Section A Essay Example

4Finance

Subject: Macroeconomics

Section A

Section B: True or False

Section B: Continuation

  1. A change in nominal GDP does not always reflect a change in the volume of output produced in the economy because nominal GDP is affected by price level or rather inflation rate. A change in real GDP reflects a change in output volume

  2. The statement is not correct because if taxes are decreased during economic boom, demand will increase and price will increase further. An appropriate measure is to increase taxes.

Question 1: Aggregate Demand and Aggregate Supply Model

  1. Components and determinants of aggregate demand model

Component

Determinant

Consumption

Level of disposable income, wealth, interest rates

Investment

Interest rates, profit expectation

Government Spending

Fiscal policy, politics, state and local taxes

Net exports

foreign and domestic income, tastes, trade restrictions, and exchange rates

  1. –Exports

  • Aggregate demand curve

  1. Diagram to illustrate short-run aggregate demand/ aggregate supply curve model

  1. Short run AD/ AS model

Short run Aggregate Supply

Section A

Section A 1Section A 2Section A 3Section A 4

Section A 5

Aggregate Demand

Output/ Income

  1. Impact of an increase in price of oil

Short-run AS

Section A 6Section A 7

Section A 8Section A 9Section A 10Section A 11

Section A 12Section A 13

Section A 14Section A 15

Output/ Income

  1. The rise in production cost has the impact raising the general price level. Both employment levels and output level declines.

  2. Stagflation is a term that describes the impact of production costs on price and unemployment levels

Question 4: The balance of Payments and Exchange Rates

A. Labelling axis

Price in Yen

Section A 16

Section A 17Section A 18Section A 19Section A 20

Section A 21

Quantity of Foreign Money

B. Assuming the exchange rate changes to A$1= Japanese Yen 70:

  • Depreciated

  • Appreciated

  • Imports into Australia becomes cheap

C. The factors causing the exchange rate to change are:

  • Interest rate: when interest rates are low, foreign capital is not attracted and exchange rate declines. Consequently, demand curve shifts to the left.

  • Inflation: A country whose inflation is consistently low faces a rising currency value given that its purchasing power increases relative to other currency in foreign market. As inflation rise, currency value deteriorates in line with purchasing power thus a shift in demand curve to the left.

D. Recording transactions in Australia’s Balance of Payment

  1. BMW in Germany sells cars to Australia

  • Current account

  • Demand for A$

  1. The Japanese Toyota company builds a new motor vehicle plant in Western suburbs of Melbourne

  • Capital account

  • Supply of A$

  1. A student from Malaysia pays fees to an Australian university

  • Financial account

  • Supply of A$

  1. Low interest rates in Australia relative to overseas

  • Capital and financial account

  • Demand for A$

Question 6 A

It is important to understand that monetary policy is a tool deployed by central bank or federal bank to control supply of money. This is often done by manipulating the interest rate. The ultimate aim of changing the interest rate is to stimulate economic growth, achieve low unemployment, and enhance stability. To make effective use of monetary policy, it is important to expand the basic two sector economic model to include overseas sector. A two-sector economy is the private sector economy capturing households and business sector. If a contractionary monetary policy is deployed with an attempt of reducing money in circulation, it might not be effective because overseas sector has been left out. Assuming a contractionary policy of increasing interest rate, money supply will decline from M0 to M1, as a result, the investment will fall, and net exports decline as shown in the diagram below.

Nominal Interest Rate

Section A 22

Section A 23Section A 24Section A 25

Section A 26Section A 27

Section A 28

QTY of Money

All these events not only affects the two sectors but also overseas sectors thus the need to include it for effective operation of contractionary monetary policy. When a contractionary policy is used, overseas investors finds it very expensive to operate under high interest rates.