MACROECONOMICS - SECOND EXAM – December 13th, 2018 (Chapters 4 to 7)

Name:

Part I: Multiple choice questions (choose the right answer, justifying your choices by some
graphs, computations or brief theoretical discussions):
[2 points: right answer 0.5 points, wrong/no answer 0 points]

Question 1 2 3 4

Answer D C C D

1. In the IS-LM model, which one of the following policy-mixes is able to keep output and
consumption constant, while increasing private investment? :
A) An increase of taxes and a purchase of bonds in the open market by the Central Bank
B) A decrease of taxes and a sale of bonds in the open market by the Central Bank
C) An increase of public spending and a sale of bonds in the open market by the Central
Bank
D) *A decrease of public spending and a purchase of bonds in the open market by the
Central Bank

2. In the context of the extended IS-LM model, starting from an initial equilibrium, assume that
due to political uncertainty the risk aversion of agents increase. To offset the effect of this
shock and restore both the initial level of output and the initial level of investment,
policymakers (the government or the Central Bank) should:
A) Increase government spending
B) Decrease taxes
C) * Decrease the real policy interest rate
D) All the other options would achieve the objective

3. Regarding the labor market, choose the right statement:

A) Changes in productivity will modify the natural rate of unemployment and the real wage
B) Any regulatory reform that changes the z parameter will modify the natural rate of
unemployment and the real wage
C) * Any regulatory reform that changes the m parameter will modify the natural rate of
unemployment and the real wage
D) Changes in expected prices will modify the natural rate of unemployment and the real
wage

4. In the context of the expectations-augmented Phillips Curve, and under the assumption of
adaptative expectations for inflation, assume an economy that is initially located at a medium
run equilibrium situation. If because of a perturbation, we observe that inflation starts to
increase, such a perturbation could be:
A) A decrease in the unemployment benefits
B) A decrease in expected productivity without any change in effective productivity
C) A more stringent antitrust law
D) * A decrease in effective productivity without any change in expected productivity
Part II: Problems (8 points)

Problem 1 (2.5 points): In the framework of the extended IS-LM model, starting from an
initial equilibrium (𝑌𝑌0 , 𝑟𝑟̅0 ), assume that due to the housing market crisis a decrease in the
liquidity of assets of the commercial Banks is observed, yielding the consequent effects on
the risk premium (x) that commercial banks charge on the loans granted to firms.
1. Explain the adjustment process after the shock.
2. If the Central Bank modifies the policy interest rate in order to restore the level of output
previous to the shock (𝑌𝑌0 ): Describe the final macroeconomic effects resulting from i) the
initial shock + ii) the monetary policy. In particular, describe the effects on the macroeconomic
aggregates and the equilibrium conditions.
Use behavioural equations and graphs to support your analysis.

Problem 2 (2 points): Consider two Commercial Banks, A and B. The initial structure of their
balance sheets is the following. Both banks have loans of 100, but the A-Bank has deposits
of 80 while the B-Bank has deposits of 90. Because of the financial crisis, 5% of borrowers
default on loans.
i) Compute the leverage ratio for each bank before and after the shock. Which bank
has suffered a larger variation in the leverage ratio?
ii) Assuming that the market conditions do not allow increasing the banks’ capital
(equity), by how much should each bank change the amount of loans in order to
restore the leverage ratio previous to the shock?
Formulate the balance sheet of each bank in the initial situation, after the shock and in the
final situation. Discuss briefly in economic terms how each bank has been affected by the
shock and the macroeconomic effects resulting from the relation between leverage and
lending.

Problem 3 (1.5 points): In the context of the labor market, starting from an initial equilibrium,
analyse the effects on the natural rate of unemployment and real wage resulting from two
simultaneous shocks: i) an increase in unemployment benefits and ii) a more stringent
monitoring by the National Commission for the Defence of Competition. Use graphical and
mathematical analysis as well as the theoretical discussion.

Problem 4 (2 points): In the context of the Phillips Curve, assuming adaptative expectations
for inflation and a perfect forecast for productivity, consider an economy with the following
initial data: F ( u, z ) =1 − α ⋅ ut + z , m= 0 0.06, α
0 z= = 2.
a. Represent in graphic terms the Phillips Curve corresponding to such data.
b. If the effective unemployment rate is ut = 7% , by how much will the inflation rate
change in period t compared to period t-1?
c. If the z parameter changes because of a new regulation in the labor market, so that
z1 = 0.08 , represent the new Phillips Curve. Which one would be now the change in
the inflation rate if the effective unemployment rate continues at ut = 7% ?, what type
of economic policy would be necessary to stabilize inflation?