Question

We are going back to the fall of 1998, back in the 'midst' of the new economy. The U.S. economy weathered the E. Asian quite well and the U.S. economy, by almost all accounts, was performing brilliantly. In August of 1998, Russia defaulted on all the debt held by foreign investors. This"shock" rattled financial markets so much that the Fed went into action and lowered short term interest rates 3 times in a seven week period. In what follows, we are going to model this 7 weeks period using our new acquired reserve demand/reserve supply diagram. Point A: August 1998: iff = 5.5% Point B: September 1998: Lowered interest rates to if =5.25% Point C: October 1998: Lowered interest rates to ig = 5.00%%3D Point D: November 1998: Lowered interest rates to ig= 4.75% Note importantly, we are modeling the behavior of the federal funds rate during this period. Theforecasted reserve demand at this time is given below. For simplicity, this reserve demandfunction is stable (constant) throughout this exercise: Ra = 950 - 110İff What is the value of the Reserve Supply in August 1998? Hint: use the R equation and the value of iffto get the value for Rd. Then remember that Rd=R, in equilibrium! 345 427.5 400 D 350

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