

Answer 7

C(current) = C(future)/(1+r) + PVR

Question 8

adjust consumption to changes in the interest rate

Answer 8

substitution effect:

increased interest rates make current consumption less attractive –> saving more attractive

income effect: (increase of interest rates)

households that are “creditors” now dispose more income so they can increase their consumption

households that are “debtors” now dispose less income so they have do decrease their consumption

Question 9

aggregate investment function

Answer 9

I = I ( - r, other factors)

∂I/∂r < 0

specialised:

I = I(0) - I(r) • r

I(0) = other factors

Question 10

Two things that influence Governments

Answer 10

Political process:
Interest groups may induce the government to “overspend” when the macroeconomy is not in recession, leaving the government drained at times of recession.

Economic consideration:
Besides “countercyclical spending” the government tries to ensure fiscal responsibility and debt sustainability by
- specifying limit of government expenditure
- specifying limits for the level of public debt
- prescribing a balanced government debt

Question 11

government expenditure function

Answer 11

G = G ({+} ¥ - Y , {+} T - GT , {-} D , other factors)

¥ = long-run output
¥ - Y = (negative) output gap
D = government debt

specialised:

G = G(0) + G(y) • (¥-Y)

G(0) = other factors

Question 12

trade balance function

Answer 12

TB = TB ({-} Y - T , {+} Y* - T* , {+} ε , other factors)

ε = ε ({-} r , {+} r* , other factors)

specialised:

TB = TB(0) + TB(ex) • (Y* - T*) - TB(im) • (Y - T) + TB(ε) • ε

TB(0) = other factors
TB(ex), TB(im), TB(ε) > 0

ε = ε(0) - ε(r) • (r - r*)

ε(0) = other factors
ε(r) > 0

Question 13

bilateral nominal exchange rate

Answer 13

e(ij) (price quotation) = units of domestic currency
––––––––––––––––––––
unit of foreign currency

Question 14

bilateral real exchange rate

Answer 14

ε(ij) = e(ij) • P(j)
–––––––––
P(i)

ε(ij) up:
fall in price of domestically good relative to foreign good
—> more competitive in comparison to foreign economy

ε(ij) down:
rise in price of domestically good relative to foreign good
—> less competitive in comparison to foreign economy

Question 15

effective real exchange rate

Answer 15

ε(i) = ∑(j=1) ω(j) • ε(ij)

∑(j=1) ω(j) = 1

Question 16

interest parity relationship

Answer 16

1 + r(t) = 1/ε(t) • (1 + r*(t)) • ε(t+1)

1 + r(t) = return from domestic-currency government bond
in domestic currency
1/ε(t) = foreign currency value of one unit of domestic
currency in t
1 + r*(t) = return from foreign-currency government bond
in foreign currency
ε(t+1) = domestic currency value of one unit of foreign
currency t+1 (when government bond matured)

Question 17

Exchange rate in relationship with interest rates in t, t+1 and in the long run

Answer 17

ε(t) = (1 + r*(t)/1 + r(t)) • ε(t+1)

ε(t+1) = (1 + r*(t+1)/1 + r(t+1)) • ε(t+2)

ε(t) = [π(s=0)(1 + r*(t+s)/1 + r(t+s))]
P = e • P*
ε = e • P* |  P = 1

Question 18

Mit jannis besprechen

Answer 18

!!!