Macroeconomics Review 16 & 17
Using the graph below, what effect does expansionary monetary policy have on equilibrium if consumers have rational expectations?
A movement from point A to point C.
The multiplier effect is only a consideration for increases in government purchases.
False
The higher the tax rate, the __________the multiplier effect.
Smaller
What is the difference between the federal budget deficit and federal government debt?
The federal budget deficit is the year-to-year short fall in tax revenues relative to government spending (T < G + TR), financed through government bonds. The federal government debt is the accumulation of all past deficits.
If the long-run aggregate supply curve is vertical, then the Phillips curve
cannot be downward sloping in the long run.
There is a different short-run Phillips curve for every level of the ___________ inflation rate. The inflation rate at which the short-run Phillips curve intersects the long-run Phillips curve equals the ___________ inflation rate.
expected; expected
Slow growth in aggregate demand generally leads to
higher unemployment and lower inflation.
A movement from point A to point C could be caused by
long run effects of contractionary monetary policy.
The cyclically adjusted budget deficit or surplus is:
the deficit or surplus in the federal government's budget if the economy were at potential GDP.
If workers and firms have rational expectations and wages and prices adjust quickly then: If the Fed announces a credible expansionary monetary policy,
the inflation rate will increase, but the unemployment rate will be unchanged.
What is the difference between federal government purchases (spending) and federal government expenditures?
A. Government purchases are included in government expenditures.
The unemployment rate
rose dramatically from 6% to 10% during the period of the Volcker disinflation.
Some economists argue because increases in government spending crowd out private spending, increased government spending reduces the long-run growth rate of real GDP. This is most likely to happen if the private spending being crowded out is:
Investment spending
From an understanding of the multiplier process, explain why an increase in the tax rate would decrease the size of the government purchases multiplier. "The value of the government purchases multiplier would decrease because in the formula for the multiplier..."
the MPC is multiplied by (1 - t).
Explain why a decrease in the marginal propensity to import would increase the size of the government purchases multiplier. "The value of the government purchases multiplier would decrease because in the formula for the multiplier the denominator is ..."
1 - [MPC x (1 - t) - MPI]
Suppose a political candidate hired you to develop two arguments in favor of a flat tax. Consider the following list of arguments about changing to a flat tax: I. There would be a reduction in paperwork and the compliance cost of the tax system. II. The complexities in the current tax code allow the government to pursue other policy goals. III. A change in the tax code would result in a more unequal distribution of income if the marginal tax rate on high-income taxpayers was reduced. IV. There are potential increases in labor supply, savings, and investment from a lower marginal tax rate. Which two out of the above list of arguments would you advance in favorof a flat tax?
A. I and IV
Assume: At the same time Congress pursues an expansionary fiscal policy the Federal Reserve also pursues an expansionary monetary policy. How might an expansionary monetary policy affect the extent of crowding out in the short run?
An expansionary monetary policy would decrease interest rates and thus partially reduce the extent of crowding out.
The concept of a nonaccelerating inflation rate of unemployment (NAIRU) helps us to understand why in the long run, the Federal Reserve
can affect the inflation rate but not the unemployment rate.
In the figure below, expected inflation is initially at 1.5%. When expected inflation increases to 4.5%, which of the following will occur?
All of the above.
Which of the following statements is correct?
All of the above.
Select the answer below that best correctsthe following statement: "An expansionary fiscal policy involves an increase in government purchases or an increase in taxes."
An expansionary fiscal policy involves the increase of government purchases and/or a decrease in taxes in order to increase aggregate demand.
The simple multiplier effect shows the resulting change in real GDP due to an increase in government purchases or a decrease in taxes assuming that the price level is _________. In reality, the SRAS is _________sloping. Therefore, as a result, when AD shifts to the right, the change in real GDP will (in reality) be __________it would be if the price level were constant.
Constant, upward, less than
In what ways does the federal budget serve as an automatic stabilizer for the economy?
During a recession, there is an increase in government expenditures for transfer payments and a decrease in taxes as wages and profits fall. During an expansion, there is a decrease in government expenditures for transfer payments and an increase in taxes as wages and profits rise. Both of these require government action to stabilize aggregate demand.
Consider the figures below. Determine which combination of fiscal policies shifted AD1 to AD2in each figure (returning the economy to long-run macroeconomic equilibrium).
Example (A): Expansionary fiscal policy. Example (B): Contractionary fiscal policy.
What is the difference between federal purchases and federal expenditures?
Federal purchases require that the government receives a good or service in return, whereas federal expenditures include transfer payments.
What is fiscal policy?
Fiscal policy can be described as changes in government spending and taxes to achieve macroeconomic policy objectives.
In the figure below, when SRAS1 shifts to SRAS2, the price level increases and the level of real GDP falls. What happens to the short-run Phillips curve when the short-run aggregate supply curve shifts (a supply shock)?
It shifts up such that a given level of unemployment occurs at a higher price level.
In the figure below, at what point is the inflation rate stable? (That is, at what point can we refer to the inflation rate as the nonaccelerating inflation rate of unemployment?)
Point C
What is meant by supply-side economics?
Supply-side economics refers to the use of taxes to increase incentives to work, save, invest, and start a business to stimulate increases in short-run aggregate supply.
Which of the following decisions by the Fed during Chairman Alan Greenspan's term likely contributed to the financial crisis of 2007-2012?
The Fed's decision to keep the target for the federal funds rate at 1.00% for more than 18 months after the end of the previous recession.
As the public starts expecting a higher inflation rate, the short-run Phillips curve will shift up and to the right.
True
When is it considered "good policy" for the government to run a budget deficit?
When borrowing is used for long-lived capital goods.
In 2009, Congress and the president enacted "cash for clunkers" legislation that paid people buying new cars up to $4,500 if they traded in an older, low gas-mileage car. Source: Justin Lahart, Trade-In Program Tunes Up Economic Engine," Wall Street Journal, August 4, 2009. Was this piece of legislation an example of fiscal policy?
Yes, because the stated goal of the program was to stimulate the national economy.
In the real business cycle model, which of the following best explains an increase in real GDP above the full-employment level?
a positive technology surprise ("shock")
The effect on the economy of tax reduction and simplification is
an increase in the quantity of real GDP supplied at every price level, and a shift in the long-run aggregate supply curve.
Starting in the late 1970s and continuing through the 1990s, the relationship between growth in M2 and inflation
broke down, and the Fed announced that it would no longer set targets for M2.
While many Wall Street economists and policymakers supported the Fed's decision to maintain the federal funds rate at a near-zero level for over six years, Charles Schwab argued that the economy was harmed by keeping interest rates low for an extended period of time: "U.S. households lost billions in interest income during the Fed's near-zero interest rate experiment. ... Because they are often reliant on income from savings, seniors were hit the hardest. ... Seniors make up 13% of the U.S. population and spend about $1.2 trillion annually. ... This makes for a potent multiplier effect." Source: Charles R. Schwab, "Raise Interest Rates, Make Grandma Smile," Wall Street Journal, November 19, 2014. If the Fed had raised interest rates earlier than it did, Schwab would have expected
consumer spending to have increased.
What does Feldstein mean by a "behavioral response" to tax cuts?
higher tax brackets experience an increase in taxable income and thus will work more.
If expected inflation is higher than actual inflation, actual real wages in the economy will be _________ than expected real wages; consequently, firms will hire _________ workers than they had planned.
higher; fewer
In general, we expect people will increase their consumption
if their disposable income increases.
Writing in the Wall Street Journal, the economist Martin Feldstein argues: "behavioral responses" of taxpayers to the cuts in marginal tax rates enacted in 1986 resulted in "an enormous rise in the taxes paid, particularly by those who experienced the greatest reductions in marginal tax rates." Source: Martin Feldstein, "The Tax Reform Evidence from 1986," Wall Street Journal, October 24, 2011. Cuts in marginal tax rates will
increase marginal net-of-tax income, increase the supply of labor and increase total taxes as people work longer hours.
If a tax cut has supply-side effects, then
it will affect both aggregate demand and aggregate supply.
Use the graph below for the next 2 questions. Consider the long-run Phillips curve and the short-run Phillips curve. A movement from point A to point B could be caused by
short run effects of contractionary monetary policy.
If, in the long run, real GDP returns to its potential level, then in the long run,
the Phillips curve is vertical.
Suppose the inflation rate is increasing each year for a number of years, then
the rational expectations hypothesis is likely to give more accurate forecasts because if workers or firms have rational expectations, then they will use all the available information to forecast future inflation.
In 2015, the ratio of imports to GDP was 18 percent in Japan and 81 percent in Belgium. On the basis of this information, you can conclude:
the open-economy multiplier in Belgium would be less than the open-economy multiplier in Japan.
For the next 4 questions, identify each of the following as: (I) part of an expansionary fiscal policy, (II) part of a contractionary fiscal policy, or (III) not part of fiscal policy.
(III) not part of fiscal policy. a. The corporate income tax rate is increased. A. "I" B. "II" C. "III" D. "I" & "II" b. Defense spending is increased. A. "I" B. "II" C. "III" D. "I" & "II" c. The Federal Reserve lowers the target for the federal funds rate. A. "I" B. "II" C. "III" D. "I" & "II" d. The individual income tax rate is decreased. A. "I" B. "II" C. "III" D. "I" & "II"
A negative supply shock, such as OPEC's sharp oil price increases of the early 1970s, can be illustrated by a shift to the ______________ of the short-run aggregate supply curve and a shift _________________ of the short-run Phillips curve.
left; up
If workers ignore inflation in forming their expectations of the real wage rate, what is the effect of an expansionary monetary policy?
A move up along the short-run Phillips curve.
Which of the following is the formula for the tax multiplier?
- MPC / (1 - MPC)