macro exam 2 study guide chap 8-12

MPC vs MPS

The MPC represents the fraction of the next dollar in disposable income that is spent on consumption and the MPS represents the fraction of the next dollar that is saved. Therefore the sum of the two fractions must equal one.

The equation that shows how the Fed's interest rate decision depends on several economic factors is called the:

Fed rule

The graphical relationship between interest rates and aggregate output in the goods market is the:

IS curve

Which of these policies affects the economy through intended changes in the money supply?

Monetary policy

In the horizontal range of the short-run aggregate supply curve, if aggregate demand shifts to the left, then:

real GDP falls

The aggregate expenditure model focuses on the relationship between total spending and __________.

real GDP in the short run

The aggregate expenditure model focuses on the relationship between total spending and __________.

real GDP in the short run According to the AE model, the economy is in short-run equilibrium when total spending equals real GDP. The basic premise of the model is that in any given year the level of real GDP will be determined primarily by the level of aggregate expenditure. The model only focuses on the short-run and assumes the price level is constant.

When consumption increases because overall prices fall this change is due to the:

real wealth effect.

The name given to the fraction of deposits that a bank is legally required to hold in its vault, or as deposits at the Fed, is __________.

required reserves

When economic growth occurs, a nation's:

short-run and long-run AS curves shift rightward.

The aggregate demand and aggregate supply model explains:

short-run fluctuations in real GDP and the price level

A change in the price level will cause the aggregate demand curve to

simply a movement along an existing aggregate demand curve. And, an increase in productivity impacts aggregate supply.

We would expect the tax multiplier to be __________ in absolute value than the government purchases multiplier.

smaller

Non-discretionary programs

some examples are called entitlement programs, are the result of past legislation and are funded automatically. Social Security is an example of this type of fiscal policy.

If wage increases lag price increases then the wages are said to be;

sticky

Keynes maintained that the economy could remain long-term at levels of output below the full-employment level of output due to:

sticky wages and prices

When wages are sticky in the long-run

supply curve is vertical.

One example of discretionary fiscal policy

the "cash for clunkers" legislation designed to stimulate auto sales and put more efficient vehicles on the road

When the interest rate decreases, __________.

there is movement down a stationary money demand curve

A rapid increase in the price of oil can shift the short-run aggregate supply:

to the left.

The federal debt is the;

total amount owed by the federal government.

Macroeconomic equilibrium occurs where

total spending, or aggregate expenditure, equals total production or GDP.

When wages are sticky in the short-run, the firms' short-run aggregate supply curve is:

upward sloping.

Expansionary fiscal policy works well when the economy is operating:

well below the full employment level of output.

Macroeconomic equilibrium in the short run:

will occur at a point on the 45 degree line.

The government's spending and taxation policies are referred to as;

fiscal policy

Fiscal policy covers three broad areas that are

government purchases of goods and services, transfer payments, and taxation.

When the economy is in a recession, the government can:

increase government purchases or decrease taxes in order to increase aggregate demand.

An increase in household wealth will:

increase the consumption component of aggregate expenditure

An increase in household wealth will:

increase the consumption component of aggregate expenditure.

Fiat money is

money that has value only because it is backed by government promises. It has no intrinsic value.

Looking at recent Fed policy it appears the Fed has:

not engaged in inflation targeting

Credit cards are:

not part of the money supply.

Stagflation

occurs when the economy has simultaneous high inflation and declining output. Supply shocks, like a large unexpected increase in the price of oil, can cause stagflation.

The Fed conducts monetary policy primarily through:

open market operations.

John Maynard Keynes referred to animal spirits which are:

optimistic views of investors that propel economic growth.

The primary factors the Fed considers when making interest rate decisions are:

output and inflation.

The level of aggregate output that can be sustained in the long run without spurring inflation is called the:

potential GDP.

Long-run economic growth and the standard of living are impacted by

productivity and modeled using the aggregate production function.

When we say that one of the functions of the Fed is to be a lender of last resort, we mean that the Fed:

provides funds to troubled banks that cannot find any other source of funds.

If the marginal propensity to consume (MPC) is 0.9, how much additional consumption will result from an increase of $100 billion in disposable income?

$90 billion If the marginal propensity to consume (MPC) is 0.9, another $90 billion in additional consumption will result from an increase of $100 billion in disposable income. An MPC of 0.9 means we spend about 90 cents of every dollar in disposable income. So, if the MPC is 0.9 and disposable income changes by $100 billion we will spend 90% of that or $90 billion.

refers to the impact of inflation on higher taxes, and in turn economic growth, when tax brackets are not indexed to inflation.

Fiscal drag

The value of the multiplier is larger when the value of the __________

MPC is larger

The value of the multiplier is larger when the value of the __________.

MPC is larger A larger MPC means consumers are spending more of each dollar of disposable income which results in a larger multiplier. Mathematically the multiplier is = 1 / (1 - MPC). So, an MPC of .8 will give you a multiplier of 5, while an MPC of .5 will only give you a multiplier of 2. If the MPS is larger that means the MPC is smaller since they both sum to one.

The actions the Federal Reserve takes to manage the money supply and interest rates in order to pursue economic objectives are called __________.

Monetary policy

Who is the chairperson of the Federal Open Market Committee (FOMC)?

The chairperson of the Board of Governors.

The government spending multiplier is defined as the ratio of the;

The government spending multiplier is defined as the ratio of the;

When aggregate expenditure is greater than GDP, inventories will __________ and GDP and total employment will __________.

fall, increase

The paradox of thrift states that increased household savings will ultimately lead to:

lower income

The economy is in long-run equilibrium when the short-run aggregate supply and the aggregate demand curve intersect at a point:

on the long-run aggregate supply curve

The balanced budget multiplier is approximately equal to;

one

The sum of the marginal propensity to consume (MPC) and the marginal propensity to save (MPS) equals:

one

When aggregate expenditures are less than the GDP inventories will:

rise The GDP measures production and the AE measures total spending. Therefore, when total spending is less than production you will see inventories build up.

Personal income taxes expressed as a percentage of taxable income during President Bill Clinton's administrations.

rose Taxes were slightly below 10% when President Clinton took office and ended up around 12% when he exited office.

The Federal Open Market Committee (FOMC) of the Federal Reserve System

sets the majority of U.S. monetary policy.

If the FOMC orders the trading desk to sell Treasury securities:

the money supply curve will shift to the left and the equilibrium interest rates will rise.

Actual investment will equal planned investment only when __________.

there is no unplanned change in inventory

The paradox of thrift refers

to the conundrum that occurs when households save more which leads to reduced consumption and ultimately to lower income. The higher savings rate ultimately caused their income to fall.

M3

consists of everything in M2 plus large time deposits and institutional money market funds. M3 is not used with any frequency since it includes monies that often leave the U.S. system in search of higher earnings. Each definition is broader in scope and includes every asset included in previous definitions.

Aggregate expenditure, or the total amount of spending in the economy, equals:

consumption spending plus planned investment spending plus government purchases plus net exports.

Aggregate Expenditure, or the total amount of spending in the economy, equals:

consumption spending plus planned investment spending plus government purchases plus net exports. Aggregate expenditures cover all spending in the economy by households, government, businesses, and the net effect of imports and exports.

How many Federal Reserve districts are there?

12

Assume that banks are always fully loaned and people hold no cash. Given a required reserve ratio of 10%, an infusion of $100 billion in reserves will result in a maximum of:

$1,000 billion in deposits. Assume that banks are always fully loaned and people hold no cash. Given a required reserve ratio of 10%, an infusion of $100 billion in reserves will result in a maximum of $1,000 billion in deposits. The money multiplier in this case is 10 so 10 x $100 billion initial deposit = $1,000 billion. The money multiplier is equal to 1 / required reserve ratio so 1 / .1 = 10.

Suppose that the reserve ratio is 25% and that banks loan out all their excess reserves. If a person deposits $100 cash in a bank, checking account balances will increase by a maximum of:

$400 1 / reserve ratio. So, $100 x (1 / .25) = $400.

How much was the budget deficit or surplus during fiscal year 2014 if government outlays were $3,504 billion and government revenues were $3,021 billion?

$483 billion deficit

If the marginal propensity to save (MPS) is 0.2, how much additional consumption will result from an increase of $100 billion in disposable income?

$80 billion An MPS of 0.2 means the MPC must be 0.8 so we will spend about 80 cents of every dollar in disposable income. So, if the MPC is 0.8 and disposable income changes by $100 billion we will spend 80% of that or $80 billion.

Since 1991 there have been economic recessions.

2

Which of these factors will cause the aggregate demand curve to shift?

A change in the expectations of households and firms

Which of these factors will shift the short-run aggregate supply to the left?

A decrease in the size of the labor force

What happens when there is an unplanned decrease in inventories?

Actual investment is less than planned investment

At some point, the government may have to raise taxes or cut spending to pay interest on the debt.

An increase in government expenditures

Which of these fiscal policy actions will increase real GDP in the short run?

An increase in government expenditures

Which of these will shift the money demand curve to the right?

An increase in real GDP A change in interest rates will simply cause a movement up or down a stationary money demand curve.

example of an automatic stabilizer

An unemployment benefit program

Which of these statements about the federal debt is correct?

At some point, the government may have to raise taxes or cut spending to pay interest on the debt.

___________ are automatic changes in government spending or receipts that exacerbate the impact of growth or recession.

Automatic destabilizers

How can government policies shift the aggregate demand curve to the right?

By increasing government purchases

________ is driven by rising input prices.

Cost-push inflation

A(n) in net taxes has the same qualitative impact as a(n) in government spending.

Decrease; increase

_________ fiscal policy results from deliberate action from the government.

Discretionary

If the marginal propensity to consume (MPC) is 0.9, how much additional consumption will result from an increase of $100 billion in disposable income?

If the marginal propensity to consume (MPC) is 0.9, another $90 billion in additional consumption will result from an increase of $100 billion in disposable income. An MPC of 0.9 means we spend about 90 cents of every dollar in disposable income. So, if the MPC is 0.9 and disposable income changes by $100 billion we will spend 90% of that or $90 billion.

Which of these actions is the government likely to take if the economy is operating above the potential GDP?

Increase taxes

When interest rates , aggregate expenditure , ceteris paribus.

Increase; falls

Which of these would be a fiscal policy the government might want to use if the economy is operating at too high a level of output?

Increasing income tax rates

automatic destabilizers example

Inflation is an automatic destabilizer since government spending increases simply due to changes in the price level which fuels even more growth.

Which of these shifts the aggregate demand curve to the right?

Lower interest rates

Historically the Federal Reserve interest rates during recessions and interest rates during expansions.

Lowers; raises

The sum of all currency in the hands of the public plus demand deposits and other checkable deposits plus traveler's checks is the official definition of:

M1

When we say that money serves as a unit of account, we mean that:

Prices are quoted in terms of money.

The Board of Governors of the Federal Reserve has _________ members that are appointed for staggered _________ by the __________ and confirmed by the Senate.

Seven, 14-year terms, President

shows the relationship between planned aggregate expenditure and output

The AE line

The Federal Reserve System is the central bank of the United States.

The Fed was established in 1913 after a series of bank panics that crippled the U.S. financial system. The Fed's main job is to control the money supply but it also serves as a lender of last resort and performs other functions such as check clearing.

Which body of the Federal Reserve System sets the majority of U.S. monetary policy?

The Federal Open Market Committee

Which of these options is most likely when the economy is operating below the potential GDP?

The Federal Reserve will lower interest rates.

If the MPC is 0.8, then a $100 million increase in government expenditures will increase equilibrium GDP by __________.

The multiplier is 1 / (1 - MPC) so in this case it is 1 / (1 - 0.8) = 5. So a $100 million x 5 = $500 million increase in GDP.

The aggregate demand curve shows the relationship between:

The price level and the quantity of real GDP demanded

The Securities Exchange Commission (SEC) is the institution that regulates

U.S. stock markets. And, the U.S. Treasury is the branch of the government charged with financing operations and it is a totally separate entity.

When is the opportunity cost of holding money higher?

When interest rates are high if interest rates are higher you are giving up more return and experiencing a higher opportunity cost for holding cash.

When many depositors decide simultaneously to withdraw their money from a bank, there is __________.

a bank run

An unexpected change in the price of oil would be called __________ by economists.

a supply shock

Some economists believe the wages can be "stuck" and not adjust downward during recessions. These economists advocate:

active fiscal stimulus to move the economy back to full employment.

At points above the 45 degree line in the AE model:

aggregate expenditure is greater than GDP. When aggregate expenditures exceed production the inventory levels will fall and signal to firms to increase production.

A cost shock will only occur if the product is used:

as an input into numerous other products.

Taxes and transfer payments that stabilize GDP without requiring explicit actions by policymakers are called __________.

automatic stabilizers

When the Fed would like to push interest rates into negative territory but is unable to do so it is called a:

binding situation.

Every time the federal government runs a budget deficit, the Treasury must

borrow funds from savers by selling U.S. Treasury securities. The U.S. Treasury finances the deficit by selling bonds and uses the bond proceeds to fund government operations.

Fluctuations in total spending in the economy may affect:

both employment and production in the short run.

When the government spends more money than it receives in revenues it will result in a;

budget deficit.

If the federal government's expenditures are less than its revenue, there is a __________.

budget surplus

To increase the money supply, the FOMC directs the trading desk located at the Federal Reserve Bank of New York to:

buy U.S. Treasury securities from the public.

Expansionary fiscal policy

can be used to stabilize the economy but it does not occur automatically. The same holds for discretionary spending

If the Fed is zero interest rate bound it means the Fed:

cannot push interest rates below zero

The Open Market Desk

carries out the monetary policy directives of the FOMC via buying and selling U.S. Treasury securities on the open market.

Automatic stabilizers

change in a manner that stabilizes the GDP. For example, in times of high growth in a progressive tax system more people pay higher taxes resulting in slower growth. When the economy is in recession, transfer payments automatically increase and lessen the impact of the recession. Automatic stabilizers are government spending and taxes that automatically increase or decrease depending on the phase of the business cycle.

Stagflation is a:

combination of inflation and recession

M2

consists of M1 plus other less liquid assets such as deposits in savings and loans and money market mutual funds.

A new discovery of oil that lowers the price of energy can cause a:

cost shock

A decline in the value of money due to a rapid increase in supply is known as;

currency debasement.

The most important determinant of consumption is __________.

current disposable income

When was Federal Reserve System (the Fed) created

dec 23,1913

Falling exports

decrease aggregate demand and will shift the AD curve to the left. An increase in exports would shift AD to the right.

When the tax rate increases, the size of the multiplier effect:

decreases. The higher the tax rate, the smaller the amount of any increase in income that households have available to spend, which in turn reduces the size of the multiplier effect.

_______ results from consumers bidding higher prices for goods and services while business are forced to pay higher wages to entice people to work.

demand-pull inflation This type of inflation is due to excess demand and occurs when the economy is overheating.

Assuming there are no leakages out of the banking system, a money multiplier equal to 5 means that:

each additional dollar of reserves creates $5 of deposits.

The tax multiplier equals the change in:

equilibrium GDP divided by the change in taxes.

A variable that does not change in response to changes in the economy is called a(n);

exogenous variable.

The American Recovery and Reinvestment Act of 2009 is a clear example of:

expansionary fiscal policy.

Government policies that increase aggregate demand are called __________.

expansionary policies

Budget deficits automatically __________ during recessions and __________ during expansions.

increase, decrease

The Fed's practice of increasing or decreasing interest rates to keep inflation in some range is known as:

inflation targeting.

An increase in __________ will cause savings to increase.

interest rates When the interest rate is high, the reward for saving is increased providing households with additional incentive to save.

A fall in the price level

is a movement along the existing aggregate demand curve.

Monetary policy

is conducted by the Federal Reserve and typically involves expanding or contracting the money supply. The Treasury is the branch of government charged with receipt of taxes and paying the government's bills.

Consumption spending

is household spending on durable goods plus household spending on nondurable goods.

The Board of Governors

is in charge of the Federal Reserve and each of these seven members is also a member of the FOMC.

Legal tender

is money that the government legally mandates to be accepted to satisfy debts and make transactions. Legal tendering is a fictional construct.

The nominal GDP

is the actual measured dollar value of the GDP.

M1

is the most basic measure of money used in the United States and it is the most liquid form of money.

The real GDP

is the nominal GDP adjusted for inflation so we can see true changes in output and remove changes in GDP due to changes in the price level.

Household wealth

is the value of a household's assets minus its liabilities (debts). As wealth increases, we are more likely to consume more and as wealth falls we tend to consume less.

On the balance sheet of a bank:

loans are the most important asset.

Autonomous consumption is

the amount that you would consume that is independent of income

The Federal Reserve System is __________.

the central bank of the United States

Fiscal drag refers to

the impact of inflation on higher taxes, and in turn economic growth, when tax brackets are not indexed to inflation. The higher taxes lower after-tax income and slow the economy down. Since 1982, tax brackets have been indexed to inflation to reduce the impact of fiscal drag.

The amount by which consumption spending increases when disposable income increases is called __________.

the marginal propensity to consume The MPC also represents the slope of the consumption function and it tells us how much of each new dollar in disposable income will be spent and how much will be saved. Autonomous consumption is the part of consumption that is independent of income. Marginal dissaving is not a term used in this context.

The long-run aggregate supply curve represents

the potential real GDP

shows the relationship between aggregate supply and the price level.

the short-run AS curve