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ECOS3010: Assignment 2 (Total: 20 marks) Due 11:59 pm, Friday, Oct 25 (Week 12), 2024
1. Homework must be turned in on the day it is due. Work not submitted on or before the due date is subject to a penalty of 5% per calendar day late. If work is submitted more than 10 days after the due date, or is submitted after the return date, the mark will be zero. Each assignment is worth 10% of total weight.
2. TYPE your work (including all mathematical equations) . Assignment must be submitted as ONE typed PDF file, with no exceptions. Untyped work will NOT be graded and will receive a mark of zero. If any question requests a graph, you may draw the graph by any software and include it as a figure in the PDF. Please do not forget to include your name and SID.
3. Ensure that working process is clearly articulated, demonstrating your under- standing and methodology. Detailed and logical presentation of the process is crucial and helpful for solving the problem and earning full credit.
PROBLEM 1. (10 Marks) Economists measure the velocity of money as PY/M, where PY and M are output (GDP) and money supply in nominal terms. The ratio PY/M indicates the frequency at which a unit of money is used to purchase final goods and services included in nominal GDP. For this problem, we explore how the velocity of money has changed in Australia for last two decades from March 2004 to March 2024 using money supply measured by Broad Money. We then use the empirical findings to examine if the quantity theory of money holds in Australia. Please submit your data (keeping three decimal places) as an appendix at the end of the PDF to your assignment.
(a) Exploit data from Australian Bureau of Statistics to find nominal output PY. In particular, you can use data series 5206.0 (Table 3, Column CG, Series ID:A2304418T) to find quarterly Gross Domestic Product (PY). [2 marks]
(b) From the Statistics Tables of the Reserve Bank of Australia, find money supply M measured by Broad Money.(Table D3, Column M, Series ID:DMABMS) Please convert the monthly data into quarterly data by keeping the values of money supply for March, June, September and December in each year. [2 marks]
(c) Calculate the velocity of money PY/M. Plot the time series for the velocity of money in a single chart. Note that output is measured in millions $ and money supply is measured in billions $. It may be useful to convert both to the same units (billions) for consistency. Please use time (quarters) as the x-axis and velocity of money as the y-axis in your time series plot. [2 marks]
(d) From your plot in part (c), how do velocity of money change over time? Can you offer an explanation to rationalize your findings? Explain. [2 marks]
(e) What does the quantity theory of money suggest? Do the empirical findings you obtain from part (c) and part (d) support the quantity theory of money in Australia? Explain. [2 marks]
PROBLEM 2. (10 Marks) Consider the OLG model in Problem 1 of Assign-ment 1. Suppose that the United States (country a) and Japan (country b) have foreign currency controls in effect. The demand for money is growing at αana in the United States and at αb nb in Japan each period. The money supplies in the United States and Japan are growing at z a and zb in each period, respectively. Please note that α , n and z are gross growth rates.
(f) Define the exchange rate (et ) as in our lectures. What are the units in which the exchange rate is measured: U.S. dollars per Japanese yen or Japanese yen per U.S. dollar? [1 mark]
(g) Using the database developed by the World Bank (World Development Indi- cators Link), find the data for two countries over the past decade to determine the values for α , n and z. What is the rate of return on money in the U.S.? In Japan? [Hint: Use the data from 2014 to 2023. For simplicity, employ the arithmetic mean for GDP growth (annual %), population growth (annual %) and broad money growth (annual %), and round the final result to four decimal points. It may be necessary to convert the net growth rates into the appropriate values for α , n and z to ensure accuracy in the analysis.] [2 marks]
(h) In a system of flexible exchange rates, what is the time path of the exchange rate between the U.S. and Japan (et+1/et ) from our model? Please review the ex- change rate data using the Japanese Yen to U.S. Dollar Spot Exchange Rate.(Please use the ’Edit Graph’ function in the provided link to correctly select the annual end- of-period data. Ensure that you choose the appropriate time frame to align with our model. Additionally, normalize the values to 100 as of the date 2013-01-01.) Based on this real-world data, do you believe the theoretical model aligns with the observed trends? Provide a brief explanation to support your assessment. [3 marks]
(i) On March 19, 2024, the Bank of Japan (BOJ) officially concluded eight years of implementing negative interest rates and other unconventional monetary policies. This marks a historic shift from its longstanding strategy of stimulating economic growth through extensive monetary stimulus over several decades. Given this change, and holding all other factors constant, which variable in our economic model for exchange rate has been impacted? Should the value of this variable be expected to increase or decrease relative to its previous level? [2 mark]
(j) How does above changing variable affect the time path of the exchange rate in our model? [2 marks]