ECON303 Midterm 3
Suppose that the real interest rate is r. To get one unit of real income next period how much does a household has to save today? Answers: - 1+r - 1/(1+r) - r - 1
1/(1+r)
Dick became a partner of a consulting firm. He bought the lifetime membership of a country club. Dick's behavior can be explained by which of the following? Answers: - A temporary increase of current income. - A permanent increase of income. - A permanent decrease of income. - A temporary increase of future income.
A permanent increase of income.
Let r denote the real interest rate. The horizontal axis is consumption in the future and vertical axis is consumption now. Which of the following statements about intertemporal budget line is correct? - The vertical intercept is the present value of income and the slope (absolute value) is 1/(1+r). - The vertical intercept is the present value of income and the slope (absolute value) is 1+r. - The vertical intercept is the income in period 1 and the slope (absolute value) is 1+r. - The vertical intercept is the income in period 2 and the slope (absolute value) is 1/(1+r).
The vertical intercept is the present value of income and the slope (absolute value) is 1/(1+r).
Both Tim and Rob work for the same insurance company for the same pay. This year Tim landed a big contract and got a hefty bonus. Rob took a two-month unpaid leave to take care of his sick mother. Which of the following is a correct description of their consumption and saving behavior? Answers: - Rob will reduce his current consumption and save more. - Tim will increase his current consumption and saving. - Tim will increase his current consumption but reduce saving. - Rob will increase his current consumption and saving.
Tim will increase his current consumption and saving.
Which of the following is NOT a correct description of a pay-as-you-go social security program? Answers: - To balance the budget in a pay-as-you-go program the return on forced saving (hence benefits) must be adjusted to reflect the demographic changes and economic growth. - To balance the budget in pay-as-you-go, the return on forced saving must equal the real interest rate. - Current workers' payroll tax is used to pay for benefits of current retirees. -It is a forced saving program.
To balance the budget in pay-as-you-go, the return on forced saving must equal the real interest rate.
Currently the US central bank uses which of the following to communicate with the public about their intention for monetary policies? Answers: - The targeted inflation rate - The targeted federal funds rate - The targeted growth rate of nominal GDP - The targeted interest rate of 10-year treasury bond
The targeted federal funds rate
Data shows that inflation is the result of Answers: - a rapid growth of real GDP. - labor unions demanding higher pay. - a rapid money growth over real GDP growth. - households spending beyond their means.
a rapid money growth over real GDP growth.
A temporary increase in income today leads to Answers: - a large increase in current consumption; the marginal propensity to consume is large - a large decrease in future consumption; the marginal propensity to consume is large. - a small increase in current consumption; the marginal propensity to consume is small. - a small decrease in future consumption; the marginal propensity to consume is small.
a small increase in current consumption; the marginal propensity to consume is small.
An increase in second-period income results in Answers: - an increase in first-period consumption, an increase in second-period consumption, and a decrease in saving. - a decrease in first-period consumption, an increase in second-period consumption, and an increase in saving. - an increase in first-period consumption, a decrease in second-period consumption, and a decrease in saving. - an increase in first-period consumption, an increase in second-period consumption, and an increase in saving.
an increase in first-period consumption, an increase in second-period consumption, and a decrease in saving.
If government spending is held constant and Ricardian equivalence holds Answers: - an increase in government saving is always matched by an increase in the government budget deficit. - an increase in government saving is always matched by an equal increase in private saving. - an increase in the government budget deficit is always matched by a reduction in private saving. - an increase in government saving is always matched by an equal reduction in private saving.
an increase in government saving is always matched by an equal reduction in private saving.
The Federal Reserve conducts counter-cyclical monetary policy Answers: - because money demand is high during recessions. - in order to keep the real interest rate low. - in order to keep price level stable. - because of Phillips curve.
because of Phillips curve.
A consumer is a lender if Answers: - optimum current consumption is less than current disposable income. - optimum current consumption is greater than current disposable income. - current disposable income is greater than future disposable income. - the consumer's indifference curves are relatively flat.
optimum current consumption is less than current disposable income.
All of the following are consumption taxes EXCEPT which one? Answers: - Sales tax - Value-added tax - Excise tax - Payroll tax
Payroll tax
The marginal propensity to consume measures how much does current consumption change when Answers: - current income changes. - future income changes. - permanent income changes. - interest rate changes.
- current income changes.
Real investment tends to be Answers: - procyclical and more volatile than real GDP. - procyclical and less volatile than real GDP. - countercyclical and less volatile than real GDP. - countercyclical and more volatile than real GDP.
- procyclical and more volatile than real GDP.
Which of the following statements is correct regarding to capital income tax? - All statements are correct. - Theoretically capital income tax to a borrower is a subsidy. - Capital income tax effectively reduces the real interest rate making current consumption relatively cheaper. - Capital income tax has both income and substitution effect in household intertemporal choice.
All statements are correct
There are policy proposals to move the US tax system from income based to consumption based. What is the theoretical support to such reform initiatives? Answers: - Consumption tax is a lump-sum tax hence is non-distortionary, while income tax is distortionary. - Consumption tax is more progressive than income tax. - Administration cost of consumption tax is lower than that of income tax. - Both consumption and income tax distort households' labor supply decision, but income tax also distorts households' saving decision while consumption tax does not.
Both consumption and income tax distort households' labor supply decision, but income tax also distorts households' saving decision while consumption tax does not.
A decrease in the real interest rate will lead to a substitution effect described by which of the following statements? Answers: - Consumption in the future is relatively more expensive; households consume more now and less in the future. - Consumption in the future is relatively more expensive; households consume less now and more in the future. - Consumption now is relatively more expensive; households consume more now and less in the future. - Consumption now is relatively more expensive; households consume less now and more in the future.
Consumption in the future is relatively more expensive; households consume more now and less in the future.
Which of the following statements is correct? Answers: - Consumption tax has substitution effect and income effect in both consumption-leisure choice and intertemporal choice. - Consumption tax has only income effect in both consumption-leisure choice and intertemporal choice. - Consumption tax has substitution effect and income effect in intertemporal choice but only has income effect in consumption-leisure choice. - Consumption tax has substitution effect and income effect in consumption-leisure choice but only has income effect in intertemporal choice.
Consumption tax has substitution effect and income effect in consumption-leisure choice but only has income effect in intertemporal choice.
We assume that the representative consumer's preferences exhibits all of the following properties, EXCEPT which one? Answers: - Current and future consumption must be the same. - Marginal utility from consumption falls as consumption increases. - More is always preferred to less. - The consumer likes diversity in his or her consumption bundle.
Current and future consumption must be the same.
Edward is 60 years old. He had accumulated a sizable retirement fund invested in the stock market. Michael is 25 year old. He just started to accumulate his retirement fund. When returns on the stock market increases which of the following is a correct statement? Answers: - Both Edward and Michael are affected through income effect only. - Edward is affected mainly through income effect while Michael is affected mainly through substitution effect. - Both Edward and Michael are affected through substitution effect only. - Edward is affected mainly through substitution effect while Michael is affected mainly through income effect.
Edward is affected mainly through income effect while Michael is affected mainly through substitution effect.
Counter-cyclical macro policy includes all the following EXCEPT which one? Answers: - Government subsidizes modernization of airports during economic recessions. - Cut payroll tax during economic recessions. - Force government to balance budget during economic recessions. - Implement tighter monetary policies during economic booms.
Force government to balance budget during economic recessions.
Suppose that an economy lasts for two periods. The government spending of the two periods are 0.5 and 0.11, respectively. Suppose that the real interest rate is 10% and the amount of tax collected in the first period is 0.3. Which of the following is correct? Answers: - The present value of tax revenue has to be 0.61. - Government has a fiscal surplus of 0.2 in the first period. - The amount of tax collected in the second period is 0.11. - Government borrowing in the first period is 0.2.
Government borrowing in the first period is 0.2.
According to the Taylor rule what does the US monetary policy do? Answers: - Reduce money supply during recessions and increase money supply when inflation rate goes up. - Increase money supply during recessions and when inflation rate goes up. - Decrease money supply during recessions and when inflation rate goes up. - Increase money supply during recessions and reduce money supply when inflation rate goes up.
Increase money supply during recessions and reduce money supply when inflation rate goes up.
Which of the following reforms helps to solve the solvency problem of the US social security program for all parties involved? Answers: - Increase payroll tax and normal retirement age. - Privatize the social security by setting up individual accounts. - Switch to a fully-funded program. - Increase the benefits of the retired from time to time.
Increase payroll tax and normal retirement age.
According to the Real Business Cycle (RBC) theory which of the following is a correct description of labor market behavior after a good productivity shock hits the economy? Answers: - Higher productivity shifts the labor demand curve to the left. The labor supply of households is fixed. The new equilibrium has a higher wage and the same amount of employment. - Higher productivity shifts the labor demand curve to the right. The labor supply of households is fixed. The new equilibrium has a higher wage and the same amount of employment. - Higher productivity shifts the labor demand curve to the left. The labor supply of households is adjustable. The new equilibrium has a higher wage and more employment. - Higher productivity shifts the labor demand curve to the right. The labor supply of households is adjustable. The new equilibrium has a higher wage and more employment.
Higher productivity shifts the labor demand curve to the right. The labor supply of households is adjustable. The new equilibrium has a higher wage and more employment.
According to the Real Business Cycle theory which of the following correctly describes households consumption-saving response when they are hit by an unfavorable productivity shock? Answers: - Households experience a temporary income decrease today. They consume more today and do not change their saving. - Households experience a temporary income decrease today. They consume less today and increase their saving. - Households experience a temporary income decrease today. They consume less today and decrease their saving. - Households experience a temporary income decrease today. They consume less today and do not change their saving.
Households experience a temporary income decrease today. They consume less today and decrease their saving.
Joe has a bigger subjective discount factor than Arthur. For example, Joe's subjective discount factor is 0.95 while Arthur's is 0.9. Which of the following is NOT correct? Answers: - Joe is more patient than Arthur. - If Joe and Arthur have the same income and interest rate Joe will save more than Arthur. - If Joe and Arthur have the same income and interest rate Joe will consume more now than Arthur. - Joe values future more than Arthur does
If Joe and Arthur have the same income and interest rate Joe will consume more now than Arthur.
Which of the following is the tax base of a capital income tax? Answers: - Bonus received by Mrs. Kelly for landing a big fat contract for her law firm. - Contribution of Mr. and Mrs. Ramsey towards their retirement account. - Interest received by Mr. Sam on his saving account. - Sales of a pizza joint named Little Italy.
Interest received by Mr. Sam on his saving account.
If the central bank increases the growth rate of money supply what will happen to an economy in the long run? Answers: - Nothing happens to inflation rate; but real GDP decreases. - Nothing happens to real GDP growth; both inflation rate and nominal interest rate increases. - Both growth rate of real GDP and price level increase. - Nothing happens to real GDP growth; Inflation rate increases but nominal interest rate stays the same.
Nothing happens to real GDP growth; both inflation rate and nominal interest rate increases.
Contrary to the prediction of Ricardian equivalence studies on Bush 2008 tax rebate showed that a tax cut without cutting spending led to some increase of private consumption. In this case Answers: - Ricardian equivalence fails because government can only collect flat-rate tax which has additional substitution effect. - Ricardian equivalence fails because public debt accumulated today due to tax cut may not have to be paid off. - Ricardian equivalence fails because some households are credit constrained; they would like to borrow to consume today but were discouraged by high interest rate they have to pay. - the logic of Ricardian equivalence does not apply at all.
Ricardian equivalence fails because some households are credit constrained; they would like to borrow to consume today but were discouraged by high interest rate they have to pay.
Which of the following is a tax free saving program? Answers: - Keogh plan - IRA - Roth IRA - 401(k) plan
Roth IRA
A tax increase without a spending increase will cause households to do which of the following? - Save less and consume the same amount. - Save the same amount and consume less. - Consume more and save less. - Consume less and save less as well.
Save less and consume the same amount.
Mary won a $100,000 lottery. According to the Permanent Income Hypothesis (PIH), Mary will do which of the following? - spend any money at all; save all of it. - Spend a large chunk of the money right away and only save a little bit for future consumption. - Spend all the money right away. - Spend a small amount of the money right away and save the rest for future consumption.
Spend a small amount of the money right away and save the rest for future consumption.
The Clinton administration lowered the tax rate on income from capital gains and the later Bush administration lowered the tax rate on dividend. These tax reforms are justified by which of the following arguments? Answers: - Tax on dividend and capital gains is a capital income tax and a reduction of its tax rate encourages saving and accumulation of capital. - Tax on dividend and capital gains is a consumption tax and a reduction of its tax rate increases aggregate demand. - Tax on dividend and capital gains is a labor income tax and a reduction of its tax rate encourages households to supply labor. - Tax on dividend and capital gains is a special kind of tax and its effect is a mystery.
Tax on dividend and capital gains is a capital income tax and a reduction of its tax rate encourages saving and accumulation of capital.
Two households, A and B, have the following income over two periods. Household Period 1 Period 2 A 50,000 30,000 B 20,000 60,000When interest rate decreases, which of the following statements on present value (PV) of income is correct? Answers: - The PVs of income for both households are higher, but the increase of household B's PV is bigger. - The PVs of income for both households are lower, but the reduction of household B's PV is smaller. - The PVs of income for both households are lower, but the reduction of household B's PV is bigger. - The PVs of income for both households are higher, but the increase of household B's PV is smaller.
The PVs of income for both households are higher, but the increase of household B's PV is bigger.
Which of the following statements is a correct description of the social security program in the US? Answers: - The US social security is a fully-funded program where a worker's payroll tax is used to pay for his own benefits when he retires in the future. - The US social security is a pay-as-you-go program where payroll tax from current workers is used to pay for benefits of current retirees. - The US social security is a fully-funded program where payroll tax from current workers are used to pay for benefits of current retirees. - The US social security is a pay-as-you-go program where a worker's payroll tax is used to pay for his own benefits when he retires in the future.
The US social security is a pay-as-you-go program where payroll tax from current workers is used to pay for benefits of current retirees.
Which aspect of the current US social security program indicates that it is an insurance against longevity risks? Answers: - The accumulated trust fund can only be invested in the US government debt. - The payroll tax rate is the same across all income level, but benefit is regressive. - The elderly receives social security benefits as long as they live. - The payroll tax of the young is used to pay for the benefits of the old.
The elderly receives social security benefits as long as they live.
Which of the following best describes the logic of Ricardian equivalence? Answers: - Households don't care about what government does. - The substitution effect of different tax plans is determined by the present value of government spending. - The income effect of different tax plans is determined by the present value of government spending. - Households prefer smooth consumption; that is the only thing matters for them.
The income effect of different tax plans is determined by the present value of government spending.
Why does the US social security program run into solvency problem? Answers: - Money in the Social security trust funds is not well managed. - Compared with previous generations social security promises too much to baby-boomers. - The promised return of the forced saving is higher than budget balance return. - The promised return of the forced saving is lower than budget balance return.
The promised return of the forced saving is higher than budget balance return.
Capital income tax is considered as a bad tax because Answers: - capital income tax decreases the after tax return on saving hence reduces saving through an income effect. - capital income tax makes future consumption relatively more expensive hence reduces households' saving. - capital income tax makes future consumption relatively cheaper hence reduces households' saving. - capital income tax reduces households' disposable income.
capital income tax makes future consumption relatively more expensive hence reduces households' saving.
Corporate income tax is a Answers: - lump-sum tax. - capital income tax. - labor income tax. - consumption tax.
capital income tax.
Money neutrality states that Answers: - with money added in models one can still use the representative agent. - changes in money do not affect real aggregates. - changes in real GDP do not affect the value of money. - monetary policy is independent from politics.
changes in money do not affect real aggregates.
Ricardian equivalence may fail if Answers: - government debt incurred today may not be paid off until after some current households are deceased. - borrowing and lending are done through financial intermediaries. - government collects lump-sum taxes. - some households are borrowers while other households are lenders.
government debt incurred today may not be paid off until after some current households are deceased.
For a lender a decrease in the real interest rate Answers: - definitely increases current consumption and decreases future consumption. - increases current consumption and has an - uncertain effect on future consumption. has an uncertain effect on both current and future consumption. - has an uncertain effect on current consumption and decreases future consumption.
has an uncertain effect on current consumption and decreases future consumption.
From an individual's point of view Answers: - he or she prefers a social security program that gives him or her a higher personal return on the forced saving. - he or she always prefers a fully-funded program to a pay-as-you-go program. - he or she always prefers a pay-as-you-go program to a fully-funded program. - he or she is indifferent between a pay-as-you-go and a fully funded social security program.
he or she prefers a social security program that gives him or her a higher personal return on the forced saving.
Mr. Green uses tax free saving plan instead of deferred tax saving plan because Answers: - he predicts that his marginal income tax rate when he retires would be higher than his marginal income tax rate now. - he predicts that his marginal income tax rate when he retires would be lower than his marginal income tax rate now. - he predicts that his average income tax rate when he retires would be higher than his average income tax rate now. - he predicts that his average income tax rate when he retires would be lower than his average income tax rate now.
he predicts that his marginal income tax rate when he retires would be higher than his marginal income tax rate now.
Which of the following is a correct expression for Fisher equation, where i is the nominal interest rate, r the real interest rate, and π the inflation rate? - i = r + π - π = r + i - r = i + π - i = r - π
i = r + π
If the correlation between GDP and y is 0.55, we say y is Answers: - tricyclical. - countercyclical. - acyclical. - procyclical.
procyclical.
If government runs fiscal deficit in a closed economy Answers: - public saving is positive and national saving is more than private saving. - public saving is negative and national saving is less than private saving. - public saving is negative and national saving is more than private saving. - public saving is positive and national saving is less than private saving.
public saving is negative and national saving is less than private saving.
A business cycle peak is a Answers: - small negative deviation from trend in real GDP. - small positive deviation from trend in real GDP. - relatively large positive deviation from trend in real GDP. - relatively large negative deviation from trend in real GDP.
relatively large positive deviation from trend in real GDP.
An increase in the real interest rate is an example of a Answers: - pure substitution effect. - substitution effect and a negative income effect. - substitution effect and an income effect whose sign depends on whether the consumer is initially a borrower or a lender. - substitution effect and a positive income effect.
substitution effect and an income effect whose sign depends on whether the consumer is initially a borrower or a lender.
If a household borrows at an interest rate greater than the interest rate at which he or she can lend Answers: - this makes no difference for household behavior. - the household must be a lender. - the budget constraint has a kink at the income point. - banks cannot make a profit.
the budget constraint has a kink at the income point.
When the nominal interest rate is positive but less than the inflation rate Answers: - the dollar amount of saving increases next period, but the purchase power of saving decreases. - the dollar amount of saving decreases next period, but the purchase power of saving increases. - both the dollar amount of saving and the purchase power of saving increase next period. - both the dollar amount of saving and the purchase power of saving decrease next period.
the dollar amount of saving increases next period, but the purchase power of saving decreases.
The assumption that current period consumption is positively related to the real interest rate is justified as long as Answers: - the representative household is a borrower. - the income effect of a lender dominates the substitution effect. - the substitution effect of a lender dominates the income effect. - the income effect of a borrower dominates the substitution effect.
the income effect of a lender dominates the substitution effect.
We say a tax plan is feasible as long as Answers: - government never borrows. - the present value of tax collections is greater than or equal to the present value of government spending. - tax collection is greater than or equal to government spending very period. - the present value of tax collections is lesser than or equal to the present value of government spending.
the present value of tax collections is greater than or equal to the present value of government spending.
On a loanable funds market when real interest rate increases Answers: - the quantity of funds supplied by households increases. - the supply curve shifts to the right. - the supply curve shifts to the left. - the quantity of funds supplied by households decreases.
the quantity of funds supplied by households increases.
On the loanable funds market things traded are - the right to use a certain amount of money; price is usage fee, aka, the real interest rate. - capital goods; price is the cost to purchase them. - buildings and machineries; price is the rental fee. - mutual funds; price is payment to own the funds.
the right to use a certain amount of money; price is usage fee, aka, the real interest rate.
In a crude oil producing country a recent surge of international oil price increases the income of average households. On the loanable funds market Answers: - the demand curve shifts to the right and the real interest rate increases. - the supply curve shifts to the left and the real interest rate increases. - the demand curve shifts to the left and the real interest rate decreases. - the supply curve shifts to the right and the real interest rate decreases.
the supply curve shifts to the right and the real interest rate decreases.
Consumption smoothing refers to Answers: - the tendency of consumers to seek a consumption path over time that is smoother than income. - the tendency of consumers to seek an income path over time that is smoother than consumption. - the tendency of all consumers to choose the same amount of consumption. - consumer's concerns about going heavily into debt.
the tendency of consumers to seek a consumption path over time that is smoother than income.