ECON 2410.01 Final Exam
TBA
- The Final Exam questions will be similar in format to those found in
your textbook, the Midterm Exam, the MyLab Homework
Assignments and will be based on Chapters 1, 2, 3, 4, 5, 6, 7, 8, 9
of the class notes or Chapters 10, 1, 2, 3, 4, 5, 6, 17, 18, 19 of
the U.S. 8th edition textbook.
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Expected Format
- (40-50) Multiple Choice Questions (40%)
- (1-2) Quantitative Exercise(s) (30%)
- (1-2) Short Answer Question(s) (30%)
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Course Content
PART 1
Introduction
Chapter 1
The Long Run
(Blanchard, 8th U.S. edition, Chapter 10)
Chapter 2
Measurement
(Blanchard, 8th U.S. Edition, Chapters 1 & 2)
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PART 2
The Short Run
Chapter 3
The Goods Market
(Blanchard, 8th U.S. Edition, Chapter 3)
Chapter 4
Financial Markets I
(Blanchard, 8th U.S. Edition, Chapter 4)
Chapter 5
The IS-LM Model
(Blanchard, 8th U.S. Edition, Chapter 5)
Chapter 6
Financial Markets II
(Blanchard, 8th U.S. Edition, Chapter 6)
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Chapter 7
Openness in Goods and Financial Markets
(Blanchard, 8th U.S. Edition, Chapter 17)
Chapter 8
The Goods Market in an Open Economy
(Blanchard, 8th U.S. Edition, Chapter 18)
Chapter 9
Output, the Interest Rate, and the
Exchange Rate
(Blanchard, 8th U.S. Edition, Chapter 19)
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Review
1. Key Concepts (Last 4 Chapters)
- Risk Premium.
- Aggregate Domestic Demand Schedule (DD).
- Aggregate Domestic Demand for Domestic Goods Schedule
(AA).
- Aggregate Demand for Domestic Goods Schedule (ZZ).
- Trade Balance (Trade Surplus and Trade Deficit).
- J-Curve.
- Marshall-Lerner condition.
- Money (Supply and demand).
- Multiplier (Fiscal).
- Bond.
- Interest rate (Real, Nominal)
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- Uncovered interest parity condition.
- Exchange rate (Nominal, Real, Expected)
- Equilibrium (Goods Market, Financial Markets, Foreign Exchange
Market)
- Exchange rate regimes (Flexible vs Fixed).
- Open Market Operations (Expansionary vs Contractionary).
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2. Key Models
- The Malthusian Model.
- The IS-LM Model (Regular and Extended).
- The Mundell-Fleming Model (IS-LM-UIP).
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3. Key Results
- Fiscal Policy (open vs closed economy).
- Monetary Policy (open vs closed economy).
- Policy Mix.
- Exchange rate policy.
- Short-Run Dynamics.
- Changes in Consumer and Business Confidence.
- Changes in foreign output and/or foreign interest rate.
- Changes in the expected exchange rate.
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Chapter 6
Financial Markets II: The
Extended IS-LM Model
- Let us extend the IS-LM model to reflect the distinction between:
i) The nominal interest rate and the real interest rate
ii) The policy rate set by the central bank and the interest rates
faced by borrowers
- The extended IS-LM model is:
where i - πe + x is the real borrowing rate and i the nominal policy
rate.
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Chapter 7
Openness in Goods and
Financial Markets
- Both domestic and foreign bonds are held if they offer the same
expected returns:
æ E ö
1 + i = (1 + i ) ç
÷
èE ø
t
*
t
t
e
t +1
- A good approximation of the equation above is given by:
-E
E
i »i e
*
t
t
t +1
t
E
t
- Arbitrage implies that the domestic interest rate is approximately
equal to the foreign interest rate minus the expected appreciation
(depreciation) rate of the domestic (foreign) currency.
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Chapter 8
The Goods Market in an Open
Economy
Fiscal Policies:
- An increase in government spending leads to an increase in both
the domestic output and the trade deficit.
- A decrease in government spending leads to an decrease in both
the domestic output and the trade deficit.
Exchange Rate Policies:
- A real depreciation leads to both an increase in domestic output
and a decrease in the trade deficit.
- A real appreciation leads to both an decrease in domestic output
and an increase in the trade deficit:
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The Effects of Fiscal and Exchange Rate Policy
Shift of NX
Movement
in Domestic
Output
(Net Effects)
Trade Balance
Shift of ZZ
(Direct Effects)
(Direct Effects)
(Net Effects)
Increase in Taxes
Down
None
Decrease
Improves
Decrease in Taxes
Up
None
Increase
Worsens
Increase in Spending
Up
None
Increase
Worsens
Decrease in Spending
Down
None
Decrease
Improves
Real Appreciation
Down
Down
Decrease
Worsens
Real Depreciation
Up
Up
Increase
Improves
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Chapter 9
Output, the Interest Rate, and
the Exchange Rate
Firms
Investment
Demand (I)
Output Supply
(
Y s)
Exchange
Rate (E)
The Goods Market
(IS relation)
Output/
Income
(Y)
Consumption
Demand (C)
Spendings (G)
Government
=
Households
Taxes –
Transfers (T)
Money Demand
( M d)
Money Market
(LM relation)
Interest
Rate (i)
Foreign
Exchange
Market
(UIP
relation)
Interest
Rate (i)
Money Supply (M)
Central Bank
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Recommended Textbook Problems
Problems 2, 5, 8, 9 p 129-131
Problems 1, 3, 8, p 372-374
Problems 5, 6, 7, 8 p 392-393
Problems 2, 3, 4, 5, 6, 7 p 413-414
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Problem 8 Page 393
(Policy coordination and the world economy)
Consider an open economy characterized by the equations below:
C = 10 + 0.8(Y - T )
I = 10
G = 10
T = 10
IM = 0.3Y
X = 0.3Y
*
a. Solve for the equilibrium output in the domestic economy given Y *.
What is the multiplier in this economy? If we were to close the economy
so exports and imports were identically equal to zero, what would the
multiplier be? Why would the multiplier be different in a closed
economy?
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a. The equilibrium in the goods market is:
Y = C + I + G + X – IM
Y = 10 + 0.8(Y - 10) + 10 + G + 0.3Y*- 0.3Y
Y = [1/(1 - 0.8 + 0.3)](12 + G + 0.3Y*)
Y = 2(12 + G + 0.3Y*)
Y = 24 + 2G + 0.6Y*
Y = 44 + 0.6Y*
- When foreign output is fixed, the multiplier is:
2 =1/(1-0.8+0.3)
- The closed economy multiplier is:
5 =1/(1-0.8)
- In the open economy, some of an increase in autonomous
expenditure falls on foreign goods, so the multiplier is smaller.
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b. Assume that the foreign economy is characterized by the same
equations as the domestic economy (with asterisks reversed). Solve for
the equilibrium of each country. What is the multiplier for each
country now? Why it is different from the open economy multiplier in
part (a)?
b. Since the countries are identical:
Y = 44 + 0.6Y*
and
Y*= 44 + 0.6Y
- Therefore:
Y=Y*=110
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- Taking into account the endogeneity of foreign income:
Y = 24 + 2G + 0.6Y*
Y *= 44 + 0.6Y
Y = 24 + 2G + 0.6(44 + 0.6Y)
(1-0.36)Y = 50.4+ 2G
Y = 78.75+ 3.125G
- Therefore, the multiplier is equal to:
3.125
- The multiplier is higher than the open economy multiplier in part
(a) because it takes into account the fact that an increase in domestic
income leads to an increase in foreign income (as a result of an
increase in domestic imports of foreign goods). The increase in
foreign income leads to an increase in domestic exports.
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c. Assume that the domestic government has a target level of output
of 125. Assume that the foreign government does not change
spending, what is the increase in G necessary to achieve the target
output in the domestic economy? Solve for net exports and the
budget deficit in each country.
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If Y=125, then Y*=44+0.6(125)=119.
If Y=2(12+G+0.3Y*) then: 125=24+2G+0.6(119)
Therefore: G=14.8.
In the domestic economy:
NX=0.3(119)-0.3(125)=-1.8 and T-G=10-14.8=-4.8.
In the foreign economy:
NX*=1.8 and T*-G*=0.
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d. Suppose each government has a target level of output of 125 and
that each government increases government spending by the same
amount. What is the common increase in G and G* necessary to achieve
the target output in both economy? Solve for net exports and the
budget deficit in each country.
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If Y=Y*=125, then 125=24+2G+0.6(125)
Therefore G=G*=13.
In both countries:
Net exports are zero
The budget deficit is 3.
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e. Why is fiscal coordination (d) difficult to achieve in practice?
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In part, fiscal coordination is difficult to achieve because of the
benefits of doing nothing and waiting for another economy to undertake
a fiscal expansion, as indicated from part (c).
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