Topic 4: Product Market

Application Question

Explain the effect of each of the following on the equilibrium price level and quantity. Clearly
explain the effect on price and RGDP.
a. Because of shortages of skilled workers the government increases the immigration of skilled
workers.
Increase in labour force an increase in the quantity of resources which will impact on both SRAS
and LRAS curve. SRAS and LRAS will increase and shift to the right
Outcome; Decrease in Price and Increase in RGDP

b. Australia’s major trading partners experience lower real GDP growth with lower income
growth.

c. The price of an imported and essential raw material decreases and at the same time falling
interest rates cause an increase in consumer optimism.

Topic 7: Exchange rate market

Application Question

(a) Suppose the Australian dollar and Japanese yen are initially in equilibrium at ¥100 = $1.
Imagine now the Japanese economy experiences a strong economic recovery with rising
GDP and falling unemployment, while conditions in the Australian economy remain stable.
How will this change the exchange rate between the dollar and the yen? Explain your
answer with reference to the exchange rate market.

(b) Explain the impact of the following economic conditions on the Australian dollar exchange
rate market.
Interest rates in Australia’s increase relative to interest rates in the USA and Europe and at
the same time Australian demand for imports decrease.

Topic 9: Monetary Policy

2.3 ‘What is the cash rate? What role does it play in monetary policy?’

3.2 If the RBA believes the economy is about to fall into a recession what actions could it take?

3.3 If the RBA believes that the inflation rate is about to increase above its target rate, what
actions could it take?

Application question

The Reserve Bank can implement an expansionary monetary by using its open market operations
to purchase securities.
Explain how the purchase of securities by the RBA will impact on GDP.
In your answer identify the objectives that this monetary policy is attempting to achieve and its
impact on the money supply and interest rates.

Topic 8: Financial System, Money and Credit Creation

Topic questions for revision s2 2020 1

Assume that a bond with no expiration date pays a fixed $80 annual interest and is selling for its
face value of $1400.
a. Calculate the interest yield on the bond.
b. If the ‘market’ value of the bond increases to $2000, calculate the new interest yield.
c. Based on the answer to part (b), explain what would happen to the price of the bond if
comparable investments in the economy were associated with interest yields of 5%.

Topic questions for revision s2 2020 2

Topic 10: Fiscal Policy

2.8. The hypothetical information in the following table shows what the situation will be in 2019
if the government does not use fiscal policy:

Year Potential GDP Real GDP Price level

2018 $2,100 billion $2,100 billion 111.5

2019 $2,300 billion $2,100 billion 113.0

(i) If the government wants to move real GDP to its potential level in 2019 should it use
expansionary or contractionary fiscal policy?
(ii) And should it increase or decrease government expenditure? Increase or decrease taxes?

(iii) Assume the MPC = 0.6, mps= 1 -0.6 = 0.4

- What is the change in Government Expenditure required to bring the economy back to
potential GDP and in what direction? Recessionary
Ke = 1/ 0.4 = 2.5
Recessionary gap = potential gdp – rgdp / ke = 200/ 2.5= 197.5

- What is the change in Taxes required to bring the economy back to potential GDP and in what
direction?

Problems
2. You are given the following information about an economy:

C = 10 + 0.8Y
I = 50
G = 20
NX = 0

a. Calculate the marginal propensity to consume.(MPC )

= 0.8 – find this in C = 10 + 0.8Y

C= Co + cY
Co= autonomous spending (net worth, pas saving and availability of credit)
cY= percentage of total income do we spent
c = marginal propensity to consume(MPC) = change in consumption spending/ income change

b. At what value of GDP does equilibrium exist?

Use AE or Y (rgdp) function:

Y = C + I + G + NX(X-M)
Y = 10 + 0.8Y + 50+ 20+0
Y = 80 + 0.8Y
1Y – 0.8Y = 80
0.2Y = 80
Y = 80/0.2
Y= 400 (old GDP)

c. Calculate the value of the multiplier. (MPC= 0.8)(MPS = 0.2)

Formula: Ke = 1/ MPS
= 1 / 0.2 = 5

d. If government spending increased by $40 million, what would be the new equilibrium GDP.

Use Changing in govt spending formula in book (ke =5)

Topic questions for revision s2 2020 3
Change in Y = Ke x change in G
= 5 x (40-0)
= 5 x 40
= +200
New equilibrium GDP = 400 + 200 = $600 million

Topic questions for revision s2 2020 4