chapter 17
Suppose that people who previously had held jobs become structurally unemployed due to establishment of new government regulations during a period in which the inflation rate remains unchanged. Would the result be a movement along or a shift of the short-run Phillips curve?
A rightward shift of the short-run Phillips curve
Read through the descriptions below to correctly match the action and the type of policy undertaken.
Active policy making: Fed buying U.S. government securities in response to a recession; Passive policy making: Unemployment compensation paid out by the government.
Which of the following arguments is used in support of undertaking passive policymaking?
Aggregate demand shocks play little or no role in the economy in the short run
The efficiency wage theory states that
All of the above
Which of the following are failures of the real business cycle theory?
All of the above are failures of the real business cycle theory.
According to the rational expectations hypothesis, a policy cannot have a long-run effect on real GDP or the unemployment rate because
All of the above.
Which of the following statements is correct when considering the choice between active and passive policy making?
Economists believing that markets are stable and efficient support passive policy making; economists that believe that there are rigidities in markets support active policy making
If the rational expectations hypothesis is valid, there is pure competition, and all prices and wages are flexible, then the policy irrelevance proposition follows:
Fully anticipated monetary policy actions cannot alter either the rate of unemployment or the level of real GDP
According to the policy irrelevance proposition, is it more or less likely that the Fed's policy actions will cause real GDP to change in the short run?
More likely, since much of the changes in the money supply will be unanticipated
The combination of rational expectations and perfectly competitive markets is best reflected in which of the following models?
New Classical
Which of the following economic theories is most likely to support active policymaking?
New Keynesian model
What is the rational expectations hypothesis?
People form their expectations on the values of economic variables based on all available past and current information and their understanding of how the economy functions.
Which of the following arguments is used in support of undertaking active policymaking?
The Phillips curve is stable in the short run and predictable in the long run
Which of the following statements about the policy irrelevance proposition is not true?
The policy irrelevance proposition implies that the there is a short run change in real GDP, but no long run change in real GDP.
A permanent reduction in the supply of a productive resource will cause
a leftward shift of both the SRAS and LRAS curves.
stagflation
a situation characterized by lower real GDP, lower employment, and a higher unemployment rate during the same period that the rate of inflation increases
A decrease in the expected rate of inflation will result in
an inward shift of the Phillips curve.
Research by Milton Friedmand and Edmond Phelps indicates that
any inflation rate is possible for any given unemployment rate
The rational expectations hypothesis
assumes that individuals' forecasts incorporate all readily available information, including an understanding of government policy and its effects on the economy
Monetary policy undertaken by the Fed
can be either passive or active policy depending on the reason it is undertaking its action
small menu costs
costs that deter firms from changing prices in response to demand changes - for example, the costs of renegotiating contracts or printing new price lists
The Philips curve
exhibits a negative short-run relationship between the inflation rate and the unemployment rate that can be observed when there are unanticipated changes in aggregate demand
Most economists agree that active policymaking will have sizable long-run effects on a nation's economy.
false
Over the past 60 years in the United States, a clear trade-off seems to have existed between the unemployment rate and the inflation rate.
false
Stagflation is the result of lower real GDP and lower inflation.
false
When prices are sticky, the short run aggregate supply curve is vertical.
false
The actual rate of unemployment is
greater than the natural rate of unemployment when cyclical unemployment is positive
In the long run, an increase in the money supply
has no effect on real GDP or unemployment
Departures from the natural rate of unemployment can occur when individuals encounter unanticipated changes in fiscal or monetary policy. An unexpected ___________________ in aggregate demand will reduce unemployment below the natural rate, whereas an unanticipated _______________ in aggregate demand will push unemployment above the natural rate.
increase; decrease
Structural unemployment may result from all of the following factors except
individuals taking time to search for the best job opportunities
A movement along the Phillips curve occurs when actual inflation changes with
inflation expectations unchanged
The natural rate of unemployment in the U.S.
is the rate of unemployment that exists in the long run after everyone in the economy has fully adjusted to changes that have occurred
The natural rate of unemployment is the rate that exists in ________________- run equilibrium, when workers' are consistent with actual conditions.
long; expectations
New Keynesian economics differs from the new classical and real business cycle theories in that
new Keynesians do not assume either perfect competition or flexible prices in their analysis of aggregate economic fluctuations
Suppose that economists were able to use U.S. economic data to demonstrate that the rational expectations hypothesis is true. In light of that, the policy irrelevance proposition will
not be valid, since wages and prices of non-labor factors of production may adjust sluggishly
According to the real business cycle theory
only supply-side factors matter in influencing unemployment
The type of policy making that is not in response to actual or potential changes in overall economic activity is called
passive policy making
According to new Keynesian sticky-price theory, if policymakers act quickly enough in enacting expansionary policies in response to a decrease in aggregate demand,
real GDP and the price level will return to their original levels in the long run
To the extent that these _________________ cycles predominate as sources of economic fluctuations, the case for active policymaking is weakened.
real business
Activist policymakers
seek to take advantage of a proposed Phillips curve trade-off between inflation and unemployment.
Economists have not reached agreement on how lengthy the time horizon for "the long run" is in the context of Phillips curve analysis. Because of the advent of more sophisticated computer and communications technology, the time horizon that defines the "long-run" is likely to be
shortened as it provides immediate access to information
Some new Keynesian economists suggest that _________ costs inhibit many firms from making speedy changes in their prices and that this price stickiness can make the short-run aggregate supply curve ______________. Variations in aggregate demand have the largest possible effects on real GDP in the short run, so policies that influence aggregate demand also have the greatest capability to stabilize real GDP in the face of aggregate demand shocks.
small menu; horizontal
Even if all prices and wages are perfectly flexible, aggregate _______________ shocks such as sudden changes in technology or in the supplies of factors of production can cause national economic fluctuations.
supply
The real-business-cycle approach attributes even short-run increases in real GDP largely to aggregate supply shocks. Rightward shifts in aggregate supply tend to push down the equilibrium price level. The United States has experienced low but persistent inflation in recent years. This happened because
the increase in aggregate demand was more than the increase in aggregate supply, thereby increasing the price level
In new Keynesian models of aggregate economic activity, "sticky" prices and wages are explained by
the small menu-cost and efficiency wage theories, respectively
If expected inflation changes,
there is a shift in the position of the Phillips curve
Suppose people expect the inflation rate to be 3 percent. The government engages in a one-time expansionary monetary policy in order to lower unemployment. Once people realize what has happened
there will be a movement down along the Phillips curve, causing unemployment to return to its original level
When Alan Greenspan was nominated for his third term as chair of the Federal Reserve's Board of Governors, a few senators held up his confirmation. One of them explained their joint action to hinder his confirmation by saying, "Every time growth starts to go up, they [the Federal Reserve] push on the brakes, robbing working families and businesses of the benefits of faster growth." This statement is based on
the trade-off as shown by the short-run Phillips curve
The main argument against using active policymaking is that
time lags make it very difficult to judge when the policy will have an effect.
An unexpected temporary decrease in the money supply will cause a movement down an existing Phillips curve.
true
If the overall unemployment rate is below the natural rate of unemployment, cyclical unemployment is negative.
true
The Phillips curve shows the relationship between the unemployment rate and the inflation rate.
true
The costs associated with changing prices are called menu costs.
true
According to the real business cycle theory, a supply shock, such as the oil shocks in the 1970s, leads to a reduction in aggregate supply. In the new long-run equilibrium
unemployment returns to its original level but workers are worse off because their real wages are lower
The Phillips curve shows that, in the short-run:
unexpected changes in aggregate demand produce an inverse relationship between inflation and unemployment.
Real business cycle theory assumes that
wages and prices are perfectly flexible.
If the government implements a contractionary fiscal policy, the price level will ________ and real GDP will ________ in the long run.
decline; not change
In the short run, unexpected increases in aggregate demand cause the price level to ________ and the unemployment rate to ________.
rise; fall
The new Keynesian model, using the theories of sticky prices and efficiency wages, suggests that the
short-run aggregate supply curve is horizontal
