Final Examination Econ 712 Fall 2007 Macro II Page Total = 2 DIRECTIONS: Obey page limits. If a question has multiple parts, indicate exactly where you answer each part. This exam has three (3) sections; be sure to follow the directions for each section. Allocate your time carefully: many students spend too much time on the short answer questions. 1. VERY SHORT ANSWERS: ANSWER ALL OF THESE. Carefully define and briefly discuss the following terms, carefully contrasting the two terms in each pair. Whenever possible, supplement each verbal definition with both a mathematical definition and an example. Allocated time: 5 minutes each. Page limit: one page per definition. . rational expectations vs. long­run perfect foresight . random walk vs. unit root process . primary fiscal deficit vs. reported fiscal deficit . New Keynesian Phillips curve vs. Lucas supply curve . Euler equation vs. first order condition (dynamic programming) . Okun's Law vs. aggregate supply curve 2. SHORT ANSWERS: DO THE FIRST QUESTION AND ONE MORE FOR A TOTAL OF TWO (2) OF THE FOLLOWING QUESTIONS. ALL QUESTIONS ARE EQUALLY WEIGHTED. Allocated time: 30 minutes each. Suggested page limit: three pages per question. SA1. Provide graphs and intuition for the e ects of an increase in the money supply on the exchange rate in a ``sticky price'' model. Provide a precise intuitive discussion, including a brief verbal presentation of the model and its graphical representation. Be sure to discuss in detail all slopes and shifts for each curve. (No algebra, please.) SA2. Provide graphs and intuitions for the effects of an open market purchase in the Tobin 3­asset model. Provide a precise intuitive discussion, including a brief verbal presentation of the model and its graphical representation. Be sure to discuss in detail all slopes and shifts for each curve. (No algebra, please.) SA3. What was Sargent's (1971) critique of popular approaches to the estimation of the Phillips curve? Give a detailed account of his analysis, relating it explicitly to the Lucas (1976) critique. Be sure to include a discussion of the relevant empirical issues raised by Sargent. SA4. Explain what is meant in the consumption literature by ``excess sensitivity'' and by ``excess smooth­ ness''. Be careful and detailed. How supportive is the empirical literature of the permanent­income­ life­cycle­hypothesis? Give a brief but very precise account of at least one important empirical study. 3. LONGER ANSWERS: ALL STUDENTS MUST ANSWER ONE (1) OF THE FOLLOWING QUESTIONS. Allocated time: 1 hour. LA1. Apply the following ``term­structure'' model of a simple fix­price economy to an analysis of the additional tax cuts anticipated under the current administration. M = L(i, R, Y ) DY = phi(Y, Yss , R, F ) i = R -DR/R Here D is the differential operator, i is the short­rate, R is the coupon rate of return on a perpetuity, Y is real income, Yss is the steady­state level of real income, M is the exogenous money supply, and F is a ``fiscal stance'' variable. Give an intuitive explanation of each of the ``structural'' equations, including an explanation of the sign of each of the partial derivatives. Be sure to think carefully about any deviations of this model from the textbook version, and carefully consider the influence of Y ss on aggregate demand. (NO CREDIT if you ignore this!) Then consider the effects of a one­time, permanent, anticipated tax cut in the short run, intermediate run (i.e., dynamic adjustment, including full adjustment dynamics algebra), and long run (including full long­run comparative statics algebra). Note that two sets of algebraic results are required. Include a complete intuitive discussion supported by detailed graphs. You should assume that the combined marginal propensity to spend out of current (Y) plus ``permanent'' (Yss) income is less than unity. LA2. How does Aschauer's (AER 1985) work on consumption resemble and differ from previous work? Give a detailed presentation of his theoretical framework. How and why do his empirical predictions differ from those of Hall (1978)? Discuss in detail Aschauer's empirical methods and his results, and contrast with those of Hall. END OF EXAM