Question

DA=34.9 DL=15.94 DGAP=18.96

use these duration values to calculate the for the predicted changes in the banks assets a. a decrease in .35 percent on interest rates on assets

b for a .5 percent decrease in interest rates on liabilities

c. what is the change in equity value MVE from the decrease in balance sheet   calculated in part 1 and 2 in part a and b

Answer 1

1. To combat a recession due to slow business investment, the President of the United States should raise interest rates rather than expand defense funding. False. The raising of interest rates will further contract investment. Moreover, the President can only influence fiscal policy. Raising or lowering interest rates is monetary policy, which is the domain of the Federal Reserve Bank. 2. A monetary contraction cannot affect the public budget since it is not a fiscal policy. False. A monetary contraction tends to increase the interest rate, decreasing investment and lowering equilibrium output. If government taxation is proportionate to output, total tax revenues will decline and the government’s budget position will worsen. 3. If incomes increase by $1, aggregate demand increases by less than one dollar. True. We typically think of an exogenous increase in investment or government spending (components of aggregate demand) producing a magnified increase in incomes through the multiplier effect. In the basic goods model of Chapter 3, a shift along the vertical demand axis produces a larger shift along the horizontal incomes axis. The statement above is the opposite way of approaching the problem; a shift in incomes on the horizontal axis produces less of a shift in aggregate demand. 4. The equality of national income and national output is an example of an equilibrium relationship. False. This is an identity from the National Income and Product Accounts design. Production equaling output demand is an example of an equilibrium relationship. The third type of equation employed is a behavioral equation (e.g., our consumption functions). 5. Taxing the illegal or underground economy is not possible with either fiscal or monetary policy. False. We have seen that the opportunity cost of holding currency is lost interest and inflation (the nominal interest rate). A large portion of United States currency is held abroad and likely used for the illegal transactions; by inflating the monetary base, the Federal Reserve Board imposes a tax on these holdings (as well as yours and mine). Of course, these types of considerations are second-order to the benefits of stable inflation for our economy. 6. Firms often finance investment projects through retained earnings. If this was universally true, changing the interest rate would not influence investment. [When a firm makes a profit, it either pays dividends to its shareholders or retains the earnings for firm operations and investments. The expectation of the shareholders is that the investments from retained earnings will produce additional future dividends that outweigh the dividend lost in the current period.] False. Even with investment