Queen's University

Economics 222 C, D, E.

Winter 1998

Exercise 3

1. Consider the April 1990-February 1992 recession in Canada. Use the CANSIM database to find the following series for the 1989 to 1992 period: M1 (B1627), stock exchange price index (B4290) and composite leading index (D100030). Convert the data to 'quarterly' frequency using the 'average' method.

(a) Was M1 a good leading indicator of the recession in 1990 and the recovery in 1992? [Use data from at least 3 quarters prior to the recession and 3 quarters prior to the recovery]

(b) Were stock prices a good leading indicator of the recession in 1990 and the recovery in 1992? [Use data from at least 3 quarters prior to the recession and 3 quarters prior to the recovery]

(c) Was the composite leading index a good leading indicator of the recession in 1990 and the recovery in 1992? [Use data from at least 3 quarters prior to the recession and 3 quarters prior to the recovery]

2. Consider the following open economy,

Cd = 400 + 0.6(Y - T +TR) - 200r
Id = 220 - 300r
NX = 200 - 0.06Y - 500r
Yf = 1950
T = 150
TR = 40
G = 190
L = 0.4Y - 250i
M = 70000
Expected inflation is 0.05.

(a) Find the general equilibrium values of output, the real interest rate, consumption, investment, net exports, and the price level.

(b) Suppose the government decides to double its transfer payments, so that TR = 80. Find the general equilibrium values of output, the real interest rate, consumption, investment, net exports, and the price level.

(c) Suppose the money supply falls by 10%, starting from case (a). Find real money demand and the price level.

3. Consider the following closed economy,

Cd = 200 + 0.7(1-t)Y - 650r
Id = 240 - 700r
Yf = 1250
t = 0.25
G = 200
L = 0.3Y - 300i
M = 20000
Expected inflation is 0.07.

(a) Find the general equilibrium values of output, the real interest rate, consumption, investment, real money demand, and the price level.

(b) Suppose that government purchases fall to 180. Find the general equilibrium values of the real interest rate, savings, real money demand, and the price level.

(c) Suppose the money supply increases to 22000, and expected inflation rises to 0.1, starting from case (a). Find the general equilibrium values of real money demand and the price level.

4. This question investigates the behaviour of the unemployment rate over the business cycle. Retrieve the unemployment rate series D767611 for the period 1980-1996 from the CANSIM database. Convert the data to 'annual' frequency using the 'average' method.

(a) What are the unemployment rates for 1982, 1989, 1992, and 1996.

(b) The natural rate of unemployment is not observed. Instead, it needs to be estimated.. Estimate the natural rate of unemployment for the 1980's by averaging over the years 1980-89 (10 data points). Use the same procedure to estimate the natural rate for the 1990's (7 data points). Calculate cyclical unemployment for 1981,1987, 1991, and 1996.

(c) The Canadian economy has been recovering since 1992. Considering the natural rates for the 1980's and the 1990's, does it make sense to talk about a jobless recovery since 1992?

5. West Bubble makes cameras that are sold for 500 yen each. East Bubble makes soap bars that are sold for 10 dollars each. The real exchange rate between East and West Bubble is 5 soap bars per camera.

(a) What is the nominal exchange rate between the two countries?

(b) Suppose that over a one year period West Bubble has 12% domestic inflation, while East Bubble has 19% domestic inflation. At the end of the year what has happened to the nominal exchange rate? Which country has had a nominal appreciation? Which has had a nominal depreciation?