The Macroeconomy in the Short Run II (Aggregate Demand) Flashcards Preview

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Flashcards in The Macroeconomy in the Short Run II (Aggregate Demand) Deck (18)
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1

aggregate consumption function

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

2

household maximizing utility with respect to current and future consumption

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

3

instantaneous utility function

u(C) = log(C)

4

current, future consumption ration

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

5

MPC

marginal propensity to consume:

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

6

future consumption

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

7

current consumption

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

8

adjust consumption to changes in the interest rate

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

9

aggregate investment function

I = I ( - r, other factors)

∂I/∂r < 0

specialised:

I = I(0) - I(r) • r

I(0) = other factors

10

Two things that influence Governments

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

11

government expenditure function

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

12

trade balance function

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

13

bilateral nominal exchange rate

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

14

bilateral real exchange rate

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

15

effective real exchange rate

ε(i) = ∑(j=1) ω(j) • ε(ij)

∑(j=1) ω(j) = 1

16

interest parity relationship

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)

17

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

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

18

Mit jannis besprechen

!!!