MacroEcon: CH 11

A decrease in the nominal money supply, other things being equal, will shift the LM curve:

upward and to the left.

A decrease in the real money supply, other things being equal, will shift the LM curve:

upward and to the left.

An increase in government spending generally shifts the IS curve, drawn with income along the horizontal axis and the interest rate along the vertical axis:

upward and to the right.

According to the Keynesian-cross analysis, when there is a shift upward in the government-purchases schedule by an amount ∆G and the planned expenditure schedule by an equal amount, then equilibrium income rises by

∆G divided by the quantity one minus the marginal propensity to consume.

(Exhibit: Keynesian Cross) In this graph, the equilibrium levels of income and expenditure are:

Y2 and PE2.

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

a higher interest rate.

One argument in favor of tax cuts over spending-based fiscal stimulus is that:

historically tax cuts have been more successful than spending-based fiscal stimulus.

The tax multiplier indicates how much ______ change(s) in response to a $1 change in taxes.

income

An explanation for the slope of the LM curve is that as:

income rises, money demand rises, and a higher interest rate is required.

In the Keynesian-cross model, if government purchases increase by 100, then planned expenditures ______ for any given level of income.

increase by 100

In the Keynesian-cross model, if taxes are reduced by 100, then planned expenditures ______ for any given level of income.

increase, but by less than 100

According to the theory of liquidity preference, tightening the money supply will ______ nominal interest rates in the short run, and, according to the Fisher effect, tightening the money supply will ______ nominal interest rates in the long run.

increase; decrease

According to the theory of liquidity preference, holding the supply of real money balances constant, an increase in income will ______ the demand for real money balances and will ______ the interest rate.

increase; increase

In the Keynesian-cross model, if government purchases increase by 250, then the equilibrium level of income:

increases by more than 250.

In the Keynesian-cross model, if taxes are reduced by 250, then the equilibrium level of income:

increases by more than 250.

In the Keynesian-cross model, a decrease in the interest rate ______ planned investment spending and ______ the equilibrium level of income.

increases; increases

A variable that links the market for goods and services and the market for real money balances in the IS-LM model is the:

interest rate.

An IS curve shows combinations of:

interest rates and income that bring equilibrium in the market for goods and services.

An LM curve shows combinations of:

interest rates and income, which bring equilibrium in the market for real money balances.

The interest rate determines ______ in the goods market and money ______ in the money market.

investment spending; demand

According to the theory of liquidity preference, the supply of nominal money balances:

is chosen by the central bank.

The Keynesian-cross analysis assumes planned investment:

is fixed, whereas the IS analysis assumes it depends on the interest rate.

According to the theory of liquidity preference, the supply of real money balances:

is fixed.

In the Keynesian-cross model with a given MPC, the government-expenditure multiplier ______ the tax multiplier.

is larger than

When firms experience unplanned inventory accumulation, they typically:

lay off workers and reduce production.

Consider the impact of an increase in thriftiness in the Keynesian-cross analysis. Assume that the marginal propensity to consume is unchanged, but the intercept of the consumption function is made smaller so that at every income level saving is greater. This will:

lead to no change in saving.

John Maynard Keynes wrote that responsibility for low income and high unemployment in economic downturns should be placed on:

low aggregate demand.

After the Kennedy tax cut in 1964, real GDP:

rose and unemployment fell.

According to the theory of liquidity preference, if the demand for real money balances exceeds the supply of real money balances, individuals will:

sell interest-earning assets in order to obtain non-interest-bearing money.

(Exhibit: Market for Real Money Balances) Based on the graph, if the interest rate is r3, then people will ______ bonds and the interest rate will ______.

sell; rise

When drawn on a graph with income along the horizontal axis and the interest rate along the vertical axis, the IS curve generally:

slopes downward and to the right.

The LM curve, in the usual case:

slopes up to the right.

Along an IS curve all of the following are always true except:

the demand for real balances equals the supply of real balances.

Two interpretations of the IS-LM model are that the model explains:

the determination of income in the short run when prices are fixed, or what shifts the aggregate demand curve.

Based on the Keynesian model, one reason to support government spending increases over tax cuts as measures to increase output is that:

the government-spending multiplier is larger than the tax multiplier.

In the liquidity preference model, what adjusts to move the money market to equilibrium following a change in the money supply?

the interest rate

The LM curve shows combinations of ______ that are consistent with equilibrium in the market for real money balances.

the interest rate and the level of income

The IS curve shifts when any of the following economic variables change except:

the interest rate.

The IS-LM model takes ______ as exogenous.

the price level

When the LM curve is drawn, the quantity that is held fixed is:

the real money supply.

Gary Becker's criticism of government spending on infrastructure as part of President Obama's stimulus plan was that:

there is a conflict between where spending on infrastructure would benefit employment and where infrastructure is most needed.

According to the analysis underlying the Keynesian cross, when planned expenditure exceeds income:

unplanned inventory investment is negative.

In the Keynesian-cross model, actual expenditures differ from planned expenditures by the amount of:

unplanned inventory investment.

The theory of liquidity preference implies that:

as the interest rate rises, the demand for real balances will fall.

In the Keynesian-cross model, if the MPC equals 0.75, then a $1 billion decrease in taxes increases planned expenditures by ______ and increases the equilibrium level of income by ______.

$0.75 billion; more than $0.75 billion

In the Keynesian-cross model, if the MPC equals 0.75, then a $1 billion increase in government spending increases planned expenditures by ______ and increases the equilibrium level of income by ______.

$1 billion; more than $1 billion

Assume that the money demand function is (M/P)d = 2,200 - 200r, where r is the interest rate in percent. The money supply M is 2,000 and the price level P is 2. If the price level is fixed and the Fed wants to fix the interest rate at 7 percent, it should set the money supply at:

1,600

According to the Keynesian-cross analysis, if the marginal propensity to consume is 0.6, and government expenditures and autonomous taxes are both increased by 100, equilibrium income will rise by:

100

Using the Keynesian-cross analysis, assume that the consumption function is given by C = 100 + 0.6(Y - T). If planned investment is 100 and T is 100, then the level of G needed to make equilibrium Y equal 1,000 is:

260

Assume that the money demand function is (M/P)d = 2,200 - 200r, where r is the interest rate in percent. The money supply M is 2,000 and the price level P is 2. The equilibrium interest rate is ______ percent.

6

In the Keynesian-cross analysis, if the consumption function is given by C = 100 + 0.6(Y - T), and planned investment is 100, G is 100, and T is 100, then equilibrium Y is: Answer Multiple Choice Question

600

In the Keynesian-cross model, actual expenditures equal:

GDP

Changes in fiscal policy shift the:

IS curve.

The equilibrium condition in the Keynesian-cross analysis in a closed economy is:

actual expenditure equals planned expenditure.

Tax cuts stimulate ______ by improving workers' incentive and expand ______ by raising households' disposable income.

aggregate supply; aggregate demand

In the Keynesian-cross analysis, assume that the analysis of taxes is changed so that taxes, T, are made a function of income, as in T = T + tY, where T and t are parameters of the tax code and t is positive but less than 1. As compared to a case where t is zero, the multiplier for government purchases in this case will:

be smaller.

When planned expenditure is drawn on a graph as a function of income, the slope of the line is:

between zero and one.

Along any given IS curve:

both government spending and tax rates are fixed.

The IS and LM curves together generally determine:

both income and the interest rate.

Both Keynesians and supply-siders believe a tax cut will lead to growth:

but Keynesians believe it works through aggregate demand whereas supply-siders believe it works through incentive effects.

(Exhibit: Market for Real Money Balances) Based on the graph, if the interest rate is r1, then people will ______ bonds and the interest rate will ______.

buy; fall

In the Keynesian-cross model, fiscal policy has a multiplied effect on income because fiscal policy:

changes income, which changes consumption, which further changes income.

According to the Keynesian-cross analysis, if MPC stands for marginal propensity to consume, then a rise in taxes of ∆T will:

decrease equilibrium income by (∆T)(MPC)/(1 - MPC).

An explanation for the slope of the IS curve is that as the interest rate increases, the quantity of investment ______, and this shifts the expenditure function ______, thereby decreasing income.

decreases; downward

The simple investment function shows that investment ______ as ______ increases.

decreases; the interest rate

An increase in income raises money ______ and ______ the equilibrium interest rate.

demand; raises

A decrease in the price level, holding nominal money supply constant, will shift the LM curve:

downward and to the right.

Assume that the money demand function is (M/P)d = 2,200 - 200r, where r is the interest rate in percent. The money supply M is 2,000 and the price level P is 2. If the price level is fixed and the supply of money is raised to 2,800, then the equilibrium interest rate will:

drop by 2 percent.

The Keynesian cross shows:

equality of planned expenditure and income in the short run.

(Exhibit: Keynesian Cross) In this graph, if firms are producing at level Y1, then inventories will ______, inducing firms to ______ production.

fall; increase

The IS curve provides combinations of interest rates and income that satisfy equilibrium in the market for ______, and the LM curve provides combinations of interest rates and income that satisfy equilibrium in the market for ______.

goods and services; real money balances

Consider the impact of an increase in thriftiness in the Keynesian-cross analysis. Assume that the marginal propensity to consume is unchanged, but the intercept of the consumption function is made smaller so that at every income level saving is greater. This will:

lower equilibrium income by the decrease in the intercept multiplied by the multiplier.

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

lower the interest rate.

Planned expenditure is a function of:

national income and planned investment, government spending, and taxes.

The IS curve plots the relationship between the interest rate and ______ that arises in the market for ______.

national income; goods and services

The theory of liquidity preference implies that the quantity of real money balances demanded is:

negatively related to the interest rate and positively related to income.

Equilibrium levels of income and interest rates are ______ related in the goods and services market, and equilibrium levels of income and interest rates are ______ related in the market for real money balances.

negatively; positively

The IS curve generally determines:

neither income nor the interest rate.

The LM curve generally determines:

neither income nor the interest rate.

When Paul Volcker tightened the money supply:

nominal interest rates fell in the long run.

The IS-LM model is generally used:

only in the short run.

In the Keynesian-cross model, what adjusts to move the economy to equilibrium following a change in exogenous planned spending?

production

According to the theory of liquidity preference, if the supply of real money balances exceeds the demand for real money balances, individuals will:

purchase interest-earning assets in order to reduce holdings of non-interest-bearing money.

The intersection of the IS and LM curve determines the values of:

r and Y, given G, T, M, and P.

(Exhibit: Market for Real Money Balances) Based on the graph, the equilibrium levels of interest rates and real money balances are:

r2 and M2/P2

At a given interest rate, an increase in the nominal money supply ______ the level of income that is consistent with equilibrium in the market for real balances.

raises

For any given interest rate and price level, an increase in the money supply:

raises income.

Reducing the money supply ______ nominal interest rates in the short run, and ______ nominal interest rates in the long run.

raises; lowers

An increase in the interest rate:

reduces planned investment, because the interest rate is the cost of borrowing to finance investment projects.

When drawn on a graph with Y along the horizontal axis and PE along the vertical axis, the line showing planned expenditure rises to the:

right with a slope less than one.

(Exhibit: Keynesian Cross) In this graph, if firms are producing at level Y3, then inventories will ______, inducing firms to ______ production.

rise; decrease