4/2/24

Question 1

LOOP Equation

Answer 1

PCUSD = E$/€ * PCEUR

Question 2

Law of One Price (LOOP)

Answer 2

Without any natural or artificial barriers to trade, the same good sold in different locations must have the same price when measured in a common currency

Question 3

Purchasing Power Parity (PPP)

Answer 3

We say that the exchange rate is at PPP if two baskets are the same price when measured in a common currency

Question 4

PPP equation

Answer 4

PUSD = E$/€ * PEUR

Question 5

whats the difference between the LOOP and PPP equations?

Answer 5

PPP is for the whole basket and PPP is for individual goods

Question 6

What is true if LOOP holds for ALL goods in a basket?

Answer 6

PPP hold

Question 7

Real Exchange rate

Answer 7

The number of baskets of US goods that collectively cosst the same as one basket of European goods

Question 8

Real Exhchange Rate equation

Answer 8

qUSD/EUR = E$/€ * PEUR/PUS

Question 9

how much do european goods cost relative to US goods if the Real Exchange Rate is 2?

Answer 9

They are twice as expensive

Question 10

Spot Exchange rate equation

Answer 10

E$/€=PUSD/PEUR

Question 11

With Relative PPP, what assumption is formed about the Real Exchange Rate

Answer 11

The Real Exchange Rate is constant

Question 12

With absolute PPP, what assumption is formed about the Real Exchange Rate

Answer 12

It is constant AND equal to 1

Question 13

What is the basic idea of the simple monetary model of prices

Answer 13

In the long run, the price level will be proportional to the money supply, where the constant of proportionality might depend on the interest rate

Question 14

Money Demanded Equation

Answer 14

Md = P * L(i) * Y

Question 15

Money Market Equilibrium condition

Answer 15

M=PL(i)Y

Question 16

Real Money Supply

Answer 16

M/P

Question 17

Real Money Demand

Answer 17

L(i)*Y

Question 18

Where isReal Income (Y) fixed at and where?

Answer 18

Full Employment Level in Long Run
Deviates in short run

Question 19

In The long run, what happens when the Money supply changes?

Answer 19

An increase results in higher prices, a decrease results in lower prices. The interest rate doesn’t change

Question 20

In The short run, what happens when the Money supply changes?

Answer 20

An increase results in lower interest rate, a decrease results in higher interest rate. The price level doesn’t change

Question 21

expected change in value of foreign currency5

Answer 21

(Ee-E)/E

Question 22

How are interest rates determined in the short run

Answer 22

Base and foreign monetary policies

Question 23

What does a temporary change in the money supply do?

Answer 23

The money supply falls by 5% for a few months then returns to its original level. It does NOT change expectaitions about the future.

Question 24

What does a permanentchange in the money supply do?

Answer 24

the money supply falls by 5% and remains at that lower level permanently

Question 25

what would tighter monetary policy in the US do to the money market in the US?

Answer 25

interest rates would increase, leading to the value of the dollar to increase and european denominated bonds would decrease in the FX market

Question 26

Overshooting

Answer 26

The immediate change in the exchange rate due to a permanent change in the money supply will be larger than the lon-run change

Question 27

L̅

Answer 27

total working population

Question 28

What are the effects of a permanent reduction in the money supply to the exchange rate?

Answer 28

In the short term, Real Money Supply decreases . And in the Long Run once prices become unstuck exchange rate returns to long run equlibrium (euro depreciates, dollar appreciates). The Exchange rate will ultimaely change and future expectations will change

Question 29

Why does the Real Money Supply increase when the money supply increases

Answer 29

because the price level is constant

Question 30

What are the effects of a permanent reduction in the money supply to the fx market?

Answer 30

The expected future value of the euro(foreign currency) will fall, and that implies a reduction in the expected return on euro-denominated bonds.