Exam 15: Financial Crises, Stabilization, and Deficits

How is the Fed likely to respond during periods of recessionary decline? Make sure to include in your answer the change in the money supply and interest rates.

-According to the above graph what kind of action is the Fed likely to take and why? You may assume at Po is highly inflationary and that Yo represents full-employment output. Draw in the new aggregate demand curve to support your answer.

Describe FED policy since 2001.

What is a response lag?

Suppose that for every $10 billion decrease in GDP, tax revenue would fall by $1 billion. With a budget deficit of $200 billion and a multiplier of 4 what will be the new budget deficit if Congress cuts government spending by $100 billion.

Explain the Federal Reserve's policy that is often called to "lean against the wind."

Related to the Economics in Practice on p. 293 [605]: If the estate in the Chekhov play Uncle Vanya is earning 2 percent, the interest rate on suitable securities is 5 percent, and the securities are a better risk than the estate, should the state require a lower or higher price? What should the equivalent return on the estate be equal to?

What is the economic impact of automatic stabilizers during contractionary periods?

Use the Economics in Practice titled "Financial Reform Bill" to answer the following question. What were the primary provisions of the Financial Reform Bill as described in the article as it applied to consumers and borrowers?

Explain the nature of the implementation lag for fiscal policy.

How might an increase in stock prices lead to increases in investment?

Using Scenario 1, if the government is currently facing a deficit of $75 billion why might it have to cut spending by more than that amount to balance the budget?

Use the Economics in Practice titled "Bernanke's Bubble Laboratory: Princeton Protégés of Fed Chief Study the Economics of Manias" to answer the following question. According to the article what is the explanation for why bubbles emerge?

Assume that tax revenue is represented by the following function: T = - 200 + .25Y, where the first term represents transfer payments and the second term represents gross tax revenue. Assume furthermore that government spending is $400 billion and the economy is in equilibrium at $2000 billion. Why would a cut in government spending by $100 billion not cause the budget deficit to disappear? If the income multiplier were two, what will the value of the budget deficit be after the cut in spending?

What might have happened had the U.S. financial system not been "bailed out" by the federal government?

Give a some of examples of automatic stabilizers in the economy.

The unemployment rate in some European countries has recently been significantly higher than the unemployment rate in the United States. Explain what factors might cause the European unemployment rate to be higher.

When is the Fed more likely to increase the money supply and why?

-Using the graph above, if the economy is actually at Point C but policy makers think that it is still at Point B, what kind of lag problem is this? Why might this happen?

What is an implementation lag?