Macro

Question 1

what was Keynes’ view on national income accounting (what changes over time)?

Answer 1

argued that investment is the main thing that changes over time & drives growth given that it’s sensitive to business incentive to invest

i (investment) is the total capital budgeting of firms over time

Question 2

Goodhart’s Law and it’s effect on national income accouting

Answer 2

whenever an economic indicator becomes a policy target it tends to lose its value / credibility since governments will artificially juice up that number

Question 3

what is nightime illumination (in relation to Goodhart’s Law)

Answer 3

it’s an indicator of how well lit a country is when taking a satellite image, but when countries see this being used as an economic indicator they tend to inflate it by setting up lamp posts, which reduces the reliability of that indicator

Question 4

how is macroeconomics viewed by these three types of people:
- Mainstream
- Hayek view
- Keynes view

in the context of rational individuals/firms, NPV projects > 0, political rent seeking, and markets in equilibrium

Answer 4

mainstream assumes everything standard (but that rent seeking is not important)

hayek assumes flawed NPV decisions, flawed rational utility, markets in disequilibrium, and believes in political rent seeking

keynes thinks behavioral economics explains everything, no political rent seeking, and markets in disequilibrium

Question 5

cherry picking in macro

Answer 5

selecting only certain data points or using and “adjusted figure” which is said to be more accurate but is really fudging the numbers

Question 6

‘forecasting is hard’ … provide 3 examples

Answer 6

labor econmics models are highly complex and capable, yet seem to always be off

Club of Rome prediction of the exhausting of natural resources was false

global horse maneur crisis was wrong… cars were inventedh

Question 7

cobweb cycles in the context of labor economics

Answer 7

engineering has low supply, demands more engineers with $$$$, more eng flock into industry

then supply fills so $$$ drops, eng flock out

once people flock out, demand rises again so $$$ goes up, eng flock back in

Question 8

what do people actually do in capital budgeting decisions in the real world vs. in the the context of this class

Answer 8

most firms please the CEO by cooking the assumptions to arrive at a project NPV OR they will use recency bias to do something that worked recently or use herding bias which is doing what other people are doing (that have done well)

the actual way to do it would be using complex data to back your assumptions and arrive at an accurate estimation … but capital budgeting is really a transcomputational problem with no way of knowing every input

Question 9

describe the contradiction between the Phillips Curve and the outcome of the 1970s oil embargo

Answer 9

the Phillips Curve states that there should not be high inflation and unemployment at the same time

but in the 1970s there was high inflation from the oil production cuts in the Middle East which hurt firms’ NPV outlooks / decisions and slowed hiring

… leading to both high unemply. and high inflation

Question 10

what’s Lucas’ Critique in Macro (not finance)

Answer 10

that when a country knows that a macro indicator is being used, they’ll juice it up and it no longer becomes useful

Question 11

peel back Keynes’ view on macro economics being driven by animal spirits

Answer 11

corporate CEOs decisions are entirely based no the animal spirits in the economy at the time and financial analysts jig the numbers depending on what they want to hear

capital budgeting is really a transcomputational problem which is never fully solved when making a decision, rather heuristics are used

CEO animal spirits rise –> aggregate inv. rises –> GDP rises
CEO animal spirits fall –> agg. inv. falls –> GDP falls

Question 12

issues with modern day monetary policy models

Answer 12

most monetary policy models today aim to maximize GDP growth among other things, yet they always spit out negative interest rates … this has been tried and tested but doesn’t actually benefit GDP like the models say they will

Question 13

what do banks do when monetary policy fails

Answer 13

they bend requirements so that banks can lend even more and allow for greater lending (hopefully GDP growth)

this boosts aggregate investment

banks put rates below zero in 2008 and this just led to an increase in asset prices, not actual GDP growth

Question 14

why do banks still have the highest debt capitalization ratios ?

Answer 14

in the MM proposition I capital structure doesn’t matter when there’s no taxes or costly bankruptcy costs …

banks essentially have no costly bankruptcy costs copmared to the average firm … so they don’t care about their debt capitalization … MAX IT OUT

Question 15

talk about how a government could increase G(t) to boost investment in the economy … Cook!

Answer 15

there are three ways to do it: fiscal, monetary or debt policy can be used

• fiscal is changing taxes to increase G
• monetary is printing money to raise G (this causes inflation)
• debt policy is issuing t-bills or t-bonds to raise G

Question 16

what’s crowding out in the context of monetary and debt policy

Answer 16

this is when the government prints money to pay off its debt, which then lowers prices of bonds, increases yields, and increases costs of debt for firms … then firms are less incentivized to invest which can lower agg. investment in the economy

Question 17

talk about the connection between LM curves and IS curves and how a move in M impacts both the rate (r) and Y (GDP)

Answer 17

the LM curve is non-linear, while the IS curve is linear

when you increase M, this pushes the L-M curve to the right which moves Y higher and the rate lower (as the IS curve is downward sloping)

However, when Y is very low, then increasing M doesn’t have the same effect since it’s a flat curve near the bottom (liquidity trap)

on the contrary, when you decrease M, Y (GDP) decreases and the rate increases (higher costs of capital and lower NPVs)

Question 18

liquidity trap

Answer 18

since the L-M curve is nonlinear, at low levels of Y (GDP output), increases in the money supply (which would move the L-M curve to the right and often increase GDP) don’t effectively work because they can’t increase the rate (r)

at low levels of GDP, the L-M curve becomes flat and so the rate stays low (close to zero) and can’t be pushed up by increasing M

Question 19

in the money demand formula (L), do Y and r rise together? … if so why or why not

Answer 19

yes, in the money demand equation, r always rises with Y when M is fixed

however, when M is not fixed, an increase in M will increase GDP (Y) and lower the rate

Question 20

monetarist macro (Milton Friedman): describe this economic school of thought

Answer 20

argues that monetary policy should be exclusively used to grow GDP over time

increasing M should always increase Y (in their theory) unless of course Y doesn’t increase enough to offset P …
this part relates to the Quantity Theory of Money: Q(t) = M(t) x v(t) where an increase in M would increase P if output stays constant

Question 21

talk about counters to monetarist macro views, specifically Neo-Keynesian views on using monetary policy as a tool to increase Y

Answer 21

Neo-Keynesians argue that it depends on what equilibrium you’re in

in a low level equilibrium (bad animal spirits), an increase in M would increase Y

but in a high level equilibrium (positive animal spirits), an increase in M would only increase P and cause inflation … thus an innovation is needed to increase the Solow residuals / total factor productivity

Question 22

talk about Neo-Keynsian views on the phillips curve

Answer 22

if unemployment is high, then increasing M would increase real output (Q or Y)

but if unemployment is low then increasing M would just increase P even more and not increase Q or Y

this relates to the phillips curve

Question 23

what’s the contradiction to the phillips curve?

Answer 23

the 1970s oil embargo was a period of high inflation and high unemployment because high oil prices spiked inflation and this lowered firms’ NPV forecasts, causing higher unemployment

the gov tried to increase M to stop it but it didn’t work, instead inflation was so strong that it acted like a fiscal policy tax on the economy which caused a (hidden recession)

Question 24

how does inflation act like a tax, explain this through reference to the 1970s oil embargo

Answer 24

consumers faced higher costs, just like higher GST

firms faced higher costs and couldn’t use tax deductions like depreciation or debt tax reductions that would typically counter some of it

governments saw lower real returns on their bonds from inflation and this reduced their PV of bonds

acts like a hidden piece of fiscal policy

Question 25

what is Ricardian Equivalence

Answer 25

rational people see through governments

all future government spending not paid for by tax is inflationary