Econ review Test 3 CH 11 Fiscal policy John Maynard Keynes PAE o C I NX G Consumptiom o General Theory of Employment Interest and Money Planned investment determined by inventory Surplus plus planned investment o Purchases of goods services and consumer durables o Disposable income Y T o C C mpc Y T Short run equilibrium o Where Y PAE Keynesian cross Induced expenditure portion of spending that is dependent on output Autonomous expenditure portion independent of output F is c al policy o Changes how money is spent Automatic stabilizers policy that goes into effect automatically built into laws Unemployment compensation Monetary policy o Changes money supply CH 12 Monetary policy Federal Reserve Act o Began in 1914 o Established 12 regional banks o Federal Reseve Organization o Board of governors National level 7 governors 14 year terms o Federal Open Market Committee FOMC set monetary policy and review economic condition 12 members meeting 8 times a year Banking panic people are scared that a bank is going bankrupt everyone rushes to withdraw their funds Deposit Insurance o Depositers will not lose any money even if banks go bankrupt Federal Funds rate o Rate banks charge each other on loans In order to decrease Fed conducts open market purchases reserves increase Portfolio allocation decision decision about what form to hold your wealth Money demand curve relates quantity of money demanded to interest rates Supply of money o Money supply is vertical line on graph o Increasing money supply lowers interest rates Bonds o o o Used to increase decrease money supply Inversely related to interest rate Discount window lending o Fed lends money to banks Discount rate rate at which fed charges banks to borrow Reserve requirement o Minimum percentage of bank deposits that must be held in reserves CH 13 AD AS diagram increase AD slopes downward because as inflation decreases spending and output AS slopes upward because actual inflation is related to the gap between actual output and potential output When output is below potential actual inflation is below expected inflation and when output is above potential actual inflation is above expected inflation Inflation rates and interest rates are positively correlated o High inflation rate Fed sets high interest rate less spending more saving Y LRAS Aggregate demand curve Aggregate supply o Shows relationship between planned spending and inflation rate o Shows relationship between level of output firms want to produce and inflation Demand shocks o changes in planned spending not caused by change in output or inflation rate consumer confidence business confidence new technologies Monetary policy affects money supply and interest rate Fiscal policy increases govt spending or decrease taxes changes only aggregate demand Shifts in AS curve o Changes in available resources o Changes in inflation expectations o Inflation shocks Shifts in AD curve o Demand shocks o Changes in fiscal monetary policy Whether stabilization policies are implemented or not depends on speed of self correction Anchored inflationary rates peoples expectations of future inflation do not change even if inflation rises temporarily Factors that affect credibility of monetary policy o Independence o Reputation of fighting inflattion o Announcement of inflation targets Credibility of monetary policy to what extent the public believes the central bank will keep inflation low Inflation hawk someone committed to keeping inflation rates low Inflation dove not committed to maintaining low inflation rates Supply side policy policy effecting potential output o Ex Building better highway systems Marginal Tax rates tax paid on an additional dollar of income if you make one more dollar how much of it would be taxed Average tax rate total taxes divded by income CH 14 Inside lag date between when a policy is needed and when it is implemented Outside lag date between when a policy is implemented and when most of it s effects have taken place