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Question 1

whats is the name that groups the most narrow definition of money and what are the different groups of assets that compose it

Answer 1

Currency in circulation, checking deposits, and debit card accounts for the most narrow definition of money (M1)

Question 2

are currency deposits included or excluded from M1?

Answer 2

they are excluded from M1 although they may act as a substitute for money in a broader definition

Question 3

what is the money supply?

Answer 3

the qty of money that circulates in the economy

Question 4

who controls the money supply?

Answer 4

central banks

Question 5

what is the money demand?

Answer 5

the money demand represents the amount of monetary assets that people are willing to hold (instead of more illiquid assets)

Question 6

what are the factors affecting individuals’ money demand?

Answer 6

• expected rates of return on non-monetary assets (opportunity cost)
• inflation risk
• liquidity

Question 7

how does the expected rates of return on non-monetary assets affect individuals money demand?

Answer 7

higher expected returns on non-monetary assets imply a higher opportunity cost = lower money demand

Question 8

how does the inflation risk affect individuals money demand?

Answer 8

unexpected inflation reduces the purchasing power of money, but many non-monetary assets are subject to inflation risk = it is not very important in defining the demand of monetary assets vs non-monetary assets

Question 9

how does liquidity affect individuals money demand?

Answer 9

individual’s money demand increases when the price or qty of purchased goods increase

Question 10

what are the factors affecting aggregate money demand?

Answer 10

• expected rates of return on non-monetary assets
• prices of goods and services
• aggregate real income

Question 11

how does the price of G&S affect aggregate money demand?

Answer 11

higher average prices mean a greater need for liquidity to buy the same amount of G&S = higher demand of money

Question 12

how does aggregate real income (Y) affect aggregate money demand

Answer 12

higher Y means more G&S produced and bought = higher need for liquidity = higher money demand

Question 13

what is the aggregate money demand fct?

Answer 13

Md = P * L(Y,R)

Question 14

what is the aggregate real money demand fct?

Answer 14

Md/P = L(Y,R)

Question 15

what is the relationship between R (interest rate) and aggregate real money demand for a given price lvl and GDP?

Answer 15

it is a downward sloping curve as Md increases as the interest rate decreases: opportunity cost of holding money is low when R is low

Question 16

what happens to aggregate real Md when there is a rise in real income (Y)?

Answer 16

when Y goes up for a given interest rate, demand for money goes up = shift of the downward sloping curve to the right

Question 17

what defines the money market equilibrium?

Answer 17

the money market is in equilibrium when no shortages (excess demand) or surpluses (excess supply) of monetary assets exist: Ms=Md

Question 18

when is the money market in equilibrium?

Answer 18

when the qty of real monetary assets supplied matches the qty of real monetary assets demanded: Ms/P = L(Y,R)

Question 19

what happens when R increases and how does the money market goes back to equilibrium?

Answer 19

when R increases, there is an excess supply of real money relative to the demand of real money because people want assets instead of money because there is a larger opportunity cost of holding cash. more demand for assets = asset prices appreciates = R decreases back to equilibrium where Md=Ms

Question 20

what happens when R decreases and how does the money market goes back to equilibrium?

Answer 20

when R decreases, real money demand is greater than real money supply (excess demand) = low demand for assets = prices decrease = R increases back to equilibrium where Md=Ms

Question 21

when is the FOREX market in equilibrium?

Answer 21

when interest parity holds

R$ = Reuro + ((Ee-E)/E)

Question 22

when is the money market in equilibrium?

Answer 22

when real money supply is equal to real money demand

Ms/P = L(Y,R)

Question 23

what can we say about prices in the short run?

Answer 23

in the SR prices are fixed: prices do not have sufficient time to adjust to changing market conditions (prices are rigid)

Question 24

what are the reasons for price rigidity in the short run?

Answer 24

• wages (input cost) adjust infrequently: since prices depend on input costs, sticky wages = sticky prices
• menu costs: cost of updating pricing
• customer relationships

Question 25

what are the consequences of short run price rigidity?

Answer 25

• in the short run, R denotes both the nominal and real interest rate since prices and inflation are fixed
• a change in Ms affects real variables like output, employment, etc.

Question 26

what is the effect of an increase in the US money supply (expansionary policy)?

Answer 26

the real Ms vertical curve shifts to the right and therefore in equilibrium, R decreases = reduces rate of return on US deposits = dollar depreciates = exchange rate increases which restores interest rates parity and equilibrium

Question 27

what is the effect of an increase of the euro money supply?

Answer 27

increase in the euro supply = interest rate on euro deposits decrease = IUP condition implies that euro depreciates (US dollar appreciates)

Question 28

what is the effect of a rise in real income (Y - economic expansion)?

Answer 28

when GDP goes up, there are more transactions of G&S = Md increases = shift of the curve to the right = R increases to adjust equilibrium = US dollar appreciates

Question 29

what can we say about prices in the long run?

Answer 29

in the long run, prices have sufficient time to adjust to market conditions

Question 30

what can we say about money in the long run?

Answer 30

money is neutral in the long run : a permanent change in money supply only affects the price lvl

Question 31

what are the implications of money neutrality?

Answer 31

• real variables, like the real interest rate and real money demand, are not affected by money supply in the long run
• long run output is determined by techno, workers, physical and human capital and natural resources (Y=A * f(K,L,H,N))

Question 32

considering long run equilibrium and money neutrality, what happens to prices when Ms changes permanently?

Answer 32

in the long run, prices adjust proportionally when Ms changes permanently (Ms = P * L(Y,R))
since real money demand (L(R,Y)) is not affected by changes in Ms, P adjusts one for one

Question 33

what is the rate of inflation?

Answer 33

it is the change in prices over 2 time periods

inf. rate = (P2-P1)/P1

Question 34

what does the money market equilibrium implies when it comes to the inflation rate?

Answer 34

it implies that the inflation rate is equal to the growth rate in money supply minus the growth rate in real money demand