Multiple choice questions:
Part 1
1. Demand deposits are
a. long-term, high-interest savings accounts
b. accounts into which banks can require depositors make regular deposits
c. checkable deposits held by commercial banks that earn no interest
d. negotiable order of withdrawal accounts
e. loans from the Fed
2. Which of the following make up the money supply as it is most narrowly defined?
a. coins and currency held by the nonbank public, traveler's checks, and savings deposits
b. all coins and currency held by the nonbank public
c. coins and currency held by the nonbank public, checking deposits, and traveler's checks
d. coins and currency held by the nonbank public, checking deposits, and savings deposits
e. checking deposits, savings deposits, and money market mutual fund accounts
3. Which of the following is not legal tender in the United States?
a. a $2 bill
b. a fifty-cent piece
c. a $100 bill
d. a $5 Federal Reserve Note
e. a check
4. The largest component of M1 is
a. currency
b. checkable deposits
c. traveler's checks
d. money market mutual fund accounts
e. savings accounts
5. Currently, M2 is approximately
a. equal to M1
b. twice the size of M1
c. half the size of M1
d. ten times the size of M1
e. three times the size of M1
6. Banks act as financial intermediaries by
a. bringing together car buyers and auto dealers
b. bringing together real estate brokers and home buyers
c. printing money for all to use
d. serving the credit needs of borrowers and the security needs of savers
e. selling shares of stock to investors
7. Banks create money when they make loans.
a. True
b. False
8. Banks have more expertise than individual households in making loans because banks
a. lend larger amounts of money
b. are regulated by the government
c. also pay interest to savers
d. are subject to severe penalties if they make bad loans
e. make many more loans than individual households do
9. Banks minimize the risk of loss to depositors by
a. lending to casino owners
b. making many different loans to different borrowers
c. refusing to lend money to the U.S. government
d. putting all their eggs in one basket
e. making very long-term loans
10. On a bank's balance sheet, the value of its assets must equal
a. net worth
b. liabilities
c. owner's equity
d. liabilities plus net worth
e. revenues minus costs
11. On a bank's balance sheet,
a. deposits and loans are assets
b. deposits and loans are liabilities
c. deposits are liabilities; loans are assets
d. deposits are assets; loans are liabilities
e. deposits and loans are not listed
12. Which of the following is a liability for a bank?
a. U.S. government securities
b. deposits with the Fed
c. checkable deposits
d. consumer and business loans
e. building and furniture
13. If you know the required reserve ratio and the amount of a bank's deposits, then you know the minimum amount of reserves the bank is required to hold.
a. True
b. False
14. A bank with $1 million in deposits and $50,000 in excess reserves, facing a required reserve ratio of 20 percent, holds total reserves of $250,000.
a. True
b. False
15. If a bank has $6,000 in checkable deposits and the required reserve ratio is 0.2, then the bank can lend
a. $4,000
b. $16,000
c. no more than $4,800
d. no less than $3,000
e. $1,000
16. If the required reserve ratio is 10 percent and a bank receives a new deposit for $100,000, then the
a. bank must keep $5,000 in excess reserves
b. bank's required reserves increase by $45,000
c. bank's liabilities increase by $100,000
d. bank can increase its loans by up to $50,000
e. bank can increase its loans by up to $400,000
17. Suppose that a bank has $100 million in checkable deposits and the required reserve ratio is 0.1. Required reserves are
a. $1 million
b. $5 million
c. $10 million
d. $50 million
e. $100 million
18. Suppose the required reserve ratio is 0.1 and Linda deposits $4,000 in cash at the College State Bank. If the bank held no excess reserves before Linda's deposit and now increases its reserves by $500, which of the following is true?
a. The bank must have lent out an additional $4,000.
b. The $500 are required reserves.
c. The bank has excess reserves of $100.
d. Both the bank's assets and its liabilities rise by $500.
e. The bank has $500 in excess reserves.
19. Banks in need of reserves can borrow from the Fed or in the federal funds market.
a. True
b. False
20. If at the end of the business day a bank has $50,000 in excess reserves, and the required reserve ratio is 20 percent, the bank can maximize its profits if it
a. keeps the excess reserves
b. loans out $40,000
c. loans $50,000 to another bank
d. borrows $50,000 to remove the excess reserves
e. keeps $10,000 and deposits $40,000 with the Fed
21. Banks borrow excess reserves from each other on a day-to-day basis in the
a. federal reserve market
b. stock market
c. bond market
d. federal funds market
e. discount window at the Fed
22. By holding highly liquid assets to guard against sudden large withdrawals, banks
a. sacrifice safety
b. sacrifice profitability
c. increase profitability
d. hold less cash in their vaults
e. earn more interest than they could on business loans
23. A bank manager who wants to increase profitability would likely
a. hold more of the bank's assets in required reserves
b. hold more of the bank's assets in excess reserves
c. reduce the liquidity of a bank's assets
d. meet all depositors' requests for funds with little trouble
e. hold more of the bank's assets in deposits at the Federal Reserve System
24. The federal funds rate is the interest rate paid when
a. the Federal Reserve makes loans to member banks
b. taxpayers pay overdue taxes
c. one bank borrows reserves from another bank
d. banks make loans to the federal government
e. the federal debt is refinanced
25. The immediate effect of a member bank's sale of U.S. government securities to the Fed is a(n)
a. increase in that bank's required reserves
b. decrease in that bank's required reserves
c. increase in that bank's excess reserves
d. decrease in that bank's excess reserves
e. decrease in the Fed's assets
26. Suppose you borrow $1,000 to purchase a car. Which of the following correctly represents the changes in your personal balance sheet after the bank lends the money but before you spend it?
a. assets: loan, +$1,000; liabilities and net worth: checking deposit, +$1,000
b. assets: loan, -$1,000, checking deposit, +$1,000; liabilities and net worth: no change
c. assets: loan, +$1,000, checking deposit, -$1,000; liabilities and net worth: no change
d. assets: checking deposit, +$1,000; liabilities and net worth: loan, +$1,000
e. assets: checking deposit, +$1,000; liabilities and net worth: loan, -$1,000
27. In order to increase the money supply, the banking system must have
a. required reserves
b. the authority to buy corporate stocks
c. the authority to print U.S. currency
d. excess reserves
e. the authority to engage in interstate banking
28. If a bank borrows $1,000 from the Fed and lends it out, the bank sets in motion a process that will result in an expansion of the money supply by a multiple of that $1,000.
a. True
b. False
29. In the money and credit expansion process, when r = the required reserve ratio, the total change in checkable deposits is equal to the initial change in excess reserves
a. multiplied by r
b. plus the change in required reserves
c. divided by 1/r
d. multiplied by 1/r
e. divided by the change in required reserves
30. If the required reserve ratio is 20 percent and the Fed buys a $10,000 security from a depository institution that currently has no excess reserves, what happens to the money supply, using the simple multiplier?
a. Nothing.
b. It increases by $5,000.
c. It decreases by $5,000.
d. It increases by $50,000.
e. It decreases by $50,000.
31. The banking system creates money in the sense that it
a. prints money
b. creates excess reserves from loans
c. creates loans from excess reserves
d. creates required reserves from loans
e. creates loans from required reserves
32. The simple money multiplier is defined as
a. the reciprocal of the interest rate
b. 1/required reserve ratio
c. excess reserves plus required reserves
d. the reciprocal of the federal funds rate
e. the reciprocal of the discount rate
33. The simple money multiplier equals
a. 1 divided by the dollar amount of required reserves
b. the dollar amount of total reserves divided by the dollar amount of excess reserves
c. the dollar amount of excess reserves divided by the dollar amount of total reserves
d. 1 divided by the percentage of deposits that must be held by a bank in the form of reserves
e. 1 divided by the percentage of deposits that can be lent out by a bank
34. If checking deposits increase by $6,000 after all rounds of the money-creation process when the Fed buys $1,200 worth of U.S. government securities, the maximum value of the required reserve ratio is
a. 5
b. 0.75
c. 0.2
d. 1.2
e. 1.0
35. Suppose the required reserve ratio is 0.2 and the Fed buys $100,000 in government securities from Big Bank. How much money can the commercial banking system create?
a. $1,000,000
b. $500,000
c. $100,000
d. $80,000
e. none
36. If banks allow some of their excess reserves to remain in the vault,
a. the simple money multiplier will exceed the actual money multiplier
b. the simple money multiplier will understate the expansion of credit
c. the actual money multiplier and the simple money multiplier will be equal
d. banks will earn more interest
e. credit expansion will be greater than if they had lent out these reserves
37. Under which of the following circumstances will the simple money multiplier most overstate the change in checkable deposits arising from a change in excess reserves?
a. The public withdraws no cash and banks hold no excess reserves.
b. The public withdraws no cash and banks hold excess reserves.
c. The public withdraws cash and banks hold no excess reserves.
d. The public withdraws cash and banks hold excess reserves.
e. The required reserve ratio equals 1.
38. If banks choose not to lend out their excess reserves then the money supply will not expand.
a. True
b. False
39. Suppose the Fed sells $10 million in government securities to a commercial bank. If the required reserve ratio is 0.2, what is the maximum amount by which checkable deposits in the banking system can change? (Hint: Compare what the banking system might have done if it had loaned at every opportunity; also include the initial transaction with the Fed.)
a. +$10,000,000
b. -$10,000,000
c. +$50,000,000
d. -$50,000,000
e. +$20,000,000
40. Suppose the reserve requirement ratio is 10 percent. Assuming no bank holds excess reserves and nobody withdraws cash, a $100,000 reduction of excess reserves by the Fed can eventually
a. reduce checkable deposits by $2 million
b. raise checkable deposits by $10 million
c. reduce checkable deposits by $1 million
d. raise checkable deposits by $200,000
e. reduce checkable deposits by $10,000
41. Which of the following is not an activity of the Fed?
a. making loans to the public
b. clearing banks' checks
c. lending funds to the federal government
d. purchasing U.S. government securities
e. holding deposits of the U.S. Treasury
42. Congressional control over the Fed is
a. substantial because it can cut off necessary appropriations
b. limited because the Fed is not dependent on Congress for the funds to support its operations
c. substantial because the members of the Board of Governors can be replaced every four years
d. substantial because Congress has created a Super Board to oversee the Fed
e. limited because members of the Fed Board are appointed for life
43. If a bank receives $2,500 of reserves by selling a government bond to the Fed, its ability to make loans increases by $2,500.
a. True
b. False
44. The Fed's purchase of U.S. government securities constitutes a(n)
a. contractionary policy because it lowers the amount of total reserves in the banking system
b. contractionary policy because it lowers the amount of excess reserves in the banking system
c. expansionary policy because it raises the amount of total reserves in the banking system
d. expansionary policy because it lowers the amount of total reserves in the banking system
e. expansionary policy because it raises the amount of required reserves in the banking system
45. The primary tool the Fed uses to control the money supply today is
a. the discount rate
b. the required reserve ratio
c. the discount window
d. chartering
e. open market operations
46. A fall in the discount rate will usually encourage bank borrowing from the Fed and therefore reduce the money supply.
a. True
b. False
47. The Federal Reserve may increase the money supply by
a. selling a bond to a member bank
b. selling a bond to a securities dealer
c. lending reserves to banks
d. increasing required reserve ratios
e. increasing the discount rate
48. Lowering the discount rate is a way to expand the money supply because
a. it encourages banks to borrow from the Fed so they can more easily accommodate their customers' needs for loans
b. it encourages business customers to borrow directly from the Fed
c. a lower discount rate reduces the amount of reserves banks are required to keep
d. a lower discount rate automatically reduces excess reserves
e. it encourages banks to sell U.S. government securities and increase their cash reserves
49. Decreasing the required reserve ratio is
a. a contractionary policy because it lowers the amount of total reserves in the banking system
b. a contractionary policy because it lowers the amount of excess reserves in the banking system
c. an expansionary policy because it raises the amount of required reserves in the banking system
d. an expansionary policy because it raises the amount of total reserves in the banking system
e. an expansionary policy because it raises the amount of excess reserves in the banking system
50. Assume there are no excess reserves in the banking system when the reserve requirement is 20%. The purchase by the Fed of $10,000 in U.S. government securities from Academy National Bank has the potential of ultimately increasing the money supply by a total of
a. $2,000
b. $8,000
c. $10,000
d. $20,000
e. $50,000
51. The largest component of the Federal Reserve's liabilities is in the form of
a. government securities
b. Federal Reserve notes
c. U.S. Treasury deposits
d. bank deposits
e. coins
52. The majority of the Fed's assets are
a. discount loans
b. U.S. government securities
c. loans to member banks
d. Federal Reserve notes
e. reserves of member banks
Part 2
1. Speaking of the demand for money
a. makes no sense in a modern society in which most people use credit cards
b. makes no sense in a modern society in which most people use checks
c. makes sense in a modern society in which most people use checks, since demand deposits are included in M1, but it does not make sense in a society in which the primary payment is by credit card
d. makes sense in a modern society in which most people use credit cards, since credit cards are included in M1, but it does not make sense in a society in which the primary payment is by check
e. is relevant even in a society in which primary payment is by credit card, since eventually all accounts must be settled with money
2. The opportunity cost of holding money is measured by the
a. interest rate
b. liquidity lost by holding money
c. money supply curve
d. inflation rate
e. cost of cashing in financial assets
3. The demand for money is based primarily on money's role as a(n)
a. store of wealth
b. medium of exchange
c. standard of value
d. interest-bearing asset
e. non-interest-bearing asset
4. The money demand curve will shift when there is a change in
a. interest rates
b. velocity
c. the money supply
d. the opportunity cost of holding money
e. nominal GDP
5. When the demand for money is shown on a graph, the __________ is on the vertical axis, and the __________ is on the horizontal axis.
a. quantity of money; interest rate
b. interest rate; quantity of money
c. real GDP; quantity of money
d. nominal GDP; quantity of money
e. price level; quantity of money
6. An increase in the price level will
a. shift the money demand curve to the right
b. shift the money demand curve to the left
c. increase the quantity of money people want to hold
d. decrease the quantity of money people want to hold
e. have no impact on the money demand curve
7. If the interest rate rises, people hold
a. less money because its opportunity cost has increased
b. more money because its opportunity cost has increased
c. less money because its opportunity cost has declined
d. more money because its opportunity cost has declined
e. the same amount of money
8. Which of the following, other things constant, will shift the money demand curve to the right?
a. an increase in the interest rate
b. a decrease in the interest rate
c. an increase in real GDP
d. a decrease in real GDP
e. a decrease in the price level
9. A movement upward and to the left along the money demand curve is caused by
a. an increase in the interest rate
b. a decrease in the interest rate
c. a decrease in real GDP
d. an increase in real GDP
e. an increase in the average price level
10. The opportunity cost of holding money
a. includes bank service charges
b. is the interest foregone on potential interest-earning assets
c. varies inversely with the rate of interest
d. affects relatively few individuals
e. is determined exclusively by the Fed
11. The supply of money is depicted diagrammatically as a vertical line because the quantity of money supplied is totally dependent on the rate of interest.
a. True
b. False
12. If the money supply increases, the interest rate will __________ and people will want to hold a __________ quantity of money.
a. rise; greater
b. rise; smaller
c. not change; greater
d. fall; greater
e. fall; smaller
13. Which one of the following statements is correct?
a. The lower the interest rate, the higher the opportunity cost of holding assets in the form of money.
b. A vertical money supply curve means that the quantity of money supplied is independent of the interest rate.
c. The larger the supply of money, the higher the interest rate, all things equal.
d. Travelers checks and government bonds are equally liquid assets.
e. The transactions demand for money increases whenever the price level decreases.
14. If there is a decrease in the supply of money, which one of the following is most likely to happen?
a. the demand for money will increase
b. planned investment spending will increase
c. interest rates will rise
d. aggregate expenditure will increase
e. the demand for money will decrease
15. When an increase in the money supply reduces the interest rate, investment and nominal GDP increase.
a. True
b. False
16. In the short run, a decrease in the money supply will cause a decrease in Gross Domestic Product and a decrease in the price level.
a. True
b. False
17. If the Fed wanted to stimulate the economy, it might
a. buy bonds to lower the money supply
b. sell bonds to lower the money supply
c. raise the discount rate to increase the money supply
d. lower the discount rate to increase the money supply
e. increase the required reserve ratio to lower the money supply
18. An increase in the interest rate will
a. have no effect on investment, since investment is autonomous
b. increase investment, since it will be more profitable to hold stocks and bonds
c. increase investment, since people will be less willing to hold money
d. decrease investment only if firms have to borrow money to make investments
e. decrease investment regardless of whether firms have to borrow money to make an investment
19. As the interest rate decreases,
a. the demand for investment curve shifts to the right
b. the demand for investment curve shifts to the left
c. there is a downward movement along the demand for investment curve
d. there is an upward movement along the demand for investment curve
e. GDP decreases
20. What is the effect of an expansionary monetary policy on the demand for investment curve?
a. It causes the curve to shift left.
b. It causes the curve to shift right.
c. It causes downward movement along the curve.
d. It causes an upward movement along the curve.
e. It has no effect on the quantity of investment demanded.
21. If the Fed decreases the money supply, GDP
a. increases because the resulting increase in the interest rate leads to a decrease in investment
b. increases because the resulting decrease in the interest rate leads to an increase in investment
c. decreases because the resulting increase in the interest rate leads to a decrease in investment
d. decreases because the resulting increase in the interest rate leads to an increase in investment
e. decreases because the resulting decrease in the interest rate leads to an increase in investment
22. If the Fed sells government securities to banks, eventually we expect
a. aggregate demand to increase
b. short-run aggregate supply to decrease
c. interest rates to decrease
d. planned investment expenditures to decrease
e. real Gross Domestic Product to increase
23. If investment is not sensitive to changes in the interest rate, then changes in the money supply
a. will have no effect on interest rates
b. will have a major impact on investment
c. will have no effect on aggregate demand
d. will have a major impact on aggregate demand
e. mean the money supply curve will not be vertical
24. A decrease in the money supply causes interest rates to __________, investment spending to __________ and Gross Domestic Product to __________.
a. fall; rise; fall
b. fall; fall; rise
c. rise; rise; rise
d. rise; fall; fall
e. rise; fall; rise
25. If interest rates are __________ to changes in the money supply and planned investment expenditures are __________ to interest rate changes, then monetary policy will be ineffective in changing aggregate demand.
a. responsive; sensitive
b. responsive; insensitive
c. not responsive; sensitive
d. not responsive; insensitive
e. none of the above
26. Which monetary policy would be appropriate to close a contractionary gap?
a. a tax cut
b. a decrease in government purchases
c. an increase in reserve requirements
d. the Fed's purchase of U.S. government securities
e. the Fed's raising the discount rate
27. If the Fed wants to close a contractionary gap, it might
a. increase government spending
b. increase taxes
c. decrease taxes
d. sell U.S. government bonds to banks
e. lower the discount rate
28. Which of the following is an example of a contractionary monetary policy?
a. Transfer payments to poor families are reduced.
b. The Fed buys government securities in the open market.
c. The discount rate is raised.
d. The required reserve ratio is lowered.
e. Anything the Fed does to shift the money supply to the right is a contractionary policy.
29. When the short-run aggregate supply curve is steep, then for a given increase in aggregate demand,
a. the increase in real GDP will be relatively small and the increase in the price level will be relatively large
b. the increase in real GDP will be relatively large and the increase in the price level will be relatively small
c. the increases in real GDP and the price level will be large
d. the increases in real GDP and the price level will be small
e. the decrease in real GDP will be larger than the decrease in the price level
30. If the Fed changes the federal funds rate
a. inflation is brought to an immediate halt
b. the inflation rate increases for several months, but then begins to decreases
c. major banks try to offset this change by lowering the interest rates they charge on loans
d. major banks try to offset this change by lowering the interest rates they pay on savings deposits
e. major banks raise the prime interest rate that they charge to their best customers
31. According to the equation of exchange, M ? V = P ? C.
a. True
b. False
32. The equation of exchange states that
a. money in circulation ? prices = velocity ? income
b. money in circulation ? income = velocity ? prices
c. real GDP = money in circulation ? velocity
d. nominal GDP = money in circulation ? velocity
e. real GDP = prices ? money in circulation ? velocity
33. If the money supply is $1,000, the price level is 3, and real income (or output) is $5,000, then the velocity of money is
a. 0.2
b. 0.6
c. 1.67
d. 5
e. 15
34. If the money supply is $300, the price level is $4, and real GDP is $1,500, what is the nominal value of output?
a. $1,200
b. $4,500
c. $6,000
d. $180,000
e. $500
35. In the long run, increases in the money supply increase the economy's potential output level.
a. True
b. False
36. If the money supply increases when there is much idle capacity in the economy,
a. most of the resulting rise in nominal GDP will be a result of price increases
b. most of the resulting rise in nominal GDP will be a result of increases in real output
c. most of the resulting rise in real GDP will be a result of increases in the price level
d. most of the resulting rise in real GDP will be a result of increases in the interest rate
e. only nominal GDP will change; real GDP will be unaffected
37. If the Fed expands the money supply, a short-run aggregate supply curve __________ would yield the largest short-run increase in the price level.
a. that is vertical
b. with a steep slope
c. that coincides with the 45-degree line
d. that is relatively flat
e. that is horizontal
38. An increase in aggregate demand will have a smaller long-run effect on real GDP if the
a. aggregate demand curve is flat
b. short-run aggregate supply curve is horizontal
c. economy is well below potential output
d. economy is already at potential output
e. aggregate demand curve is fairly steep
39. In an economy in which velocity is constant and real output grows at an average rate of 4 percent per year, a 4 percent average rate of growth in the money supply would result in
a. a constant price level
b. a slowly increasing price level
c. a rapidly increasing price level
d. constant real GDP
e. constant nominal GDP
40. If the money supply is increasing at a constant 8 percent, velocity is constant, real GDP is increasing at 5 percent, and the inflation rate is 3 percent, which of the following is true?
a. The growth rate of GDP is too low to be maintained.
b. The inflation rate is too low to be maintained.
c. Velocity is too low to be maintained.
d. The money supply growth rate is too low to be maintained.
e. This situation can continue indefinitely.
41. The quantity theory of money
a. states that fiscal policy plays an important role in determining economic activity
b. states that the quantity of money in circulation determines aggregate spending
c. argues that velocity is unpredictable
d. states that the quantity of money in circulation determines only the price level in the long run
e. states that the quantity of money in circulation determines only real spending in the short run
42. If something causes the velocity of money to increase, the same amount of money will
a. be able to support more transactions, so nominal GDP can increase
b. be forced to support more transactions, so nominal GDP will decrease
c. be able to support fewer transactions, so nominal GDP will decrease
d. no longer have to support so many transactions, so nominal GDP can increase
e. mean nothing can happen to nominal GDP
43. Historical evidence has shown that the M1 velocity of money in the United States
a. has remained constant
b. has remained predictable but not constant
c. has varied over the century but is currently near constant
d. has varied over the century and has recently fluctuated a quite a bit
e. is not correctly placed within the equation of exchange
44. There is considerable disagreement about whether the Fed should
a. engage in open market operations
b. have the power to set reserve requirements
c. reduce the money supply when the economy is growing
d. allow banks to invest in the stock market
e. attempt to control interest rates or should instead attempt to control the money supply
45. Suppose that the demand and supply of money are initially in equilibrium, and that the demand for money increases. A monetary authority interested in keeping the money supply constant and the interest rate low must
a. increase the money supply
b. decrease the money supply
c. increase the demand for money
d. decrease the demand for money
e. give up pursuing both goals at the same time and choose one or the other
46. For interest rates to remain stable during economic expansions, the money supply should
a. decrease at a faster rate than the demand for money
b. grow at the same rate as money demand
c. grow at a faster rate than money demand
d. grow at a slower rate than money demand
e. decrease at a slower rate than the demand for money
47. For interest rates to remain stable during economic expansions, the growth rate of the money supply should
a. exceed the growth in the demand for money
b. just match the growth in the demand for money
c. be less than the growth in the demand for money
d. be zero
e. just match the growth in nominal GDP
48. If the Federal Reserve is targeting the interest rate when the demand for money increases, their proper response is to
a. decrease the money supply
b. keep the money supply constant
c. increase the money supply
d. stimulate inflation to increase the demand for money
e. stimulate a decrease in the price level to increase the demand for money
49. The interest rate that banks charge one another for overnight lending of reserves is the
a. federal funds rate
b. interbank credit card rate
c. subprime mortgage rate
d. prime rate
e. local funds rate
50. The Fed's grip is tightest on the
a. prime rate
b. federal funds rate
c. mortgage rate
d. credit card rate
e. student loan rate
Part 3
1. An economy that self-corrects a contractionary gap will experience falling nominal wages, rising real wages and falling output.
a. True
b. False
2. Which of the following is not consistent with a self-correcting economy?
a. Market forces work relatively well in pushing the economy to potential GDP.
b. Prices and wages are flexible.
c. A contractionary gap is corrected through falling wages and prices.
d. The short-run aggregate supply tends to shift until it intersects aggregate demand at potential GDP.
e. An active approach to a recession or depression.
3. The reason why self-correction works to close a contractionary gap is because
a. a labor shortage causes money wages to increase
b. a labor surplus causes money wages to increase
c. a labor shortage causes money wages to fall
d. a labor surplus causes money wages to fall
e. falling money wages shift the short-run aggregate supply curve to the left
4. According to the active policy position, eliminating a contractionary gap
a. can only be achieved by decreasing wages
b. requires a public policy of wage and price controls
c. should be accomplished by stimulating aggregate demand
d. will increase unemployment
e. will cause a recession
5. According to those who favor a passive approach to policy, a contractionary gap will be eliminated because
a. prices and wages rise rapidly
b. prices and wages are flexible
c. the aggregate demand curve will shift to the right
d. the economy automatically slows down
e. the aggregate demand curve will shift to the left
6. Those who favor a passive approach to policy think that all of the following conditions will allow the economy to bring itself out of a contractionary gap except one. Which is the exception?
a. lower real wages
b. a shortage of labor
c. lower production costs
d. a lower expected price level
e. a rightward shift in the short-run aggregate supply curve
7. When self-correction works to eliminate an expansionary gap,
a. both money wages and real wages increase
b. money wages increase while real wages decrease
c. both money wages and real wages decrease
d. money wages decrease while real wages increase
e. money wages remain unchanged
8. An economy in which actual GDP exceeds potential GDP means that
a. wages and prices must fall
b. self-correcting forces will shift the SRAS curve to the left
c. self-correcting forces will shift the AD curve to the left
d. inflation will occur when AD shifts to the left
e. unemployment is likely to be unusually high
9. According to the passive policy maker's position, an expansionary gap will be eliminated because
a. the short-run aggregate supply will shift to the left
b. the short-run aggregate supply will shift to the right
c. rising prices will shift the aggregate demand to the left
d. wages will fall relatively quickly
e. aggregate demand will shift to the right as wages increase
10. The formulation of active policy is
a. made easier if the natural unemployment rate can be easily calculated
b. made easier if the natural unemployment rate cannot be easily calculated
c. made more difficult if the natural unemployment rate can be easily calculated
d. made more difficult if the natural unemployment rate cannot be easily calculated
e. done without considering the natural unemployment rate because such a policy focuses on rules to follow in any unemployment situation
11. The effectiveness lag for monetary policy is short.
a. True
b. False
12. Long lags make discretionary policy less effective because
a. in the long run, we shall all be dead
b. by the time the impact of a policy is felt, the problem it was meant to cure may have been corrected
c. lags are longer in contractions than in expansions
d. lags are longer in expansions than in contractions
e. automatic stabilizers are subject to longer lags than are discretionary policies
13 The time it takes for the Fed's purchase of government securities to ultimately change aggregate demand is called the
a. recognition lag
b. implementation lag
c. effectiveness lag
d. decision-making lag
e. self-correction lag
14. A new policy is actually put in force during the
a. activity lag
b. decision-making lag
c. effectiveness lag
d. implementation lag
e. recognition lag
15. Time required __________ is not a time lag associated with using discretionary policy to correct an economic problem.
a. to recognize the problem
b. to decide how to handle the problem
c. to set a policy change in action
d. for a policy to affect economic variables
e. to coordinate monetary and fiscal policy
16. An implementation lag is the time it takes
a. policy makers to decide what to do
b. for the chosen policy to have its full impact on the economy
c. to identify trouble in the economy and to assess its severity
d. to put a selected policy into action
e. before a policy's effects on the economy are noticed by ordinary people
17. The __________ lag is typically longer for fiscal policy than monetary policy.
a. both b and d
b. decision-making
c. effectiveness
d. implementation
e. recognition
18. Which of the following statements supports the passive approach to a contractionary gap?
a. It is likely that policies will be subject to time lags.
b. Prolonged unemployment may cause the economy's potential real GDP to fall.
c. Workers' skills may grow rusty during a prolonged recession.
d. Unemployed workers may drop out of the labor force during a prolonged recession.
e. Firms may neglect their capital stock during a prolonged recession.
19. Those who favor an active approach to policy believe that
a. discretionary monetary policy cannot be used to help the economy since monetary policy lags are long
b. discretionary fiscal policy cannot be used to help the economy since fiscal policy lags are long
c. lags associated with implementing policies are too long and unstable for discretionary policy to be effective
d. despite the lags involved, implementing discretionary policy is preferable to inaction
e. none of the above
20. A passive approach to economic policy calls for the government to do nothing to offset unemployment because of
a. a lack of any real concern for those who have no jobs
b. a conviction that unemployment is relatively harmless
c. a belief that active economic policy is likely to be either ineffective or harmful
d. a desire to await further economic data before intervening
e. belief in the law of diminishing returns
21. According to the rational expectations school,
a. on average people have very little idea of what to expect from government policy makers
b. people form expectations by focusing only on the private sector
c. changes in the expected price level shift the aggregate demand curve
d. people do not consider likely government policies when forming expectations, choosing to remain rationally ignorant
e. people form expectations, in part, by considering the probable future actions of government policy makers
22. If the price level increases more rapidly than expected,
a. output will fall
b. output will increase
c. output will not change
d. real wages will increase
e. none of the above
23. Which of the following would eliminate the time inconsistency problem?
a. Each of the following would eliminate the time inconsistency problem.
b. When lags associated with monetary and fiscal policy are extremely short.
c. When discretionary macro policy is replaced with fixed policy rules which are well publicized.
d. When expectations about the economy adjust very slowly.
e. None of the above.
24. If rational expectations cause people's price expectations to be generally correct, active policy will influence the price level but not output.
a. True
b. False
25. According to the rational expectations school, when the economy is operating at the potential output level, a temporary decrease in unemployment is possible through appropriate monetary policy--but only if workers and employers are aware in advance of the Fed's intentions.
a. True
b. False
26. According to the rational expectations school, if the Fed announces a policy of rapid growth in the money supply, but then puts the brakes on money expansion without any announcement, the short-run result is likely to be
a. an unexpected surge in aggregate demand
b. an unexpected drop in aggregate demand
c. an anticipated surge in aggregate demand
d. an anticipated drop in aggregate demand
e. no change in aggregate demand
27. The time inconsistency problem arises when
a. attempts are made to coordinate monetary policy throughout different time zones
b. there is a lag between the announcement of a monetary policy and the implementation of it
c. policy makers have an incentive to mislead people about their monetary policy intentions
d. policy makers do not allow enough time for a new policy to take effect
e. there is a deep conflict among monetary policy makers
28. Advocates of policy rules rather than discretion believe that self-correction forces work too slowly when discretionary policy is used.
a. True
b. False
29. According to rational expectations theory, people's predictions about the future course of governmental economic policy influence the position of the short-run aggregate supply curve.
a. True
b. False
30. The main policy conclusion of the rational expectations school is
a. fiscal policy lags are so long and variable that such policy is worthless, but monetary policy can be helpful
b. monetary policy lags are so long and variable that such policy is worthless, but fiscal policy can be helpful
c. both monetary and fiscal policy can be helpful if policy makers correctly anticipate the plans of firms and households
d. both monetary and fiscal policy can be helpful if firms and households correctly anticipate the plans of policy makers
e. neither monetary nor fiscal policy can be helpful if firms and households correctly anticipate the plans of policy makers
31. Those of the rational expectations school
a. favor monetary rules because they believe we know too little about how the economy works
b. favor monetary rules so that workers and firms do not get any unanticipated surprises from the Fed
c. are those who favor an "active approach" to policy and therefore reject monetary rules
d. oppose any monetary rules because they believe rules impede the natural self-correcting mechanism of the economy
e. neither oppose nor favor monetary rules
32. In general, the Fed has not embraced a fixed-growth-rate monetary policy because
a. its adoption would cost them their jobs
b. no influential economists have yet come out in favor of it
c. the Fed has to answer to Congress, and Congress is not in favor of it
d. the Fed prefers active fiscal policy
e. they believe the economy is too complex and too changeable to make such a policy work consistently
33. On the Phillips curve graph, the immediate effects of a discretionary increase in government spending are represented by a
a. rightward shift of the aggregate demand curve
b. leftward shift of the aggregate demand curve
c. rightward shift of the Phillips curve
d. leftward shift of the Phillips curve
e. movement along the Phillips curve
34. The inflation associated with the oil embargoes of the 1970s resulted in
a. reduced unemployment because aggregate demand increased
b. reduced unemployment because aggregate demand fell
c. increased unemployment because aggregate demand increased
d. increased unemployment because aggregate demand fell
e. increased unemployment because aggregate supply fell
35. In its original form, the Phillips curve depicted a situation in which an economy could reduce its unemployment rate by holding the inflation rate steady.
a. True
b. False
36. An increase in the expected inflation rate will
a. shift the short-run Phillips curve upward and to the right
b. shift the short-run Phillips curve downward and to the left
c. not shift the short-run Phillips curve unless the unemployment rate changes
d. cause the unemployment rate associated with each inflation rate to decrease
e. tend to increase production unless the actual inflation rate also increases
37. Suppose we observe several years of falling inflation rates for an economy. Which of the following would best explain this phenomenon?
a. Unemployment is probably at the natural rate.
b. The unemployment rate must be rising.
c. The unemployment rate must be below the natural rate.
d. The unemployment rate is probably above the natural rate.
e. Aggregate output must be increasing.
38. The short-run Phillips curve is based upon labor contracts that reflect a given expected
a. price level
b. unemployment level
c. money supply
d. aggregate demand
e. unemployment rate
39. Some economists believe that in the long run the unemployment rate is independent of the inflation rate and so the Phillips curve becomes a vertical line.
a. True
b. False
40. Along the long-run Phillips curve,
a. the economy is at an unemployment level that corresponds to the potential output level
b. expectations have not fully adjusted
c. policy makers can have lower inflation only with higher unemployment
d. a cut in taxes will lower inflation
e. a tax cut will increase unemployment
41. One implication of the Phillips curve analysis is that
a. unemployment rates below the natural rate are only possible in the long run
b. unemployment rates below the natural rate lead to falling rates of inflation in the long run
c. if inflationary expectations are accurate, the economy is on the short-run Phillips curve but not on the long-run Phillips curve
d. unemployment rates below the natural rate may be achieved only with rising inflation rates
e. the natural rate of unemployment is strictly a short-run phenomenon
42. If inflationary expectations increase, we can infer that
a. unemployment is above the natural rate
b. the economy is not on the long-run Phillips curve
c. the short-run Phillips curve is shifting to the left
d. output is below potential GDP
e. the unemployment rate is at the natural rate
43. The long-run Phillips curve is
a. downward-sloping
b. vertical
c. upward-sloping
d. horizontal
e. U-shaped
44. The natural rate hypothesis claims that policy makers can have considerable success in reducing unemployment through monetary and fiscal policy.
a. True
b. False
45. According to the natural rate hypothesis, the natural rate of unemployment is
a. largely independent of the level of aggregate supply stimulus provided by fiscal or monetary policy
b. largely independent of the level of aggregate demand stimulus provided by fiscal or monetary policy
c. dependent on the level of aggregate supply stimulus provided by fiscal or monetary policy
d. dependent on the level of aggregate demand stimulus provided by fiscal or monetary policy
e. dependent on the size of the federal budget deficit or surplus
46. An important implication of the natural rate hypothesis is that regardless of concerns about __________, the government policy that results in __________ is generally the optimal long-run policy.
a. unemployment; low inflation
b. inflation; low unemployment
c. unemployment; low interest rates
d. inflation; low interest rates
e. inflation; a stable foreign exchange rate
47. The natural rate hypothesis states that in the long run,
a. economic policy can reduce both inflation and unemployment
b. the economy's natural rate of annual growth is approximately 3%
c. monetary and fiscal policy have their greatest effect on the rate of unemployment
d. the Phillips curve is horizontal
e. the economy tends toward the natural rate of unemployment
48. The economy may turn around on its own before a new policy registers its full impact primarily because of the
a. recognition lag
b. decision-making lag
c. effectiveness lag
d. implementation lag
e. time lag
49. Opponents of inflation targets say that
a. such targets encourage workers to plan on a low and stable inflation rate and hold down demands for wage increases
b. the Fed will pay less attention to jobs and economic growth
c. such targets encourage firms to plan on a low and stable inflation rate and hold down price increases
d. such targets encourage investors to plan on a low and stable inflation rate and hold down demands for interest rate increases
e. None of the answers is correct