Economics and Statistics

  Types of inflation: Demand pull inflation: caused by a rightward shift in the aggregate demand. The increased in consumption among consumers for a limited amount of goods forces prices to rise. When the economy is below full employment, an increase in AD does not drastically change the price level, since the economy is not fully using its resources (workers and machines) and can therefore easily increase production. When the economy is at full employment, an increase in AD causes a large increase in inflation, it becomes relatively more costly to increase production. Methods for reducing demand pull inflation: Contractionary fiscal policies: raising taxes or reducing the government spending, will put downward pressure on the aggregate demand, and thereby reduces its rightward shift. Contractionary monetary policies: Usually, the central bank is the entity that deals with inflation. It does so by increasing the federal funds rate through open market transaction, which decreases the su

  As a reminder, in the long run, wages and prices are considered variables in the economy. Thus in periods of economic expansions, workers will demand higher wages due to the pressure on the labor market (higher demand), increasing costs to firms, shifting the SRAS to the left. They opposite effect happens during periods of economic contraction. Expansionary policies have no direct effect on the long run level of full employment. It can be the case that a positive demand side policy also has a positive supply side effect.  Expansionary monetary policy, and its effect on the LRAS: lower interest rates implies more investment which implies more capital (i.e machines), making the workers more productive, leading to economic growth (i.e increasing the level of output in the long run). More investment does shift the AD to the right but so do the LRAS and SRAS curves. Contractionary demand side policies can have an impact on the long run level of full employment if and only if the policy ha

  Fiscal Policy: government spending and taxation, aimed at expending or contracting the level of macroeconomic activity in a nation. A tax increase (decrease) will raise (lower) households' disposable income, leading to more (less) consumption. Furthermore, firms will increase (decrease) the number of investment as they get to keep a larger (smaller) share of their profits. An increase (decrease) in government spending affects the variable G that defines the aggregate demand. Government spending also leads to a change in household income, affecting the level of consumption. Tax multiplier: just like any multiplier so far, it is just the sum of a converging geometric series: Say the MPC is equal to 70%, then it must be the case that the MPS is 30%. Thus, the tax multiplier, t, is equal to about -2.32. In other words, for every dollar that goes to tax revenue, total spending decreases by about 2.32 dollars. Note that a tax decrease would be negative, and thus have a positive effect

  Assume that you have the following information about the federal funds market: Note that the discount rate must be above the federal funds rate in order for the latter to be effective. In other words, the supply curve becomes perfectly elastic at the DR.  Another important point is that the demand for federal funds also becomes perfectly elastic when the interest rate is at or below zero percent. At this rate, commercial banks demand federal funds as much as they can. You are tasked with conducting the optimal open market operation given that the economy just started to experience a downturn. Given available data you conclude that the optimal rate must be at 0.5%.  Solve for the new supply curve, find how many government bonds (in terms of dollars) should the Fed buy or sell. Then, explain what will happen to the aggregate demand on the AD/AS model. solve for the original rho (FFR): Set the FFR equal to 0.5%, and solve for the dollar amount: Assuming that in our case $=1 is worth one