Flashcards in Term 1 Deck (63):
What are the flaws of ISLM?
Mixture of stock and Flow
Requires constant IR
CB cannot control money supply
CB's target inflation
IR is practised, not set
What is teh Fisher Equation?
What is the equation for the IS curve?
What shifts the WS (Diagonal)?
More benefits shifts up
More output shifts up
More unemployment shifts up
What shifts the PS curve?
Higher markup shifts down
What effect will an increase in demand have on WS PS diagram?
Will shift output to the right temporarily, causing a new equilibrium with higher employment
The difference between the curves is the difference in real pa
What is nominal rigidity of wages?
Wages do not move in nominal, only real terms
What is the equation for the linear WS?
B is benefits
Z is other shift
Y-ye shows unemployment through output gap
How do you determine unemployment?
The point between the equilibrium and LF
What is the equation for the PS curve?
P is prices
1/1+N is mark up based on market power
Simplify the PS curve
LAMDA = MPL
U is elasticity of demand
How do you derive the IAPC using WS?
Take time derivatives and logs
How do you derive IAPC using PS?
Take logs and time derivatives
How do you derive IAPC combining WS and PS?
What is the banks damage loss function?
Describe the inflation variable Beta?
If bigger than one, inflation averse, targets with greater priority
How do you derive the monetary rule?
Combine IAPC and Los function
Sub IAPC into Loss
Take derivatives of YT and solve for:
What is the IS equation considering time?
What i the IAPC equation considering time?
What is the MR function considering time?>
How do you derive the taylor rule?
Sub Pi2 into MR
Factorise and solve for
What are the 3 types of supply side shock?
Rising PS - Change inU
Rising PS - Change in LAMDA
How do you draw a positive permanent supply side shock?
Draw new MR outwards
Point Z new equilibrium, IAPC comes out of it
Draw A down to new IAPC (B)
Draw B across to Ye, Giving new IAPC
What is a deflationary trap?
Where IR falls below 0LB and cannot be recovered
How do you calculate Rational Expectations?
Combine EAPC nad MR to get
What is the LUCAS supply surprise function?
Shows how the government can cheat and boost output
What happens if people believe the governments promises?
The economy resides at A, the time inconsistent commitment equilibrium
What happens if people believe the government but they do not deliver?
Gov sets at point B
How do you determin point B?
Put SAS0 into Loss function
Diff with respect to Pi
Solve for Pi
What happends if the people do not believe the Gov?
End up at C, time consistent discretionary equilbrium
How do you calculate point C?
Sub SAS into Loss function
Diff for Pi
Solve for Pi
How can the Gov get people to trust them?
Delegate responsibility to CB
How can you build a CB Reputation?
Use an ERM
How would an ERM build trust?
A currency board allows a exchange rate by law
If Gov tries to cheat, all money converted
How would the Euro Build Trust
After using an ERM for several years, can convert to shared currency to lock in trust
What is the new zeeland method?
Delgate responsibility to CB
Known as walsh contracts
What are the 3 possible stages of the financial crisis?
Collapse of subprime mortgages
Drying up of liquidity in the market
Discuss the collapse of sub prime mortgages?
CDS and transferred risk creates a moral hazard
Discuss teh drying up of liquidity in the interbank market
When the liquidity between banks ran out, northen rock collapsed
Discuss the Leamon Brothers
The CB could not support every bank due to moral hazard
By letting it crash, many other parties where harmed
Discuss liquidity problems
Do not have the cash to meet short term obligations
Are okay in the long run
Can be fixed by CB loans
Discuss solvency problems
Cannot meet long or short term obligations
How did we learn from the past to fix the crash?
Dont raise IR
Dont use tariffs
Dont contract fiscal policy
Give each problem an instrument
Monetary = Inflation
Deficit = Fiscal
Use fiscal to help monetary due to 0lB
How can the Gov fix the 0LB?
Use fiscal to shift IS outwards
Why cant we rely solely on fiscal policy?
Open economy means multiplier is reduced
Debts and deficits
What is the deficit debt equation?
Deficit = Positive Intercept
What does the diagram look like if r
Slope is negative
Will always tend back to x-axis intercept
What does the diagram look life if r>y?
If running a surplus
To right of x-axis intercept, will increase indefinitely
To left, is okay
This is unstable
How do you calculate b?
Diff with despect to t and solve
Why is settting a target for b difficult?
Both variables are effected by output
If recession, G will increase and t will fall automatically
What must a country do if it has a positive slope (r>y)?
It must run a surplus
Modify the debt equation to include risk
What happens if a country risk increases?
Slope becomes steeper, will need to run a greater surplus
How do you calculate the value of a bond?
Why would somebody purchase a negative bond?
They do not trust the others
Discuss automatic stabalisers
Taxes and expenditure automatically adjust to reduce the effect of recessions/booms
The bigger the gov, the bigger the stabilisers
How do you calculate the levels of G and T without stablisers?
Discuss Ricardian Equivalence?
If a Gov issues bonds, households will save more as they are a promise of higher taxwes
Will therefore have greater investment
What is the formula for RUIP?
Combine AD and RUIP?
b is due to the Marshall Lerner condition
What effect does a positive demand shock have on an ERU AD diagram?
Positive demand shock therefore AD shiftts right
This causes a real appreaciation
What effect does a positive supply shock have on an ERU and AD diagram?
Shift PS curve upwards, causing a depreciation