Lecture notes on financial crises: J. Bradford DeLong (2005), "The Simple Analytics of a Hard Landing": http://www.j-bradford-delong.net/movable_type/pdf/hard_landing.pdf
ECONOMICS 101B: FALL 2006: PROBLEM SET 9
Due December 7, 2006
Short Answers:
1. What is the “Lucas critique”? How would the Lucas critique suggest that you should design a policy to try to reduce inflation from 10% per year down to 2% per year?
2. What is "dynamic inconsistency"? Why does dynamic inconsistency strengthen the case for having policy rules rather than leaving economic policy to the discretion of authorities?
3. What can you say about under what circumstances the Federal Reserve should focus on keeping the interest rate as opposed to the money stock stable?
4. Why do economists today tend to believe that monetary policy is superior to discretionary fiscal policy as a stabilization policy tool? In what circumstances that you can imagine would this belief be reversed?
5. Suppose that the level of investment spending does not depend at all on the interest rate. Does this mean that the IS curve is vertical? How then can central bank changes in the real interest rate effect the level of real GDP in the sticky-price model?
6. Briefly, why was the Great Depression so great?
7. Briefly, why should we (or should we not) worry about the fact that the U.S. is running a very large trade deficit?
8. Briefly, what conclusions can we reach from the low level today of U.S. long-term interest rates?
Follow this link for the solutions to PS7...
Background readings:
Douglas Staiger, James H. Stock, Mark W. Watson (2001), "Prices, Wages and the U.S. NAIRU in the 1990s" <http://nber.org/papers/w8320>.
Douglas Staiger, James H. Stock, Mark W. Watson (1996), "How Precise are Estimates of the Natural Rate of Unemployment?" <http://nber.org/papers/w5477>.
Gayle Allard, Peter H. Lindert (2006), "Euro-Productivity and Euro-Jobs since the 1960s: Which Institutions Really Mattered?" <http://nber.org/papers/w12460>.
Olivier Blanchard (1998), "Revisiting European Unemployment: Unemployment, Capital Accumulation, and Factor Prices" <http://nber.org/papers/w6566>.
Background reading: A false Cassandra:
Nouriel Roubini and Brad Setser (2004), "The US as a Net Debtor: The Sustainability of the US External Imbalances" (New York: Stern School of Business) <http://pages.stern.nyu.edu/~nroubini/papers/Roubini-Setser-US-External-Imbalances.pdf>.
Due to the Thanksgiving holiday, there will be no sections the week of November 20th. This includes the 9am section on Monday 11/20. We will meet again on Monoday November 27th.
Have a good holiday!
-Joe
Write between 600 and 1000 words on the following topic:
Pick any of the major points--theoretical or empirical or applied--covered in this course. Write how you would explain what you have learned on that point in this course to somebody completely ignorant of economics.
The yield curve and the current bond market conundrum: background readings:
Most recent Federal Reserve Press Release (October 25, 2006): <http://www.federalreserve.gov/boarddocs/press/monetary/2006/20061025/>: The Federal Open Market Committee decided today to keep its target for the federal funds rate at 5-1/4 percent...
SmartMoney.com's Living Yield Curve is excellent: <http://www.smartmoney.com/onebond/index.cfm?story=yieldcurve&nav=dropTab>: PEOPLE TALK ABOUT interest rates going up and going down as if all rates moved together. The rates on bonds of different maturities behave quite independently of each other, with short-term rates and long-term rates often moving in opposite directions.... The yield curve is what economists use to capture the overall movement of interest rates.... Plot today's yields for various maturities of U.S. Treasury bills and bonds on a graph and you've got today's curve... the line begins on the left with the shortest maturity -- three-month T-bills -- and ends on the right with the longest -- 30-year Treasury Bonds.
Jim Hamilton of UCSD is a little less worried about the "inverted yield curve" than he used to be: <http://www.econbrowser.com/archives/2006/11/the_yield_curve_2.html>: To the extent that the decline in the yield spread does represent a fall in the term premium, and if indeed a fall in the term premium itself does not signal an economic slowdown, it means that the current negative yield spread does not have quite as bearish a connotation as the historical correlation between the yield spread and output might otherwise suggest.... [R]ecent week-to-week moves in the yield spread... have been dominated by news about the real economic outlook, with prospects for slower economic growth translating into lower expectations for future short rates and a lower yield spread. Insofar as that's the case, the recent pitch into negative territory must still be regarded as worrisome. But just how worrisome? Slower than normal growth still looks to me like a safe bet. On the other hand, the negative growth characteristic of a recession is a little less likely than I regarded it before studying the latest research...
Treasurys rally after tame PPI, retail sales - MarketWatch: <http://www.marketwatch.com/News/Story/Story.aspx?column=bond+report&siteid=mktw&dist=10markets>: The benchmark 10-year Treasury bond was up 13/32 at 100-16/32, while its yield sank to 4.5620%.... The 2-year note was up 3/32 at 100 9/32, yielding 4.718%, keeping the yield curve inverted. The 30-year bond gained 24/32 to 97-14/32, yielding 4.653%, an 8-month low...
Nov 2: Why should conservatives be central bankers?
Nov 7: Politics and economics: how much does the economy matter for elections? (Problem set 7 out)
Nov 9: Why does China's state council want to keep its currency low-value?
Nov 14: The U.S. bond market "conundrum": Why are U.S. interest rates so low?
Nov 16: Is a financial panic in America's future? (Problem set 8 out)
Nov 16: Is a financial panic in America's future? (Problem set 8 out)
Nov 21: Problems of the European macroeconomy
Nov 28: Looking back at the Great Depression (Problem set 9 out)
Nov 30: The long-run: must the U.S. balance its budget?
Dec 5: The current situation: will we escape recession for a while longer?
Dec 7: Review
Background Readings on Topics We're Not Covering Right Now:
DeLong/Olney, chapters 13 (monetary policy) and 14 (fiscal policy)
Background Readings on Topics We Are Covering Right Now:
DeLong/Olney, chapter 15 (International Monetary Systems)
Background Readings on China's Economic Growth Strategy:
C. Fred Bergsten (2006), "Clash of the Titans," Newsweek http://www.iie.com/publications/papers/paper.cfm?ResearchID=620
Jeffrey Williamson (1985), "The Historical Content of the Labor Surplus Model" http://www.jstor.org/view/00987921/di961996/96p0248f/0
Readings on Financial Crises:
Ray Fair:
"Econometrics and Presidential Elections," The Journal of Economic Perspectives, Summer 1996, 89-102: http://fairmodel.econ.yale.edu/rayfair/pdf/1996B200.PDF
"The Effect of Economic Events on Votes for President: 2004 Update": http://fairmodel.econ.yale.edu/RAYFAIR/PDF/2006CHTM.HTM
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