Unit 6

Unit 7

Foreign exchange market

• The buying and selling of currency. 
• Any transactions that occurs in the balance of payments necessitates foreign exchange 
• The exchange is determined in the foreign currency market. 

Exchange rates are a function of the supple and demand for currency

• An increase in the supply of a currency will decrease the exchange rate of a currency. 
• A decrease in supply of a currency will increase the exchange rate of a currency 
• An increase in demand for a currency will increase the exchange rate of a currency 
• A decrease in demand for a currency will decrease the exchange rate of a currency. 

Appreciation and depreciation

• appreciation of a currency occurs when the exchange rate that currency increases. ⬆️
• Depreciation of a currency occurs when the exchange rate of that currency decreases. ⬇️

Exchange rate determinants

• Consumer tastes. 
• Relative income. 
• Relative price level. 
• Speculation. 

Exports and imports

• The exchange rate is a determinants of both exports and imports 
• Appreciation of the dollar causes Americans goods to be relatively more expensive and foreign goods to be relatively cheaper thus reducing exports and increasing imports. 
• Depreciation of the dollar causes American goods to be relatively cheaper and foreign goods to be relatively more expensive thus increasing exports and reducing imports. 

Floating / flexible rate
Based on the supply and demand of that currency vs other currencies. It's very sensitive to business cycles and it provided options for investment.

Fixed rate
It's based on a countries willingness to distribute currency and control its amount


ABSOLUTE ADVANTAGE

individual - Exists when a person can produce more of a certain good/services than someone else in the same amount of time( or can produce q good using the least amount of resources.

National - exists when a country can produce more of a good/service than another country can in the same time period.

Comparative Advantage
A person or a nation has a comparative advantage in the production of a product. When it can produce the product at a lower domestic opportunity cost than can a trading partner

Output
Miles per gallon
Apple per tree
Television produced per hour

Input
Hours to do a job
Number of acres to feed a horse
Number of gallons of paint to paint a house

Specialization and trade

• gains from trade are based on comparative advantage not absolute advantage  

Balance of payment. 
Measure of money inflows and outflows between the United States and the rest of the world (ROW)
Inflows - credit 
Outflows- debit 
The balance of payments is divided into 3 accounts. 

• current Accounts 
• capital / financial account 
• Official reserves Account 

Current account 

• exports of goods/services - import of goods/ services   
• Exports create a credit to the balance of payment. 
• Import create a debit 

Capital / financial account 

• The balance of capital ownership 
• Includes the purpose of both real and financial assets
• Direct investment in the United States is a credit. To the capital account. 

Ex- the Toyota factory in San Antonio

• direct investment by US firms/individuals in a foreign country are debuts to the capital account 

Ex- The Intel Factory in San Jose, Costa Rica. 

• purchase of foreign financial assets represents a debit to the capital account. 

Ex - Women Buffet buys stocks in petro china. 

• purchase of domestic financial assets by foreigners represents a credit to the capital account. 

Ex - The United Arab Emirates sovereign wealth fund purchases a large stake in the NASDAQ. 

Relationship between current and capital account

• The current account and the capital account should zero each other out. 
• That is if the current account has a negative balance (deficit), then the capital account should then have a positive balance ( Surplus). 

Official reserves 

• The foreign currency holdings of the United States federal reserve system. 
• When there is a balance of payments surplus the fed accumulated foreign currency and debits the balance of payments. 
• When there is a balance of payment deficit the fed depletes its respected of foreign currency and credits the balance of payments 
• The official reserves zero out the balance of payments. 

Active v. Passive Official reserves 

• The United States is passive in its use of official reserves. It does not seek to manipulate the dollar exchange rate. 

Unit 5

Unit 5

Unit 5
Short run aggregate supply 
-  In macroeconomics this is the period in which wages and other input prices remain fixed as price level increases or decreases. 

Long Run aggregate supply 
- Period of time in which wages have become fully responsive to chafes in price level. 

Effect over Short - Run 

-  In the short run, price level changes allow for companies to exceed normal outputs and hire more workers because profits are increasing while wages remain constant. 

-  In the long run, wages will adjust to the price level and previous output levels will adjust accordingly. 

Equilibrium in the extended model 

-  The extended model means the inclusion of both short run and long run AS curves. 

-  The long AS curve is represented with s vertical line @ full employment 

      Demand pull Inflation. 
Demand pull - prices increase based on increase in aggregate demand 

In the short run, demand pull will drive up prices, and increase production 

In the long run, increases in aggregate demand will eventually return to previous levels. 

Cost push inflation and extended model 

Cost push arises from factors that will increase per unit cost such as increase in the price of a key resource. 

Short run shifts left. What Is important is that in this case, it is the cause of the price level increase, not the effect. 

   Dilemma for the Government
In an effort to fight cost-push, the government can react in two different ways.  
- Action such as spending by the Govt could begin an inflationary spiral 
- No action however could lead to recession by keeping production and employment levels declining. 


Because the long run Philips curve existed at a natural Rae of unemployment(Un) structural changes in the economy that affect Un will  also cause the LRPC to shift

Inflation - general rise in the price level 
Deflation - general decline in price level 

Disinflation - decrease in inflation or in the rate of inflation over time 

Regannomics 
Changes As And not Ad. It determines the level of inflation, unemployment rate and economic growth. 

Supply side economist support polices that promote GDP growth by arguing that high marginal tax rate along with the current system of transfer payment such as unemployment compensation and welfare programs provide disincentive to work, save, innovate and undertake entrepreneur. 

Lower Marginal Tax rate induce more work causing AS to increase. They also make leisure more expensive and work more attractive 

Incentives to save and invest 
1. High marginal tax rates- reduce the reward for saving and investment 
2. Consumption might increase but investment depends upon savings 
3. Lower marginal tax rate encourage saving and investments. 

Laffet Curve 
There is a theoretical relationship between tax rates and governments revenue as tax rates increase from 0 government revenues increase from 0 to some maximum level and then decline 

First criticism 
Research suggest that the impact of tax on incentives to work save and invest are small. 

Second criticism 
Tax cuts also increase demand which can fuel inflation and demand may exceed supply 

Where the economy is actually located in the curve is difficult to determine

AP Economics Unit 4

Money 

Uses of money 

. Medium of exchange
Bar and trade
. Unit of account
Establishes economic value.
. Store of value
Money holds its value over a period of time where as products may not.

                              Types of Money
A. Commodity Money
Gets its value from the type of material form which its made Ex. Gold and silver coins
B.  Representative Money
Paper money backed by somethings tangible that gives it value
C. Fiat Money
Money because the government says so

1. Characteristics of money 

A. Divisible
Can be broken down in different ways
B. Portable
Can carry them anywhere
C. Uniform
A dollar is a dollar anywhere you go
D. Acceptable
E. Scarce
F. Durable

1. Money supply 

A. M1 money
75% of money comes from M1 money because it's easy to change (liquidity)

1. Cash and coins. 
2. Currency, Checkable deposit and demand deposit. 
3. Travelers checks. 

B. M2 money
Consist of M1 money, savings account and deposits held by banks outside of the US.
C. M3 money
M2 money and certificates of deposits also known as CDs: money you keep on the back for an amount of time.


TIME VALUE OF MONEY
Let V = future value of $
P = present value of $
R= real value of $ ( nominal - inflation ) expressed as a decimal
N= years
K= number of times interest is created per year

Money demand Money supply
Money supply line vertical
Money demand line downward sloping

Demand for money had an inverse relationship between nominal interest rates and the quantity of money demanded.

1. What happens to quantity demanded of money when Interest rates increase 

Quantity demanded falls because individuals would prefer to have interest earning assets instead of borrowed liabilities.

1. What happens to quantity demand when Interest rate decrease 

Quantity demanded increase. There is no incentive to convert cash into interest earning assets.

What happens if price level decrease
Money demand shift to the right.

Money demand shifters.

1. Changed in price level 
2. Changes in income. 
3. Changes in taxation that affects investment. 

Increasing the money supply - increasing shifting to the right.

If the FED increased the money supply, temporary surplus of money will occur at 5% interest. The surplus will cause the interest rate to fall to 2%.

How does this affect AD
Increase money supply ➡️decrease interest rate ➡️ increase investment ➡️ increase AD

DECREASING THE MONEY SUPPLY
decrease money supply ➡️increase interest rate ➡️ decrease investment ➡️decrease AD

      FINANCIAL ASSETS vs FINANCIAL LIABILITY.
Financial Asset - something you own
Financial liability - something you owe

Interest rate
The cost of borrowing money.

Stock and Bonds.
Stocks - is a share of company
Bonds - you borrow money to the government they will pay you back

What banks do ?
A bank is a financial intermediary
Uses liquid assets to finance the government the investments of borrowers   
Process is known as fractional reserve banking.

• A system in which depository institutions hold liquid assets less than the amount of deposits 
• Can take the form of 

1. Currency in bank vaults 
2. Bank Reserves- deposits held at the Federal Reserve. 

T- Account ( Balance Sheet)




Rea ever requirement

1. The fed requires banks to always have some money readily available to meet consumers demand for cash. 
2. The amount set by fed is required reserve ratio. 
3. The required reserve ratio is the percent of demand deposits. ( checking account balances)that must not be loaned out. 
4. Typically the required reserve ratio = 10%. 

Three types of Multiple deposit expansion question.
Type 1: calculate the init ail change in excess reserves
Type 2: calculate the change in the money supply.
Type 3: calculate the change in the money supply

• Type 2 and 3 will have the same result.  

1. The reserve Requirements 

Only a small percent of your bank deposit is in the safe. The rest of your money had been loaned out. This is called fractional reserve banking.

The FED sets the amount that banks must hold

The reserve requirement is the percent of deposits that banks must hold in reserve and not loan out

When FED increases the money supply it increases the amount of money held in bank deposits.

1. If there is a recession the FRD should decrease the reserve ratio. 

• banks hold less money and have more excess reserves 
• Banks create more money by loaning out excess
• Money supply increases m, interest rates fall, ad goes down.

1. If there is inflation the FED should increase reserve ratio. 

• banks hold more money and have less excess reserves 
• Banks create less money 
• Money supply decreases, interest rates up, AD. Down. 

1. Discount rate 

The discount Rate is the interest rate that the FED charges commercial banks.
Ex. If Bank of America needs 10m they borrow it from the U.S treasury but they must pay back with interest

To increase the money supply, the FED should Decrease the discount rate (easy money policy)

To decrease the Money supply the FRD should Increase the discount Rate ( Tight Money Policy).

1. Open market operations 

The FED sell government bonds (securities)
This is the most important and widely used monetary policy.

To increase the Money supply, the FED should BUY government securities

To decrease the money supply, The FED should sell government securities.

Federal Fund Rate
These is where FDIC member bank loan each other over night funds.

Prime Rate
It's the interest rate that banks give to their most credit worthy customers.




Final Notes
When a customer deposits cash or withdrawals cash from their demand deposit acct. it has no effect on money supply.

Single Bank

• loan money from excess reserves. 

Banking System

• ER X multiplier ( total money supply)

It only changes

1. The composition of the money 
2. Excess reserves 
3. Required reserves

my video ( low quality )

http://www.youtube.com/watch?v=tWMopiPtDvw

Unit 3

Unit 3

Aggregate Demand 

AD is the demand by consumers, business,government , and foreign countries. 

What definitely doesn't shit the curve 

Changes in price level cause w move along the curve. 

 WHY IS AD DOWNWARD SLOPING ?

1. Real balance effect 

. Higher price levels reduce the purchasing power of money 

. This decreases the quantity of expenditures 

. Lower price levels increase purchasing power and increase expenditures. 

1. Interest Rate Effect 

. When the price level increase, lenders need to charge higher interest rates to get a REAL return in their loans. 

. Higher interest rates discourage consumer spending and business investment. 

1. Foreign Trade Effect 

. When US price level rises, foreign buyers purchase fewer US. Goods and Americans by more foreign goods

. Exports fall and imports rise causing GDP demanded to fall (Xn Decreases)

Shifters of aggregate demand = GDP= C+ I + G+ Xn

. A change in C,Ig,G and or Xn

. A multiplier effect that produces a greater change than the original change in the 4 components 

. Increase in AD=AD➡️

. Decrease in AD=AD⬅️

CONSUMPTION

1. Consumer wealth 

. More wealth = more spending (ad shift ➡️)

. Less wealth = less spending ( ad shift ⬅️)

1. Consumer expectation 

Positive expectations - more spending ➡️

Negative expectation - less spending 

1. Household indebtedness

Less debt= more spending 

More debt= less spending 

1. Taxes 

Less taxes - more spending 

More taxes - less spending 

Gross private investment 

Investment spending is sensitive to 

Real interest rate 

. Lower real interest rate = more investment  (AD➡️)

. Higher real interest rate = Less Investment (AD⬅️)

Expected Returns 

Higher expected returns = More investment (AD➡️)

Lower expected returns = less investment (AD⬅️)

Expected returns are influenced by 

. Expectations of future profitability 

. Technology 

. Degree of excess capacity ( existing stock of capital)

. Business taxes 

Government Spending 

. More government spending (AD➡️)

. Less government spending (AD⬅️)

Net Exports

Sensitive to -

. Exchange Rates ( International value of $)

. Strong $ = more imports and fewer exports = AD ⬅️

. Weak $ = fewer import and more exports = AD ➡️

Relative Income

. Strong foreign Economies = more exports = AD➡️

. Weak Foreign Economies = less imports = AD⬅️ 

Disposable income 

. With disposable income, households can either 

• consume (spend money on goods and services)
• Save ( not spend money on goods and services)

Consumption

Household spending 

The ability to consume is constrained by 

• the amount of disposable income 
• The propensity to save 

Do households consume if Dl = 0

• autonomous consumption 
• Dissaving 

Saving 

• households not spending
• The ability to save is constrained by 

. The amount of disposable income 

. The propensity to consume 

• do households save if Dl=0 

No 

Average propensity to save 

APC+ APS = 1 

1 - APC = APS

1 - APS = APC

APC > 1

MPC ( marginal propensity to consume)

The fraction of any change in disposable income that is consumed 

MPC = change in consumption / change in income 

MPC= ^c/^di

Marginal propensity to save (MPS)

The fraction of any change on disposable income that is saved. 

MPS= change in savings / change in disposable income 

MPS= ^s/^di

Marginal propensities 

MPC + MPS = 1

• MPC= 1 -MPS
• MPS = 1-MPC

Remember people do two things with their disposable income consumer it if save it. 

The spending multiplier effect 

An initial change in spending ( c ig g Xn) cause a larger change in aggregate spending or aggregate demand ( ad)

Multiplier = change in AD/ change in spending 

Multiplier = ^ AD/

Calculating the spending multiple 

Multiplier = 1/1-MPC or 1/MPS 

Multipliers are (+) when there is an increase in spending and (-) when there is a decrease 

Tax multiplier 

When the government taxes the multiplier works in reverse 

Why?

• Because now money is leaving the circular flow 
• Tax multiplier ( it's negative ) 
• MPC/1-MPC OR -MPC/MPS

There is tax- cut then the multiplier is + because there is more money in the circular flow.

Long run aggregate supply ( LRAS)

The long aggregate supply or Lara marks the level of full employment in the economy 

Because input prices are completely flexible in the long run changes in price level do not change firms. This means Lars is vertical at the economy's level of 

full employment 

Changes in SRAS

An increase in SRAS is serve as a shift. To the right. SARS 

a decrease in SARS is seen as a shift to the left SRAS 

they key to understanding shifts in SARS is per unit cost of production 

Per unit production cost = total input cost / total output 

Determinants of SARS 

1. Input prices - domestic resource prices 
2. 1. Wages (75% of all business cost )

      2. Cost of capital 

      3.raw materials 

      4. Market power 

Increase income prices = SRAS ⬅️

Decrease income prices = SRAS ➡️

1. Productivity = total output/ total input 

More productivity = lower unit production cost = SRAS ➡️

Lower productivity = higher until production cost = SRAS ⬅️

1. Legal institution environment 

Taxes and subsided - taxes on business increase per unit production cost = SRAS ⬅️

Subsidies to business reduce per unit production cost = SRAS ➡️

Government regulation 

Government regulation creates a cost of compliance = SRAS ⬅️

Deregulation reduces compliance costs = SRAS ➡️

FULL EMPLOYMENT

Full employment equilibrium exists where AD intersects SRAS and LARS at the same point 

Recessionary Gap 

A recessionary gap exists when equilibrium occurs below full employment output. 

Inflationary Gap 

An inflationary gap exist when equilibrium occurs beyond full employment output 

Nominal wages is the amount of money received by a worker per unit of time (clock by the hour or by they day)

Real wages amount of goods and services a worker can purchase with their nominal wage. 

     Real wage is the purchasing power of your nominal wage 

Sticky wages 

It is the nominal wage level that is set according to an initial price level and it does not vary due to labor contracts or other restrictions. 

Output depends upon changes in the employment level 

Implication for inflation 

1. Output is independent of changes in the price level 

Interest rate in 

What is investment ?

Money spent or expenditures on 

• new plants 
• capital equipment 
• Technology ( hardware and software)
• New homes 
• Inventories ( goods sold by producers) 

Expected rate of Returns 

How does business make investment decisions ?

• cast / benefits analysis 

How does business determined the benefits ?

• expected rate of return 

How does business count the cost 

• interest cost 

How does business determine the amount of investment they undertake ?

• compare expected rate of return to invest cost 

.  If expected return > interest rate cost the invest 

.  If expected return < in test Cost then do not invest 

Real v nominal interest rate 

What's the difference 

• Nominal isn't he observable rate of interest. Real subtracts out inflation (pie%) and is only known ex post facto 

How do you compute the real interest rate  (r%)

R%=i% - pie%

What then determines the cost of an investment decision 

• real interest rate (r%).

Fiscal policy 

Changes in the expenditures it tax revenues of the federal government 

2 tools 

  Taxes - gov increase or decrease taxes 

 Spending - gov inc or dec spending 

Deficits, surpluses, and debt 

• Balanced budget

Revenues = expenditures 

• budget deficit

Revenues < Expenditures 

• budget surplus 

Revenues > expenditures 

• Government debt 

Sum of all deficits - sum of all surpluses. Government must borrow money when it runs a budget deficit.  

• Governments borrows from 

. Individual 

. Corporations 

. Financial institutions 

. Foreign entities or foreign governments 

Fiscal policy two options 

• discretionary fiscal policy : action ( expansionary Fiscal policy - deficit)
• Contractionary fiscal policy - think surplus 

Non -Discretionary  fiscal policy ( no action)

Discretionary- increasing or decreasing government spending and or taxes in order to return the economy into full employment. Discretionary policy involves policy makers doing fiscal policy in response to an economic problem. 

Automatic - unemployment compensation and marginal tax rates are examples of automatic policies that help mitigate the effects of recessions and inflation automatic fiscal policy takes place without having to respond to current economic problems. 

Contraction are 

Expansionary fiscal policy 

• combat recessions 
• Govt spending ⬆️
• Taxes ⬇️

Contractionary Fiscal Policy 

• combat inflation 
• Govt spending ⬇️
• Taxes ⬆️

Automatic or built in stabilizers 

 Anything that increase the government budget deficit during a recession and increases its budget surplus during inflation without requiring explicit action by policy makers. Ex social security, Medicare, unemployment, veterans benefit. 

Progressive tax system 

average tax rate ( tax revenue / GDP) rises with GDP