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ECON 1951: Principles of Macroeconomics

Assignment 2 (10%)

1. Explain the difference between currency and bank money. Which institutions in Canada are responsible for producing these two types of money? Explain fully.

2. Why is money important for an economy?

3. Suppose that the Bank of Canada sells $2 billion of bonds on the open market. Use the Keynesian transmission mechanism to explain fully how this sale will reduce GDP by $40 billion if the money multiplier is 4 and the income multiplier with respect to the money supply is 5.

4. Explain fully why the Monetarist School claims that monetary policy is stronger than fiscal policy in stabilizing the economy to reduce recessions and inflations.

5. Implementation of monetary policy is fraught with many pitfalls. One important problem is deciding whether the central bank should target the money supply or target the interest rate. Assuming that the goal is to reduce inflation, explain the primary concern with each of these two different targets.