1996 Macro Free Response

1.    Suppose the following conditions describe the current state of the United States economy.

• Real gross domestic product is growing at the rate of 3 percent
• The inflation rate is 9 percent
• The unemployment rate is 4.5 percent

(a)    Identify the main problem this economy faces

(b)    Assume the Federal Reserve decides to remedy the conditions described above by engaging in open-market operations.  Describe the action the Federal Reserve would take.  Using the aggregate demand-aggregate supply model, analyze the impact of this policy on each of the following.

(i)    The interest interest rate
(ii)    Output and employment
(iii)    The price level

(c)    Identify one limitation on the effectiveness of the monetary policy undertaken in (b).

(d)    Now assume instead that Congress votes to increase personal income taxes.  Using aggregate demand-aggregate supply analysis, explain what effect this policy will have on each of the following.

(i)    Output and employment
(ii)   The price level
(iii)  The interest rate

(e)    Identify one limitation on the effectiveness of the fiscal policy undertaken in (d).

Answer to #1

2.  

Exchange Rates
Year	Dollar	Yen	Franc	Mark
1	1	350	4.0	1.8
2	1	350	5.8	2.3

(a)    Given the change in the value of the dollar between year 1 and year 2, as indicated in the table above, describe the effects this will have on United States tourism overseas.

(b)    Using an aggregate supply and aggregate demand graph, explain the impact of the change in the value of the dollar on the price and output levels in the United States.

(c)    Explain what impact the change in the value of the dollar will have on the United States balance of trade.

Answer to #2

3.   A stranger arrives from outside a given economic system with $1,000 of acceptable currency that has never been in the system before.  The nation's banking system is governed by a central bank that has set a reserve requirement of 10 percent.

(a)    Assume the stranger deposits the $1,000 in a local bank.  Explain the impact of this deposit on each of the following:.

(i)    The change in the dollar value of the local bank's reserves.
(ii)    The maximum possible change in the dollar value of the local bank's loans.
(iii)    The maximum possible change in the dollar value of the total money supply.

(b)    State TWO factors in the real world that might cause this change in the money supply to be less than the maximum possible change.

Answer to #3