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Sy RICE ECON 203: Macroeconomics PROBLEM SET #4 Name: _|.AWA VANLAAS Section: __| Problem Sets Page 1 Problem Set #4 Name:_|.AWA VANUgad ECON 203- Dr. Amelie Benear Carlton Multiple Choice (1 point each) Identifv the choice that best completes the statement or answers the question. d 1. Which of the following is the mission of the Federal Reserve Bank? i, Preserve price stability Ls tow & aTavLL pricet ii. Foster economic growth and employment Ai empoymurr iii. Ensure taxes are fair & ionly iand ii A. ti only A. iand iii g&. iiionly ZA 2. An implication of sticky inflation is that, through monetary policy changes, the Federal Reserve: can alter the real interest rate in the long run lee Ret Te 1 NoMINAl poloy onangcl Me can alter the real interest rate in the short run Nominal Yorce Winch onanags TUL real YACR has no impact on the real interest rate has no impact on the unemployment rate C 3. Economists who study monetary policy believe that it takes anywhere from for monetary policy to have a substantial effect on economic activity. a. 3 to 6 weeks d. 3to6 months b. 6 to 18 days e. 6to 18 weeks ( 6 to 18 months A 4. With adaptive expectations, the Phillips curve can be written as: (a) Ax, =F a Ax, = Vu, oe An, = m+ PY, Bo Ry = yy A Am=v¥, Moraes HR Many Wupyly . i, 5. When the Federal Reserve loosens money, the money and interest rates supply curve shifts right; rise supply curve shifts right; fall demand curve shifts right; rise demand curve shifts left; rise supply and demand curves do not change; rise ed Problem Sets Page 2 Short Answer - Please write the answer in the SPACE PROVIDED. You must show your work in order to receive full credit! 1. (20 points) Monetary Policy: Through monetary and fiscal policy, the government has tools at its disposal to influence the state of the economy. a. (5 PTS) Congress established the statutory objectives for monetary policy in the Federal Reserve Act. What are the Federal Reserve’s objectives in conducting monetary policy? Te teawal rerewes ovyecriver in Conavcrma moneroiny polcy arc yromeTmng tu meng T, dA prices, k Modwan 1ONg TU) WCET yore. Ny Wee 47. Wee 27. b. (5 PTS) What is the main way in which central banks affect the money supply? If the Fed wishes to reduce the money supply and raise the nominal interest rate, what would it do? How does the interest rate adjust? Explain using words. TUL f@1 WOUIOL Vik Open Marker openorons . TO VEduce Me mony Wyppiy, “he Fed mutt von vp We donavs. Te fed VOAKE w Ue clovare wy NauING WooitATWy JIN. Thuetove, In Mme strony mare, ML VUppIY ot D-vIIly Mereaies whiting AML twill Supply Cove TO “me Ngnt: TW nignrwava Mitt 1eaols ThA deca IN Te pena Price oF Cowie goet down. Wing “ML PYM tamuA, TM ALUEAL IN pwonae price WOOK tH A QlemmeY alittereNce compatca 0 te ‘acl yawe, Iea01Ing TL A NiQney Yicid (iMtereet vote). “FAL “ne fea fas vorth MOEA, oY Inter Ya INTL EEMOMY AWD NK. c. (5 PTS) What is the Discount Yield Formula? Define each variable. YYM = face vawe - ponau prick | SwO tance vawe no Gayl TH maTIiTY UiVallY a\ Aa d. (5 PTS) Ifthe Purchase Price of a security decreases, will the yield increase or decrease according to the DYM? HM pwOMAL pYICL of A NEOUITTY CCUICALLT, THe yicLd Wl IncreAL. Problem Sets Page 4 2. (20 PTS) Monetary Policy: The Federal Reserve exercises monetary policy by means of a very short-term, overnight nominal interest rate. a. (5 pts) What is the target range for the Federal Funds Rate as of March 18-19, 2025? (Hint: the answer is not available in your textbook) 4.267. t) 4.50 7. b. (5 pts) The FOMC met and announced the decision on the Federal Fund Rate target on March 18-19. What is the federal funds rate target for March 19? (Hint: the answer is not available in your textbook) ML Yangg Wh Ae vaML , 4.267. to 4.607. c. (5 pts) Based on you answer in part (b), indicate whether the Federal Reserved raised, lowered or left rates unchanged after the FOMC Meeting announcement on March 18- 19? The FEA Ut the vores unonanasd . d. (5 pts) In order to achieve the Federal Funds rate target announced over spring break, answer the following questions: Would the money supply increase, decrease, or remain the same? “TL MONLY cuPAY Would Nave TH cay +e vane. Problem Sets Page 5 4. (10 pts) Article: Read John Taylor, “Discretion versus Policy Rules in Practice.” Carnegie- Rochester Conference Series on Public Policy, vol. 39 (1993), pp. 195-214. You may access the paper on the course website in Canvas. a. (5pts) Please write down the policy rule equation from his paper. Identify all the components. Y= prt 05y + 0S (p-2 +2 teawal an oF iINfiaTION PULUTAAL aaron mat NEY ML previous OF eal toe tom Vorce 4 quvaves Tavagr (snore wn owpvr) b. (5 pts) How is the equation from the paper similar to the monetary policy rule that includes short-run output in the textbook? TTALY ove “me vnML mn CMS “RT ney vo Yelyond 1 Comarons IN Memon tom Tre THrgET. Thyiors wu auto meer an adomanal pooner” (A) along win snort wn oorpur, ANNI, he WR TD ANO yet~nd tH devoTON pr anpuT TIM poUITIAL. “TW adorrnal retyoniL means sna TM ‘ayloy ML Nat a qemu Onanqe In yee. Problem Sets Page 7 5. (20 pts) Federal Funds Rate Exercise- This exercise examines how well the predicted Federal Funds rate (FFR, henceforth) from the “Taylor Rule” matches the actual FFR. We compare two versions of the Taylor Rule with the actual FFR. Please open the Excel file named “ECON203_PS4_ DataSet.xls’. You should fill in the blanks and draw a graph of the FFRs by using Excel. The Data File contains annual data on real GDP, short-run GDP, GDP deflator, and FFRfrom 1960 to 2012. The purpose of this exercise is to see whether monetary policy following the Taylor rule produces an accurate picture of the FFR. a. b. (5 pts) Fill in blanks in the “Inflation rate” column in units of percent (%). You can use data on the GDP deflator to calculate the annual inflation rate as: _ GDPDeflator, -GDPDeflator, , - GDPDeflator,_, x 100% t (5 pts) Suppose our monetary policy rule is given by the simple version of the Taylor Rule: R f= m(a, —7t) where r= 2%, m=1/ 2, and T= 2%. Derive the algebraic formula for the nominal interest rate i; in terms of exogenous variables and 7, by using the Fisher Equation. We will call this rule “method (1)”. Fill in blanks in the column of “Predicted FFR by method (1)” using this policy rule. This policy rile indicates the Fed should change the interest rate only after a softening/booming economy has affected inflation. (5 pts) Now suppose our monetary policy rule is given by the version of the Taylor Rule: R,-F =a, -7)+AY, where 7 = 2%, m=n=1/2, and t= 2%. Here Y, is short-run GDP. Derive the formula for the nominal interest rate i, in terms of exogenous variables, Derive the algebraic formula for the nominal interest rate i; in terms of exogenous variables, 7, and Y,. We will call this rule “method (2)”. Fill in blanks in the column of “Predicted FFR by method (2)” using this policy rule. This policy rule says that the Fed should respond directly to short-run output. If the economy goes into a recession, this rule dictates a lowering of interest rates to stimulate the economy. (5 pts) Plot the actual FFR and the two versions of the predicted FFR in one graph. Do the two versions of the predicted FFR match the actual one well in general? Which version of the Taylor Rule gives a more accurate picture during the recent financial crisis (2007-2009)? In other words, did the Fed respond to short-run output when making monetary policy decisions during the last financial crisis? They wept inter vores EXTON 1 AetyIR Yo IML Vimy m POley YUL kL Toyloy Me voYING iNELIEET voTAS sMovi ve Nigney. Problem Sets Page 8 
