Macro: Homework #1
See Liquidity Trap – NY Fed in the articles folder
1.
What do economists mean by the term “liquidity trap”?
a. What is the equilibrium interest rate in a “trap”?
b. How does that affect investment, GDP and unemployment under the traditional
Keynesian model?
c. Is monetary policy, i.e., increasing the money supply, effective when the economy is in a
liquidity trap (and using a Keynesian model)? Why or why not?
2. How do the economists at the NY Fed say that expectations about future monetary policy can
affect the economy? That is, suppose that the economy has been using stimulative monetary
policy to keep interest rates low during a recession and, as the economy begins to recover, the
Federal Reserve Bank is expected to tighten the money supply. How would this anticipated
policy change affect the effectiveness of current “easy” (or “accommodative”, or “quantitative
easing) monetary policy? (See page 3 – between equations 2 and 3)