Ruipeng Tan 1) On the beginning of the speech, she mentioned that FOMC faces twokey challenges. one is the quest for maximum employment and price stability inCongress. If the main tool of our regular policy is reduced to essentiallyzero, it will weaken the US economy. The first challenge is led to the secondone, which is how to ensure that we can reduce the monetary policy in anorderly manner when it is no longer needed.
If we cannot do it the ability topromote maximum employment and price stability will be reduced.And then,she mentioned how they solve the problems. According to the first challenge,they use monetary policy regulation to strengthening long-term interest rateguidance and large-scale asset purchases. In order to face the great recession,Fed is going to remove the policy.what ismore, she mentioned two unconventional monetary policy tools to face the greatrecession. There is forward-looking guidance on large-scale asset purchases andintentions toward future short-term interest rates. And FOMC is working onlowering long-term interest rates is to help the U.S.
economy recover from therecession and curb deflationary pressures.According toface future crisis like great recession, FOMC will use the impact of short-terminterest rates on the federal funds rate as the primary tool.Overall,because of the great recession, Fed face two main challenges, which is FOMC hadto provide additional policy controls after its short-term interest rates hadreached their effective lower limit and FOMC had to reduce the accommodationwhile expanding the federal reserve balance sheet. 2)A) Frist, 1 pound= 1.68 dollarInvestmentamount on 7/15= 100 million dollars= 100/1.
68=59.52 million poundsThe interestrate on 1 year CD on pound is 0.021 year laterthe exchange rate is 1.55 per US/ poundInvestmentamount after 1 year= (1+ 0.02) *59.
52=60.71 million pounds *1.55= 94.10 milliondollarsloss=94.10millon- 100 million= -5.9 million dollarsrate ofreturn= -5.9/100=-5.9%Therefore,have a negative return of 5.
9% on the investment B) If CFO invest in the US CD, the amount after 1year will be 100*0.5%=100.5 million dollars, because of the question A willknow that the amount after 1 year UK CD is 60.71 million pounds. Thus, inorder to make profit, the expected exchange rate of pound should be greaterthan 100.
6/60.71=1.65 USD per pound 3) It is because the Fedfaced the great recession in 2008 and 2009. Due to the great recession, thetraditional monetary policy tools didn’t work so well, Fed have to use anaggressive monetary policy and this situation is called a liquidity trap.
Centralbank is the one who control the open market operations. They use the openmarket to influence the money supply in the economy. Usually, the central bankbuys or sells government bonds to affect short-term interest rate in theeconomy. However, liquidity trap is the one who injected cash into privatebanking system, so central bank cannot reduce the interest rate to make themonetary policy loss efficacy.
In liquiditytraps, consumers will avoid bonds and save money because it is widely assumedthat interest rates will rise quickly. Thishelps to reduce interest rates uniformly across asset groups, thereby freeingborrower’s higher interest rate burden and creating new demand. 4)A) Based on the information above, when can imaging that afterthe recession, the level of confidence of lenders and borrowers started toreturn to normal levels and the level of investment rose sharply which causes the economy to increase its moneysupply too fast and the dollar demand has increased. As a result, the dollarvalue has risen. The Fed’s three QE have increased the money supply. Due tohuge investment, the size of the Fed’s long-term US Treasury bonds andmortgage-backed bonds has increased, and the Fed’s portfolio has increasedsubstantially. The problems faces are that the economy is rising inflation, bankdeposits and deposits increasing. B) One of the tool to help solving this problemis raising the cash reserve ratio and the statutory liquidity ratio.
It will reduce the ratio of excess reserves to commercial banks. When the bankborrows less cash, the money supply will decrease. 5) A) Although the Fed must consider the effect on theinflation rate, unemployment rate and so on in order to take appropriateaction, in this case the main consider perspective should be the currency value.Because the dollar exchange rate is mainly determined by changes in the foreignexchange market D and S, the Fed usually do not want to manipulate the exchangerate under normal economic conditions. If domestic currency rate goes up, ithelps the economy as well as causes some trouble. For example, if US $ becomesstronger than other currencies and pays in your home currency, you should pay ahigher amount. This can lead to increased product costs and to inflation. Andthere is a condition in the question mentioned that the value of dollar is increasingagainst Euro, RMB and Yan.
Therefore, the only currency that dominatesinternational trade is the United States dollar. As a result, the global marketwill see increased demand for the U.S. dollar. Therefore, maintaining the present value ofthe U.S. dollar is good for the U.
S. economy. B) In P0, it reaches the full employment, whenthe dollar rise, AD will decrease as graph shows, AD will shift to the left. 6) When comparing interest rates, usually longdeposit rates will be higher due. And the LT interest rate is risker than theST. In this question, both bonds are zero coupon bond, and the 1 year UStreasury securities is 0.28% and the 2- year one is 0.
69%, thus the expectationof 1 year yield is (1+0.0069)^2=(1_0.0028)*(1+x)1.011=1+xx=0.011=1.
1%Thus, the data suggest the interest rate atone year later should be higher. 7) A) A long-termstate of the US is that budget deficit= G-T>0 which means that G is higherthan tax every year. In the question, there is a condition that budget deficitis almost $19 trillion, but it is good for the economy growth. One of theargument could be G is too high, so the AD has increase, but not so much taxrevenue leading to budget cannot balance. From my perspective, we can increasethe tax payment for high-income people in order to reduce the deficit.
B) No, it is not. When the budget deficit high, the inflation ratewill be higher and the economy will be unstable. And both of them are use theirway to reduce the deficit. In the other perspective, the deficit can help theeconomic grow.