Final Exam Review Macroeconomics Econ EB222 Fall 2012 Inst. Shan A. Garib Mohawk College.

Final Exam ReviewMacroeconomics

Econ EB222 Fall 2012

Inst Shan A GaribMohawk College

Final Exam Macroeconomics

Date Friday December 14th 2012Time 1100am ndash 200pm

In-Class

Review ALL Quizzes given in class

Consumption Investment and Consumption Investment and the Multiplier Chapter 9the Multiplier Chapter 9

Consumption Consumption (Continued)(Continued)

bull The consumption functions statesndashAs income rises consumption (C)

rises but not as quicklyIncome = Consuption + Saving + taxes

Y = C + S + t and Disposible Income = Consuption + Saving

Yd = C + S or Yd = Y - tTherefore consumption varies with disposable income (DI)

Marginal Propensityto Consume (MPC)

MPC = in Consumption

in Income

CHANGECHANGE

CHANGECHANGE

45

$1000

$1000

$6000

$6000

C

$6000

5700

$6000

Saving = $300

$2700

$3000

Dissaving = $300

$2700

Saving = - $300

At a YGDP0 = $10000bn consumption (C0) is $8600 bn The MPC = 025 At a Y GDP1 of $9000bn how much would be saved (Assume there is no taxes in the economy)

Since there are no taxes disposable income (DI) = (YGDP) ChngC = MPC x ChngDI

ChngDI = $10000bn - $9000bn = $1000bn

ChngC = 025 x -$1000bn = -$250bn

Since C0 was $8600bn the ChngC of -$250bn will bring consumption down to C1 = $8350bn (= $8600bn - $250bn)

If S = DI ndash C1

At a national income of $9000bn(S) = $9000bn of DI - $8350bn of C = $550bn

RememberChngC = MPC x ChngDI

If MPC = 050 ChngDI +$50000 ChngC = 050 x $50000bn = $25000

If C0 $25000 with ChngC = $25000 C1 = $25000 + $25000 = $50000

10

Fiscal Policy and the Public Debt

Chapter 10amp11 Instructor Shan A Garib Fall 2012

Expansionary fiscal policybull If budget is initially balanced moves it towards

a budget deficit during recessionbull Increased government spending (G) andor

lower taxesbull Aim to stimulate economic activity and to move

the economy out of a recession

bP2

LRAS

Pric

e Le

vel

P1

Y2

AD1

AD2

Y1

c

SRAS

bP2

LRAS

Pric

e Le

vel

P1

AD1

AD2

c

SRAS1

Y1

d

SRAS2

Higher P and wages costs SRAS shift left

Contractionary fiscal policybull If budget is initially balanced moves it towards

a budget surplus during an inflationary periodbull Decreased government spending andor

higher taxesbull Aim to control demand and reduce

demand-pull inflation

cP2

LRAS

Pric

e Le

vel

P1

AD2

AD1

b

SRAS

cP2

LRAS

Pric

e Le

vel

P1

AD2

AD1d

SRAS2

Y2 Y1

b

SRAS1

Lower P and wages costs SRAS shift right

Government Budgets and Financesbull Governmentrsquos budget balance is amount of revenue it

recieves minus its spending

Balanced budget is whenRevenues = Spending

0 = Revenue ndash SpendingBudget Surplus is when

Revenues gt Spending0 gt Revenue ndash Spending

Budget Deficit is whenRevenues lt Spending

0 lt Revenue ndash Spending

14

Money and the Banking SystemChapter 12

Instructor Shan A Garib Fall 2012

Defining Money (contd)

bull The transactions approach tomeasuring money M1

1048707 Currency1048707 Checkable (transaction) deposits1048707 Travelerrsquos checks not issued by banks

Defining Money (contd)

bull The liquidity approach M2 is equal toM1 plus1 Savings and small denominationtime deposits2 Balances in retail money marketmutual funds3 MMDAs

17

Money Creation and Deposit Insurance

Chapter 13 Instructor Shan A Garib Fall 2012

bull Reserves

ndash deposits held by BOC for chartered banks like BMO plus their vault cash

Reserves

Reserves

bull Legal Reserves

ndash Anything that the law permits banks to claim as reservesmdashfor example deposits held at BofC and vault cash

Reserves

bull Required Reserves

ndash The value of reserves that a depository institution must hold in the form of vault cash or deposits with the BofC

Reserves

bull Required Reserve Ratio

ndash The percentage of total transactions deposits that the Fed requires depository institutions to hold in the form of vault cash or deposits with the Fed

Required reserves = Demand deposits Required reserve ratio (M)

Reserves

bull Excess Reserves

ndash The difference between legal reserves and required reserves

Excess reserves = Legal reserves ndash Required reserves

The Money Multiplier (contd)

Actual changein the money

supply= Actual money

multiplierChange in

total reserves

Potential money multiplier = 1

Required reserve ratio

The Money Multiplier (contd)

bull Example

ndash Fed buys $100000 of government securities

ndash Reserve ratio = 10

Potential changein the money

supply= $100000 = $1000000x

1

10

The Bank of Canada purchases $10000 of Canadian government bonds on the open market directly from Scotia Bank If the required reserve ratio (m) is 25 then the maximum potential change in the money supply as a result of the open market operation will be All $10000 of these new reserves are excess reserves because

Required Reserves = M x Demand Deposits

and there has been no change in demand deposits so

Required Reserves = 25 x 0 = 0 Therefore

Excess reserves = Reserves of $10000 - Required Reserves of 0 = $10000

Resultant change in the money supply

= 1m x initial change in excess reserves

= (125) x $10000 = 4 x $10000 = $40000

BMO has $160 million of reserves The M 20 The Bank of Canada then lowers M to 16 How much can RBC lend out BMO is ALL LOANED UP ie it cannot make any additional loans so it has 0 excess reserves

Excess Reserves = Reserves - Required Reserves

Since excess reserves = 0 then

reserves = required reserves = $160 million

Required Reserves = M x Demand Deposits

$160 million = 20 x Demand Deposits

$160 million20 = Demand Deposits

$800 million = Demand Deposits By lowering the required reserve ratio to 16 required reserves will be reduced and excess reserves will increase as some required reserves are converted into excess reserves Now

Required Reserves = 16 x $800 million = 16 x $800 million

= $128 million Excess Reserves = Reserves - Required Reserves = $160 million - $128 million = $32 million the amount BMO may now lend out

1997s money GDP was $8320 billion 1997s price level index was 1020 In 1997 to 2001 what is the real GDP 1997s real GDP

Real GDP = (Money GDPPrice Level Index) x 100

Real GDP for 1997 = ($8320 billion1020) x 100 = $8157 billion x 100

= $8157 billion