Brief recap of the topics/concepts we saw during the third part of ECON

0200 course.
Luca Bossi -University of Pennsylvania-

This sheet is a recap of the material we covered after Exam II. Since Exam II we covered
ch. 16, 17, 18, 19 of the textbook. You are also responsible for all the materials from the
lecture notes, handouts, extra exercises, recitations, quizzes, and assignments. This sheet
should be used as a complement to your study only. It is supposed to serve as a
complement to all the other class material (your textbook, lecture notes, problem sets,
and other class materials/handouts) not as a substitute.

Topics we have seen since Exam II and that you should definitely master for the Exam 3.
• Definition of Money and Barter.
• The monetary system. Why money is important.
• Functions of money and different kinds of money.
• The money supply. Money in the US economy. M1 and M2.
• The FED. Its organization and its primary functions.
• The concept of bank reserves.
• The balance sheet of commercial banks: Required and excess reserves, total
reserves. Deposits, Currency, Loans, Other Assets.
• Reserve requirement, reserve to deposit ratio, currency to deposit ratio, the
monetary base.
• How commercial banks can create money supply (the loan channel of money
creation)
• The money multiplier and the money supply.
• Fed tools of monetary policy: Changes in reserve requirements, and discount
rate. Paying Interest on reserves. Unconventional monetary policy.
• Federal funds and Federal funds rate.
• Open Market Operations.
• Problems in controlling the money supply.
• Bank runs.
• Money Demand in the Short run. Real money balances and liquidity preferences.
• Money market equilibrium in the short run. Money supply (why it's vertical),
money demand (why it's downward sloping and what it depends on) and money
market equilibrium in the short run.
• What shifts the demand/supply of money in the short run.
• The monetary feedback
• The short run tradeoff between inflation and output for the Central Bank.
• The Taylor’s rule for monetary policy decisions in theory and in practice.
• Data show lack of correlation between Money growth and RGDP growth across
many countries in the long run.

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• Data show strong correlation (0.95) between Money growth and inflation across
many countries in the long run.
• The money market in the long run.
• The value of money: it is the inverse of the price level.
• Money supply (why we can assume it's perfectly vertical), money demand (why
it's downward sloping) and money market equilibrium in the long run.
• What shifts the demand/supply of money in the long run.
• Quantity theory of money. The quantity equation and the concept of velocity.
• Nominal vs. real variables and the classical dichotomy.
• Money neutrality.
• The concept of Velocity of money.
• The Fisher effect.
• The perverse mechanism(s) that can lead to Hyperinflation.
• Seignorage
• Inflation as a tax (aka the Seignorage tax).
• The Costs of Inflation: shoe-leather costs, menu costs, misallocation of
resources, confusion and inconvenience, tax distortions, arbitrary redistribution
of wealth.
• After tax real interest rate formula and examples.
• Closed versus open economy.
• International trade: Exports, imports, net exports (NX).
• What is the trade balance: Balanced trade, trade deficit, and trade surplus.
• Bilateral trade and why it needs not to be necessarily always balanced.
• Nominal (e) and real (E) exchange rate definitions.
• Appreciation and depreciation of a currency. Implications for exports and
Imports and the trade balance.
• The law of one price. Arbitrage. Purchasing Power Parity (PPP) as a theory
of exchange rate determination in the long run. Implications of PPP for E and e.
• Monetary Policy and Exchange rates.
• The limitations of PPP theory.
• The definition of Current Account and why it is ok to quantitatively approximate
the Current Account with NX.
• The definition of Financial Account (NCO) as an accounting device to monitor
asset movements.
• Net capital outflow (NCO), Capital Outflow and Capital Inflow.
• Balance of Payments definition: Current Account = Financial Account.
• The Balance of Payment implies the equality of net exports and net capital
outflows (NX = NCO). Intuition as to why they are equal.
• What variables influence NX?
• What variables influence NCO?
• The market for loanable funds equation in an open economy derived from the
expenditure equation.

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• The details of the market for loanable funds in an open economy.
• How does NCO depend on r?
• Demand and Supply of loanable funds in an open economy.
• The market for foreign currency exchange: NX as net demand for
currency and NCO as net supply of currency.
• Which price in the currency market? With this reinterpretation it becomes the
real exchange rate.
• The interaction between the market for loanable funds and the foreign currency
exchange market in the open economy. Simultaneous equilibrium with the 3
graphs adjustments.
• How government policies and events affect the open economy.
Examples:
1) government budget deficit,
2) trade policies, and
3) investment incentives,
• Capital Flights.

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