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Assume flexible exchange rates. What are the consequences for the domestic economy?

**a. There will be a recession. b. There will be a boom. c. Income won't change. d. No answer possible.
**

Suppose there is a financial crisis in the domestic capital market. The rest of the world is not affected. Assume flexible exchange rates. What are the consequences for the domestic economy?

**a. There will be a recession. b. There will be a boom. c. Income won't change. d. No answer possible.
**

Suppose there is a global financial crisis that affects both the domestic capital market and the capital market in the rest of the world. Assume fixed exchange rates. What are the consequences for the domestic economy?

**a. There will be a recession. b. There will be a boom. c. Income won't change. d. No answer possible.
**

Suppose there is a global financial crisis that affects both the domestic money market and the money market in the rest of the world. Assume flexible exchange rates. What are the consequences for the domestic economy?

c. The equilibrium of the goods market can be described by (1) Y = C(Y. The domestic capital market is not affected. A strong elasticity of exports with respect to foreign income.IM(R. There will be a boom. c. A strong elasticity of net exports with respect to the real exchange rate.Y) and the money market equilibrium by (2) M = L(r. What are the consequences for the domestic economy? a. . Assume fixed exchange rates. A strong elasticity of imports with respect to domestic income. No answer possible. d. 2) Theoretical implications of risk premia (12 points) Consider a small.T) + I(iC ) + G + EX(R. First-order derivatives are as postulated in Gärtner and Jung (2011). The economy is in its long-run equilibrium. There will be a recession. b. The rest of the world is not affected. b. RP M and RPC are the risk premia charged in the money and the capital market.Suppose there is a financial crisis in the domestic money market. What might be the reason that there is a domestic recession? a. r denotes the return that households expect when they deposit their money at a bank. Income won't change. The domestic economy is caught in a liquidity trap. Suppose there is a financial crisis that affects only the capital market in the rest of the world. Assume fixed exchange rates.Y) The equilibrium condition for the foreign exchange market is (3) i = iW In addition we have (4) iC = i+RPC (5) r = i-RPM where i denotes the interest rate in the money market and i C denotes the interest rate in the capital market. d. open economy with fixed exchange rates. respectively.YW) .

Hence. RPC. Which of the following equations describes dY? Note: Variables with subscripted letters denote partial derivatives (except RP M. dY = CYdY + CT dT + Iic diw + dG + (EXR-IMR)dR + EXYwdYw dY = Y diw + Y dRPM + (EX-IM)dG dY = (CT-IMT )dY + CY dT + Iic (diw+dRPc) + dG + (EXR-IMR)dR + EXYwdYw dY = Y diw dY = (CY-IMY )dY + CT dT + Iic (diw+dRPc) + dG + (EXR-IMR)dR + EXYwdYw Which of the following equations describes dM? dM = M diW . CY is the partial derivative of the consumption function with respect to income. iC).Substitute equations (3).dRPM + LYdY dM = Lr (diW-dRPM)+LYdY + (EXY . (4) and (5) into (1) and (2) and compute the total differentials dY and dM.IMY)dY dM = Lr (diW-dRPM)+LYdY dM = Lr diW dM = dY Which of the following variables are endogeneous in this setting? R IM iW Y RPM C .

Now.y) = 0 that. Which of the following expressions corresponds to the result? Hint: One possible way to find the solution is the implicit function theorem that has already been discussed in the lecture (see the slides).ch/xercises/crisis. possibly. Assume the following values for exogenous variables and coefficients: .(Lr iWRPC) / (-Lr) > 0 You can check your analytical result with the help of the online applet An interactive primer on the macroeconomics of financial crises (www. dY = dR>0 dY = IiC / (1-CY+IMY) . please round your results as usual to 2 decimals. cannot be solved for either x nor y. Use the default settings of the applet shown in step 5 and fix exchange rates.M Calculate an analytical expression that describes the consequences of an increase of the risk premium in the domestic capital market on income. determine domestic equilibrium income if households expect that one of a hundred firms will default on their debt. A short description would be: Given a function f(x. again. respectively.fΔiw π = πe + λ(Y-Y*) The economy is in its long run equilibrium in period 0. fx and fy are the partial derivatives of f with respect to x and y. Precisely. which can be described by the following DAD and SAS curves: π = πw . Answer: 3) DAD-SAS model (13 points) Consider an economy with fixed exchange rates.b(Y-Y-1) + δ Δ G + γ Δ Yw . you can observe what happens if you increase the risk premium on the domestic capital market. Inflation expectations are formed adaptively.rRPM<0 dY/dRPC = IiC / (1-CY+IMY)<0 dY/dRPC = 0 dY/dRPM = RPM + IiC / (1-CY+IMY)<0 dY/dRPC = IiC / (1-CY+IMY)>0 dY = dR<0 dY = IiC / (1-CY+IMY)<0 dY/dRPC = .unisg.html). it holds that dy/dx = -fx/fy where. Note: As mentioned in the introduction of this test.eurmacro.

This is due to the higher level of human capital in B Part II: Now. Note: If you need results from previous questions for your calculations. Set the labor supply L to 200 in country A and to 210 in country B. make sure you round them to 2 decimals.πw=10 b = 0. larger than .unisg.038 δ = 1. in autarky.063 Y*=197 What is the rate of inflation in period 0? Answer: 10 In period 1 the world interest rate iw increases by 2.1 G = 50 Yw= 200 iw= 5 λ = 0.59 What is the level of income in period 2.html).eurmacro. Part I: Suppose capital is completely immobile 181 283 Income. Answer: 4) 2 Country Solow Model (13 points) Go to the eurmacro site and open the 2-country Solow growth model (http://www.3 γ = 0. marginal product of capital in A had . both GDP and GNP.6 units (and remains there for all future periods). Income in country B is even though the capital stock in A the capital stock in B. Country B has twice as much. in country A is is . Country A has low human capital (0. look at what happens with the steady state if you remove the capital controls A to B Capital flows from which means that.1 f = 2. What is the level of income in period 1? Answer: 142.94 What is the rate of inflation in period 1? Answer: 6.ch/Tutor/solow2country.5). Country A saves 40% of its income whereas country B saves only 20% of its income.

been flows. the opposite Part III: Transition dynamics The previous questions looked at the new steady state. Hint: Use the check boxes Show investment flows and Show income The capital stock per capita in both countries is now different due to different levels of human capital . As you know. capital owners in A workers is gain income and income. Use the Show dynamic adjustment button to observe the transition from the old to the new steady state. In the period when the capital market opened (that is the second column in both diagrams). the vertical distance between the blue dot and the green dot denotes . In both diagrams. this new steady state is not reached immediately after the capital markets have opened. . Net exports from B to A in the new steady state are loose Compared to the autarky state. domestic capital income in A amounts to 47 and entire capital income in A amounts to 82 . In country B the situation . The net return on capital in both countries is now consumption . lower than in B.

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