Chap 16

​"Because inflation targeting focuses on achieving the inflation​ target, it will lead to excessive output​ fluctuations." Is this statement​ true, false, or​ uncertain? Explain your answer.

A common fear of inflation targeting is that it will lead to excessive output fluctuations. This fear is overstated because inflation targeting [does not require] a sole focus on inflation. In​ practice, inflation targeters may [be able to reduce] output fluctuations since inflation targeting allows monetary policymakers to respond to declines in demand without facing a sharp rise in inflation expectations. Inflation targeting [does not] ignore traditional stabilization goals. Inflation targeters typically use [a percentage range] for an​ inflation-rate target.

Which of the following best illustrates the time-inconsistency problem? A. A parent says that he or she will punish a child whenever the child breaks a rule.​ Afterward, when the child​ misbehaves, the parent forgives the misbehavior because punishment is unpleasant for both the parent and child. B. Your professor says that this course will end with a final exam. After you have studied and learned all the​ material, you are surprised to find the exam easier than you expected. C. A nation states that they will not negotiate over hostages. Once hostages are​ taken, policymakers do not make any concessions to obtain the​ hostages' release. D. Both A and B are correct. E. All of the above are correct.

A. A parent says that he or she will punish a child whenever the child breaks a rule.​ Afterward, when the child​ misbehaves, the parent forgives the misbehavior because punishment is unpleasant for both the parent and child.

​_____________ is not directly affected by the tools of monetary​ policy, but links the policy instrument and the goals of monetary policy. A. An intermediate target B. Output growth C. An operating instrument D. All of the above are correct.

A. An intermediate target

Why is a public announcement of numerical inflation rate objectives important to the success of an​ inflation-targeting central​ bank? A. It reduces uncertainty in inflation expectations of market participants. B. It allows market participants to influence the inflation rate. C. It reduces the costs of high inflation to society. D. It imposes a rigid rule on monetary policymakers and thus limits any change in policy actions.

A. It reduces uncertainty in inflation expectations of market participants.

Why does control of this interest rate imply that the Fed will lose control of nonborrowed​ reserves? A. The Fed has to adjust reserves in response to changes in reserve demand to keep interest rates at the target. B. The Fed lacks control over both the nominal and real interest​ rates, so it cannot control everything. C. The Fed has to change the amount of discount loans it makes when it sets an​ interest-rate target. D. All of the above are correct.

A. The Fed has to adjust reserves in response to changes in reserve demand to keep interest rates at the target.

The Greenspan Doctrine A. advocates that monetary policymakers respond to​ asset-price bubbles only insofar as it affects its price stability and output objectives. B. suggests monetary policy can play a role in eliminating​ asset-price bubbles. C. applies only to​ credit-driven bubbles. D. summarizes the​ "leaning" against​ asset-price bubbles view.

A. advocates that monetary policymakers respond to​ asset-price bubbles only insofar as it affects its price stability and output objectives.

Legislation defining the mission of the Federal Reserve​ states: "The Board of Governors of the Federal Reserve System and the Federal Open Market Committee shall maintain​ long-run growth of the monetary and credit aggregates commensurate with the​ economy's long-run potential to increase​ production, so as to promote effectively the goals of maximum​ employment, stable​ prices, and moderate​ long-term interest​ rates." This is an example of​ a: A. dual mandate. B. hierarchical mandate. C. single mandate. D. multiple mandate.

A. dual mandate.

The NAIRU is the rate of unemployment at​ which: A. the inflation rate is constant. B. prices are constant. C. unemployment is zero. D. All of the above are correct.

A. the inflation rate is constant.

The problems that are created by inflation can be mainly attributed​ to: A. uncertainty. B. greed. C. menu costs. D. corporations.

A. uncertainty.

​"A central bank with a dual mandate will achieve lower unemployment in the long run than a central bank with a hierarchical mandate in which price stability takes​ precedence." Is this statement true or​ false? Explain your answer. A. True. Inflation targeting only allows a central bank to focus on inflation. B. False. There is no​ long-run trade-off between inflation and unemployment. C. True. The​ short-run Phillips curve shows an inverse relationship between inflation and unemployment. D. False. Inflation targeting still allows central banks to constantly adjust for unemployment concerns.

B. False. There is no​ long-run trade-off between inflation and unemployment.

The goals of a dual mandate can sometimes conflict​ because: A. it is difficult to achieve both​ long-run price stability and the natural rate of unemployment B. policies that increase output and employment in the short run can create excessive inflation in the long run C. low and stable rates of inflation detract from economic growth

B. policies that increase output and employment in the short run can create excessive inflation in the long run

A major advantage of​ ________ targeting over​ ________ targeting is that it is readily understood by the public. A. implicit nominal​ anchor; monetary B. ​inflation; monetary C. ​monetary; inflation D. implicit nominal​ anchor; inflation

B. ​inflation; monetary

If an oil price shock causes the inflation rate to rise by 1% and output to fall by 1%​, what does the Taylor rule imply that policymakers should do to the fed funds​ rate? Based on this​ scenario, policymakers should [increase] the fed funds rate​ because: A. the increase in inflation would prompt the fed funds rate to rise by 1%, and the decrease in the output gap would imply that it would fall by 1.5%. B. the increase in inflation would prompt the fed funds rate to rise by 1.5%, and the decrease in the output gap would imply that it would fall by 0.5%. C. the increase in inflation would prompt the fed funds rate to fall by 1%, and the decrease in the output gap would imply that it would rise by 1%. Your answer is not correct. D. changes in the inflation rate and output do not influence the fed funds rate.

B. the increase in inflation would prompt the fed funds rate to rise by 1.5%, and the decrease in the output gap would imply that it would fall by 0.5%. causing the ffr to increase by 1 %

When an economy is at its natural rate of unemployment​: A. the rate of unemployment is zero. B. the economy is at a​ full-employment level. C. the demand for labor is equal to the supply of labor. D. Both B and C are correct. E. All of the above are correct.

Both B and C are correct: B. the economy is at a​ full-employment level. C. the demand for labor is equal to the supply of labor.

What procedures can the Fed use to control the federal funds​ rate? A. The Taylor rule. B. Inflation targeting. C. Open market operations. D. None of the above are correct.

C. Open market operations.

If inflation is currently low but policymakers believe inflation will rise over the next two years with an unchanged stance of monetary​ policy, what should they do to prevent the inflationary​ surge? A. They should tighten monetary policy two years after the initial inflation surges. B. They should tighten monetary policy immediately after inflation surges. C. They should tighten monetary policy before inflation surges. D. There is no monetary policy response that can affect inflation.

C. They should tighten monetary policy before inflation surges.

If the economy experiences prolonged increases in productivity growth while actual output growth is unchanged​, what does the Taylor rule imply that policymakers should do to the fed funds​ rate? Based on this​ scenario, policymakers should [decrease] the fed funds rate​ because: A. the output gap would increase. B. actual output and the output gap would increase. C. potential output would increase and the output gap would decrease. D. changes in productivity growth do not influence the fed funds rate.

C. potential output would increase and the output gap would decrease.

Which of the following is a reason why monetary policy should not be used to prick​ asset-price bubbles? A. There are many different asset​ prices, and at any one time a bubble may be present in only a fraction of assets. B. Monetary policy actions to prick bubbles can have harmful effects on the aggregate economy. C. The effect of raising interest rates on asset prices is highly uncertain. D. All of the above are correct. E. None of the above are correct.

D. All of the above are correct.

The​ risk-channel of monetary policy A. is caused by the incentives for asset managers to search for yield. B. suggests that monetary policy should be used to lean against credit bubbles. C. is propagated by low interest rates from overly easy monetary policy. D. all options are correct.

D. all options are correct.

Disadvantages of the​ Fed's "just do​ it" approach​ include: A. the strong dependence on the​ preferences, skills, and trustworthiness of the individuals in charge of the central bank. B. a lack of​ transparency, which creates doubt about the future course of inflation and​ output, and makes it hard to hold the Fed accountable. C. low accountability that may make the Fed more susceptible to the​ time-inconsistency problem. D. Only A and B are correct. E. All of the above are correct.

E. All of the above are correct.

The Taylor rule is written​ as:

Federal funds rate target​ = inflation rate​ + equilibrium real federal funds rate​ + 1/2*​(inflation ​gap) + 1/2*​(output ​gap)

Advantages of the​ Fed's "just do​ it" approach​ include: A. the strong dependence on the​ preferences, skills, and trustworthiness of the individuals in charge of the central bank. B. its​ forward-looking behavior and stress on price stability that help to discourage overly expansionary monetary​ policy, thereby ameliorating the​ time-inconsistency problem. C. it does not rely on a stable​ money-inflation relationship. D. Only B and C are correct. E. All of the above are correct.

Only B and C are correct: - its​ forward-looking behavior and stress on price stability that help to discourage overly expansionary monetary​ policy, thereby ameliorating the​ time-inconsistency problem. - it does not rely on a stable​ money-inflation relationship.

​Time-Inconsistency Problem

The problem that occurs when monetary policymakers conduct monetary policy in a discretionary way and pursue expansionary policies that are attractive in the short run but lead to bad​ long-run outcomes.

hierarchical mandates

a central bank mandate in which the goal of price stability comes first; once price stability has been achieved, other goals can be pursued.

dual mandate

a central bank mandate that features two co-equal objectives: price stability and maximum employment

inflation targeting

a monetary policy strategy that involves the public announcement of a medium term numerical target for inflation

The most important goal of monetary policy is

price stability

Suppose the central bank sets the growth rate for nonborrowed reserves to​ 3% in order to achieve a growth rate of​ 4% for​ M2, which in turn should grow nominal GDP by​ 5%. In this​ case, nonborrowed reserves are​ _______, M2 is​ ____________, and nominal GDP is a​ _________. A. a policy​ instrument; an intermediate​ target; monetary policy goal B. a monetary policy​ goal; an intermediate​ target; policy instrument C. an intermediate​ target; a policy​ instrument; monetary policy goal D. a policy​ instrument; a policy​ instrument; monetary policy goal

reserves are​ a policy​ instrument; M2 is an intermediate​ target; nominal GDP is a​ monetary policy goal

an increase in the demand for reserves lead to a rise in the money supply

the fed will conduct open market purchases of securities with its access reserves

potential output

the level of aggregate output produced at the natural rate of unemployment (also called the natural rate of output)

natural rate of output

the level of aggregate output produced at the natural rate of unemployment - the rate at which there is no tendency for wages or prices to change. more often referred to as potential output.

natural rate of unemployment

the rate of unemployment consistent with full employment; the rate at which the demand for labor equals the supply of labor not an unemployment level of zero but a level above zero that is consistent with full employment.