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USC ECON 205 - Central Bank Policy and Malaysia's Income Convergence

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ECON 205 2nd Edition Lecture 13 Outline of Last Lecture Income Convergence of India and the United StatesOutline of Current LectureI. Writing Papers (instructions and how-to)II. A Central Bank’s RoleIII. The Federal Reserve Continueda. How the Federal Reserve Manipulates the Marketsb. Interest Rates and Federal Reserve Controlc. In-depth treatment of Fed’s GoalsIV. Income Convergence of Malaysia and the United StatesCurrent LectureI. Writing Papers (instructions and how-to)For those writing papers on convergence or any other topic: papers should be around seven pages, or a few pages within that margin. First, have an introduction introducing the problem discussed (i.e. China or India’s income convergence, social issues, etc.) Second, make graphs to chart the per capita income of your country of choice versus the per capita income of the United States. One graph should represent the per capita income (PCI) of your country over time versus the PCI of the United States; the second should represent the level, the ratio/slope of the growth of the PCI of both countries over time. II. A Central Bank’s RoleEvery country in the world has a central bank. The central bank plays a huge role in the monetary aspect of the country’s economy; in terms of economic development and growth, the monetary aspect is probably the most important.III. The Federal Reserve ContinuedThe Federal Reserve system is the central bank of the United States; there are twelve regional federal reserve banks and the federal reserve board in Washington D.C. The goals of the Fed are economic stability, low and stable inflation, low unemployment, and rapid economic growth, a stable exchange rate for currency, coordination with fiscal policy, central bank independence, and determining short-term investments.IIIa. How the Federal Reserve Manipulates the MarketsOpen market operations practiced by the Fed—like the buying and selling of government bonds—alter the economy; selling bonds helps stimulate a low economy, while overheating makes them buy government bonds. Another way they change the economy is by changing the fractional reserve requirements, which means banks are supposed to keep a fraction of their deposits.IIIb. Interest Rates and Federal Reserve Control The Federal Fund Rate is the lowest interest rate in the United States. The second interest rate that the Fed establishes is the discount rate; it is the rate the Fed Reserve bank charges whenever a commercial bank borrows money from the Fed. Whenever a commercial bank’s fractional reserves falls below the necessary margin, they have to borrow money from other banks or the Fed.The Fed controls the short-term rates of interest; however, the long-term rate is determined by the supply and demand in the market. Certain big items are sponsored by selective controls, like the rate needed to be put down for items like cars and homes. IIIc. In-depth treatment of Fed’s goalsIn terms of economic growth, anything over 2% is very good, because our long-term average is 1.9%. If we have for instance 4% growth, we would have lower unemployment overall. Secondly, coordination with fiscal policy means the Federal Reserve needs to work with the government fiscal policy in order to stabilize the economy. By influencing fiscal policy, we can either have a surplus or a deficit—usually a deficit—and monetary policy can help assuage somedebt concerns.The third goal, central bank independence is that all central banks try to maintain independent connections to the government; while in other nations the Central Bank is part of the government, the Fed in the United States is completely autonomous of the administration.IV. Guest Presentation: Income Convergence of Malaysia and the United StatesMalaysia is the 67th ranked country by area, with a population of 28 million. It’s capital and largest city is Kuala Lumpur, and is a majority-Muslim parliamentary democracy. It is multiethnicand multilingual, having gained independence from Britain in 1957 and settled into current borders by 1965. It is the third richest and largest economy in Southeast Asia, and is a “newly” industrialized nation. Currently, Malaysia is 30% as rich as the United States in per capita GDP.To find the exact catch-up time, pick a time period—say 1980-2010. Calculate the growth rate ofMalaysia and the growth rate of the United States.G(US) = (US GDP of 2010)/(GDP in 1980)*1/30 – 1 = 1.7%Suppose at year T*, Malaysia will catch up with the US. Then the GDP per capita of the US at T* will equal the GDP per capita of Malaysia at T*.• US GDP in 2010 x (1+growth rate of the United State)^T*-2010 = Malaysia GDP in 2010 * (1+ growth rate of Malaysia)^T*-2010Taking the natural log of both sides gives a T* of 2080.To graphically figure out the data, extrapolate the slope of each function per year.Issues that Malaysia faces are not severe, and basic socioeconomic measures are rather good. It’s GINI coefficient is comparable to the United States, its Human Development Index is considered rather high, at 0.76, it has a high literacy rate, and universal public healthcare.Issues however it faces are corruption (60th in the world), an increasingly outspoken demand for civil liberties, political freedom, press freedom, and the rule of the law, a competitiveness with other countries coupled with brain drain, and an overreliance on petroleum in federal


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