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Economics Flashcards

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1
Q

What does the Neoclassical school believe?

A

Changes in aggregate demand/supply are caused by technological changes. Business cycles are caused by deviations from long-run equilibrium

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2
Q

What does the Keynesian school believe?

A

Business cycles are caused by business expectations (overly optimistic and overly pessimistic). They believe both monetary and fiscal policy should be used to control aggregate demand

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3
Q

What do New Keynesians believe in?

A

Prices of production inputs other than labor are also downward sticky

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4
Q

What do Monetarists believe?

A

Business cycles are caused by inappropriate decisions by monetary authorities. Steady and predictable increases in the money supply will keep aggregate demand stable and growing.

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5
Q

What does the Austrian school believe in?

A

Business cycles are caused by government interventions in the economy.

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6
Q

What does the New Classical school believe in?

A

They believe in Real Business Cycle theory, which emphasizes changes in technology and external shocks instead of monetary factors

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7
Q

What is the equation to calculate marginal revenue for a monopoly?

A

MR = P(1 - 1/E)

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8
Q

What is the equation for GDP using the expenditures approach?

A

GDP = C + I + G + (X - M)

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9
Q

What is the equation for GDP using the income approach (give both equations)?

A 
GDP = national income + capital consumption allowance
GDP = C + S + T
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10
Q

What is the equation for national income?

A

National income = employee compensation + corporate/government profits before taxes + interest income + unincorporated business net income (owners’ income) + rent + indirect business taxes - subsidies

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11
Q

What is stagflation?

A

When output decreases and prices rise. Usually caused by a leftwards shift of the SRAS curve

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12
Q

What is a common value auction?

A

When the item’s value is the same to any bidder, but the bidders don’t know the value beforehand e.g. oil lease auctions

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13
Q

What is a private value auction?

A

The item’s value is different to each bidder e.g. art collection auction

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14
Q

What is an ascending price auction (English auction)?

A

Highest bidder wins

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15
Q

What is a sealed bid auction?

A

Bidders place one bid. The highest bid wins

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16
Q

What is a second price sealed bid auction (Vickery auction)?

A

Highest bidder wins but pays the price of the 2nd highest bid

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17
Q

What is a descending price auction (Dutch auction)?

A

Offer price starts high and is reduced until a buyer is willing to pay for it

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18
Q

What is a modified Dutch auction?

A

A Dutch auction in which all winning bidders pay the same price

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19
Q

What is producer surplus?

A

Total revenue - total variable costs

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20
Q

What is statutory incidence?

A

Refers to who is legally responsible for paying the tax

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21
Q

If demand is less elastic, which party (consumers or suppliers) bear more of the tax burden?

A

Consumers

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22
Q

What is price elasticity?

A

%change demanded / %change price

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23
Q

At what elasticity point is total revenue maximized?

A

Unitary elasticity

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24
Q

What 2 major factors affect demand elasticity?

A
  1. Portion of income spent on good - the larger the portion of income spent, the more elastic
  2. Time - elasticity increases as time goes on
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25
Q

What is a normal good?

A

A good for which income elasticity is positive (demand goes up as income increases)

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26
Q

What is an inferior good?

A

A good for which income elasticity is negative (demand decreases as income increases)

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27
Q

What does it mean if two goods are substitutes?

A

Demand for one good increases as the price of the other good increases

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28
Q

What does it mean if two goods are complements?

A

Demand for one good decreases as the price of the other good increases

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29
Q

What does utility theory try to explain?

A

Consumer behavior based on preferences for different combinations of goods in terms of their relative level of satisfaction

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30
Q

What is consumer choice theory?

A

A theory that relates consumers’ wants and to the good/services that they buy

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31
Q

What is a utility function?

A

U(Q_A, Q_B, Q_C…Q_N)

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32
Q

What is the condition of non-satiation?

A

Holding all other quantities constant, increasing one good always increases utility

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33
Q

What is a budget constraint (expressed as a budget line)?

A

A line that shows all combinations of goods X and Y that the consumer can exhaust with his income

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34
Q

What is the opportunity set in a budget constraint?

A

All combinations of goods X and Y that a consumer can afford (shaded area under a budget line)

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35
Q

What is an indifference curve?

A

A plot that represents equal points of utility for goods X and Y

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36
Q

What is the marginal rate of substitution (MRS)?

A

the rate at which the consumer would be willing to exchange units of X for units of Y (also equal to the slope of the indifference curve at any point)

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37
Q

What is a consumer’s equilibrium bundle of goods?

A

The point where the highest attainable indifference curve is tangent to the budget line

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38
Q

What is the substitution effect?

A

When the price of good X decreases, the consumer buys more of X and less of Y (moving along the same indifference curve, resulting in a new budget line)

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39
Q

What is the income effect?

A

It moves the budget line up to a new indifference curve. It may be in the same or opposite direction as the substitution effect

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40
Q

What is a Giffen good?

A

An inferior good in which the negative income effect is stronger than the substitution effect - consumption of good decreases. It would have an upwards sloping demand curve

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41
Q

What is a Veblen good?

A

A good in which a higher price would increase demand for the good. Not supported by consumer choice theory

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42
Q

What is economic profit?

A

Economic profit = accounting profit - implicit opportunity costs

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43
Q

What is a normal profit?

A

An accounting profit that results in zero economic profit AKA implicit opportunity costs and explicit costs are covered by revenue

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44
Q

What is economic rent?

A

Payment to a factor of production above its value in its next highest-valued use (opportunity cost)

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45
Q

What is Average Revenue?

A

Total Revenue/Quantity Sold

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46
Q

What type of demand curves do firms in imperfect competition face?

A

Downwards sloping

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47
Q

What type of demand curves do firms in perfect competition face?

A

Horizontal AKA perfectly elastic. Also equivalent to the market price, AR, and MR

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48
Q

What is Marginal Revenue?

A

The change in Total Revenue from selling one more unit of a good/service

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49
Q

What are examples of a firm’s factors of production?

A

Land, labor, physical capital, and materials

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50
Q

What is a production function?

A

Q = f(K,L) where Q is quantity outputted, K is physical capital, and L is labor

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51
Q

What are Total Variable Costs?

A

Inputs whose cost varies with output i.e. wages, raw materials

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52
Q

What are Total Fixed Costs?

A

Inputs whose costs cannot be avoided; include normal profit

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53
Q

What is Total Cost?

A

Total Cost = TVC + TFC (include explicit and implicit costs)

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54
Q

What is Marignal Cost?

A

Change in Total Cost / Change in Quantity outputted

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55
Q

On a graph with output as the x-axis and cost on the y-axis, what does the Average Fixed Cost curve look like?

A

Downwards sloping, because costs are constant but are spread out over more products as output increases

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56
Q

On a graph with output as the x-axis and cost on the y-axis, what is the vertical distance between Average Variable Cost and Average Total Cost

A

The vertical distance is equal to Average Fixed Cost

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57
Q

On a graph with output as the x-axis and cost on the y-axis, what does the Marginal Cost curve look like?

A

It decreases initially and then slopes upwards (a J-shape). This is because marginal productivity initially increases as labor specializes, but at some point there is a diminishing return of labor

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58
Q

On a graph with output as the x-axis and cost on the y-axis, where does the Marginal Cost curve fall with respect to the Average Variable Cost curve and the Average Total Cost curve?

A

The MC curve intersects the AVC and ATC curves at their minimums

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59
Q

On a graph with output as the x-axis and cost on the y-axis, what do the Average Variable Cost and Average Total Cost curves look like?

A

They are U-shaped. AVC decreases initially but increases once diminishing returns of labor set in.

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60
Q

What does the minimum point on the Average Total Cost curve represent?

A

It represents the unit at which cost per unit is the lowest AKA the firm is maximizing profit per unit but not necessarily maximizing profits overall

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61
Q

What does the Marginal Cost curve above the Average Variable Cost curve represent?

A

The firm’s short-run supply curve in a perfectly competitive market

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62
Q

In perfect competition, at what point should a firm shut down in the short-run and long-run?

A

If the price of its products are below AVC AKA Average Revenue is less than Average Variable Costs

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63
Q

In perfect competition, at what point should a firm shut down in the long-run but operate in the short-run?

A

If the Average Revenue is greater than AVC but less than ATC

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64
Q

In imperfect competition, at what point should a firm shut down in the long-run but operate in the short-run?

A

If Total Revenue is greater than Total Variable Cost but less than Total Cost

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65
Q

At what quantity are economic profits maximized for a firm? There are 2 ways to measure this

A
  1. At the quantity where Marginal Revenue = Marginal Cost

2. At the quantity where Total Revenue - Total Cost is at a maximum

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66
Q

What is the minimum efficient scale?

A

The point of price and output where the Long Run Average Total Cost curve (LRATC) is at minimum

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67
Q

What is an increasing-cost industry and what does its long-run supply curve look like?

A

An industry where input prices increase as more firms enter due to increased demand, pushing up the market price of the firms’ product and their input prices. The long-run supply curve is upwards sloping

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68
Q

What is a decreasing-cost industry and what does its long-run supply curve look like?

A

Input prices decrease as firms enter the industry. The long-run supply curve is downwards sloping

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69
Q

What is a constant-cost industry and what does its long-run supply curve look like?

A

Input prices remain the same as firms enter the industry. The long-run supply curve is flat

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70
Q

What is the total product of labor?

A

Output for a specific amount of labor

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71
Q

What is the average product of labor?

A

Total product of labor / number of workers

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72
Q

What is the marginal product of labor?

A

Addition to total product of labor by adding one more worker

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73
Q

For a firm with N inputs, what does cost minimization require?

A

MP_1 / P_1 = MP_2 / P_2 … = MP_N / P_N

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74
Q

What is Marginal Revenue Product?

A

Monetary value of the marginal product of an input. It is the firm’s increase in total revenue from selling the additional output from employing one more unit of labor. Equal to MP * MR of the additional output

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75
Q

What is the profit-maximizing quantity of an input i?

A

The quantity for which Marginal Revenue Product_i = P_i

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76
Q

For a firm with N inputs, what does cost minimization and profit-maximization require?

A

MRP_1 / P_1 = MRP_2 / P_2 … = MRP_N / P_N = 1

77
Q

What are characteristics of firms in perfect competition?

A

Products are identical, barriers to entry are low, demand curves are perfectly elastic

78
Q

What are characteristics of firms in monopolistic competition?

A

Products are differentiated through quality, features, and marketing. Demand curves are downwards sloping but elastic.

79
Q

What are characteristics of firms in an oligopoly?

A

Few firms, barriers to entry are high due to marketing or economies of scale.

80
Q

What are characteristics of a monopoly?

A

Product has no close substitutes, high barriers to entry,

81
Q

What is a natural monopoly?

A

A situation where average cost declines over the relevant range of consumer demand AKA having more competition would result in higher prices for consumers

82
Q

What happens in long-run equilibrium to a firm earning economic profits in a perfectly competitive environment?

A

New firms enter market, increasing market supply and decreasing market price such that P = ATC. Each firm produces the quantity such that P = MR = MC = ATC

83
Q

What is the short-run market supply curve in a perfectly competitive market?

A

The horizontal sum (add up the quantities from all firms at each price) of the MC curves for all firms in a given industry

84
Q

What does the demand curve look like for firms in monopolistic competition? Where is it relative to the MR, MC, and ATC curves in the short-run?

A

The demand curve is downwards sloping and lies above the downwards sloping MR curve. The firm produces where MR = MC, and at this quantity the demand curve can exceed ATC, which is economic profit.

85
Q

What is the kinded demand curve model? Where is profit maximized along the kinked demand curve?

A

For an oligopoly, it assumes an increase in price of a firm won’t affect competitors, but a decrease in price will be matched by competitors. Profit is maximized at the kink.

86
Q

What is a shortcoming of the kinked demand curve?

A

What determines the market price (where the kink is) is undefined

87
Q

What is the dominant firm model?

A

One dominant firm sets the market price for other competitive firms due to scale and lower cost structure.

88
Q

What happens in long-run equilibrium when competitor firms decrease prices in the dominant firm model?

A

The dominant firm will decrease prices, driving out competitors and increasing its market share

89
Q

What are 2 pricing strategies that a monopoly can use?

A
  1. Single price

2. Price discrimination

90
Q

What is the equation for calculating MR for a monopoly given P and E_P?

A

MR = P(1 - 1/E_P) where E_P is the absolute value of elasticity at price P

91
Q

What are the 3 requirements for price discrimination to work for a monopoly?

A
  1. Downwards sloping demand curve
  2. At least 2 customer bases with different elasticities of demand
  3. Customers cannot resell the product to each other
92
Q

How does the reduction in consumer surplus from a monopoly compare between single price and price discrimination?

A

There is less consumer surplus reduction with a price discrimination since different elasticity customer groups are charged different prices

93
Q

Name 2 forms of pricing regulation imposed on monopolies

A
  1. Average Cost Pricing

2. Marginal Cost Pricing

94
Q

What is Average Cost Pricing?

A

A regulation that forces the monopolist to decrease price to where its ATC curve intersects the market demand curve

95
Q

What is Marginal Cost Pricing?

A

A regulation that forces the monopolist to decrease price to where its MC curve intersects the market demand curve. This requires a government subsidy since the firm now earns economic losses (P is less than ATC)

96
Q

What is the N-firm concentration ratio? What is a limitation of it?

A

The sum or percentage market shares of the largest N firms in the market. A limitation is it is insensitive to mergers between two large firms

97
Q

What is the Herfindahl-Hirschman Index (HHI)?

A

Calculated as the sum of the squares of the largest firms in the market. Better captures the effect of mergers

98
Q

What is a limitation of both the N-firm concentration ratio and the HHI?

A

Neither concentration measure captures whether barriers to entry are low.

99
Q

What is the GDP deflator?

A

GDP deflator = nominal GDP_t / (value of output_t at base year prices) * 100

100
Q

Using the expenditure approach, what is the equation for GDP?

A

GDP = C + I + G + (X - M)

101
Q

Using the income approach, what are the 2 different equations for GDP (or GDI)?

A 
GDP = national income + capital consumption allowance + statistical discrepancy 
GDP = C + S + T (S = business/household savings, T = net taxes)
102
Q

What is capital consumption allowance (CCA)?

A

Measures the depreciation of physical capital from the production of goods/services

103
Q

What are the 6 components that sum up to national income?

A

National income = employee compensation + corporate/government enterprise profits before taxes + interest income + unincorporated business net income (business owners’ income) + rent + indirect business taxes - subsidies (taxes/subsidies included in final prices)

104
Q

What is personal income?

A

Pretax income received by households, including transfer payments (unemployment or disability benefits)

105
Q

What is the fundamental relationship derived from equating total expenditures to total income?

A

S = I + (G - T) + (X - M)

106
Q

What is the Marginal Propensity to Consume (MPC)?

A

The proportion of income spent for each dollar of additional income. MPC + MPS = 1

107
Q

What is the real interest rate approximated by?

A

Nominal interest rate - expected inflation

108
Q

What does the IS curve look like?

A

A downwards sloping line with real income on the x-axis and real interest rate on the y-axis

109
Q

Why is the IS curve plotted that way (what’s the relationship that it describes)?

A

The curve represents combinations of Y and r where planned expenditures equals income. S(Y) = I(r) + (G - T) + (X - M). When r decreases, I increases. To keep this relationship balanced, Y must increase so that S increases.

110
Q

What does the LM curve look like?

A

Upwards sloping line with real income on the x-axis and real interest rate on the y-axis

111
Q

What’s the relationship that the LM curve describes?

A

Combinations of Y and r for which money supply equals money demand. For a given real money supply (M/P is constant), higher r decreases money demand. This can be offset by higher Y which increases money demand.

112
Q

Which way does the LM curve shift if P increases, and why?

A

If P increases, real money supply (M/P) decreases. For a given level of Y, r must be higher to curb money demand, so the curve shifts upwards (or to the left)

113
Q

What are 3 reasons the Aggregate Demand (AD) curve is downwards sloping AKA why are higher prices associated with lower GDP?

A
  1. Higher P reduces real wealth
  2. Higher P increases real interest rates
  3. Domestic goods become more expensive compared to foreign goods
114
Q

Why is the VSRAS curve flat (perfectly elastic)?

A

Firms adjust output without changing price by adjusting labor hours and physical capital usage

115
Q

Why is the SRAS curve upwards sloping?

A

In the short run some input prices are sticky, so firms increase output when they see higher price levels (which will increase profits due to sticky input prices)

116
Q

Why is the LRSAS curve inelastic?

A

All input costs vary in the long run in proportion to price levels, so price has no effect on aggregate supply

117
Q

What is the level of output called for which the LRSAS is drawn?

A

Potential GDP or full-employment GDP

118
Q

Name the 8 factors that can increase AD

A
  1. Increase in consumers’ wealth (C increases)
  2. Increased business expectations (I increases)
  3. Increased consumer expectations of future income (C increases)
  4. Higher capacity Utilization (I increases)
  5. Expansionary monetary policy (C & I increase)
  6. Expansionary fiscal policy (C increases for tax cut, G increases for gov spending)
  7. Exchange rates (decrease in currency increase X - M)
  8. Global economic growth (increases X - M)
119
Q

Name the 5 factors that can increase SRAS

A
  1. Increase in labor productivity (output per hours worked)
  2. Input prices (i.e. decrease in nominal wages)
  3. Increased business expectations
  4. Lower taxes/higher subsidies
  5. Exchange rates (higher currency value makes imported inputs less expensive)
120
Q

Name the 4 factors that can increase LRAS

A
  1. Increase in supply and quality of labor
  2. Increase in supply of natural resources
  3. Increase in physical capital
  4. Technology
121
Q

What is a recessionary gap?

A

When real GDP is below full employment GDP

122
Q

What is an inflationary gap?

A

When real GDP is above full employment GDP

123
Q

What is stagflation?

A

When real GDP is below full employment GDP, but prices are higher due to a leftwards shift of the SRAS curve because productive input prices have risen

124
Q

What are the 5 sources of economic growth?

A
  1. Labor Supply (growth of the labor force)
  2. Human Capital (education/skill level of labor force)
  3. Physical capital stock
  4. Technology
  5. Natural Resources
125
Q

What is the equation for potential GDP?

A

potential GDP = aggregate hours worked * labor productivity

126
Q

What is the Solow model (neoclassical model) for growth in potential GDP?

A

growth in potential GDP = growth in technology + (W_l) growth in labor force + (W_c)growth in capital

127
Q

What is the sustainable rate of economic growth?

A

Rate of increase in a country’s potential GDP

128
Q

What is a production function?

A

Y = A x f(K,L) where A = total factor productivity, K is amount of capital available, and L is size of labor force

129
Q

What is total factor productivity?

A

The amount of output growth not explainable by labor or physical capital. Closely related to technological advances

130
Q

What is the production function stated on a per-worker basis?

A

Y/L = A x f(K/L)

131
Q

In what phase of the business cycle does the inventory-to-sales ratio for most businesses begin to increase?

A

When an expansion is approaching its peak

132
Q

What is frictional unemployment?

A

Unemployment resulting from time lag necessary to match workers with businesses

133
Q

What is structural unemployment?

A

Unemployment resulting from long-run changes in the economy that close certain jobs and open others

134
Q

What is cyclical unemployment?

A

Unemployment caused by level of economic activity

135
Q

What is disinflation?

A

Inflation that is decreasing but still positive

136
Q

What is core inflation?

A

Headline inflation that excludes food and energy

137
Q

How does a Paasche index differ from a Laspeyres index?

A

A Paasche index adjusts for upwards bias by using current period consumption weights

138
Q

What is a Fisher index in relation to a Paasche and Laspeyres index?

A

It is the geometric mean of the 2 indexes

139
Q

What is cost-push inflation?

A

When AS decreases and AD is increased in response, pushing up prices

140
Q

What is demand-pull inflation?

A

When AD increases, causing downwards pressure on AS, pushing up prices

141
Q

What is the natural rate of unemployment (NARU)?

A

The lowest rate of unemployment that results in non-accelerating or stable inflation

142
Q

What is the money multiplier equation?

A

Money multiplier = 1 / reserve requirement

143
Q

What is the Fisher effect?

A

Nominal interest rate = real interest rate + expected inflation

144
Q

What are the 6 key roles of central banks?

A
  1. Sole supplier of currency
  2. Banker to government and other banks
  3. Regulator/supervisor of payments system
  4. Lender of last resort
  5. Holder of gold/foreign exchange reserves
  6. Conductor of monetary policy
145
Q

What is the discount rate in the context of the Fed?

A

The rate at which banks can borrow reserves from the Fed

146
Q

What are the 3 desirable qualities of a central bank?

A
  1. Independence
  2. Credibility
  3. Transparency
147
Q

What is the neutral interest rate?

A

neutral interest rate = real trend rate of economic growth + inflation target

148
Q

What are the 3 objectives of fiscal policy?

A
  1. Influencing economic activity and aggregate demand
  2. Redistributing wealth/income
  3. Allocating resources among different agents/sectors
149
Q

What are the 4 desirable attributes of tax policy?

A
  1. Simplicity to use and enforce
  2. Efficiency; least interference with market forces
  3. Fairness (horizontal and vertical equality)
  4. Sufficiency (generates enough revenue for the gov)
150
Q

What is the fiscal multiplier equation?

A

fiscal multiplier = 1/ (1 - MPC(1-t))

151
Q

What is Ricardian equivalence?

A

When taxpayers reduce current spending in expectation of higher future taxes

152
Q

What is the crowding out effect?

A

When increased government borrowing raises real interest rates, thus lowering private sector borrowing and investment

153
Q

What 3 types of lag limit the usefulness of fiscal policy?

A
  1. Recognition lag - policy makers are slow to realize when fiscal policy is needed
  2. Action lag - Governments take time to implement fiscal policy
  3. Impact lag - policies take time to impact the economy
154
Q

What is Gross National Product?

A

Goods/services produced by a country’s citizens

155
Q

What is an absolute advantage?

A

When the cost for a country to produce a good is lower than for another country

156
Q

What is a comparative advantage?

A

When a country can produce a good with lower opportunity cost than the other country

157
Q

What are/is the factor(s) of production in the Ricardian model of trade?

A

Only one factor - labor

158
Q

What is the source of differences in production costs in the Ricardian model of trade?

A

Differences in labor productivity due to differences in technology

159
Q

What are/is the factor(s) of production in the Heckscher-Ohlin model of trade?

A

2 factors - labor and capital

160
Q

What is the source of differences in production costs in the Heckscher-Ohlin model of trade?

A

Differences in the relative amounts of each factor the countries possess

161
Q

What are 2 types of trade restrictions supported by economic theory?

A
  1. Infant industry

2. National security

162
Q

What are 2 types of trade restrictions that are not supported by economic theory?

A
  1. Protecting domestic jobs

2. Protecting domestic industries

163
Q

What are 5 types of trade restrictions?

A
  1. Tarrifs
  2. Quotas
  3. Export subsidies
  4. Minimum domestic content
  5. Voluntary export restraint
164
Q

What is a Free Trade Area?

A
  1. All barriers to import and export of goods and services among the countries are removed.
165
Q

What is a Customs Union?

A
  1. All barriers to import and export of goods and services among the countries are removed.
  2. All countries adopt a common set of trade restrictions with non-members
166
Q

What is a Common Market?

A
  1. All barriers to import and export of goods and services among the countries are removed.
  2. All countries adopt a common set of trade restrictions with non-members.
  3. All barriers to the movement of labor and capital goods among member countries are removed.
167
Q

What is an Economic Union?

A
  1. All barriers to import and export of goods and services among the countries are removed.
  2. All countries adopt a common set of trade restrictions with non-members.
  3. All barriers to the movement of labor and capital goods among member countries are removed.
  4. Member countries establish common institutions and economic policy for the union.
168
Q

What is a Monetary Union?

A
  1. All barriers to import and export of goods and services among the countries are removed.
  2. All countries adopt a common set of trade restrictions with non-members.
  3. All barriers to the movement of labor and capital goods among member countries are removed.
  4. Member countries establish common institutions and economic policy for the union.
  5. Member countries adopt a single currency.
169
Q

What are 4 reasons a country may place capital restrictions?

A
  1. Reduce volatility of domestic asset prices
  2. Maintain fixed exchange rates
  3. Keep domestic interest rates low
  4. Protect strategic industries
170
Q

What are the 3 accounts that make up the Balance of Payments?

A
  1. Current Account
  2. Capital Account
  3. Financial Account
171
Q

A country with more imports than exports has a current account ____?

A

deficit

172
Q

What is the relation between the trade deficit, saving, and domestic investment (expressed as an equation)?

A

X - M = private savings + government savings - investment

173
Q

What are 3 goals of the IMF?

A
  1. Exchange rate stability
  2. Setting up international payment systems
  3. Helping member countries with balance of payment problems
174
Q

What are 2 goals of the World Bank?

A
  1. Provide loans, credits, or grants to developing countries

2. Fight poverty

175
Q

What is the main goal of the WTO?

A

Trade flows as smoothly, predictably and freely as possible using a multilateral trading system

176
Q

What is a direct quote?

A

Price currency/base currency from the viewpoint of a price currency investor i.e. USD/EUR for a USD investor

177
Q

What is the equation for the real exchange rate in terms of the nominal exchange rate?

A

real exchange rate = nominal exchange rate / (CPI_price/CPI_base)

178
Q

Who is on the sell side in the FX markets?

A

Usually large multinational banks

179
Q

What are 4 buyers on the buy side in FX markets?

A
  1. Corporations
  2. Investment accounts (real money accounts and leveraged accounts)
  3. Governments or sovereign wealth funds
  4. Retail market
180
Q

What is the no-arbitrage relation (interest rate parity) between spot and forward exchange rates?

A

forward/spot = (1 + interest rate_price)/(1 + interest rate_base)

181
Q

What is formal dollarization?

A

When a country uses the currency of another country

182
Q

What is a currency board arrangement

A

An explicit commitment to exchange domestic currency for a specified foreign currency at a fixed exchange rate

183
Q

What is a conventional fixed peg arrangement?

A

When a country pegs its currency to within a margin of another currency or basket of currencies

184
Q

What is a crawling peg?

A

A peg that adjusts periodically, typically to adjust for higher inflation

185
Q

What is a system of pegged exchange rates within horizontal bands (or target zone)?

A

A peg in which the permitted fluctuations are wider

186
Q

What is the Marshall-Lerner condition?

A

Depreciation of domestic currency will reduce a trade deficit if the following condition is true:
W_xe_x + W_m(e_m - 1) > 0
where W_x is proportion of total trade that is exports, e_x is the absolute value of price elasticity of demand for exports

187
Q

What is the J-curve effect?

A

Since import/export contracts are fixed in the short-term, currency depreciation may initially worsen the trade deficit in the short-run. Later on it improves the trade balance

188
Q

What is the equation that represents the absorption approach?

A

BT = Y - E
where BT is balance of trade,
Y is national income,
E is total expenditure

CFA Level 1 (3 decks)

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