ECON 204 Final
In an economy where the MPC is 0.7, the proportional tax rate is 0.25 and the marginal propensity to import is 0.2, the multiplier will be:
1.48 1/(1-0.7(0.75)) + 0.2 = 1/(1-0.525) + 0.2 = 1.48.
Multiplier Formula with tax rate and marginal propensity to import
1/(1-MPC(1-tax rate)) + Marginal Propensity to Import
Multiplier Formula
1/(1-MPC)
All of the following would cause inflation EXCEPT:
A decrease in aggregate demand
In Figure 15.4b, the distance between the profit curve and the wage curve at C indicates:
A negative bargaining gap.
Cuts in public expenditure do not guarantee a reduction in the government's deficit because:
Aggregate demand will fall, reducing government revenue
Which of the following is likely to lead to a fall in the level of investment spending?
An official forecast of a downturn in the economy
It is often said that independent central banks are more likely to run a successful monetary policy than governments because their commitment to low inflation is more 'credible' than government promises. One reason for this is that:
Central banks are less subject to political pressures (e.g. for lower unemployment) than governments.
Which of the following is a monetary policy a government may use to stabilize the economy in response to an unexpected decline in aggregate demand?
Decrease nominal interest rates
In the current year, your economy is expected to make exports of $100bn and to import $80bn-worth of goods and services. When it comes to measuring GDP (or aggregate demand) the net effect of your external sector is to:
External trade contributes $20bn.
Which of the following statements is correct regarding measuring of GDP?
GDP can be measured either as the total spending on domestically produced goods and services, or the total value added in domestic production, or the sum of all incomes received from domestic production.
Which of the following might help to minimize the costs of adapting to new technology?
Government re-training schemes
What's the best explanation of crowding out?
Government spending and borrowing reducing private investment and consumption
Based on the Beveridge Curve below, explain why there is an inverse relationship between the unemployment rate and the job vacancy rate in your own word.
Higher rate of unemployment normally occurs with a lower rate of vacancies. If it moves outward over time, a given level of vacancies would be associated with higher and higher levels of unemployment, which would imply decreasing efficiency in the labor market. Inefficient labor markets are caused by mismatches between available jobs and the unemployed and an immobile labor force.
Figure 15.6 is a scatter plot of the inflation rate and the unemployment rate for the US for each year between 1960 and 2014.Based on this information, which of the following statements is correct?
In the 1960s, the Phillips curve suggests a trade-off of a 2% fall in the unemployment rate and a 2-3% rise in the inflation rate.
Economic activity is subject to fluctuations (booms and slumps). Thinking about the US economy since the 1800's which of the following statements is correct?
In the early nineteenth century the effects of weather on a large agricultural sector were a major source of economic fluctuations but during the twentieth century these have been replaced by fluctuations in industrial investment.
Which of the following statements is correct regarding the model of the labor market?
In the short- and medium-run models the amount of capital is fixed, while in the long-run model the amount of capital can vary.
Which of the following is a fiscal policy a government may use to stabilize the economy in response to an unexpected decline in aggregate demand?
Increase government expenditures
A fall in Real GDP...
indicates a fall in output
When does a negative bargaining gap occur?
when real wage is above the price-setting curve. This will encourage firms to reduce real wages and prices will fall.
Suppose that in an economy with no taxation and no external trade, the marginal propensity to consume is 0.7. The size of the multiplier will be?
3.3333
Assume that the level of consumption in an economy is given by the expression 1000 + 0.7Y, when Y = 50,000, consumption will be:
36,000
According to the revised version of the Phillips curve with inflation expectations, as shown in Figure 15.7, if the rate of inflation last year was 3 percent and the bargaining gap this year and next year is 1 percent, then inflation this year and next will be:
4% then 5% (The rate this year will be 3% + 1% (=4%). And next year, if the bargaining gap persists it will be 4 % + 1%(=5%).)
Since 2008, we have gotten used to the idea that the size and behavior of the financial system can be a major source of economic instability. How can the existence of a developed financial system help to limit fluctuations in the economy?
A developed financial system can help households to 'smooth' their consumption over time.
The aggregate demand of an open economy is given by the after-tax domestic consumption C, the investment I (which depends on the interest rate r), the government spending G and net exports X − M: A D = C + I + G + X − M = c 0 + c 1 ( 1 − t ) Υ + I ( r ) + G + X − m Υ c₀ is autonomous consumption, c₁ is the marginal propensity to consume, and m is the marginal propensity to import. In the economy's equilibrium this equals its output: AD = Y. Solving for Y yields: Υ = ( 1 1 − c 1 ( 1 − t ) + m ) ( c 0 + I ( r ) + G + X ) Given this equation, which of the following increases the multiplier?
A fall in the marginal propensity to import. (A fall in m increases the multiplier. This is because it reduces leakages in the economy)
Figure 14.10c depicts the aggregate investment function of an economy.Based on this information, which of the following statements is correct?
A forecast of a permanent demand increase shifts the investment line outwards.
All of the following could cause deflation EXCEPT:
A leftward (up) shift in the wage-setting curve (this would lead to a positive bargaining gap and inflation)
An overseas bank announces that it is introducing a new type of savings account paying a 3 percent fixed rate of interest for deposits of one year duration. This 3 percent is:
A nominal rate of interest
Consider the following two alternative definitions of a recession: (1) period of negative output growth, (2) period when the output level is below the country's potential, or normal, level. Now consider a country that has been producing a lot of oil, whose oil wells have suddenly run out. This results in both its potential, and actual, output falling. Which of the following statements are correct?
According to the first definition, the country is now unambiguously in a recession.
Assume that a household has access to credit. Which of the following is likely to have a significant effect on long-run consumption?
An unexpected promotion to a senior position.
The Phillips curve models which relationship?
As unemployment decreases, inflation increases.
Why is investment spending likely to be more volatile than consumption spending?
Because a large part of consumption spending is on items that cannot painlessly be postponed. ('non-discretionary') - food, heating, lighting, shelter, for example
The diagram depicts the Phillips curve and the indifference curves of an economy. This economy has an independent central bank with an inflation target of 2%. Based on this information, which of the following statements is correct?
Consider an aggregate demand shock that increases unemployment. Without monetary or fiscal policy to counter the negative bargaining gap, the Phillips curve would shift downwards.
Imagine that the rate of inflation has been 10 percent per year for a number of years. The central bank then introduces a 'tight' monetary policy and the rate of inflation comes down to 5 per cent per year. This reduction is an example of:
Disinflation
Temporary change in income affects the current consumption of credit-constrained households more than unconstrained households because:
If the household cannot borrow, its current consumption is limited by its current income.
The 'paradox of thrift' refers to the fact that:
If we all save more, aggregate income will fall
When measured over time, the nominal value of many variables in economics grows more rapidly than their corresponding real values. Why might this be?
Inflation.
The Beveridge curve will shift downward (toward the origin) if:
Information about job vacancies improves.
Deflation refers to a situation where prices are generally falling. Why is deflation generally undesirable?
It might lead to a reduction in aggregate demand as firms and households wait for prices to fall further.
Figure 16.9b depicts the long-run adjustment process in the labour market after technological progress.Based on this information, which of the following statements is correct?
Lower unemployment at E implies a higher wage required to induce workers to exert high effort, resulting in the higher real wage at B.
The introduction of a new labour-saving technology results in :
Lower wage share of output and higher income inequality in the short run.
The Consumer Price Index:
Measures the general level of prices that consumers pay for goods and services
Compared with investment spending, government spending is relatively stable. Why might this be?
Much of government spending is independent of the state of the economy.
In Figure 15.4b, when employment is at level C, the real wage lies below the profit curve (labor productivity). Assume inflation is zero. In a competitive system, firms will begin to _____ prices and this will start a process of _____.
Reduce; deflation
A fall in the world price of commodities (e.g. oil) will:
Shift the profit curve up and the Phillips curve down.
Which of the following statements regarding the multiplier is correct?
Taxation and imports are "leakages" from the circular flow of income, which reduce the size of the multiplier.
Okun's Law tells us that:
That unemployment goes down in booms and up in recessions.
The relationship between the unemployment rate and the job vacancy rate (each expressed as a fraction of the labour force) is known as:
The Beveridge curve
Your economy is estimated to be producing about $800bn-worth of goods and services this year. However, your official statisticians estimate that if all resources were fully-employed, it could produce about $1000bn. The ratio 0.8 (or 80%) therefore indicates:
The degree of capacity utilization
The widespread introduction of new technology into an economy takes time. The length of time between first appearance and general acceptance is known as:
The diffusion gap
In the expression for aggregate consumption C = C 0 + C 1 Y, the term C 1 is known as:
The marginal propensity to consume
In a severe recession, with falling prices, the economy may need a negative real interest rate in order to give sufficient stimulus to aggregate demand. What particular problem for conventional monetary policy do negative real interest rates pose?
The policy rate needs to be more negative than the rate of deflation but nominal rates cannot go below zero.
The following are the labour market and the multiplier diagrams, representing the medium-run supply side and the short-run demand side of the aggregate economy, respectively:
The shifts in the aggregate demand cause short-run cyclical fluctuations in unemployment around the medium-run level shown in the labour market diagram. (The labour market model determines the medium-run equilibrium while the aggregate demand model determines the short-run equilibrium)
Figure 16.1 is a graph of unemployment rates for 16 OECD countries from 1960 to 2014.Based on this information, which of the following statements is correct?
The unemployment rates of different countries were affected very differently by the oil shocks of the 1970s.
Which of the following statements is correct regarding monetary policy?
The zero lower bound refers to the central bank's inability to set the nominal interest rate to below zero.
Which of the following best describes the short-run relationship between inflation (π) and unemployment (U), ceteris paribus?
U rises; π falls.
Which of the following statements regarding fiscal policy is correct?
Unemployment benefits and a proportional tax system are both automatic stabilizers.
The data for Spain suggests that Okun's Law can be written as y = -0.3597x +1.741. What is the predicted change in unemployment if GDP grows by 2%?
Unemployment increases by 1.02 percentage points. (1.741 - 0.3597(2) = 1.02.)
In the context of aggregate demand, which of the following constitutes investment:
Upgrading your firm's IT equipment
Figure 15.9 depicts the diagrams of the labour market model and the Phillips curve that incorporates inflation expectations. Based on this information, which of the following statements is correct?
Upward shifts of the Phillips curve represent a rising inflation rate for a given unemployment rate.
Disinflation
a reduction in the rate of inflation
