EC 309 Exam 3

Change in Y (Tax Multiplier)

(-MPC/1-MPC) x Change in T

Change in Y (IS Curve)

(1/1-MPC) x Change in G

Change in C

-MPC x Change in T

If the short-run aggregate supply curve is horizontal, an increase in union aggressiveness that pushes wages and prices up will result in ______ prices and ______ output in the short run.

Higher; Lower

An increase in investment ( I ) due to an improved business outlook will shift the:

IS curve upward and to the right.

A decrease in taxes

IS shift right

An increase in government purchases

IS shifts right

The U.S. recession of 2001 can be explained in part by a declining stock market. The shock can be represented in the IS-LM model by shifting the ______ curve to the ______.

IS; left (same for housing market)

Suppose the Fed employs money supply as its policy instrument.. In this case, what would the Fed do following a decrease in government spending (G), in order to keep output fixed at its initial level?

Increase money supply

Increase the money supply to shift the ____ curve to the right

LM

Money supply = ____ Curve

LM

AG shifts the same way as

LM or LS

An increase in money demand

LM shift left

Suppose the economy faces uncertainties mostly from the position of the ______________ curve. As a result, output stability would be higher under ________________ targeting by the central bank.

LM; Interest rate

An increase in the money supply shifts the ______ curve to the right, and the aggregate demand curve ______.

LM; shifts to the right

The tax multiplier is

Negative

Suppose the Fed targets the money supply at M1. In this case, what would the Fed do following a decrease in government spending (G) to keep the money supply fixed at M1?

No action

Suppose the Fed employs interest rate as its policy instrument.. In this case, what would the Fed do following a decrease in government spending (G), in order to keep output fixed at its initial level?

Reduce interest rate target

Suppose the Fed targets the interest rate at R1. In this case, what would the Fed do following a decrease in government spending (G) to keep the interest rate fixed at R1?

Reduce money supply

In this graph, assume that the economy starts at point A, and there is a one-time favorable supply shock. In this situation, point ______ represents short-run equilibrium, and point ______ represents long-run equilibrium.

Right and down; down

In this graph, initially the economy is at point E, with price P0 and output . Now assume that the aggregate demand curve shifts from AD0 to AD1. The economy moves first to point ______ and then, in the long run, to point ______.

Right, right and up

starting from equilibrium at interest rate r1 and income Y1, an increase in government spending would generate the new equilibrium combination of interest rate and income:

Shift IS right

Increase in autonomous (M/P)d

Shifts LM left

The tax multiplier is _____ than the government spending multiplier in magnitude

Smaller

With the real money supply held constant, the theory of liquidity preference implies that a higher income level will be consistent with:

a higher interest rate, increase in y = increae in (m/p)d

Following an increase in the money supply, unemployment is expected to _______________ and investment is expected to _____________ due to the policy's effect on the interest rate.

fall; rise

According to the quantity theory of money, when velocity is constant, if output is higher, ______ real balances are required, and for fixed M this means ______ P.

higher; lower

Nominal Intrest

i = r + pi

A 5 percent reduction in the money supply will, according to most economists, reduce prices 5 percent:

in the long run but lead to unemployment in the short run.

According to the IS-LM model, when the government increases taxes and government purchases by equal amounts:

income and the interest rate rise, whereas investment falls.

The theory of liquidity preference states that, other things being equal, an increase in the real money supply will:

lower the interest rate.

2. According to the Keynesian-cross analysis, when the government raises spending G by $10 million the income will rise by $ _____________million. Assume the MPC is 0.9 in the economy.

m = (change in y/change in g) = (1/1-mpc)

If Central Bank A cares only about keeping the price level stable and Central Bank B cares only about keeping output at its natural level, then in response to an exogenous increase in the price of oil:

Central Bank B only should increase the quantity of money.

One way to find equilibrium after an increase in tax is

Cut back production (decrease Y)

In the IS-LM model, a decrease in the equilibrium interest rate would be expected following

an increase in the money supply.

If Central Bank A cares only about keeping the price level stable and Central Bank B cares only about keeping output at its natural level, then in response to an exogenous decrease in the velocity of money:

both Central Bank A and Central Bank B should increase the quantity of money.

If the short-run IS-LM equilibrium occurs at a level of income below the natural level of output, then in the long run the price level will ______, shifting the ______ curve to the right and returning output to the natural level.

decrease; LM

Increase in Y ______ unemployment

decreases

Decrease in R ______ investment

increases

Decrease in real interest rate

increases I, PE, and Y

Pi

inflation

If the short-run aggregate supply curve is horizontal, and each member of the general public chooses to hold a larger fraction of his or her income as cash balances, then:

output and employment will decrease in the short run (price will not change in short run; output and income = same, unemployment would rise)

Y zero > Y bar

recession

In the long run to reduce inflation the fed should

reduce the money supply

A tax increase

reduces consumer spending which reduces income (GDP)

Reducing the money supply causes

the interest rate to rise (short run)