Econ final

Assume an economy produces only hamburgers and hotdogs and the base year is 2005. Quantities Produced/Prices Hamburgers (2005): 2000/$2 Hamburgers (2006): 3000/$3 Hotdogs (2005): 3000/$1 Hotdogs (2006): 4000/$1.50 Given the data in the table above, what is the value of real GDP in 2006?

$10,000/ Real GDP in 2006 is: the quantities in 2006 * prices in the base = 3,000 hamburgers * $2 + 4,000 hotdogs * $1 = $6,000+ 4,000= $10,000.

Sydney purchases a newly issued, two-year government bond with a face value of $10,000 and a coupon rate of 6 percent paid annually. One year before the bonds matures (and after receiving the coupon payment for the first year), Sydney sells the bond in the bond market. What price (rounded to the nearest dollar) will Sydney receive for his bond if the market interest rate is 5 percent?

$10,095/ See slide 9 October 12

Assume an economy produces only footballs and baseballs and the base year is 2005. Quantities Produced/Prices Footballs (2005): 200/$20 Footballs (2006): 300/$25 Baseballs (2005): 500/$10 Baseballs (2006): 600/$15 Given the data in the table above, what is the value of nominal GDP in 2006?

$16,500/ Nominal GDP in 2006 is: (300 footballs *$25) + (600 baseballs *$15) = $7,500 + $9,000 = $16,500.

The CPI equals 1.00 in year one and 1.15 in year two. If the nominal wage is $15 in year one and a contract calls for the wage to be indexed to the CPI, what will be the nominal wage in year two?

$17.25/ To find the indexed wage in year two, take the nominal wage in year one and multiply it by the CPI, i.e., $15 × 1.15 = $17.25.

An economy produces only 1,000,000 computers valued at $2,000 each. Of these, 200,000 are sold to consumers, 300,000 are sold to businesses, 300,000 are sold to the government, and 100,000 are sold abroad. No computers are imported. At the end of the year, the computer manufacturers hold the unsold computers in inventory. What is the value of GDP?

$2.0 billion/ Since all of the computers are sold domestically or held in inventory, and because no computers are imported, the value of GDP is the number of computers times their market value. That is 1,000,000* $2,000= $2,000,000,000, or $2 billion.

If an automobile manufacturer pays $200 for a car windshield, $400 for four car tires, $100 for a car CD player, and sells cars made with these parts for $20,000, then each car the automobile manufacturer sells contributes how much to GDP?

$20,000/ Just the value of the final good, the $20,000 car, is included in GDP.

Suppose you have $200 with which you can buy shares of stock from two companies: ABC Hot Chocolate Company and XYZ Lemonade. Each company's stock currently sells for $100 per share. If the temperature next year is lower than average, the stock price for ABC will increase by $20, and the stock price for XYZ will not change. If the temperature next year is higher than average, the stock price for XYZ will increase by $20, and the stock price for ABC will not change. There is a 50 percent chance that it will be colder than average next year, and a 50 percent chance that it will be warmer than average. If you purchase one share of ABC stock and one share of XYZ stock, your expected gain will be _______.

$20/ This problem requires finding the expected value of your investment. Expected value of one share of ABC and one share of XYZ equals: 0.50(120 + 100) + (0.50)(100 + 120) =220. Your capital gain is $20.

Suppose you have $200 with which you can buy shares of stock from two companies: ABC Hot Chocolate Company and XYZ Lemonade. Each company's stock currently sells for $100 per share. If the temperature next year is lower than average, the stock price for ABC will increase by $20, and the stock price for XYZ will not change. If the temperature next year is higher than average, the stock price for XYZ will increase by $20, and the stock price for ABC will not change. There is a 50 percent chance that it will be colder than average next year, and a 50 percent chance that it will be warmer than average. If you purchase two shares of ABC stock and no shares of XYZ stock, your expected gain will be ______.

$20/ This problem requires finding the expected value of your investment. Expected value of two shares of ABC equals: $240 (0.50) + $200 (0.50) = 220. Your capital gain is $20.

Suppose that the total production of an economy consists of 4 oranges and 10 candy bars, each orange sells for $0.25, and each candy bar sells for $0.50. What is the market value of production in this economy?

$6.00/ The market value is $6.00, because 4 oranges contributed $1.00 and 10 candy bars contributed $5.00.

If the marginal propensity to consume is 0.75, then a $100 increase in disposable income leads to a ______ increase in consumption.

$75/ If the marginal propensity to consume is 0.75, then a $100 increase in disposable income leads to a $75 increase in consumption because 0.75 × $100 = $75.

On January 1, 2008, Edward invested $10,000 at 5% interest for one year. The CPI on January 1, 2008 stood at 1.60. On January 1, 2009, the CPI was 1.76. The real rate of interest earned by Edward was ______ percent.

-5/ The real rate of interest equals the nominal rate of interest minus inflation. In this case, the real rate was -5% because the inflation rate was 10% from 2008 to 2009: (1.76 - 1.60) / 1.6 = 0.10 or 10%.

A bank has deposits equal to 1000, loans equal to 500, securities equal to 400, and reserves equal to 200. What is the reserve ratio?

0.20/ Slide 17, October 2

In Macroland, autonomous consumption equals 100, the marginal propensity to consume equals 0.75, net taxes are fixed at 40, planned investment is fixed at 50, government purchases are fixed at 150, and net exports are fixed at 20. The slope of the expenditure line is:

0.75/ The marginal propensity to consume is the slope of the expenditure line. In this case, the marginal propensity to consume is 0.75.

In Macroland, autonomous consumption equals 100, the marginal propensity to consume equals 0.75, net taxes are fixed at 40, planned investment is fixed at 50, government purchases are fixed at 150, and net exports are fixed at 20. Induced expenditure equals:

0.75Y/ Induced expenditure is the expenditure which is directly related to income. In this case, because C = 100 + 0.75(Y − T ), we have PAE = C + I + G + NX = [100 + 0.75(Y − 40)] + 50 + 150 + 20 = 100 + 0.75Y − 30 + 50 + 150 + 20 = 290 + 0.75Y. Induced expenditure is the part related to income, which is 0.75Y.

In a certain economy, the components of planned spending are given by: C = 500 + 0.8(Y - T) - 300r I P = 200 - 400r G = 200 NX = 10 T = 150 Given the information about the economy above, which expression gives induced expenditures?

0.8Y/ Recall that PAE = C + I P + G + NX. Substituting into the equation gives PAE = 500 + 0.8(Y − 150) − 300r + 200 − 400r + 200 + 10. Collecting terms yields PAE = [790 − 700r] + 0.8Y. Induced expenditures are those expenditures that are dependent on Y: 0.8Y.

A bank has deposits equal to 1000, loans equal to 500, securities equal to 400, and reserves equal to 100. The amount of currency in circulation outside of banks is 700. If households deposit 300 of their currency into banks, and banks hold the new deposits as reserves, by how much will M1 change?

0/ See slides 20, 21, October 2; the entire deposit is held as reserves.

On January 1, 2008, Anna invested $5,000 at 5% interest for one year. The CPI on January 1, 2009 stood at 1.60. On January 1, 2009, the CPI was 1.68. The real rate of interest earned by Anna was ______ percent.

0/ The real rate of interest equals the nominal rate of interest minus inflation. In this case, the real rate was 0% because the inflation rate was 5% from 2008 to 2009: (1.68 - 1.60) / 1.6 = 0.05 or 5%.

Refer to the accompanying figure. Based on the Keynesian cross diagram, at short-run equilibrium output autonomous expenditure equals ______ and induced expenditure equals ______.

1,000; 3,000/ Short-run equilibrium output occurs where PAE crosses the 45-degree line, which occurs at output level 4,000. At that output, autonomous expenditure equals 1,000 (the vertical intercept of PAE ) and induced expenditure equals the rest, or 0.75 × 4,000 = 3,000.

In Macroland, autonomous consumption equals 100, the marginal propensity to consume equals 0.75, net taxes are fixed at 40, planned investment is fixed at 50, government purchases are fixed at 150, and net exports are fixed at 20. Short-run equilibrium output in this economy equals:

1,160./ PAE = C + I + G + NX = [100 + 0.75(Y − 40)] + 50 + 150 + 20 = 100 + 0.75Y − 30 + 50 + 150 + 20 = 290 + 0.75Y. Short-run equilibrium output occurs when Y equals PAE. The only value for Y in the answer choices that would also be equal to 290 + 0.75Y is 1,160.

Refer to the accompanying figure. Based on the figure, if autonomous spending increases from 400 to 600, then the new short-run equilibrium output will equal:

1,200/ Autonomous spending is the vertical intercept of PAE. As the curve shifts upward from an intercept of 400 to 600, equilibrium output rises from 800 to 1,200.

The accompanying figure shows the production possibilities curve for the island of Genovia: Y axis: Cars, intercept value = 1000 X axis: Tons of agricultural products, invercept value = 50,000 The opportunity cost of producing one ton of agricultural products in Genovia is:

1/50 of a car./ This country would have to give up 1,000 cars to gain 50,000 tons of agricultural products. Thus, the opportunity cost of one ton of agricultural products is 1,000/50,000 = 1/50 of a car. More generally, the opportunity cost of producing one more unit of the good on the x-axis equals the absolute value of the slope of the PPC.

A bank has deposits equal to 1000, loans equal to 500, securities equal to 400, and reserves equal to 100. What is the value of the bank's liabilities?

1000/ Liabilities include only deposits. Slide 12, October 2.

Marge is lending Martin $1,000 for one year. The CPI is 1.60 at the time the loan is made. They expect it to be 1.76 in one year. If Marge and Martin agree that Marge should earn a 3% real return for the year, the nominal interest rate on this loan should be ______ percent.

13/ The inflation rate is expected to be 10%: (1.76 - 1.60) / 1.6 = 0.10 or 10%. To achieve a real return of 3%, the nominal rate has to be 3% higher than the inflation rate, or 10% + 3% = 13%.

You are the Minister of Trade for a small island country with the following annual PPC: You are negotiating a trade agreement with a neighboring island with the following annual PPC: Both islands specialize exclusively in the product for which they have a comparative advantage. You have agreed to give 350 coconuts to the other island in exchange for 1,300 fish. After the trade, your island has a total of ______ coconuts and ______ fish.

150; 1,300/ By specializing, your island produced 500 coconuts and no fish. Trade left you with 150 (= 500 - 350) coconuts and 1,300 fish.

A bank has deposits equal to 1000, loans equal to 500, securities equal to 400, and reserves equal to 100. The amount of currency in circulation outside of banks is 700. What is the value of M1?

1700/ See slide 19, October 2

The accompanying figure shows the production possibilities curve for the island of Genovia: Y axis: Cars, intercept value = 1000 X axis: Tons of agricultural products, invercept value = 50,000 If 500 cars are produced in Genovia, a maximum of ______ tons of agricultural products can be produced.

25,000/ Imagine Genovia is producing 50,000 tons of agricultural products and no cars. For every additional car that Genovia produces, it has to give up 50 tons of agricultural products. So if it produces 500 cars, then it has to give up 25,000 (= 500 × 50) tons of agricultural products. Since 50,000 - 25,000 = 25,000, this means that if Genovia produces 500 cars, a maximum of 25,000 tons of agricultural products can be produced.

A bank has deposits equal to 1000, loans equal to 500, securities equal to 400, and reserves equal to 100. The amount of currency in circulation outside of banks is 700. If households deposit 300 of their currency into banks, and banks hold 10% of the new deposits as reserves, what is the maximum amount by which M1 can change? Assume new loans are held as currency.

270/ See slides 19 - 23, October 2

If planned aggregate spending in an economy can be written as PAE = 15,000 + 0.6Y − 20,000r, and potential output equals 36,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

3 percent/ If PAE = 15,000 + 0.6Y − 20,000r, and Y = 36,000 at full employment, then 20,000r = 15,000 + 0.6(36,000) − 36,000. Solving for the real interest rate, r = 600/20,000 = 0.03, or 3 percent.

ou are the Minister of Trade for a small island country with the following annual PPC: You are negotiating a trade agreement with a neighboring island with the following annual PPC: What's the minimum number of fish you would be willing to accept in exchange for a coconut?

3/ Your opportunity cost of a coconut is 3 fish. In order to be better off after trade, you will have to get at least 3 fish per coconut.

A bank has deposits equal to 1000, loans equal to 500, securities equal to 400, and reserves equal to 100. The amount of currency in circulation outside of banks is 700. Banks are required to hold 10% of deposits as reserves. If the Federal Reserve purchases 300 worth of securities from the bank, what is the maximum amount by which M1 can change? Assume new loans are held as currency.

300/ See slides 6 - 8, October 5

You are the Minister of Trade for a small island country with the following annual PPC: You are negotiating a trade agreement with a neighboring island with the following annual PPC: Both islands specialize exclusively in the product for which they have a comparative advantage. You have agreed to give 350 coconuts to the other island in exchange for 1,300 fish. After the trade the other island has a total of ______ coconuts and ______ fish.

350; 1,200/ By specializing, the other island produced no coconuts and 2,500 fish. Trade left them with 350 coconuts and 1,200 fish (= 2,500 - 1,300).

If the market interest rate is 5%, how much would you pay today for a bond that paid you $40 1-year from today?

38.10/ See slide 10 October 7

The CPI in year one equaled 1.45. The CPI in year two equaled 1.51. The rate of inflation between years one and two was ______ percent.

4.1/ The percentage change in CPI is calculated as: (current price index - historic prices) / historic price index. In this case: (1.51 - 1.45) / 1.45 = 0.041, or 4.1 percent.

Refer to the accompanying figure. Based on the figure, when PAE = 200 + 0.5Y, short-run equilibrium output equals:

400/ Equilibrium occurs where the 45-degree line intersects the PAE line. In this case, intersection occurs at output equal to 400.

In a country with 200 million people aged 16 years and older, 120 million are in the labor force, and 114 million are employed, what is the unemployment rate?

5 percent/ To find the unemployment rate, take the number of unemployed people divided by the labor force: 6,000,000/120,000,000 = 0.05, or 5 percent.

If the nominal interest rate is 8% and the real interest rate is 3%, then the inflation rate equals:

5%/ The real interest rate = the nominal interest rate - the inflation rate. So to find the inflation rate, subtract the real interest rate from the nominal interest rate.

Refer to the figure below. Based on the diagram, the nominal interest rate equals ______ and the money supply equals ____. *use common sense* (graph unavailable)

5%; 500/ The nominal interest rate is determined by the intersection of the money supply and money demand curves. In this case, the intersection occurs at 5% nominal rate of interest and money supply of 500.

Data on output and planned aggregate expenditure in Macroland are given below. Output (Y)/Planned Aggregate Expend. (PAE) 2000/2300 3000/3200 4000/4100 5000/5000 6000/5900 Based on these data, the short-run equilibrium level of output is:

5,000/ Short-run equilibrium occurs at the level of output where Y equals PAE. The PAE line and 45-degree line cross at that point.

If the market interest rate is 8%, how much would you pay today for a bond that paid you $70 1-year from today?

64.81/ See slide 10 October 7

In a small town of 100 people, there are 10 children under 16, 10 retired people, 60 people with full-time jobs, 3 people with part-time jobs, 3 full-time students over 16, and 4 full-time homemakers. The remaining people did not have jobs, but wanted them. How many people are in the labor force of this town?

73/ The age-eligible population is 90, taking out the 10 children who are too young to work. The labor force is 73, taking out the 17 people who are not in the labor force (retired, full-time students, and homemakers).

Samantha is lending Jack $1,000 for one year. The CPI is 1.60 at the time the loan is made, and they both expect it to be 1.68 in one year. If Samantha and Jack agree that Samantha should earn a 3% real return for the year, the nominal interest rate on this loan should be ______ percent.

8/ The inflation rate is expected to be 5 percent: (1.68 - 1.60) / 1.6 = 0.05. To achieve a real return of 3%, the nominal rate has to be 3% higher than the rate of inflation, or 5% + 3% = 8%.

Suppose the following information describes the economy: Consumption = 8000 Investment = 1000 Government Purchases = 1000 Net exports = 0 Government transfers and interest payments = 500 Government tax collections = 1700 Private saving equals ____; public saving equals ______; national saving equals ____

800; 200; 1,000/ National income is consumption (8,000) plus investment (1,000) plus government purchases (1,000), which equals 10,000. Private saving is national income (10,000) minus consumption (8,000) minus net taxes (1,200), which equals 800. Public saving is net taxes (1,200) minus government spending (1,000), which equals 200. National saving is private saving plus public saving, which is 1,000.

In Econland autonomous consumption equals 700, the marginal propensity to consume equals 0.80, net taxes are fixed at 50, planned investment is fixed at 100, government purchases are fixed at 100, and net exports are fixed at 40. Planned aggregate expenditure equals:

900 + 0.80Y./ In this case, because C = 700 + 0.80(Y − T ), we have PAE = C + I + G + NX = [700 + 0.80(Y − 50)] + 100 + 100 + 40 = 700 + 0.80Y − 40 + 100 + 100 + 40 = 900 + 0.80Y.

The following table provides data for an economy in a certain year. Given the data in the table, compute the investment component of GDP.

900/ The investment component of GDP is 900. This is made up of: Construction of new homes and apartments (500), Business fixed investment (300) and the difference between End-of-year inventory (600) and Beginning-of-year inventory (500).

If the market interest rate is 8%, how much would you pay today for a bond that paid you $1070 2-years from today?

917.35/ See slide 12 October 7

If the market interest rate is 5%, how much would you pay today for a bond that paid you $1040 2-years from today?

943.31/ See slide 12 October 7

If the market interest rate is 5%, how much would you pay today for a bond that paid you $40 1-year from today and an additional $1040 2-years from today?

981.41/ See slide 5 October 12

If the market interest rate is 8%, how much would you pay today for a bond that paid you $70 1-year from today and an additional $1070 2-years from today?

982.17/ See slide 5 October 12

Which of the following is an example of an intermediate good?

A new CD player sold to an automaker for installation in a car/ The new CD player is an intermediate good because it is a component part of the final good, the car.

If Al has an absolute advantage over Beth in preparing meals, then:

Al can prepare more meals in a given time period than Beth./ Absolute advantage means being able to produce more in a given time period.

Which of the following will shift the aggregate demand curve to the right?

Consumers become more optimistic about the future./ A sudden increase in household or consumer confidence will increase consumption spending, shifting the AD curve to the right.

Refer to the accompanying figure. (graph unavailable) Starting from long-run equilibrium at point C, a tax increase that decreases aggregate demand from AD1 to AD will lead to a short-run equilibrium at point ___ and eventually to a long-run equilibrium at point ____, if left to self-correcting tendencies.

D; B/ A large tax increase is an example of an exogenous decrease in spending, which shifts aggregate demand left. A new short-run equilibrium will exist at point D, where the economy is experiencing a recessionary gap. As a result, inflation will gradually decrease, thereby shifting the SRAS line downward. When inflation has fallen enough, the economy is back in long-run equilibrium at point B.

Refer to the accompanying figure. (Graph unavailable) Starting from long-run equilibrium at point C, an increase in government spending that increases aggregate demand from AD to AD1 will lead to a short-run equilibrium at point ___ creating _____gap.

D; an expansionary/ An increase in government purchases is an example of an exogenous increase in spending, which shifts aggregate demand right. A new short-run equilibrium will exist at point D where the economy is experiencing an expansionary gap.

Which of the following is an example of structural unemployment?

Dora lost her job when the textile factory closed. She does not have skills to work in another industry and has been unemployed for over a year.

Refer to the given figure. (Graph unavailable) _____ inflation will eventually move the economy pictured in the diagram from short-run equilibrium at point ____ to long-run equilibrium at point____.

Falling; A; C/ This economy has a short-term equilibrium at point A, which is where AD and SRAS. Because the actual level output is lower than potential output, as indicated by the LRAS line, the economy is experiencing a recessionary gap and firms are not selling as much as they would like to. Eventually, this low level of aggregate demand will cause the inflation rate to fall. This is shown graphically as the SRAS line moving downwards until it intersects the AD curve at point C in the figure. At that point, which is the long-term equilibrium, actual output equals potential output and the inflation rate stabilizes at this lower level.

Which of the following is not classified as a final good?

Fresh vegetables purchased by a restaurant/ Fresh vegetables purchased by a restaurant are intermediate goods because they are inputs to the final good, a restaurant meal.

Which of the following activities is most likely to be counted in GDP?

Gail buys paper and crayons to donate to poor children in need of school supplies./ Gifts and charity are not counted in GDP because nothing was directly produced. These transactions are called "transfer payments." However, when an individual buys items in a market, such as paper and crayons, their value is always included in GDP regardless of whether the person uses them herself or donates them to others.

Which of the following is an example of frictional unemployment?

Hector looked for a job for five weeks after finishing college. He turned down several jobs that didn't make good use of his skills, but now has a job that requires the expertise he gained in college.

If Jane can produce 3 pairs of shoes per hour, while Bob can produce 2, then ______ has a(n) ______ advantage in producing shoes.

Jane; absolute/ Absolute advantage means being able to produce more in a given time period.

Suppose Cathy and Lewis work in a bakery making pies and cakes. Suppose it takes Cathy 1.5 hours to make a pie and 1 hour to make a cake, and suppose it takes Lewis 2 hours to make a pie and 1.5 hours to make a cake. Which of the following statements is correct?

Lewis should specialize in pies, and Cathy should specialize in cakes./ For Cathy, in the time it takes her to make a pie, she could make 1.5 cakes, and in the time it takes her to make a cake, she could make 2/3 of a pie. For Lewis, in the time it takes him to make a pie, he could make 1.33 (= 2/1.5) cakes, and in the time it takes him to make a cake, he could make 3/4 of a pie. Thus, Cathy has the comparative advantage in cakes (because 2/3 < 3/4), and Lewis has the comparative advantage in pies (because 1.33 < 1.5).

Which of the following is an example of cyclical unemployment?

Marsha was laid off from her job with the airline because the recession has reduced the demand for airline travel. She expects to get her job back when the economy picks up.

Ginger and Maryann are lost in the jungle, where the only things to eat are mangoes and fish. Ginger can gather more mangoes per hour than Maryann and can also catch more fish per hour than can Maryann. Therefore:

Maryann should specialize in the activity for which she has a comparative advantage./ Even if one person has an absolute advantage over the other in both activities, they will collectively accomplish more if each specializes in the activity for which she has a comparative advantage.

Which of the following is correct?

National saving equals private saving plus public saving./ National saving comes from two sources, private saving and public saving.

Suppose it takes Paul 3 hours to bake a cake and 2 hours to mow the lawn, and suppose it takes Tom 2 hours to bake a cake and 1 hour to mow the lawn. Which of the following statements is correct?

Paul has the comparative advantage in baking cakes./ For Paul, in the time it takes him to bake a cake, he could have mowed the lawn 1.5 times, and the time it takes him to mow the lawn, he could have made 2/3 of a cake. For Tom, in the time it takes him to bake a cake, he could have mowed the lawn 2 times, and in the time it takes him to mow the lawn, he could have baked 1/2 of a cake. Thus, Paul has a comparative advantage in baking cakes (because 1.5 < 2), and Tom has a comparative advantage in mowing the lawn (because 1/2 < 2/3). Tom has an absolute advantage in both tasks since he can do each more quickly than Paul.

Who from among the following is counted as employed?

Ray wants to work forty hours per week, but can only find work for twenty hours per week./ Ray is working, so he is considered "employed."

Which of the following represent assets on a bank's balance sheet?

Reserves, Loans, Securities/ See slide 16, October 2

Refer to the given figure. (graph unavailable) _____ inflation will eventually move the economy pictured in the diagram from short-run equilibrium at point ____ to long-run equilibrium at point ____,

Rising; A; C/ This economy is in a short-term equilibrium at point A, which is where AD and SRAS. Because the actual level output is higher than potential output, as indicated by the LRAS line, the economy is experiencing an expansionary gap. As firms respond to high demand by raising their prices more rapidly than their costs are rising, the rate of inflation starts to rise. Graphically, an expansionary gap would cause the SRAS line to move upward until it intersects the AD curve at point C in the figure. At that point, which is the long-term equilibrium, actual output equals potential output and the inflation rate stabilizes at this higher level.

Which of the following equations is equivalent to the equation S - NX = I?

S + KI = I/ This follows from the accounting identity NX + KI = 0 and the equation S − I = NX. We know NX = −KI and −NX = KI, so by substitution, S + KI = I.

Which of the following is a flow?

Saving/ Savings is a flow variable because it is measured over time. For example, "she saves $100 every week."

Where Y is GDP, C is consumption, I is investment, G is government spending, T is net taxes, and there is no international trade, public saving equals:

T - G./ Public saving considers net taxes (T) to be government receipts, and G to be government spending. Thus, T-G is public saving.

Which of the following would increase the government purchases component of U.S. GDP?

The U.S. federal government pays $3 billion in salaries to soldiers in the military/ Salaries of government workers are considered to be government purchases, while pensions to government workers are considered transfer payments.

If you knew that two countries had the same level of real GDP per person, what additional piece of information would help you determine in which country people had a better standard of living?

The average number of hours worked per week in each country

Which of the following will shift the aggregate demand curve to the right?

The government increases spending on education./ An increase in government spending on education will shift the AD curve to the right.

The market interest rate in Alpha is 7%, and the market interest rate in Beta is 10%; the inflation rate in Alpha is 3%, and inflation rate in Beta is 8%. Which of the following statements is true?

The real interest rate is higher in Alpha, but the nominal interest rate is higher in Beta./ In Alpha, the real interest rate is: 7% - 3% = 4%. In Beta, the real interest rate is: 10% - 8% = 2%. Thus, the real interest rate is higher in Alpha and the nominal interest rate is higher in Beta.

Which of the following is a stock?

Wealth/ Wealth is a stock variable because it is measured at a specific time, such as today or on the first day of the year.

When the interest rate on newly issued bonds increases, the price of existing bonds:

When the interest rate on newly issued bonds increases, the price of existing bonds:/ There is a negative relationship between interest rates and the price of previously issued bonds. This is because new bonds are now available with a higher rate of return, requiring a discount for existing bonds. This is very similar to the car or cellphone market, where older models are discounted when new better models become available.

Where Y is GDP, C is consumption, I is investment, G is government spending, and there is no international trade, national saving equals:

Y - C - G./ In this closed economy, both C and G are considered current spending. Current income (Y) minus current spending (C + G) equals national saving.

Where Y is GDP, C is consumption, I is investment, G is government spending, T is net taxes, and there is no international trade, private saving equals:

Y - T - C./ In this closed economy, private saving equals GDP minus taxes minus consumption.

Which of the following expenditures would increase the consumption component of U.S. GDP?

You buy a pizza./ The pizza is the only answer that qualifies as consumption. Buying a new house is considered investment in national accounting; buying share of stock is considered saving; and buying a used book does not count in GDP, because it was counted when the book was new.

Which of the following would increase the consumption component of U.S. GDP?

You purchase a bottle of California wine./ For national income accounting purposes, consumption is only done by households.

In a certain economy, the components of planned spending are given by: C = 500 + 0.8(Y - T) - 300r I P = 200 - 400r G = 200 NX = 10 T = 150 Given the information about the economy above, which expression also states planned aggregate expenditure (PAE)?

[790 − 700r ] + 0.8Y/ Recall that PAE = C + I P + G + NX. Substituting into the equation gives Y = 500 + 0.8(Y − 150) − 300r + 200 − 400r + 200 + 10. Collecting terms yields PAE = [790 − 700r ] + 0.8Y.

If planned aggregate expenditure (PAE ) in an economy equals 2,000 + 0.8Y and potential output (Y*) equals 11,000, then this economy has:

a recessionary gap./ Equilibrium occurs where PAE equals Y. In this economy, (2,000 + 0.8Y) = Y, so Y = 10,000. Since Y* = 11,000 and actual output falls short of potential output, there is a recessionary gap.

Refer to the accompanying figure. (Graph not available) Based on the figure, if the economy is in short-run equilibrium with output equal to 16,000, then there is ______, and ______ could return the economy to potential output (Y*).

a recessionary gap; an increase in autonomous expenditures of 1,000/ There is a recessionary gap because Y* is greater than equilibrium output of 16,000. An upward shift of the PAE line by 1,000 would move the short-run equilibrium output to 20,000, or Y*.

When actual output is less than potential output, there is ____ output gap and the rate of inflation will tend to ____.

a recessionary; decrease/ If there is a recessionary output gap, the economy is below full-employment equilibrium. In this case there is a tendency for inflation to decrease.

Based on the diagram, if potential output equals 5,000 and the real interest rate is 5 percent, then there is ______ gap and the Fed must ______ the real interest rate so that output will equal potential output.

a recessionary; reduce/ Along the r = 5 percent expenditure line, the equilibrium output is 3,000 which results in a recessionary gap of 2,000. To close this gap the Fed must reduce real interest rates.

You are the Minister of Trade for a small island country with the following annual PPC: You are negotiating a trade agreement with a neighboring island with the following annual PPC: If you offer to give the other island 1 coconut for every 4 fish they give you, then they will:

accept your offer because their opportunity cost of a coconut is greater than 4 fish./ Their opportunity cost of a coconut is 5 fish, so they will be happy to give you 4 fish for a coconut.

For a given level of inflation, if there is a greater reluctance by foreigners to purchase domestic goods, then the _____ shifts _____.

aggregate demand curve; left/ A decrease in exports that is independent of the general price level (inflation) will decrease aggregate expenditure at any inflation rate, thereby shifting the AD curve to the left.

For a given level of inflation, if concerns about future weakness in the economy cause businesses to reduce their spending on new capital, then the _____ shifts _____.

aggregate demand curve; left/ A sudden decrease in business confidence, and the resultant decrease in capital investment spending, shifts the AD curve to the left.

For a given level of inflation, if a rise in the stock market makes consumers more willing to spend, known as the wealth effect, then the _____ shifts _____.

aggregate demand curve; right/ A sudden increase in household wealth will increase consumption spending, shifting the AD curve to the right.

The substitution bias in the CPI refers to the failure of statisticians to:

allow for the possibility that consumers switch from products whose prices are rising./ When prices rise sharply for a product, consumers shift away from it. Since the CPI uses a fixed basket of goods and services, this switching between substitute products is often missed, resulting in "substitution bias."

The marginal propensity to consume (mpc) is the:

amount by which consumption increases when disposable income increases by $1./ The amount by which consumption rises when disposable income rises by $1 is called the marginal propensity to consume (mpc); economists assume that 0 < mpc < 1.

If planned aggregate expenditure (PAE) in an economy equals 1,000 + 0.9Y and potential output (Y*) equals 9,000, then this economy has:

an expansionary gap./ Equilibrium occurs where PAE equals Y. In this economy, (1,000 + 0.9Y) = Y, so Y = 10,000. Since Y* = 9,000 and actual output exceeds potential output, there is an expansionary gap.

When actual output exceeds potential output there is ____ output gap and the rate of inflation will tend to ____.

an expansionary; increase/ If there is an expansionary output gap, the economy is above full-employment equilibrium. In this case there is a tendency for inflation to increase.

At a short-run equilibrium output equals _____, while at a long-run equilibrium output equals _____.

an output level consistent with the inflation rate; potential output/ Short-run equilibrium is a situation in which inflation equals the value determined by past expectations and pricing decisions and output equals the level of short-run equilibrium output that is consistent with that inflation rate. Long-run equilibrium, on the other hand, is a situation in which actual output equals potential output.

When the nominal exchange rate changes from 4 francs per dollar to 6 francs per dollar, the dollar has:

appreciated./ In this case, the dollar now buys more francs than before. This means the dollar has appreciated.

If the exchange rate moves from 10 Mexican pesos per U.S. dollar to 8 Mexican pesos per U.S. dollar, then the Mexican peso has ______ and the U.S. dollar has _____.

appreciated; depreciated/ Under the new conditions one dollar buys fewer Mexican pesos than before, so the dollar has depreciated and the peso has appreciated. This shows the reciprocal nature of currency valuation: when one currency appreciates the other currency depreciates against it.

An increase in the value of a currency relative to other currencies is called a(n):

appreciation./ An"appreciation" is an increase in the value of a currency relative to other currencies.

Wealth equals:

assets minus liabilities./ This is the definition of "wealth."

The vertical intercept of the consumption function equals ______ and the slope equals _____.

autonomous consumption; the mpc/ Autonomous consumption is defined as the consumption spending that is not related to the level of disposable income. Marginal propensity to consume (mpc) is the change in consumption divided by the change in income. Graphically, this is the rise divided by the run of the consumption function, which is its slope.

Changes in consumption and investment spending due to changes in the real interest rate alter:

autonomous expenditures./ Changes in consumption and investment spending due to changes in the real interest rate shift the aggregate expenditures schedule up or down. Changes that shift the aggregate expenditures schedule are called "autonomous" expenditures.

In the Keynesian cross diagram, the vertical intercept of the expenditure line equals ______ and the slope of the expenditure line equals _____.

autonomous expenditures; the mpc/ The total amount of expenditures has two parts: the autonomous part (shown by the vertical intercept), which is independent of output, and the induced part, which depends on output. In the basic Keynesian model, only consumption has an induced component, and the mpc shows the rate at which expenditure rises when output rises.

The portion of planned aggregate expenditure that is independent of output is called ______ expenditure.

autonomous/ The autonomous expenditure is the portion of planned aggregate expenditure that is independent of output.

The CPI is a measure of the:

average level of prices relative to prices in the base year./ The consumer price index compares the cost of a standard basket of goods and services in any period relative to the cost of the same basket of goods and services in the base year.

The value of intermediate goods is excluded from the measurement of GDP in order to:

avoid double counting/ GDP measures the market value of goods and services sold to their final user as a means of avoiding double counting.

The direct trade of goods and services for other goods and services is called:

barter./ The direct trade of goods and services for other goods and services is called a barter.

Real GDP is measured in ______ prices; nominal GDP is measured in ______ prices.

base-year; current/ Real GDP takes inflation out of nominal values; so real GDP is computed at the fixed prices of the base year.

The labor force equals the number of people:

both employed and unemployed./ The labor force includes both people working and those 16 and older who are not working but are actively looking for work.

The AD curve can be shifted by:

both fiscal and monetary policy./ The AD curve responds to both fiscal policy (such as changes to government spending and taxes) and monetary policy (such as changes to Fed's policy reaction function).

If the quantity supplied of money exceeds the quantity demanded of money, people will ______ bonds which will cause bond prices to ______ and the nominal interest rate to ______ until the quantity demanded and quantity supplied of money are equal.

buy; rise; fall/ When the quantity supplied of money exceeds the quantity demanded, people buy bonds to shed cash. This raises bond prices and causes nominal interest rates to fall.

In an open-market purchase the Federal Reserve ______ government bonds from the public and the supply of bank reserves ______.

buys; increases/ When the Federal Reserve buys government bonds in the open market, there is new currency in the hands of the banking community, which increases bank reserves.

Factories and machines are examples of:

capital goods/ Factories and machines are built for the purpose of producing other goods, which means they are capital goods.

Purchases of domestic assets by foreign firms or households is called a:

capital inflow./ Purchases of domestic assets by foreign firms or households is called a capital inflow.

When an American buys stock in a French company, from the perspective of the United States, this is a(n):

capital outflow./ From the perspective of the United States, this was a domestic purchase of a foreign asset, or a capital outflow.

Purchases of foreign assets by domestic firms or households is called a:

capital outflow./ Purchases of foreign assets by domestic firms or households is called a capital outflow.

Bank reserves are:

cash and similar assets held to meet depositor withdrawals or payments./ This is the definition of "bank reserves."

Changes in autonomous consumption could be the result of:

changes in housing prices./ Changes in autonomous consumption shift the consumption function up or down. These shifts are typically caused by changes in wealth and much household wealth is held in housing.

Changes in business inventories are:

classified as investment expenditures./ Additions and subtractions from inventories are considered investment. Sometimes these additions and subtractions are intentional and sometimes they are unintended.

If a nation has the lowest opportunity cost of producing a good, that nation has a(n) ______ in the production of that good.

comparative advantage/ Comparative advantage means having a lower opportunity cost. Absolute advantage means being able to produce more in a given time period.

The four components of aggregate expenditures are:

consumption, investment, government spending, and net exports./ All final buyers of goods and services, which make up GDP, come from households (consumption), firms (investment), governments (government spending) or the foreign sector (net exports).

The largest expenditure component of U.S. GDP is:

consumption./ Household consumption accounts for the majority of U.S. GDP spending, where the consumer drives the economy.

The value of goods produced, but unsold, in the current period is:

counted in GDP as inventory investment./ Inventory is a subtle addition to investment. Sometimes it is an intentional buildup of inventory and sometimes it is the unintentional additions to inventory due to lagging sales.

Regular interest payments made to bondholders are called ______ payments.

coupon/ At one point, a bondholder would redeem a coupon in exchange for a periodic interest payment. That is no longer done today, but the name has stuck.

Saving equals:

current income minus spending on current needs./ Saving equals current income minus spending on current needs.

The consumer price index for the current year measures the cost of a standard basket in the ______ year relative to the cost of the same basket in the ______ year.

current; base/ The consumer price index compares the cost of a standard basket of goods and services in any period relative to the cost of the same basket of goods and services in the base year.

A nation's saving equals its ______ income less its spending on _______.

current; current needs/ Saving equals current income minus current spending.

Holding other factors constant, an increase in the tax rate on revenue generated by capital will:

decrease investment, and shift the investment demand relation to the left./ An increase in the tax rate on revenue generated by new capital decreases after tax net revenue, which decrease the financial benefits leading to a decrease in investment.

Refer to the figure below. If the Federal Reserve wants to raise the interest rate to 7%, it must ______ the money supply to _____. *use common sense for response* (graph unavailable)

decrease; 300/ The nominal interest rate is determined by the intersection of the money supply and money demand curves. For the Fed to increase the interest rate to 7%, it must decrease the money supply to 300.

Holding other factors constant, if new environmental regulations increase firms' cost of operating capital, then the real interest rate will ______ and the equilibrium quantity of national saving and investment will ____.

decrease; decrease/ New environmental regulations will reduce the desire for business investment, shifting the demand for investment left and decrease real interest rates. At the same time, the quantity of national saving and investment will decrease.

In the short-run, if the Federal Reserve increases interest rates, then consumption and investment ______, planned aggregate expenditure ______, and short-run equilibrium output _______.

decrease; decreases; decreases/ In the short run, increased interest rates drive down consumption, investment, and planned aggregate expenditures. This, in turn, reduces short-run equilibrium output.

Higher nominal interest rates ______ the amount of money demanded and higher real income ______ the amount of money demanded.

decrease; increases/ Nominal interest rates are inversely related to money demanded whereas higher real incomes are positively related to money demanded.

If the CPI equaled 1.00 in 2005 and 1.65 in 2015 and a typical household's income equaled $35,000 in 2005 and $40,000 in 2015, then between 2005 and 2015, real household income:

decreased./ Household real income fell because real income was $35,000 ($35,000 / 1.00) in 2005 and only $24,242 ($40,000 / 1.65) in 2015.

The economy moves down a stationary aggregate demand curve when the Fed:

decreases real interest rates in response to inflation, but does not change its target inflation rate or the Fed's policy reaction function./ For a fixed inflation rate target, a decrease in interest rates corresponds to a decrease in the inflation rate. A lower inflation rate is seen as a movement down the aggregate demand curve, as the rate of inflation is measured on the vertical axis when drawing aggregate demand.

A higher real interest rate ______ investment spending and ______ consumption spending.

decreases; decreases/ Because most investment spending requires financing, a higher real interest rate decreases investment. But because higher interest rates encourage saving, they also decrease consumption.

All else equal, an increase in the rate of inflation ____ planned spending and ____ short-run equilibrium output.

decreases; decreases/ The AD curve slopes downward showing the inverse relationship between planned spending and the inflation rate; higher inflation rates cause consumption, investment and net exports to decrease and the short-run equilibrium output to decrease.

A decrease in stock prices alters the consumption function by:

decreasing the vertical intercept./ Changes in autonomous consumption shift the consumption function up or down. These shifts are typically caused by changes in wealth, and many households hold some of their wealth is stocks.

Suppose the value of the CPI is 1.100 in year one, 1.122 in year two, and 1.133 in year three. Assume also that the price of computers increases by 3% between year one and year two, and by another 3% between year two and year three. The price level is increasing, the inflation rate is _______, and the relative price of computers is _________.

decreasing; increasing/ The inflation rate is decreasing because the rate of change is falling from year one to ears two: (1.122 -1.100) / 1.122 = 0.02 or 2% versus (1.133 - 1.122) / 1.122 = 0.01 or 1%. The relative price of computers is increasing because its price change of 3% exceeds inflation rate in both years.

To compare the purchasing power of nominal wages in two different years, one must:

deflate both quantities by a common price index./ Deflating is the process of dividing a nominal value by a price index to obtain the real value.

The process of dividing a nominal quantity by a price index in order to express the quantity in real terms is called:

deflating./ The process of dividing a nominal quantity by a price index in order to express the quantity in real terms is called deflating.

European firms wishing to purchase American goods and services are ______ the foreign exchange market.

demanders of U.S. dollars in/ When European firms wish to purchase U.S. goods and services, the European firm needs first to obtain dollars. To do this, the firms demand U.S. dollars in the foreign exchange market.

Induced expenditure is the portion of planned aggregate expenditure that:

depends on output./ The portion of planned aggregate expenditure that depends on output (Y ) is called induced expenditure.

Liabilities of the commercial banking system include:

deposits./ On the balance sheet of the commercial banking sector, deposits are on the liability side whereas reserves and loans are on the asset side.

When the nominal exchange changes from 120 yen per dollar to 110 yen per dollar, the dollar has:

depreciated./ In this case, the dollar now buys fewer yen than before. This means the dollar has depreciated.

A decrease in the value of a currency relative to other currencies is called a(n):

depreciation./ A "depreciation" is a decrease in the value of a currency relative to other currencies.

People who say that they would like to have a job, but have not made an effort to find a job in the past four weeks, are called ______ workers.

discouraged/ Discouraged workers are people who say they would like to have a job but have not made an effort to find one in the past four weeks.

If household saving decreases by $4 million, business saving increases by $4 million, and the government budget deficit decreases by $4 million, then private saving ______ and public saving ______.

does not change; increases/ Private saving consists of household and business savings. In this case, the decrease in household saving was offset by an equal increase in business saving. Public saving depends on the budget surplus. In this case, the government reduced its deficit by $4 million, so public saving increased.

The sum of national saving and capital inflows from abroad must equal:

domestic investment in new capital goods./ Since S − NX = I, and NX + KI = 0, then S + KI = I.

In an open economy, domestic investment equals:

domestic saving plus net capital inflows./ In an open economy, investment funds come from both domestic saving and net capital inflows from abroad.

Consumption spending includes spending on:

durables, nondurables, and services./ Households buy goods (both durable and nondurable) and services. They also buy residential housing, but for national income accounting purposes this spending is considered investment.

The length of an unemployment spell is called its:

duration/ The length of an unemployment spell is called its duration.

A downward shift in the Fed's policy reaction function is a(n) _____ of monetary policy, and the aggregate demand curve _______.

easing; shifts right/ An easing of monetary policy, which is seen as a downward shift in the Fed's policy reaction, means that the Fed is setting the real interest rate lower than before at each given rate of inflation. This increases aggregate expenditure and the short-run equilibrium output at each rate of inflation. Alternatively, we can say that each level of inflation now corresponds to a new level of output. Thus a downward shift of the Fed's policy reaction function shifts the AD curve rightward.

Money serves as a basic yardstick for measuring economic value (a unit of account), allowing:

easy comparison of the relative prices of goods and services./ Using money to measure value is common because nearly everybody has some idea of what the currency is worth. So money does allow us to compare apples and oranges - in common value of money.

Susan Suarez would like to work forty hours per week, but can only find twenty hours per week of work. In the official employment statistics, Susan is classified as:

employed/ Although this worker might be considered to be "underemployed," there is no such designation in labor statistics. The designation is "employed" or "unemployed."

The slope of the consumption function:

equals the marginal propensity to consume./ Marginal propensity to consume (mpc) is the change in consumption divided by the change in income. Graphically, this is the rise divided by the run of the consumption function, which is its slope.

The economy pictured in the given figure has a(n) ____ gap with a short-run equilibrium combination of inflation and output indicated by point ___.

expansionary; A/ This economy has an expansionary gap since the short-term equilibrium level of output, which is where AD and SRAS meet at point A, is more than the potential output level Y*.

The economy pictured in the given figure has a(n) ____ gap with a short-run equilibrium combination of inflation and output indicated by point ___. *SRAS/AD intersection has a greater y-axis value than LRAS/AD y-axis value.*

expansionary; A/ This economy has an expansionary gap since the short-term equilibrium level of output, which is where AD and SRAS meet at point A, is more than the potential output level Y*.

Starting from long-run equilibrium, a large tax cut will result in a(n) _____ gap in the short-run and ____ inflation and ____ output in the long-run.

expansionary; higher; potential/ A large tax cut is an example of an exogenous increase in spending, which shifts aggregate demand right, increases the short-run equilibrium, and causes an expansionary gap. As a result, inflation will gradually increase, thereby shifting the SRAS line upward. When inflation has risen enough, the economy is back in long-run equilibrium at potential output.

Starting from potential output, if consumer confidence increases and consumers decide to spend more, then this will generate a(n) _____ gap and inflation will _____.

expansionary; increase/ When consumers become more confident about the future and increase spending, the AD curve shifts rightward. This generates an expansionary gap and inflation will increase.

Starting from potential output, if firms become more optimistic about the future and decide to increase their investment in new capital, then this will generate a(n) _____ gap and inflation will _____.

expansionary; increase/ When firms become more optimistic about the future and increase investment in new capital, the AD curve shifts rightward. This generates an expansionary gap and inflation will increase.

If potential output equals 8,000 and short-run equilibrium output equals 8,500, there is a(n) ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

expansionary; raise/ When short-run equilibrium output exceeds potential output there is an expansionary gap. To close this gap, the Federal Reserve must raise real interest rates, which will reduce investment and consumption expenditures.

In the Keynesian cross diagram, the ______ line shows the relationship between planned aggregate expenditure and output, and the ______ line represents the condition that planned aggregate expenditure and output are equal.

expenditure; 45-degree/ The expenditure line relates planned aggregate expenditure to output by definition. The 45-degree line is the set of points showing equality between planned aggregate expenditure and output.

Net exports equal:

exports minus imports/ which equals Y-C-I-G

Goods and services that are consumed by the ultimate user are called ______ goods and services.

final/ This is the definition of "final" goods.

Firms that extend credit to borrowers using funds from raised from savers are called:

financial intermediaries./ Financial intermediaries are firms that extend credit to borrowers using funds raised from savers.

The basic Keynesian model is built on the key assumption that:

firms meet the demand for their products at preset prices./ The basic Keynesian model assumes prices are fixed in the short run.

The principal demanders of U.S. dollars in the foreign exchange market are:

foreigners wishing to purchase U.S. goods or assets./ When a foreigner wishes to purchase U.S. goods or assets, the foreigner first needs to obtain dollars. To do this, foreigners supply foreign currency in exchange for dollars.

You are the Minister of Trade for a small island country with the following annual PPC: You are negotiating a trade agreement with a neighboring island with the following annual PPC: As soon as you see the other island's PPC, you realize there are:

gains from trade because your island has a comparative advantage in coconuts./ Your island gives up fewer fish to harvest the same number of coconuts, so your island has a comparative advantage in coconuts.

Real GDP is not a perfect measure of economic well-being because it excludes the value of all of the following except:

goods and services available in the market economy./ GDP only measures things that are purchased in conventional markets, which excludes the underground economy, nonmarket activity, and leisure time.

Pat pays $9,800 for a newly issued two-year government bond with a $10,000 face value and a 6 percent coupon rate. One year later, after receiving the first coupon payment, Pat sells the bond when the market interest rate is 5 percent. The price Pat receives is:

greater than $10,000./ See slide 9 October 12

If the nominal interest rate is below the equilibrium value, then the quantity demanded of money is ______ than the quantity supplied of money, bond prices will ____, and the nominal interest rate will ____.

greater; fall; increase/ When the nominal interest rate is below the equilibrium, the quantity demanded of money is greater than the quantity supplied by the Fed. In this case, bond prices fall as bonds are sold to raise cash, driving the nominal interest rate up.

Unexpectedly high inflation ______ borrowers and ______ lenders.

helps; hurts/ This is one of the biggest costs of inflation: the transfer of wealth from lenders to borrowers in periods of unexpectedly high inflation.

The short-run aggregate supply line is:

horizontal at the current rate of inflation./ The short-run aggregate supply (SRAS) line is a horizontal line that shows the current rate of inflation in the economy, as determined by past expectations of inflation and past pricing decisions. The short-run aggregate supply line is horizontal because, in the short run, producers supply whatever output is demanded at preset prices.

National saving is done by:

households, businesses, and governments./ National saving is done by all the spending units of the economy, which include households, businesses, and governments.

A trade deficit occurs when:

imports exceed exports./ When imports exceed exports, the difference between the value of a country's imports and the value of its exports in a given period is referred to as the country's "trade deficit."

National defense services provided by the military are:

included in GDP at cost./ Because military services are typically not sold in a market, but they are productive activities, economists include the output in GDP at the cost of production.

An open-market purchase of government securities by the Fed will:

increase bank reserves, and the money supply will increase./ When the Federal Reserve buys government bonds in the open market, there is new currency in the hands of the banking community, which increases bank reserves and increases the money supply.

Holding other factors constant, a decrease in the operating and maintenance costs associated with capital will:

increase investment, and shift the investment demand relation to the right./ A decrease in operating costs increases the after tax net revenue generated by new capital, which increase the financial benefits leading to an increase in investment.

Holding other factors constant, an increase in the revenue generated by new with capital will:

increase investment, and shift the investment demand relation to the right./ An increase in the revenue generated by new capital increases after tax net revenue, which increase the financial benefits leading to an increase in investment.

Holding other factors constant, a higher relative price of a firm's output will:

increase investment./ The higher the relative price of a firm's output, the higher is the revenue generated by new capital and thereby the financial benefit of new capital. With higher financial benefits, and other factors constant, investment is increases.

An increase in net taxes (taxes paid by the private sector to the government less transfer payments and interest payments made by the government to the private sector) will:

increase public saving./ If governments raise tax revenues but do not spend the revenues, then public savings increases.

Holding all else constant, an increase in the preferences of Americans for Mexican goods will ______ the supply of dollars in the foreign exchange market and ______ the equilibrium Mexican peso/U.S. dollar exchange rate.

increase; decrease/ Increased preferences of Americans for Mexican goods will increase the supply of dollars in the foreign exchange market as Americans trade dollars for pesos. This decreases the exchange rate of pesos per dollar.

Consider the national savings identity. A decrease in net taxes leads to a _____________ in private savings, a ___________ in public savings and __________ in national savings.

increase; decrease; and no change/ A decrease in net taxes leads to an increase in private savings and a decrease in public savings; the changes offset so that national savings remains unchanged.

Lower nominal interest rates ______ the amount of money demanded and a lower price level ______ the amount of money demanded.

increase; decreases/ Nominal interest rates are inversely related to money demanded whereas the price level is positively related to money demanded.

Holding all else constant, an increase in preferences by Mexicans for U.S. goods will ______ the demand for dollars in the foreign exchange market and ______ the equilibrium Mexican peso/U.S. dollar exchange rate.

increase; increase/ An increase in the preferences of Mexicans for American goods will increase the demand for dollars in the foreign exchange market as Mexicans trade pesos for dollars. This increases the exchange rate of pesos per dollar.

If business inventories equal $40 billion at the beginning of the year and $55 billion at the end of the year, then, assuming no other changes, GDP must have:

increased by $15 billion./ The difference between end-of-year inventories and beginning-year inventories is counted as change in (inventory) investment.

Capital gains are ______, and capital losses are ______.

increases in the value of existing assets; decreases in the value of existing assets/ These are the definitions of "capital gains" and "capital losses."

As disposable income increases, consumption:

increases./ The consumption function shows a positive relationship between consumption and disposable income. This means that disposable income and consumption move in the same direction.

The duration of unemployment _____ during a recession.

increases/ The duration of unemployment rises during recessions, reflecting the greater difficulty of finding work during those periods.

When housing prices increase, household wealth _____, and consumption _____.

increases; increases/ Increasing housing prices cause increased autonomous consumption, which shifts the consumption function down.

The self-correcting property of the economy means that output gaps are eventually eliminated by:

increasing or decreasing inflation./ The mechanism by which output gaps are eliminated is changing prices. Note that inflation adjusts gradually to bring the economy into long-run equilibrium.

If the Fed's monetary policy reaction function does not change, then when inflation increases the Fed responds by _____ the real interest rate, which _____ consumption and investment spending, which _____ output.

increasing; decreases; decreases/ When the inflation rate increases, the Fed responds by raising the real interest rate per its reaction function. This increase in the real interest rate reduces consumption and investment, thereby reducing the short-run equilibrium output.

The practice of increasing a nominal quantity each period by an amount equal to the percentage increase in a specified price index is called:

indexing./ Indexing is the practice of increasing a nominal quantity each period by an amount equal to the percentage increase in a specified price index.

When real output increases, planned aggregate expenditures increase because:

induced expenditures increase./ Induced expenditures increase as a result of higher output. Autonomous expenditures are independent of output.

The aggregate demand curve shows the relationship between short-run equilibrium output and the:

inflation rate./ The aggregate demand (AD) curve shows the relationship between short-run equilibrium output and the inflation rate, holding all other factors constant.

The annual percentage rate of change in the price level is the:

inflation rate./ The inflation rate is the annual percentage rate of change in the price level.

A change in the average price level is called _____, while a change in the price of a specific good in comparison with other goods and services is called _______.

inflation; a change in a relative price/ These are the definitions of "inflation" and "changes in relative prices."

Savings demand refers to investment demand. With the interest rate is on the vertical axis and firm investment spending is on the horizontal axis, the savings demand (or investment) relation is a downward sloping line that illustrates the relationship between the interest rate and investment spending. If the financial benefit associated with firm investment spending increases, then:

investment increases, and the investment demand relation shifts right./ When the financial benefit of investment spending increases, firm are more likely to invest in new capital equipment, which increases the amount of investment spending. Investment spending is financed by borrowing so the demand for savings increases, which is the same thing as saying investment increases.

Spending on new capital goods, new homes, and the addition of unsold goods to company inventories is included in:

investment spending./ Spending on new capital goods, new homes, and the addition of unsold goods to company inventories is included in investment spending.

In the base year, real GDP ______ nominal GDP.

is equal to/ In the base year, current prices are the prices of the base year.

If prices in the current year are higher on average than in the base year, real GDP in the current year ______ nominal GDP in the current year.

is less than/ When the price level has risen, the current prices used when computing today?s nominal GDP are higher than the prices in the base-year, which used for computing real GDP.

The value of unpaid childcare services provided by a stay-at-home dad ______ included in GDP; the value of daycare services purchased from a licensed childcare provider ______ included in GDP.

is not; is/ Only goods and services traded in regular markets are counted in GDP.

The value of unpaid work by a homemaker ______ included in GDP and the value of housekeeping services sold in a market ______ included in GDP.

is not; is/ Only goods and services traded in regular markets are counted in GDP.

At long-run equilibrium inflation _______ and output equals ______.

is stable; potential/ Long-run equilibrium is a situation in which actual output equals potential output and the inflation rate is stable.

The benefit of holding money is _______, while the opportunity cost of holding money is _______.

its usefulness in carrying out transactions; the nominal interest rate/ Holding money involves a cost-benefit calculation. Money has an opportunity cost because interest is foregone, but money?s benefit is liquidity: the ability to make transactions easily.

Consider savings supply and savings (investment) demand. An increase in government spending shifts savings supply to the _____________ and ___________the real interest rate.

left; increases/ An increase in the government spending leads to a decrease in public savings, which is part of total savings so savings supply decreases; savings supply shifts to the left. At the original interest rate savings supply is now less than savings (investment) demand; firms want to borrow more funds than savers are willing to supply. Firms compete among themselves for the limited funds, bidding the interest rate up.

A bond is a(n):

legal promise to repay a debt./ A bond is a legal promise to repay a debt.

GDP excludes important factors that affect people's well-being, such as the value of:

leisure time./ Since leisure time is not traded in conventional markets, it is not measured in GDP even though leisure time is very important.

Chris pays $9,600 for a newly issued two-year government bond with a $10,000 face value and a 6 percent coupon rate. One year later, after receiving the first coupon payment, Chris sells the bond when the market interest rate is 7 percent. The price Chris receives is:

less than $10,000./ See slide 8 October 12

A college graduate in 1972 found a job paying $7,200. The CPI was 0.418 in 1972. A college graduate in 2016 found a job paying $35,000. The CPI was 2.40 in 2016. The 1972 graduate's job paid ______ in nominal terms and ______ in real terms than the 2016 graduate's job.

less; more/ The 1972 graduate's job paid less in nominal terms ($7,200 is clearly less than $30,000) but more in real terms. The real wage for the 1972 graduate was $17,225 ($7,200/0.418) compared to $14,583 ($35,000/2.40) for the 2016 graduate.

If the nominal interest rate is above the equilibrium value, then the quantity demanded of money is ______ than the quantity supplied of money, bond prices will ____, and the nominal interest rate will ____.

less; rise; decrease/ When the nominal interest rate is above the equilibrium, the quantity demanded of money is less than the quantity supplied by the Fed. In this case, bond prices rise as bonds are bought to shed cash, driving the nominal interest rate down.

Capital goods are

long-lived goods used for producing other goods and services./ Capital goods are long-lived goods used for producing other goods and services.

Structural unemployment is:

long-term and chronic unemployment that exists even when the economy is producing at a normal rate.

Gross domestic product (GDP) equals the ______ of final ______ produced within a country during a given period of time.

market value; goods and services/ The gross domestic product is measured in dollars, which is the market value of the goods and services produced.

The real wage is the wage:

measured in terms of purchasing power./ The real wage identifies the purchasing power of labor earnings.

Double coincidence of wants is avoided if money is used as a:

medium of exchange./ Double coincidence of wants occurs when both traders want to dispose of what they have and obtain what the other trader has. This is rare, and the use of money means this unusual situation is not required.

Because the Fed determines the money supply, the:

money supply curve is vertical./ The money supply is a "stock" variable, meaning it is fixed at any particular time. This is modeled with a vertical supply curve.

A decrease in interest rates by the Fed based on a given and unchanged policy reaction function represents a ____ the aggregate demand curve, and lower interest rates resulting from a downward shift in the Fed's policy reaction function represents a _____ the aggregate demand curve.

movement down; shift right of/ For a fixed inflation rate target, a decrease in interest rates corresponds to a decrease in the inflation rate. A lower inflation rate is seen as a movement down the aggregate demand curve, as the rate of inflation is measured on the vertical axis when drawing aggregate demand. A downward shift in the Fed's policy reaction function means that the Fed is setting the real interest rate lower than before at each given rate of inflation. So each level of inflation now corresponds to a new higher level of output. Thus a downward shift of the Fed's policy reaction function makes the AD curve shift to the right.

If both the lender and borrower agree on an 8% interest rate, both expect a 4% inflation rate, and inflation turns out to be 4%, then ______ by the inflation.

neither the borrower nor the lender are hurt/ When inflationary expectations are fulfilled, neither the lender nor the borrower is hurt by inflation.

If the United States has a $300 billion trade deficit, then there must be:

net capital inflows of $300 billion./ This follows from the accounting identity NX + KI = 0. Here, NX is net exports of -$300 billion and KI, net capital inflows, must be $300 billion.

Wealth is the same as:

net worth./ Wealth is another way of saying "net worth."

When actual output equals potential output there is ____ output gap and the rate of inflation will tend to ____.

no; remain the same/ If there is no output gap, the economy is at full-employment equilibrium. In this case there is no tendency for the price level to change.

The real interest rate equals the:

nominal interest rate minus the inflation rate./ The equation is: the real interest rate = the nominal interest rate - the inflation rate.

If the borrower and lender agree to a loan at 8% when the inflation rate is 3%, then 8% is the ______ interest rate and 5% is the ______ interest rate.

nominal; real/ The nominal rate is 8% and the inflation rate is 3%, so the real interest rate is 5%.

Involuntary part-time workers are:

not counted as unemployed./ Involuntary part-time workers would like to work full-time but cannot find suitable positions. Since they are working, they are considered "employed."

Historically, the most important tool of monetary policy is:

open-market operations./ Of all the tools available to the Federal Reserve, open-market operations are the most important.

If an economy produces 3 million oranges that sell for $0.25 each and 100,000 cars that sell for $25,000 each, then when the market value of total output is calculated:

oranges receive a smaller weight than cars./ The market value of the oranges is $750,000 and the market value of cars is $2.5 billion, so the contribution of cars to the GDP is much larger than the contribution of oranges.

Jim Brown would like to work, but has not looked for work in the past four weeks because he does not believe any jobs are available. In the official employment statistics, Jim is classified as:

out of the labor force./ If a prospective worker has not looked for work in four weeks then that person is considered to be out of the labor force.

Suppose that the price of chicken rises sharply compared to the price of turkey. In response, consumers buy more turkey and less chicken than they did in the CPI base year. In this situation the CPI will tend to ______ inflation as a result of ______ bias.

overstate; substitution/ When prices rise sharply for a product, consumers shift away from it. Since the CPI uses a fixed basket of goods and services, this switching between substitute products is often missed, resulting in "substitution bias" and overstatement of the CPI.

The accuracy of the unemployment rate is criticized because:

people who would like to work but have given up trying to find work are not included in the number of unemployed people./ Two groups of people are not counted in the unemployment rate, discouraged workers and involuntary part-time workers.

A flow is a measure defined:

per unit of time./ A flow is a measure defined per unit of time.

The decision about the forms in which to hold one's wealth is called the ______ decision.

portfolio allocation/ The "portfolio allocation decision" is the decision about the forms in which to hold one's wealth.

The financial cost of investment depends on the ______ and the _______.

price of new capital goods; real interest rate/ When firms consider new investments, they evaluate the cost or price of the new capital and the rate of interest on the loan taken to fund the capital investment.

When economists use market values to aggregate output, they sum the:

price times the quantity of each item produced./ The gross domestic product sums the market values of all goods and services produced which requires multiplying the quantities of each item with their respective price, and adding up these sums.

The term "savings" by itself refers to national savings, which we called "S" in class. With the interest rate is on the vertical axis and savings is on the horizontal axis, savings supply is an upward sloping line that illustrates the relationship between the interest rate and savings. If consumption spending increases with no changes in net taxes, then:

private saving decreases and savings supply shifts left./ S = private savings plus public savings = (Y - T - C) + (T- G). If consumption spending increase, private saving decreases so national savings decreases, which shifts the savings supply relation to the left.

If consumption spending increases by $10 million with no changes in net taxes, then:

private saving decreases./ Household saving is a sub-category of private saving. If consumption spending goes up with income constant, then household saving must go down. In this case, private saving goes down by $10 million.

The term "savings" by itself refers to national savings, which we called "S" in class. With the interest rate is on the vertical axis and savings is on the horizontal axis, savings supply is an upward sloping line that illustrates the relationship between the interest rate and savings. If GDP (income) increases with no changes in net taxes, then:

private saving increases and savings supply shifts right./ S = private savings plus public savings = (Y - T - C) + (T- G). If GDP (income) spending increase then Y increases, private saving increases so national savings increases, which shifts the savings supply relation to the right.

If net taxes paid by households increase:

private saving will decrease./ When households pay higher taxes they have less available for private saving.

Saving by households and businesses is called ______ saving.

private/ This is the definition of "private saving."

In the Keynesian model, it is assumed that, when demand for a firm's product changes, the firm changes:

production levels to meet the demand./ The basic Keynesian model assumes prices are fixed in the short run. When demand changes, producers change output levels rather than prices.

Three equivalent ways to measure GDP are total _____, total _____, and total ______.

production; income; expenditure/ Whenever a good or service is produced and sold, the revenue from the sale is distributed to the workers and the owners of the capital involved in the production of the good or service.

The term "savings" by itself refers to national savings, which we called "S" in class. With the interest rate is on the vertical axis and savings is on the horizontal axis, savings supply is an upward sloping line that illustrates the relationship between the interest rate and savings. If government spending decreases with no changes in net taxes, then:

public saving increases and savings supply shifts right./ S = private savings plus public savings = (Y - T - C) + (T- G). If government spending decrease, public saving increases so national savings increases, which shifts the savings supply relation to the right.

The saving of the government sector is called ______ saving.

public/ The saving of the government sector is called public saving.

Joe's Taco Hut can purchase a delivery truck for $20,000 and Joe estimates it will generate after tax net revenue of $2,000 per year. He has no other opportunities. He should:

purchase the truck if the real interest rate is less than 10 percent./ If Joe purchases the delivery truck, he will earn 10 percent per year, i.e., $2,000/$20,000 = 0.10. If he can borrow money at a rate less than 10 percent, he will gain from buying the truck.

Joe's Taco Hut can purchase a delivery truck for $20,000 and Joe estimates it will generate after tax net revenue of $4,000 per year. His other option is to go to work for someone else earning net income of $3,000 per year. He should:

purchase the truck if the real interest rate is less than 5 percent./ If Joe purchases the delivery truck, he will earn $4,000. To be equally well off working for somebody else (his opportunity cost), he would have to earn $3,000 per year and still be able to cover the real interest for the van. With earnings of $4,000 and an opportunity cost of his time of $3,000 his borrowing costs must only be $1,000. $1,000/$20,000 = 0.05 = 5 percent.

If the Fed wishes to reduce nominal interest rates, it must engage in an open market ______ of bonds that ______ the money supply.

purchase; increases/ When the Fed purchases bonds in the open market, it gives up cash in exchange for bonds. This increases the money supply and reduces nominal interest rates.

The government purchases component of GDP includes:

purchases of final goods and services./ For government expenditure to be added to GDP, they must be purchases of final goods and services.

The nominal exchange rate is the:

rate at which two currencies can be traded for each other./ The "nominal exchange rate" is the rate at which two currencies can be traded for each other.

The ______ is the rate of change of the _______.

rate of inflation; CPI/ The CPI measures how fast prices get from one level to another measured by the CPI.

The U.S. dollar will appreciate against the Japanese yen when:

real GDP in Japan increases./ The U.S. dollar exchange rate will appreciate when foreigners want more U.S. currency. The Japanese will want more U.S. currency when their real GDP increases and they desire to buy more American goods and services.

The U.S. dollar will depreciate against the Japanese yen when:

real GDP in the U.S. increases./ The U.S. dollar exchange rate will depreciate when Americans want more Japanese currency. Americans want more Japanese currency when real U.S. GDP increases and Americans desire to spend more abroad.

The money demand curve will shift to the left if:

real income decreases./ If real income decreases, people make fewer transactions and desire to hold less money at all nominal interest rates. The money demand curve shifts to the left.

The nominal interest rate equals the:

real interest rate plus the inflation rate./ The real interest rate = the nominal interest rate - the inflation rate. So the equation for nominal interest rate is: nominal interest rate = real interest rate + inflation rate.

The supply and demand for saving are brought into equilibrium by adjustments of the ______ rate.

real interest/ Equilibrium in financial markets occurs at the intersection of the supply and demand for saving curves, which determines the interest rate.

The wage paid to workers measured in terms of real purchasing power is called the:

real wage./ The "real wage" is the wage paid to workers measured in terms of real purchasing power.

To compare the change in physical production (GDP) between 2010 and 2016, we should compare ______ GDP in 2010 with ______ GDP in 2016.

real; real/ To measure physical production we have to take out changes that are only due to inflation. This means comparing historical real values with current real values.

If total output is calculated by adding up the market value of goods and services produced, then more expensive items:

receive a greater weight than cheaper items/ More expensive items have greater influence in GDP calculations than inexpensive items because the expensive items indicate a higher market value.

The self-correcting tendency of the economy means that falling inflation eventually eliminates:

recessionary gaps./ Lower inflation rates eliminate recessionary gaps because the SRAS curve shifts to downward to bring the economy back to long-term equilibrium. The Fed accommodates this shift by lowering interest rates as inflation falls according to its existing reaction function.

The economy pictured in the given figure has a(n) ____ gap with a short-run equilibrium combination of inflation and output indicated by point ___. *SRAS/AD intersection has a lower y-axis value than LRAS/AD y-axis value.*

recessionary; A/ This economy has a recessionary gap because the short-term equilibrium level of output, which is where AD and SRAS meet at point A, is less than the potential output level Y*.

Starting from potential output, if consumer confidence decreases and consumers decide to spend less, then this will generate a(n) _____ gap and inflation will _____.

recessionary; decrease/ When consumers become less confident about the future and decrease spending, the AD curve shifts leftward. This generates a recessionary gap and inflation will decrease.

If potential output equals 4,000 and short-run equilibrium output equals 3,500, there is a ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

recessionary; reduce/ When potential output exceeds short-run equilibrium output there is a recessionary gap. The Federal Reserve must reduce interest rates to close the gap because lower rates will inspire investment and consumption spending.

In an economy where planned aggregate spending is given by PAE = 5,500 + 0.6Y − 20,000r, the interest rate is currently 5 percent (0.05). If potential output equals 11,750, the central bank must ______ the interest rate to close the ____________ gap.

reduce; recessionary/ If potential output is 11,750, this economy has a recessionary gap. PAE = 5,500 + 0.6(Y) − 20,000(0.05), so 0.4Y = 4,500 and Y = 11,250. This is a recessionary gap of 500 and interest rates must be reduced to close the gap.

In the basic Keynesian model, a decline in autonomous spending:

reduces short-run equilibrium output./ A decline in autonomous spending causes the PAE curve to shift downward, which causes the intersection with the 45-degree line to move down and to the left, reducing short-run equilibrium output.

You are the Minister of Trade for a small island country with the following annual PPC: You are negotiating a trade agreement with a neighboring island with the following annual PPC: If the other island's delegate offers to give you 2 fish for every 1 coconut you give them, you will:

refuse their offer because the opportunity cost to you of a coconut is more than 2 fish./ Every time your island makes a coconut, it has to give up on 3 fish, so you would not be willing to accept a deal in which you only get 2 fish for every coconut.

If workers received a 5 percent wage increase and the rate of inflation was 5 percent, then their real wage:

remained constant./ In this case, nominal wages rose at the same rate of inflation, so real wages remained constant.

Assets of the commercial banking system include:

reserves and loans./ On the balance sheet of the commercial banking sector, reserves and loans are on the asset side whereas deposits are on the liability side.

Consider savings supply and savings (investment) demand. A decrease in the tax rate on firm net revenue will shift savings (investment) demand to the _____________ and ___________ the real interest rate.

right; increases/ A decrease in the tax rate increases the fianncial benefit of investment, which shifts savings demand (investment) to the right. At the original interest rate savings supply is now less than savings (investment) demand; firms want to borrow more funds than savers are willing to supply. Firms compete among themselves for the limited funds, bidding the interest rate up.

Current income minus spending on current needs equals:

saving./ Saving equals current income minus spending on current needs.

The three functions of money are:

serving as a medium of exchange, unit of account, and store of value./ Money does many things, but the things it does best are to facilitate trade, serve as a common yardstick to determine value and maintain its value for later use.

Graphically short-run equilibrium occurs at the intersection of the aggregate demand curve and the:

short-run aggregate supply line./ Short-run equilibrium is identified by the intersection of the aggregate demand curve and the short-run aggregate supply line.

Refer to the given figure. (Graph unavailable) In response to gradually falling inflation, this economy will eventually move from its short-run equilibrium to its long-run equilibrium. Graphically, this would be seen as:

short-run aggregate supply shifting downward./ This economy has a short-term equilibrium at point A, which is where AD and SRAS. Because the actual level output is lower than potential output, as indicated by the LRAS line, the economy is experiencing a recessionary gap and firms are not selling as much as they would like to. Eventually, this low level of aggregate demand will cause the inflation rate to fall. This is shown graphically as the SRAS line moving downwards until it intersects the AD curve at point C in the figure. At that point, which is the long-term equilibrium, actual output equals potential output and the inflation rate stabilizes at this lower level.

Frictional unemployment is:

short-term unemployment that is associated with the process of matching workers with jobs.

Because an increase in the nominal interest rate raises the opportunity costs of holding money, the money demand curve:

slopes downward./ The money demand curve is a typical demand curve insofar as it is downward-sloping. The money demand curve shows the inverse relationship between nominal interest rates and the quantity of money demanded.

Government purchases include all of the following except:

social security benefits paid by the federal government./ Social Security is a transfer payment, which means nothing was produced in exchange for the payment.

A measure defined at a point in time is called a(n) ______ variable.

stock

A long-term mismatch between the skills of some workers and the jobs available is a principal cause of ______ unemployment.

structural

U.S. firms wishing to purchase European goods and services are ______ the foreign exchange market.

suppliers of U.S. dollars in/ U.S. firms buy billions of dollars' worth of European goods and services every year. They pay for these purchases by supplying U.S. dollars to the foreign exchange market.

U.S. households wishing to purchase shares of stock in a European company are ______ the foreign exchange market.

suppliers of U.S. dollars in/ When U.S. households wish to purchase shares of stock in a foreign company, the households need to obtain foreign currency first. To do this, the household supplies dollars in exchange for foreign currency.

The quality adjustment bias of the CPI refers to the failure of statisticians to:

take into account improvements in goods and services./ The quality adjustment bias of the CPI refers to the failure of statisticians to take into account improvements in goods and services.

The central bank of the United States is:

the Federal Reserve System./ The Federal Reserve System of the United States was created in 1913 as the central bank of the country.

The tendency for nominal interest rates to be high when inflation is high and low when inflation is low is known as:

the Fisher effect./ The Fisher effect is the tendency for nominal interest rate to be high when inflation is high and low when inflation is low.

Final goods and services are ______ production and ______ counted in GDP.

the end products of; are/ Goods and services are added to GDP when they are sold to their final buyer. Intermediate transactions are not counted in GDP.

Cyclical unemployment is:

the extra unemployment that occurs during periods of recession.

Firms will invest in new capital equipment whenever:

the financial cost of the equipment is less than the financial benefit./ Firms do a cost-benefit comparison before they buy new equipment. If the financial benefits exceed the financial costs, firms invest in new equipment.

Three macroeconomic factors that affect the demand for money are:

the nominal interest rate, real income, and the price level./ The nominal interest rate affects the opportunity cost of holding money. Also, when real income grows, more money is demanded for transactions. And when the price level rises, more money is needed for each transaction.

A CPI that equals 1.34 in 2008 (when 2000 is the base year) means that:

the price level in 2008 is 34 percent higher than in the base period./ A CPI of 1.34 means that prices on average have risen 34 percent since the base year.

The money demand curve will shift to the right if:

the price level increases./ If the price level increases, people desire to hold more money at all nominal interest rates. The money demand curve shifts to the right.

A relative price is:

the price of a specific good in comparison to the prices of other goods and services./ A relative price is the price of a specific good in comparison to the prices of other goods and services.

The idea that tradeoffs have to be made when resources are scarce is reflected in the fact that:

the production possibilities curve has a negative slope./ The downward slope of the production possibilities curve captures the idea that because resources are limited, having more of one good means having less of the other.

GDP would be a better measure of economic well-being if it included:

the value of leisure./ Since leisure time is not traded in conventional markets, it is not measured in GDP even though leisure time is very important.

Public saving is positive when:

there is a government budget surplus./ In cases where T-G is positive, there is a government surplus and hence, a budget surplus.

At a short-run equilibrium _____, while at a long-run equilibrium _____.

there is an output gap; output equals potential output/ At a short-run equilibrium there is either a recessionary or expansionary output gap, while at a long-run equilibrium actual output equals potential output.

An upward shift in the Fed's policy reaction function is a(n) _____ of monetary policy, and the aggregate demand curve _______.

tightening; shifts left/ A tighter monetary policy, which is seen as an upward shift in the Fed's policy reaction, means that the Fed is setting the real interest rate higher than before at each given rate of inflation. This reduces aggregate expenditure and the short-run equilibrium output at each rate of inflation. Alternatively, we can say that each level of inflation now corresponds to a new level of output. Thus an upward shift of the Fed's policy reaction function shifts the AD curve leftward.

Banks hold reserves:

to meet depositor withdrawals and payments./ Banks do not know the size of daily deposits and withdrawals so they must hold reserves to cushion the bank against these daily fluctuations.

Social Security benefits, welfare payments, and farm support payments are examples of:

transfer payments/ The payments listed do not require any production by the recipient, so they are "transfer payments."

Payments by the government to the public for which the government receives no current goods or services in return are called:

transfer payments/ Transfer payments are payments by the government to the public for which the government receives no current goods or services in return.

The unemployment rate equals the number of people:

unemployed divided by the labor force./ The unemployment rate equals the number of people unemployed divided by the labor force.

The long-run aggregate supply line is:

vertical at the economy's potential output./ The long-run aggregate supply (LRAS) line is vertical at the economy's potential output and illustrates the economy's long-run productive capacity or potential output.

If you have a comparative advantage in a particular task, then:

you give up less to accomplish that task than do others./ Comparative advantage means having a lower opportunity cost.

Net exports plus net capital inflows equal:

zero./ The identity NX + KI = 0, where NX is net exports and KI is net capital inflows, shows this important relationship between net exports and net capital inflows.