Econ Final Chapters 20-22, 24 & 25

If taxes increaseincrease and autonomous consumption expenditure increaseincrease​, the IS curve; During financial​ crises, financial frictions​ __________, leading to a​ __________ shift of the IS curve.

...may shift right, left, or not shift at all. increase; leftward

Suppose that a new Fed chair is​ appointed, and his or her approach to monetary policy can be summarized by the following​ statement: "I care only about increasing​ employment; inflation has been at very low levels for quite some​ time; my priority is to ease monetary policy to promote​ employment." 1. How would you expect the monetary policy curve to be​ affected, if at​ all? 2. What would be the effect on the aggregate demand​ curve?

1. The MP curve will shift downward because decreasing unemployment results in a loosening of monetary policy. 2. The AD curve will shift to the right.

Which of the following does not shift the IS​ curve?

A fall in the interest rate.

What causes the IS curve to​ shift?

A shift in the IS curve occurs when equilibrium output changes at each given real interest rate. The factors of shifting are autonomous​ consumption, autonomous​ investment, autonomous net​ exports, taxes, and government purchases.

Suppose country A has a central bank with full​ credibility, and country B has a central bank with no credibility. Determine which country is most likely affected by each of the following​ situations: A. The public is moremore likely to believe announcements about future policy changes. B. Aggregate supply adjusts lessless quickly to policy announcements when compared to another country. C. Output is moremore stable when compared to another country.

A. Country A B. Country B C. Country A

Why is it necessary for the MP curve to have an upward​ slope?

An​ upward-sloping MP curve keeps inflation from spinning out of control.

Which of the following is not one of the three basic approaches to establishing​ credibility?

By using​ time-inconsistency arguments

When the Federal Reserve reduces its policy interest​ rate, how, if at​ all, is the IS curve​ affected?

Changes in interest rates represent a movement along the IS​ curve, and so the IS curve does not shift.

How can establishing an​ exchange-rate target bring credibility to a country with a poor record of inflation​ stabilization?

Credible exchange-rate targets can reduce the time-inconsistency problem by limiting discretionary policy.

The Federal Reserve steadily raised interest rates during 2004 and 2005. Higher interest rates cause the value of the dollar to increase, which causes net exports to decrease, and thus output would be expected to decrease. This is an example of which of the following monetary transmission​ mechanisms?

Exchange rate effects.

Which of the following is a correct transmission channel that shows how monetary policy can affect​ investment, without relating investment to interest​ rates?

Expansionary monetary policy can increase the value of​ stocks, raising​ Tobin's q​, and thus increasing investment.

Consider the following​ statement: "The cost of financing investment is related only to interest​ rates; therefore, the only way that monetary policy can affect investment spending is through its effects on interest​ rates."

FALSE

In the​ 2007-2009 recession, the value of common stocks in real terms fell by nearly​ 50%. Which of the following shows a transmission mechanism through which the decline in the stock market might have affected aggregate demand and thus contributed to the severity of the​ recession?

Falling stock prices lead to a fall in financial​ wealth, and thus consumption spending​ falls, reducing aggregate demand.

Contractionary monetary policy reduces stock​ prices, which reduce the value of financial assets and increase the probability of household financial distress. Households with less access to liquid assets spend less on consumption and residential investment. This statement describes which of the following monetary transmission​ channels?

Household liquidity effects.

When r increases​, this causes a movement along​ the________ curve, and shifts the ​_________ curve.

IS; AD

Any factor that shifts the​ __________ curve shifts the​ __________ curve in the​ __________ direction.

IS; AD; same

What happens to inflation and output in the short run and the long run when government spending​ increases?

If government spending​ increases, the aggregate demand curve shifts rightward. In the short​ run, inflation increases and output increases. This leads to tightness in the labor market, which raises inflation expectations and shifts the short-run aggregate supply curve up. When this​ occurs, the economy moves to a new long-run equilibrium, output falls back to potential, and inflation increases.

How can the​ interest-rate channel still function when​ short-term nominal interest rates are at the​ zero-lower bound?

If the central bank commits to a higher inflation​ policy, it can raise inflation​ expectations, thereby lowering real interest​ rates, even when the nominal interest rate is zero.

Observe a positive demand shock in the graph to the right.

In the short​ run, "both inflation and output rise." In the long​ run, "inflation rises, but output does not change."

Which of the following represents a movement along a given AD​ curve?

Inflation​ decreases, the real interest rate​ decreases, and aggregate output increases.

What relationship does the aggregate supply curve​ describe?

It describes the relationship between the total quantity of output supplied and the inflation rate.

What is the significance of the Lucas critique of econometric policy​ evaluation?

It points out an econometric model based on past data may prove to be unreliable for evaluating policy options.

​________ flexible wages and prices imply that the shortminus−run aggregate supply curve is​ ________.

More; steeper

Which of the following is not a part of this monetary policy strategy to achieve these​ goals?

Public announcement of the procedural details of using all​ inflation-related policy variables.

Which of the following best describes the adjustment to​ long-run equilibrium if an​ economy's short-run equilibrium output is belowbelow potential​ output?

Since unemployment is greater than its natural​ rate, there will be excess slack in the labor market​ and, consequently, pressure on firms to raise their prices at a less rapid rate. This deceleration of inflation shifts the​ short-run aggregate supply curve down​, pushing the​ economy's output up toward potential output.

Describe how​ (if at​ all) the IS​ curve, MP​ curve, and AD curve are affected in the following ​situation: The new Federal Reserve chair begins to care more about fighting inflation.

The IS curve is not affected, the MP curve becomes steeper, and the slope of the AD curve becomes flatter.

Suppose that taxes are decreased and the central bank conducts an autonomous easing of monetary policy. What will be the​ result?

The IS curve shifts​ right, the MP curve shifts​ down, and the AD curve shifts right.

How do changes in planned expenditures affect the aggregate demand​ curve?

The aggregate demand curve shifts to the right if autonomous​ consumption, autonomous​ investment, autonomous net​ exports, or government purchases​ increase, or if taxes decrease.

In​ general, how does a Central​ Bank's lack of credibility as an inflation fighter affect the aggregate supply​ curve?

The public will have higher inflation​ expectations, which will shift the aggregate supply curve up and to the​ left; thus, reducing output

How can use of macroeconometric models that do not assume expectations are rational be problematic for policy​ analysis?

They are unreliable for evaluating policy options.

"The more credible the policymakers who pursue an​ anti-inflation policy, the more successful that policy will​ be." Is this statement​ true, false, or​ uncertain? Explain your answer.

True. If expectations affect the​ wage- and​ price-setting process, a credible​ anti-inflation policy will reduce inflation faster and at lower costs.

How does an autonomous tightening or easing of monetary policy by the Fed affect the MP​ curve?

When the Fed decides to raise the real interest rate at any given inflation​ rate, the MP curve shifts upward. Monetary policy​ easing, a decision to lower the real interest rate at any given inflation​ rate, shifts the MP curve downward.

How is an autonomous tightening or easing of monetary policy different than a change in the real interest rate due to a change in the current inflation​ rate?

With a tightening or easing of monetary​ policy, some projected changes in monetary policy independent of the current inflation rate may occur.

If adverse selection and moral hazard​ increase, how does this affect the ability of monetary policy to address economic​ downturns?

With increased adverse​ selection, monetary policy must be more powerful to offset the contractionary effects of adverse selection and moral hazard

The​ short-run aggregate supply curve​ has:

a positive slope because as the inflation rate​ increases, so does the quantity of output supplied.

Which of the following is a benefit of having a credible nominal​ anchor?

a. It helps to solve the​ time-inconsistency problem. b. It helps control inflation​ expectations, leading to smaller fluctuations in inflation and output. c. It enables policy makers to achieve price stability. ^^ ALL OF THE ABOVE

A credible nominal anchor

a. can help overcome the time−inconsistency problem by providing an expected constraint on discretionary policy. b. can help to anchor inflation​ expectations, which leads to smaller fluctuations in inflation. ^^ BOTH A & B

Arguments for discretionary policies include

a. discretion avoids the straightjacket that would lock in the wrong policy if the model that was used to derive the policy rule proved to be incorrect. b. policy rules do not easily incorporate the use of judgment. c. discretion enables policy makers to change policy settings when an economy undergoes structural changes. d. policy rules can be too rigid because they cannot foresee every contingency. ^^ ALL OF THE ABOVE

Arguments for adopting a policy rule include

a. discretionary policies pursue overly expansionary monetary policies to boost employment in the short run but generate higher inflation in the long run. b. the time−inconsistency problem can lead to poor economic outcomes. c. policy makers and politicians cannot be trusted. ^^ ALL OF THE ABOVE

Everything else held​ constant, when output is​ ________ the natural rate​ level, wages will begin to​ ________, decreasing short−run aggregate supply.

above; rise

Everything else held​ constant, an increase in government spending will cause​ ________.

aggregate demand to increase

A negative supply shock that raises production costs will cause the

aggregate supply curve to shift up.

Which of the following causes the MP curve to shift​ down?

an autonomous easing of monetary policy

Suppose the U.S. economy is producing at the natural rate of output. A depreciation of the U.S. dollar will cause​ ________ in real GDP in the short run and​ ________ in inflation in the short​ run, everything else held constant.​ (Assume the depreciation causes no effects in the supply side of the​ economy.)

an​ increase; an increase

Suppose the economy is producing at the natural rate of output and the government passes legislation that severely restricts a​ company's ability to reduce production costs via outsourcing. Everything else held​ constant, this policy action will cause​ ________ in the unemployment rate in the short run and​ ________ in inflation in the short run.

an​ increase; an increase

Suppose the economy is producing at the natural rate of output. An increase in consumer and business confidence will cause​ ________ in real GDP in the short run and​ ________ in inflation in the short​ run, everything else held constant.

an​ increase; an increase

Lucas argues that when policies​ change, expectations will change thereby

changing the relationships in econometric models.

The Lucas critique is an attack on the usefulness of

conventional econometric models as indicators of the potential impacts on the economy of particular policies.

The​ short-run aggregate supply curve slopes upward because an increase in output relative to potential​ output:

creates tight labor and product markets that cause inflation to rise

A negative demand shock will ________ inflation and _______ aggregate output in the long run.

decrease; not change

Everything else held​ constant, an increase in the cost of production​ ________ aggregate​ ________.

decreases; supply

With an autonomous easingeasing of monetary​ policy, the cost of capital​ __________, and investment​ __________.

decreases​; increases

An expansionary monetary policy lowers the real interest​ rate, causing the domestic currency to​ ________, thereby​ ________ net exports.

depreciate; raising

Under a negative supply shock with a fully credible monetary​ policy, the AD curve​ __________ and the AS curve​ __________ in the short run.

does not​ shift; shifts​ up, but by less than under a noncredible monetary policy

The Lucas critique indicates that

expectations are important in determining the outcome of a discretionary policy.

When interest rates fall in the United States​ (with the price level​ fixed), the value of the dollar​ ________, domestic goods become​ ________ expensive, and net exports​ ________.

falls; less; rise

According to the household liquidity​ effect, higher stock prices lead to increased consumption expenditures because consumers

feel more secure about their financial position.

A​ "conservative" central​ banker:

has a strong aversion to inflation.

The Taylor principle:

holds when lambda greater than λ>0. MP curve is upward sloping because of Taylor principle.

A temporary negative supply shock will ______ inflation and will ______ aggregate output in the short run.

increase; decrease

A positive demand shock will ________ inflation and _______ aggregate output in the short run.

increase; increase

The wealth effect and household liquidity effect are similar ​because:

increases in real interest rates lead to lower asset prices, which lead to lower spending on housing and consumption.

Approaches to establishing central bank credibility include

inflation targeting. central bank independence. appointment of a more conservative central banker. exchange rate targeting.

If autonomous consumption increasesincreases​, and there is a sharp increase in energy​ prices, you would expect

inflation to increase, and output to have an ambiguous effect.

The IS curve shows combinations​ of:

interest rates and income that bring equilibrium in the market for goods and services.

The IS curve slopes downward because higher​ ______________ lead to lower​ ___________ and​ ___________.

interest​ rates; investment​ spending; net exports

Inflation targeting can be used​ to:

keep inflation under control and increase the credibility of monetary​ policymakers' commitment to price stability.

Everything else held​ constant, a decrease in autonomous consumer spending will cause the IS curve to shift to the​ ________ and aggregate demand will​ ________.

left; decrease

Everything else held​ constant, an appreciation of the domestic currency will cause the IS curve to shift to the​ ________ and aggregate demand will​ ________.

left; decrease

Everything else held​ constant, if aggregate output is to the​ ________ of the IS​ curve, then there is an excess demand of goods which will cause aggregate output to​ ________.

left; rise

According to​ Tobin's q​ theory, when q is​ ________, firms will not purchase new investment goods because the market value of firms is​ ________ relative to the cost of capital.

low; low

The​ self-correcting mechanism describes how the economy eventually returns to the​ _______ regardless of where output is initially.

natural rate level of output

A decrease in the availability of raw materials that increases the price level is called a​ ________ shock

negative supply

A temporary positive supply shock will ______ inflation and will ______ aggregate output in the long run.

not change; not change

A rise in stock prices​ ________ the net worth of firms and so leads to​ ________ investment spending because of the reduction in moral hazard.

raises; higher

A contractionary monetary policy decreases net exports by​ ________ interest rates and​ ________ the value of the dollar.

raising​ real; increasing

The MP curve gives the relationship between the; A movement to the right along a given MP curve means;

real interest rate and the inflation rate. inflation is increasing.

Economic theory suggests that​ ________ interest rates are​ ________ important than​ ________ interest rates in explaining investment behavior.

real; more; nominal

If the interest rate​ falls, other things being​ equal, investment spending will​ ________.

rise

Because of the presence of asymmetric information problems in credit​ markets, an expansionary monetary policy causes a​ ________ in net​ worth, which​ ________ the adverse selection​ problem, thereby​ ________ increased lending to finance investment spending.

rise; reduces; encouraging

If workers demand and receive higher real wages​ (a successful wage​ push), the cost of production​ ________ and the short−run aggregate supply curve shifts​ ________.

rises; leftward

Under a positivepositive demand shock with a fully credible monetary​ policy, the AD curve​ __________ and the AS curve​ __________ in the short run.

shifts right; does not shift

If autonomous consumption declinesdeclines​, then the AD curve

shifts to the left.

Everything else held​ constant, if workers expect an increase in the price​ level, ________ aggregate supply​ ________.

short−​run; decreases

Tobin's q theory suggests that monetary policy may affect investment spending through its impact on

stock prices.

Everything else held​ constant, if aggregate output is to the right of the IS​ curve, then there is an excess​ ________ of goods which will cause aggregate output to​ ________.

supply; fall

The argument that econometric policy evaluation is likely to be misleading if policymakers assume stable economic relationships is known as

the Lucas critique.

Inflation expectations and realized inflation are likely to be more stable with

the appointment of a ​"conservative​" central banker.

An expansionary monetary policy may cause asset prices to​ rise, thereby reducing the likelihood of financial distress and causing consumer durable and housing expenditures to rise. This monetary transmission mechanism is referred to as

the household liquidity effect.

An upward shift in aggregate supply ultimately causes

the inflation rate to remain unchanged and output to remain unchanged.

An upward shift in aggregate supply initially causes

the inflation rate to rise and output to fall.

The aggregate demand curve slopes downward because a rise in inflation​ leads:

the monetary policy authorities to raise real interest rates.

When the financial crisis started in August​ 2007, inflation was rising and the Fed began an aggressive easing lowering of the federal funds​ rate, which indicated that;

the monetary policy curve shifted downward.

Suppose that there is a positive aggregate demand shock and the central bank commits to an inflation rate target. But if the commitment is not​ credible, then

the short−run aggregate supply curve will rise.

The rational expectations hypothesis implies that when macroeconomic policy​ changes,

the way expectations are formed will change.

At points to the leftleft of the IS​ curve,

there is an excess demand for goods which leads to an unplanned decrease in inventories.

Greater central bank independence can make the​ time-inconsistency problem worse​ because:

there is less formal accountability by central banks to pursue stable inflation policies.

When inflation and inflation expectations adjust to move output to​ potential, this is an example of

the​ self-correcting mechanism.

The​ long-run aggregate supply curve​ is:

vertical because changes in​ labor, capital, and technology​ (not the inflation​ rate) change the output an economy can produce over the long run.

According to​ Lucas, the​ public's expectations about a policy

will influence the response to that policy.