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ECS3701 FINAL NOV EXAMS SOLUTIONS 2021
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MONETORY ECONOMICSECS3701
NHLANHLA SOSIBO
62458922
19 NOVEMBER 2021
QUESTION 1
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, 1.1 Would you be more willing or less willing to buy a share of Microsoft stock in each of the following
situations? Explain your answer. [10]
i. Your wealth falls.
Less, because your wealth has decreased so you do not have much wealth at your
disposal to invest.
ii. You expect the stock to appreciate in value.
More, because the expected returns of the stock has risen. You will get more from the
investment.
iii. The bond market becomes more liquid.
Less, because Microsoft stock has become less liquid relative to bonds. Investors prefer
liquidity.
iv. You expect gold to appreciate in value.
Less, because the expected return of Microsoft stock has fallen relative to gold, better
go for gold.
v. Prices in the bond market become more volatile.
More, because this stock will become less risky compared to the bonds
1.2 How will a fall in stock prices affect business investment? [2]
The fall of stock prices decreases the value of the business, and subsequently decrease
the returns thereof. New investors will also not be willing to invest in a falling business.
1.3 Given a shock in the aggregate demand, the central bank’s policy response is two ways. One way is
‘no response’. Explain the other way that the central bank can respond to this shock. [8]
A shock in the aggregate demand refers to a sudden and massive rise or fall of the
demand for goods and services in the economy. A sudden and sharp decrease in
aggregate demand will cause an increase in unemployment, and a decrease in the
goods’ price level, inflation. An increase in aggregate demand on the other hand will see
an increase of employment that will unfortunately come with an increase in inflation as
well. The response that the reserve bank can give is in the monetary policy. For a
negative aggregate demand shock (sudden sharp fall in the demand for goods), the
central bank can lower the real interest rate. This is to encourage investment, reduce
the cost of borrowing which starts to increase the demand for goods and services. This
was evident in South Africa recently during the time of Covid-19 hit, where the SARB
decreased the repo rate. In case of a positive shock, the central bank then raises the
real interest rate.
Question 2 [20 marks]
This study source was downloaded by 100000853391718 from CourseHero.com on 10-03-2022 03:36:49 GMT -05:00
https://www.coursehero.com/file/131493217/ECS3701-FINAL-EXAMINATIONpdfdocx/
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