ECON NOTES.docx

MICROECONOMICS DEMAND AND SUPPLY Economics is the study of how society manages its scarce resources. Microeconomics studies choice and its implications for price and quantity in individual markets: Considers costs of productions, demand for a product, supply of a product Macroeconomics studies the...

MICROECONOMICS DEMAND AND SUPPLY Economics is the study of how society manages its scarce resources. Microeconomics studies choice and its implications for price and quantity in individual markets: Considers costs of productions, demand for a product, supply of a product Macroeconomics studies the performance of national economies and policies used by governments (inflation, unemployment, growth): Considers costs of monetary policy, budget and deficits, tax policy Economic models: Show relationships between variables Explain economic behavior Devise policies to improve economic performance Buyers and Sellers have different motivations in the Market: Buyers benefit from the good (demand) Sellers make profit (supply) Demand curve: Price and quantity are inversely related Demand curve = sloping downwards When price increases, quantity decreases When price decreases, quantity increases If demand increases, the curve moves right If demand decreases, the curve moves left Demand shifters: Income (normal / inferior good) Prices of related goods (substitutes, complement goods) Advertising and consumer tastes (informative / persuasive) Population Consumer expectations Taxes and subsidies Linear demand function: Supply curve: Price and quantity are vary directly Supply curve = sloping upwards When price increases, quantity increases When price decreases, quantity decreases If supply increases, the curve moves right If supply decreases, the curve moves left Supply shifters: Input prices Technology Number of firms (entry / exit) Production substitutes Government regulations (subsidies / quotas) Taxes (excise tax : tax on each item sold, collected by the supplier / VAT: % tax) Producer expectations Linear supply function: Market equilibrium: No tendency for the system to change Equilibrium price = price where supply and demand curves intersect Equilibrium quantity = quantity where supply and demand curves intersect Market equilibrium = optimum quantities and market price (supply = demand) Limitations of supply / demand: Supply and demand are sometimes interconnected The “other things held constant” assumption is not likely to hold when the goods represent a large percentage of the entire economy Supply and demand shifts / shoks: 1. Increase in demand () = increase in both equilibrium price and quantity 2. Decrease in demand () = decrease in both equilibrium price and quantity 3. Increase in supply () = decrease in equilibrium price + increase quantity 4. Decrease in supply () = increase in equilibrium price + decrease quantity Changes of supply and demand: GOVERNMENT INTERVENTION PRICE CEILINGS / FLOORS In a competitive market equilibrium, price and quantity adjust to demand and supply. Invisible hand, social and political forces determine price. Governments can restrict how much prices can rise or fall: Price ceiling = maximum legal charged price in a market Price floor = minimum legal charged price in a market Other interventions include: Quantity restrictions (quotas) Excise taxes and tariffs Price ceiling (e.g. rent controls causing housing shortage): A government holds prices down to favor buyers Government-imposed limit on how high a price can be charged Price ceilings below equilibrium create shortages Price floor (e.g. minimum wage causing unemployment): A government holds prices up to favor suppliers Government-imposed limit on how low a price can be charged Price ceilings above equilibrium create excess supply (surplus) Government intervention excise taxes and tariffs: An excise tax is imposed on a specific good A tariff is an excise tax on an imported good The result of taxes and tariffs is an increase in equilibrium price and decrease in equilibrium quantity Government intervention quantity restrictions (ratios): Government regulates markets with licenses, which limit entry into a market OR Limits the amount of production (e.g. agricultural products in Europe) The result of quantity restrictions is an increase in price and a decrease in quantity Market structures: Perfect competition Many small firms and consumers Similar products No market power Monopoly One producer of good or service Market power Monopolistic competition Many small firms and consumers Different products Limited market power Oligopoly Few large firms that dominate the market Price/marketing strategies are mutually interdependent with other firms Collusion: Agreement between competitors (e.g. OPEC) Overt collusion = cartels with a central office (secret if anti-trust laws exist) or communication Tacit collusion = firms never meet or communicate E.g. agreement on sales prices (prices), quota allocation (outputs), division of markets (markets) Factors facilitating collusion: Market concentration Barriers to entry Relation among firms Information transparency Demand stability Sources of market power: Ability to raise price without losing sales Come from factors that limit competition Exclusive control over inputs Patents and copyrights Government licenses of franchises Economies of scale (natural monopolies) Network companies Market power economies of scale: % change in output from % change in inputs Constant returns to scale = doubling all inputs doubles output E.g. farm with manual labor Increasing returns to scale = output increases by a % > than the increase in inputs E.g. telecom company (average costs decrease as ouput increases) Market power network economies: Value of product increases as the number of users increases E.g. social media Oligopolies: Few sellers = strategic interactions Tension between cooperating firms (to form a cartel) and deviation (from cooperation agreement) A duopoly is the simplest oligopoly (2 firms) Cartels: Agreement between businesses not to compete against each other Fixed price (for customers) Fixed quantity (limited amount to increase price) Market sharing (customers) Illegal = producers get higher profits from consumers and the market (surplus) Higher prices Lower quality Less choice MACROECONOMICS GDP Measuring economic activity with: GDP, inflation, unemployment. GDP measures output and income, they key indicator of economic success. Measuring output: GDP = market value of final goods and services produced in a country over a period of time Measurement of GDP = Price X Quantity: Goods and services produced Final goods Produced domestically Remunerated activities Legal activities Expenditure and income: Expenditure = income money spent by buyer = income for seller Components of GDP = C + I + G + NX: Consumption (C) = spending by households on goods and services Investment (I) = spending for additional production Government spending (G) = goods and services bought by government Net exports (NX) = exports (EX) – imports (IM) Faces of GDP: Consumption (C): Value of all goods and services bought by households Durable goods (e.g. cars, home appliances) Nondurable goods (e.g. food, clothing) Services = work done for consumers (e.g. dry cleaning, air travel) Consumption function C = C0 + MPC X (Y – T) Disposable income = total income – total taxes Y – T Marginal propensity to consume (MPC) = increase in consumption caused by one-unit increase in disposable income ↑(Y – T) ⇒ ↑C Consumption in leading developed economies = 60% of GDP Much lower in China Investment (I): Value on goods bought for future use: Business fixed investment = plant and equipment firms will use to produce other goods and services Residential fixed investment = housing units by consumer and landlords Inventory investment = change in value or firm inventory Economic and financial investment: Financial investment Purchases of stocks, bonds, and other financial assets Shares = capital stock Economic investment = increase in capital goods used to produce products Based on purchase price or capital goods Investment function I = I(r) r = interest rate (cost of borrowing) ↑r ⇒ ↓I Government spending (G): Government spending on goods and services Net exports NX = X – M Total exports (EX) – total imports (IM) National income identity = open economy: Y = C + I + G + NX OR NX = Y – (C + I + G) NET EXPORTS = TOTAL INCOME – (DOMESTIC SPENDING) Trade surpluses and deficits: Trade surplus (NX) = total income > spending and export > imports Trade deficit (-NX) = spending > total income and imports > exports Counted in GDP: Value added by a used car dealer Commissions paid to stock brokers Limitations of GDP: Non-market output is not included GDP rises with destruction of environment Does not address inequality within the country Aspects of wellbeing that rise with GDP: Education Health Infrastructures Basic citizen services INFLATION Inflation: Continuous rise in the price level and is measured with price indexes Goods price inflation Asset price inflation price increases more than their “real” value = valuation bubble (e.g. gold, houses, art, land, stock, bonds / people’s wealth) Increase in consumer price index (CPI) Variable are adjusted to convert nominal inflation to “real” inflation Caused by supply and demand factors “Right” inflation keeps a country competitive and does not overheat its economy Recent inflation increase = Central Banks increased interest rates (monetary policy) Cost of living: Inflation = rise in the economy’s overall price level Inflation rate = % change in price from the previous level Based on consumer price index (CPI) = measures the overall cost of goods and services bought by a consumer Consumer price index (CPI): Measures overall price level Survey consumers to determine goods and services bought Collection of data every month to calculate all goods and services price $100\ \mathbf{\times \ }\frac{\mathbf{\text{cost\ of\ goods\ and\ services\ in\ a\ month\ }}}{\mathbf{\text{cost\ of\ goods\ and\ services\ in\ base\ period}}}\mathbf{\text{\ \ }}$ Underlying / “core” inflation: Core inflation = “headline” rate (normal CPI) – price of foods and energy products These prices are affected by world events (e.g. war, weather, etc.) Core inflation if CPI increase = result of external or internal factors Inflation types: Demand-pull Comes from demand (e.g. high consumption, export demand) Cost-push Caused by high production costs Structural Comes from single sector / geographical area of the economy and spreads Hyperinflation = monthly inflation > 50% currency = less / dollarization Threatens productive economic activity, leads to socio-economic breakdown Costs and benefits of inflation: Affected by inflation Creditors Taxpayers Individuals on fixed income International competitors Benefited by inflation Governments Debtors UNEMPLOYMENT Population categories: Employed = working for a paid job Unemployed = not employed but looking a job Unemployment rate = $\frac{\mathbf{\text{unemployed}}}{\mathbf{\text{labor\ force}}}$ Labor force = employed + unemployed Not in labor force = not employed + not looking for work Participation rate = $\frac{\mathbf{\text{labor\ force}}}{\mathbf{population\ 16 +}}$ Difficult to distinguish a person unemployed and a person not in the work force some people claim to be unemployed to receive financial assistance, but they are not looking for a job Frictional unemployment: Caused by the time is takes to workers to search for a job When wages are flexible + enough jobs Reasons: Workers have different abilities + preferences Jobs require different skills Geographic mobility of workers is not immediate Information about vacancies + job candidates imperfect Structural unemployment: Caused by not enough jobs available When quantity of labor supplied > quantity demanded Measured by length of time unemployed (1 year minimum) Government policies and institutions influence structural unemployment Cyclical unemployment: Caused by the fluctuations of the business cycle (crisis) It does not disappear when the economy recovers structural unemployment Natural rate of unemployment: Average rate of unemployment around the economy Recession actual unemployment rate > natural unemployment rate Boom actual unemployment rate < natural unemployment rate Unemployment has high social and financial costs (in countries with generous unemployment system) opportunity cost of foregone output = if everyone was employed, national + per-capital incomes would be higher FISCAL POLICY To stabilize the economy, eliminating output gaps (GDP + / - than stable or potential GDP). Fiscal policy: Government decisions about public spending and revenue: Public spending (health services, education, defense, social policy, infrastructure investment, business supports, etc.) Revenue (VAT, income tax, corporate tax, social security contributions, public company income) Made once a year in the annual public budget approved by Parliament in all countries Expansionary fiscal policy to stimulate the economy (increasing government spending or lowering taxes) Contractionary fiscal policy to cool down the economy (lowering public spending or increasing tax revenues) Fiscal policy indicators: Budget balance = total public revenue – total public expenditure in a year Positive balance revenues > spending = surplus Negative balance spending > revenues = deficit Public debt total amount owed by government (total liabilities) in a given time Comes from accumulating deficits over time Public spending / expenditure total amount of expenses in a given year Public revenue total amount of receipts in a given year Measures used are GDP ratios $\frac{\text{spending}}{\text{GDP}}$ ; $\frac{\text{debt}}{\text{GDP}}$ Public spending: Fiscal policies used to stabilize policies, stimulate the economy in crisis and to cool down growth in expansionary periods Public spending reflects “structural” decisions regarding pensions, health care, social protection, public services, infrastructure provision, defense, diplomatic activity Expansionary fiscal policies: Social returns from public spending vary depending on the expenses (infrastructure, social services, defense, etc.) Assessing social returns is difficult and controversial Involvement of government on economic and social life is a political option (democracy = citizens choose by voting) Budget deficits financed by borrowing: Borrowing in their own currency (government issues bonds = domestic debt) = easy to repay, no currency risk Borrowing in a foreign currency (foreign debt) = currency risk out of the country’s control Borrowing from central bank = “monetizing” the deficit (inflationary) / DIRECT METHOD, ILLEGAL IN EUROPE Developing countries can only borrow in a foreign currency of from the central bank = hyperinflation and high debt Disability to pay public debt: Renegotiations, rescheduling, more loans to keep up interest or existing debt, austerity plans (less government spending) A country that fails may find it difficult and expensive to borrow again Strengths and weaknesses of fiscal policy: + Affects the economy quickly once the decision it taken -llNot conducted by technical experts but by political professionals with other ……..objectives -llCan generate a “political business cycle” -llFalls behind during the time a policy is needed and when the government responds ……..(can take a long time) Some economists argue that fiscal (and monetary) policies destabilize the economy and that the economy should be left to deal with short-run fluctuations on its own Monetary policy: Controls the money supply (commercial banks) Responsibility of Central banks Supports economic prosperity acts on currency Ensures stability Fiscal policy: Controls how much money the government gets from taxes and how much it spends European debt crisis: Germany agreed to help countries (bail out) Only if measures were implemented wouldn’t happen again Unpopular measure in local governments Austerity (less governments spending = less income = less taxes) DOES NOT GUARANTEE THIS WON’S HAPPEN AGAIN EU needs monetary + fiscal union politics empowered with fiscal policy Cut spending, decide taxes, set laws Prevent excessive borrowing and spending Complicated and unpopular Surrender sovereignty politically complicated Alternative deficits + debt + low currency + unstable BUSNIESS CYCLES Periodic fluctuations in variables, especially GDP: increase decrease Challenges for businesses and governments: Understand drivers of business cycles Anticipate turning points Design policy response to smooth cycles Tracing business cycles: GDP fluctuates on a long-term trend representing the economy potential = Natural Real GDP Natural Real GDP or Potential GDP = level of GDP compatible with stable inflation ≠ Actual GDP GDP ≧ Natural GDP or GDP ≦ Natural GDP GDP GAP = difference between Actual and Natural GDP: Positive GDP GAP = low unemployment accelerating inflation (expansion) Negative GDP GAP = high unemployment decelerating inflation (recession) Unemployment GAP = difference between Actual and Natural unemployment rate The economy is the sum of all transactions in all markets. Total spending (GDP) is critical in understanding business cycles. One’s person spending is another’s income (circular flow of GDP). Role of debt: Credit (debt) allows immediate spending of the person’s earnings Creates cycles = paid back in the future Central banks control credit with interest rates and printing money Printing money = inflation asset bubble (rise in real estate + stock market) Forces of debt: Productivity growth Knowledge, technology, innovations rise productivity Short-term debt cycle (5-8 years) Repeating pattern when credit expands and contracts (expansion and recession) Long-term debt cycle (75-100 years) Ends during extreme deleveraging (depression) global debt unsustainable + asset prices fall Short-term debt cycle: Credit matters most in the short-term Every time you borrow, you create a cycle Spending drives pricing Spending increases and prices fall = inflation central banks raise interest Spending decreases and prices fall = deflation central banks lower interest (recession) Amount of credit controlled by central banks, commercial banks (supply), and people (demand) Long-term debt cycle: Productivity matters most in the long-term Debt burden to assess health of economy = $\frac{\text{debt}}{\text{icome}}$ Debt burden high = individuals or corporations have to spend their income to repay debt less spending = less credit = less income Prices decrease = deflation depression (rates at 0, central banks print money) Deleveraging = debt reduction Long expansion high debt burden needs to come down Austerity = cut spending (people, government) = painful deflationary Each € spent is another person’s income worsens situation Deleveraging = reduce debt (defaults, restructuring) = painful deflationary Creditors don’t pay = depositors take money out of banks (bank runs) banking system shrinks + bankruptcy Banks prefer to reduce debt than people not paying at all restructure debt (interest and maturity), principal cancellation (e.g. Greece) Redistribute wealth (through tax) = deflationary Decrease in activity = less government income from taxes BUT spending is needed to support unemployment and stimulus plans = public budget deficit explodes Borrow more or raise taxes Additional fiscal pressure rich people (“haves”) and companies to redistribute wealth through tax Print money (central banks) = indirect stimulus (central banks can’t buy goods and services to give money to households) = inflationary (during depression) Central banks can reduce interest rates to stimulate credit, demand, and investment Interest rates too low = central bank prints money Central banks buys government bonds from secondary market for printed money government issues more debt from primary market and buys goods and services to stimulate demand = risky We pay back through taxation or inflation Beautiful deleveraging well balanced = moderate inflation Deleveraging measures need to increase income higher than debt = need to decrease debt Key complaints by Germany afraid that QE by ECB is going to finance excessive and careless spending by -21- peripheral countries like in the last decade. BANKING Banks: Key role in the financial system and the economy (e.g. 2008 recession + Euro zone) Monetary policy influences banking system Boom = people take a lot on debt = borrow more Banking: Fractional-reserve banking = banks use deposited money (obligation) to lend it to others as credit and loans (debt) to make profit from interest rates (10%) People’s money becomes bank property (deposits = bank liability = has to be repaid) Money multipliers create most of the money in the economy Money multiplier = $\frac{\mathbf{1}}{\mathbf{reserve\ ratio\ \%}}$ = money in the economy Increase reserve ratios to not let banks lend money Lower reserve ratios simulate the economy banks lend more money Reserve requirement = monetary policy set by CB = minimum commercial bank reserve Types of money: Cash and coins Central bank reserves Money created by commercial banks credit and liability Bank balance sheets: Assets = use of funds (where money went cash + loans) Liabilities = sources of funds (money provenance deposits + equity capital) Financial intermediaries: Pooling savings Small deposits = big loan from bank Risk diversification (Too Big Too Fail) Savers lending funds to borrower = risk Borrower fails to pay back saver = loss Banks lend to borrowers, take an interest (profit) = safe return to lenders Maturity transformation Getting savings back whenever = lending < 1 year to borrowers Banks = long-term loans few borrowers will want money back each period Information processing Screening borrowers Processing + sharing information = debt contract Maturity mismatch: Banks offer depositors instant access to their money Make longer terms loans Solvency (capital adequacy): Solvency = equity capital > cash Loan loss absorption capacity of bank before depositors are affected Measured with leverage ratio = $\frac{\mathbf{\text{Debt}}}{\mathbf{\text{Equity}}}$ Large capital buffer = debtors protected from brank losses on their loan Liquidity: Liquidity = deposits > loans High cash in bank Cash = to pay back deposits Loans = usually not liquid High solvency and low liquidity: Equity capital > cash Loans > deposits If assets face losses (cash/loans) no impact on depositors = high equity Illiquid = bank unable to repay deposits on demand High liquidity and solvency problem: Cash + loans > deposits (repay) Cash > equity capital Equity capital < deposits Insolvent = small losses on high loans Deposit insurance: Protects depositors (up to a limit) from bankruptcy and brank runs (depositors taking money) Creation of money: Created by government central bank Notes and coins (3%-8% of the economy) Controlled by private banks (97% of money created ; privatized) Banks ensure they have enough cash to pay obligations Seigniorage: Government makes profit Difference between value of money and very little production costs Country’s revenue Government earns money without imposing taxes or borrowing money More money in circulation: Worth less = inflation (Cantillon effect) Dollarization = use dollar when national currency is too low (Argentina) Fiat money: Based on government and economy faith in the US Flexibility in monetary policy Requires to maintain currency value and economic stability Quantitative Easing: QE = investors receive the money through CB buying bonds Stimulates economy lower interest rates QE = asset purchase = ↓ r TRADE AND FOREIGN EXCHANGE Value of currency is determined by supply and demand in a free market Factors like confidence, inflation rates and the balance of payments are influential Governments can intervene to change the value of a currency (interest rates, purchases) Different exchange-rate systems = fixed to floating Foreign exchange market: FOREX market = trading currencies against each other in financial centers (London, New York, Tokyo, Frankfurt, Singapore) Over-the-counter market (OCT) Banks buy and sell bank deposits in foreign currencies inventory of securities Dealers in constant computers (internet links) and telephone contact Dealers know all prices = OCT market competitive Communication in financial center = single word market (largest market) Exchange rates Price of a currency in terms of another Number of units of one currency (price currency) that one unit of another will buy (base currency) $\frac{\mathbf{X}}{\mathbf{1}}$ Economics of exchange rates: Demand for euros come from: Foreigners want to buy products in the euro-zone (European exports) Foreigners want to visit European countries (tourism) Foreigners want to buy assets in the euro-zone (stocks, bonds) Value of currency comes from: Citizens of euro-zone who want to import foreign products Citizens of euro-zone who want to travel abroad (or consume services abroad) Citizens of euro-zone who want to buy assets abroad Factors that influence equilibrium exchange rate: Interest rates Expectations and confidence Economic factors (e.g. GDP growth) Fiscal policy (trade policy, government spending) Inflation rates Official intervention (currency manipulation) Speculation over short-term currency movements Government intervention in currency markets: Currency appreciation = rise in value of free markets Currency depreciation = fall in value of free markets Currency values managed by governments = revaluation (increase in target value of currency) / devaluation (decrease in target value of currency) Economic authorities intervention: Maintain price = economic authorities intervene (monetary authorities, CB) Open market operations (sale/purchase of domestic currency “against the market”) Market sells fixed rate over the market CB purchases domestic currency for foreign reserves (loss of international reserves = currency depreciation) Aggregate demand policies (contraction/expansion) = changing interest rates Trade and capital policies (more/less protection) Economy affected: Depreciation in currency value = Exports more competitive on foreign markets + imports expensive at home = GDP growth by raising exports Generates inflation Increases production costs in foreign currency Increases value of country’s debt in foreign currency when translated into national currency Happens if a country is export-oriented (emerging) or developed country Effect on economy: Increase in currency = Contractionary + controls inflation Increase in currency = debt in foreign value decrease US-China Currency War Exchange rate policies (taxation) Floating exchange rates = set in currency markets free interaction between supply and demand Fixed exchange rates = fixed price of currency compared to other currency (anchor currency) Classification of exchange rate by IMF Mundell-Fleming Trilemma (ideal currency regime): Exchange rate regime = foreign exchange policy (exchange rate policy + monetary finance policy issues) Ideal currency regime = fixed exchange rate = Lower uncertainty (less volatility) = international trade and investment (lower transaction costs) Trade policies = (export orientation) based on undervalued currencies Trade policies convertible (full capital mobility) Countries undertake independent monetary policy for domestic objectives A country cannot maintain a fixed exchange rate and independent monetary policy simultaneously unless it does not allow free flow of capital Impossible to combine fixed exchange rates, independent monetary policy, free capital mobility: Full capital mobility = lower interest rates during recession: Capital outflows Pressure on fixed exchange rates Lower reserves Reserves can go to 0 Possible regimes Control monetary policy with fixed exchange rates Control monetary policy with free capital mobility Free capital mobility with fixed exchange rates SOROS VS. BRITAIN Creation of European Exchange Rate Mechanism: To prevent a new war Fixed exchange system with boundaries Free movement within bands for exchange rates in European currencies ERM fluctuation bands: Currencies could fluctuate within limits Central bank of each country made sure to respect the limits If the Pound depreciated and reached the lower limit buy Pound and sell foreign reserves If the Pound appreciated and reached the upper limit sell Pound and buy foreign currency Thatcher and Major: Thatcher opposed joining ERM because of exchange rate requirements Black Wednesday End of 1980s British economy worsened Thatcher’s view ≠ Conservative party European members UK entered ERM with John Mayor Thatcher resigned a month later John Mayor came to power Britain’s economic problems: ERM = against British economic situation Recession = need to lower interest rate = promote growth Low interest rate = attract foreign investors = depreciate Pound Borrow in the UK and leave to invest abroad Supply Pounds = downwards pressure + Good for the economy decrease of Pound + threaten to go below ERM limit Soros’ vision: Best interest of ERM and UK = not sustainable Benefited from the decrease of Pound = shorted the Pound Shorting: Borrow Pound from bank (contract with promise to pay back) Sell Pound in market and buy Deutsche Mark Sold too many Pounds = decreasing its value even more Used DM to buy back Pounds gave back borrowed Pounds with interest Kept extra DM as profit = not all DMs used since Pound decreased a lot UK reaction: Tried defending Pound Buying Pounds with foreign reserves Increase interest rates = attract investors = increase demand Black Wednesday = UK left ERM cancelled 2nd interest rate Free floating Pound Low interest rate Pound appreciation Limitation of CB intervention in ERM to support currencies from falling down: Amount of existing foreign reserves they hold High interest rate: Attract foreign investors for national currency = pound appreciation High interest rate = demand currency // HAWKISH Low interest rate = more borrowing = currency depreciates Collusion = lower interest rates than other central banks // DOVISH High deficit = import > export / dollarization = lowers currency Turkey Investors look for foreign investment borrow in Turkey and Lira depreciates // over supply High exchange rate = supply increases and Lira depreciates Sold reserves to purchase Lira Not being able to decrease interest rates, due to high foreign debt Forcing exporters to convert Lirass = trying to limit others to purchase foreign currencies High inflation = real interest low, very low, or negative KAHOOT MICROECONOMICS Market with single seller and single product: Monopoly Shift of supply to the left: External factor less quantity demanded Constant supply but increase in demand: Price and quantity increase Price ceiling below equilibrium: Creates shortage Several large firms dominating the market: Oligopoly Surplus: Above equilibrium Shift of demand to the right: External factor + positive impact Shortage: Below equilibrium Market with many small firms and same product: Perfect competition Good used in place of another: Substitute Negative effect of minimum wage: Increase of unemployment Increase of demand: Increase in consumers Price increases: Quantity decreases Demand function: sign of coefficient for a substitute good: Positive KAHOOT MICROECONOMICS Fiscal deficit increases if: New stimulus programs are launched Fiscal policy impacts GDP: Directly and indirectly Transfers: Increase deficit Foreign currency government bonds in emerging markets: Benefit investor European governments’ funding before vs. after joining EU: More financing thanks to Germany Southern countries enlarged fiscal deficits were sustainable over time because: Markets kept trusting backup support from Germany Germany demand “our money our morals”: Demanded for structural changes in fiscal policy after bailout Future of EU fiscal policy: Unified fiscal policy in Europe Germany demanding austerity measures in other countries: In result of the bailout Unified fiscal policy in Europe not implemented: Political constraints GDP compatible with stable inflation and unemployment: Potential Ray Dalio ratio: Not based on traditional academic frameworks Ray Dalio ratio, forces moving economy are: Long and short-term and productivity Central banks influence the economy: By changing interest rates and printing money Creditworthy individual: Ability to repay and collateral Most important in the long run: Productivity Debt creates swings in the economy: Debt is good if employed in a profit-generating activity Debt means: Ability to spend more than you make Need to spend less than you make Inflation too high: Central banks increase interest rates Credit on short-term debt cycle depends on: Central bank and commercial banks People’s appetite for credit Deleveraging: At the end of a long-term cycle Difference between recession and depression: In a depression (deleveraging) interest rates cannot be further lowered Austerity measures: Needed up to a certain point because they are deflationary Austerity in Southern countries due of: Careless government spending in Southern countries Debt restructuring can involve: Borrowers not paying back what they owe Money printing: Central banks buying government bonds Central banks carry quantitative easing (printing money): Governments issue bonds into secondary markets Quantitative easing programs by central banks: Have no impact on government bonds In a depression, deleveraging is beautiful: If it balances inflationary and deflationary measures For a deleverage to be beautiful and effective: It needs to decrease debt burden When the economy is at a negative GDP GAP situation: Unemployment is high Inflation decelerates or even inflation KAHOOT CURRENCY AND TRADE The foreign exchange market: Composed of dealers with a diverse stock of currencies Open market operations: Performed by central banks In emerging markets: Most of the debt is denominated in foreign currency If inflation in Japan increases: The Yen will depreciate An appreciation of the emerging market local currency: Benefits EM companies with foreign debt If interests in the US are 5% and in the EU are 1%: USD / EUR exchange rate will go down If the US Fed carries out an asset purchase program more intense than the ECB: The supply of dollars will increase If the EU imposes tariffs on US products: The Euro will appreciate Erdogan, Turkish prime minister: Believes that high interest rates are inflationary In turkey the prime minister controls: Monetary policy Fiscal policy Turkish manipulation of the Lira involves: Buying Lirass If Turkish government implements an expansionary monetary policy and the EU a contractionary one: The Euro will appreciate If Turkish government didn’t manipulate the Lira,, the Lira/USD exchange rate would: Go up For China, in the absence of currency manipulation: The Yuan would appreciate China’s currency manipulation involved: Selling Yuans to keep the Yuan low If Chinese government didn’t manipulate the Yuan, the Yuan / USD exchange rate would: Go down ERM: Hybrid system (floating within boundaries) What chancellor of the Exchequer got UK into the ERM: Major In the ERM, if the GBP / DM increases close to the upper band of the system: The UK would buy pounds What is the limitation of central bank intervention to support currencies from falling down: Their existing amount of foreign reserves What monetary policy was advisable for the UK when they joined the ERM: Dovish (low interest rates) For the UK in 1992, as the pound was falling: They had to buy pounds and sell foreign currencies What monetary policy was advisable for the UK exchange rate as part of the ERM: Contractionary Before the Pound depreciated Soros: Sold Pounds In the ERM, if the DM / Italian Lira went down, the German government would: Sell DM The UK cost of Soros’ actions was the result of: Drain in UK reserves Monetary policy against UK economy interests If Australia and Japan increase interest rates, but Japan does it more intensely: The Yen will appreciate The Australian dollar will depreciate In the context of the ERM if the rate of Italian Lira / Spanish Pesetas goes up: The Spanish CB will sell Pesetas The Italian CB will buy Liras