Group B Discussion: Influences of Monetary and Fiscal Policy (Ch.34)

1. What is the theory of liquidity preference and how does it help explain the downward slope of the aggregate demand curve?

John Maynard Keynes came up with the theory of liquidity preference to explain short-term determination of an economy's interest rate. The interest rate adjusts to try to achieve equilibrium in the money market between the supply and demand of money. This is explained by the downward slope of the aggregate demand curve, which illustrates the negative relationship between the price level and the quantity of goods and services demanded. An increase in the price level causes an increase in the demand for money, and thus an increase in the interest rate as well. This reduces the quantity of goods and services demanded.

2. Use the liquidity preference theory to explain how decreases in the money supply affect the AD curve.

A decrease in the money supply causes a raise in the interest rate and reduces the quantity of goods and services demanded for any given price level. This shifts the aggregate demand curve to the left.

3. Give an example of a government policy that acts as an automatic stabilizer. Explain why the policy has this effect.

When the country falls into an economic recession, the government policy of collecting taxes, particularly personal income, payroll, and corporate income taxes, functions as an automatic stabilizer. A high amount of revenue from these taxes is tied to economic prosperity. The more people are paid, the more money companies earn, the higher the government's tax revenue. The short-term lower taxes stimulate aggregate demand and automatically help prevent severe economic fluctuations.

Chapters 29 & 30: Group B Discussion

1. What do we mean when we say, "money is whatever society says it is?"

Money can be whatever society as a whole deems valuable. Money is an imperative element of the economy because it is essential in exchanging goods and services between buyers and sellers.

2. Describe the components of M1, M2 and M3. In general, how do they differ?

M1 includes the total amount of physical currency outside the banking system, demand deposits, traveler's checks, and other checkable deposits.
M2 includes M1, savings deposits, small time deposits, and money market mutual funds.
M3 includes M2, large time deposits, deposits of eurodollars, and repurchase agreements.

3. What is "the Fed" and its main purpose?

The "Fed," or Federal Reserve, is responsible for controlling the supply of money in the economy. It also regulates banks and makes sure the banking system is in a healthy financial condition.

4. Take a look at the following banking in-class demonstrations. Pick one of the three demos to perform with some friends, relatives, or other persons who owe you a favor:-) 

1. Which demonstration did you choose and why?
I chose the money creation demonstration because I was curious to know more about how the Federal Reserve and the banking system facilitate expansion of the money supply.

2. Give a general description of your volunteers - approx age, gender, etc.

My volunteers were my mother and her two friends. They are women in their late forties with a basic understanding of economics. My mom is a teacher, one of her friends is a writer, and the other is a lawyer.

3. How did the demonstration go overall?
I would say the demonstration went relatively well. While I had to go through it twice because we couldn't figure out exactly how to set up the activity, in the end we all understood the concept of banks expanding the money supply. We recorded each transaction on a balance sheet, which helped compare the ending bank deposits to the initial amount of money spent by the Fed.

4. Did the volunteers seem to understand the concept being demonstrated? Why or why not?
My volunteers seemed to genuinely understand the concept. They understood liabilities and assets, and the balance sheet was definitely useful.

5. Add any other comments you feel are relevant.
I think for this demonstration, participation is key to understanding the process. I tried to explain what would happen at first with no luck, but once my volunteers became involved in the money exchange, the concept was much easier to comprehend.

6. Did you enjoy this exercise and did you learn anything new by performing the demonstration? Why or why not?
I enjoyed this exercise because I feel like everything clicked and I understand the concept perfectly now (at least I think so). This demonstration brought clarity to the role of the Fed and banking system in expanding money supply.

Chapter 24: Group B Discussion

1. What is the CPI and what is its purpose?

The CPI, or consumer price index, takes a look at a typical consumer, and the overall cost of goods and services they purchase. The CPI is calculated by the Bureau of Labor Statistics.

2.

Year	Price of Footballs	Price of Basketballs
Year 1	$10	$12
Year 2	12	15
Year 3	14	18

Basket = 3 footballs, 4 basketballs

Cost of Basket
Cost in Year 1:  (10*3)+(12*4)= $78 per basket
Cost in Year 2:  (12*3)+(15*4)= $96 per basket
Cost in Year 3:  (14*3)+(18*4)= $114 per basket

CPI
CPI in Year 1:  ($78/$78)*100= 100
CPI in Year 2:  ($96/$78)*100= 123
CPI in Year 3:  ($114/$78)*100= 146

Inflation Rates
Inflation rate for Year 2: (123-100)/100= 0.23, or 23%
Inflation rate for Year 3: (146-123)/123= 0.187, or 19%


3.   Take a look at the following link. Notice all the different measures of a country's "Standard of Living." Which do you think is the best measure and why?

The quality-of-life index seems to be the best and most comprehensive measure of a country's "Standard of Living," as it takes multiple factors into account as opposed to the GDP only or homeownership only indexes. The quality-of-life index measures social, economic, and political variables such as GDP per capita, life expectancy, political stability, job security, and more.

Chapter 3: Group B Discussion Question

Discuss a task where division of labor and specialization benefited you. (Hint: Think of a work, home, or school project situation.) Be sure to use economic terms from the chapter to describe the following.

• What task did you use division of labor and specialization to accomplish?

As seniors at my high school, we were responsible for setting up international day. My senior class was only approximately thirty people, and we each got paired up to decorate a classroom around a particular country. Once we were assigned a country and a classroom, we had the clean and rearrange the classroom, as well as assist the parents that were bringing the food and decorations for that country. I got paired up with a girl named Shama, and we were in charge of decorating the choir room to represent the United Kingdom. Somebody had to vacuum, and somebody had to go around to the teachers and collect materials to make decorations.

• Who had a comparative advantage? Who had an absolute advantage? Explain how these advantages helped determine the divison of labor.

Before we started cleaning and decorating, we talked about how to get it done as efficiently as possible. It would take me about 10 minutes to vacuum the whole classroom and rearrange the tables. It would take Shama about 1 extra minute to do the same. She was also new at the school and didn't know her way around the building. One of us had to go around to various classrooms and collect decorating materials. As Shama didn't know where  to go, it would take her about 15 minutes to collect enough supplies. Since I knew where each classroom was, it would probably only take me about 7 minutes. While I could clean the room slightly quicker than Shama, and I could definitely gather decorations quicker, she specialized in cleaning while I specialized in gathering decorations. I had an absolute advantage over Shama in collecting supplies to decorate, since it took me less time (the input) to complete the task. Shama had the comparative advantage in vacuuming and rearranging the tables, while I had the comparative advantage in gathering supplies. So, in order to complete the tasks most efficiently, she cleaned the classroom while I collected decorations. 

• Reflect on how the work to complete the task would have gone without specialization, or "trade," of labor.

Without specialization, or trade of labor, it would have taken us longer to clean and decorate, and we would have less free time to study for our upcoming exams. As it was, it took us 11 minutes to compete the tasks. However, if I had cleaned and Shama had collected supplies, it would have taken us 15 minutes. I had the comparative advantage in gathering supplies, while Shama had the comparative advantage in cleaning. If we had  each done the opposite tasks, not only would it have taken longer, but it would be much less efficient.

Opportunity Cost: Discussion Question

In the 1890's Marshall said, “economics is the study of man in the ordinary business of life." For one day, list all of the choices you had to make. Choose one of these decisions to briefly discuss on your blog.

• What was the decision you were faced with?

While my parents are in New York, I am babysitting my younger brother. I wanted to do something nice for my brother, so I debated whether or not to make him breakfast before school.

• What other alternative(s) did you have?

I could sleep in for a few more hours.
I could get an early start to my day instead of focusing on him.

• What was the opportunity cost of your choice?

If I didn't make my brother breakfast before school, I would be able to sleep in for a couple more hours.

If I sacrificed a few hours of sleep, I could make my brother a nice breakfast.

• What criteria did you use to make the choice? Did utility play are part in your decision? Explain.

Utility: a person's subjective measure of well-being or satisfaction

Utility definitely played a part in my decision. I would be happy to be able to sleep a little bit longer, but it would also make me happy to do something kind for my brother. Plus, making him breakfast would make my brother happy, which is important to me too. Additionally, I would like to start waking up a bit earlier anyway, so I can get in a routine. Overall, there were greater benefits to making my brother a nice breakfast than to sleeping more.