Exam 3 Notes

As shown in the figure, if people behave according to rational expectations theory, an increase in the aggregate demand curve from AD1 to AD2 will cause the price level to move

* b. directly from 100 to 110 and then remain at 110.

According to the modern expectational Phillips curve illustrated, unemployment will temporarily fall below the natural rate of unemployment when

* b. inflation turns out to be higher than what people expected.

The integration of expectations into macroeconomic analysis indicates that

* c. once people come to expect a given rate of inflation, policies that stimulate the economy via unanticipated inflation will neither stimulate real output nor reduce unemployment

10. The integration of expectations into macroeconomic analysis indicates that

* c. once people come to expect a given rate of inflation, the inflation will neither stimulate real output nor reduce unemployment

Robert Lucas, the Nobel Prize winner whose contributions have been enormous on economic growth, also developed the idea of rational expectations. Under the rational expectations hypothesis

*a. a higher general level of prices but no change in real output

10. If the price level in the current period is higher than what buyers and sellers anticipated, profit margins will be ____, and firms will _______ output.

*a. attractive, expand

28. Troy expects that the events described in the article, "U.S. Oil Prices Drop" would likely

*a. cause the economy's potential (LR) rate of output to increase, causing LRAS to increase

34. The price paid to acquire purchasing power now rather than in the future is the

*a. interest rate.

20. Suppose that a combination of events has caused the economy to move to e1, associated with AD1 and SRAS1. Busi-ness leaders should expect the next step in this process will be that

*d. wages and interest rates will rise, moving the economy to E2

19. In the letter to the editor, Craig Ellis states that everyone chose to keep the stimulus checks rather than spend them. They kept them either to save, or pay down debt, and also because they feared that the deficits incurred to pay for these checks would simply require future taxes. This is a classic ____ argument

*a. new classical

6. In order to model the overall functioning of the economy in the short run, economists pull together the many markets into four basic markets, then examine their interrelationship. This understanding is conveyed in the circular flow diagram:

*a. resource, goods and services, foreign exchange, and loanable funds markets.

9. Adam Smith's description of this phenomenon included the name which has stuck with it ever since: the "invisible hand."

*a. that in a market system, firms only get paid if they produce what people want, thus a market system induces people to consider what people want and make it for them.

Consider the article below about the "Booster Shot" Economic Stimulus 29. According to the end of the article, most people only spent a small share (if at all) of their rebate in 2001. This would be consistent with

*a. the lifetime/permanent income/consumption smoothing hypothesis

22. In a world where capital moves rapidly across national boundaries, if a larger budget deficit leads to higher real interest rates,

*a. there will be an inflow of foreign capital, which will cause the dollar to appreciate and net exports to decline.

5. If a country imports more than it exports, it has a

*a. trade deficit

15. What was the basic assumption of Keynes' theory of the economy?

*a. wages and prices were highly inflexible, particularly in a downward direction. Thus, he did not think changes in prices and interest rates would direct the economy back to full employment.

This effect (shifts in such areas as housing values shift people's demand) is commonly called the __ effect?

*a. wealth

1. At the federal level, the total level of spending currently is about

*b. $4 trillion

12. In 2011, the nominal (money) rate on a thirty-year bond was around 4.85 %. Assuming that investors have set these contracts expecting a real interest rate of 2 %, what is the average rate of inflation that investors in the market are expecting over the next thirty years?

*b. 2.85 %

11. If the foreign exchange value of the dollar fell substantially relative to other currencies, this would most likely cause

*b. AD to shift to the right.

. The person who came up with this idea (from above) was

*b. Adam Smith in The Wealth of Nations.

Senator Snooze: "And if that's not enough, we've racked up deficits year after year, so that the total debt of this nation from 2008 to 2014

*b. Doubled from about $6 trillion in 2008 to 13 trillion in 2014.

According to the supply-side view of fiscal policy, does it make any difference whether the government cuts taxes by (1) reducing marginal taxes rates or (2) rebating (giving back) taxes already paid?

*b. Yes; only lower tax rates will increase incentives to earn marginal income and thereby stimulate aggregate supply.

What term should go in the blank? http://www.american.com/archive/2010/july/when-debt-flies-off-the-charts by Ve-ronique de Rugy

*b. crowding out

Consider the Yf point on the diagram. What is meant by the "full employment rate of output"? The output possible when...

*b. everyone is working about as much as they want

Consider the article "China Takes U-Turn with Yuan" from August 11, 2015. If Kelly and Katie face competition both here and abroad from Chinese firms, in the short run, the action will

*b. hurt them by lowering the price of Chinese goods relative to their products

31. Consider the underlined portions (A, B, C) in the article below "Fed's Bond Buy Lays an Egg by Michael Barone. It refers to something called "quantitative easing," in which the Federal Reserve Bank injects hundreds of billions of dollars into the economy. What words would make the most sense in the blanks (A, B, C)?

*b. lower, dollar, cheaper

Consider the picture to the left: almost non-stop deficits for the past 50-60 years. A major reason for this is

*b. the politics of economic stabilization policy: it is always easier to justify attempts to stimulate the economy as opposed to efforts to slow it down.

The U.S. economy weakened during the latter half of 2000 and fell into a recession just as President Bush took office in March 2001. Corporate scandals building from the 1990s and September terrorist attacks on the World Trade Center and using anthrax added pessimism to the already slowing economy. The newly elected Bush administration advocated a tax cut of $1000 per household that was enacted in July of 2001. According to the Keynesian view, this tax cut

*b. was appropriate because it would stimulate aggregate demand and thereby shorten the recession

21. Ed sells used cars, with loans to help finance them. If Ed is charging 5.5%, and he expects inflation to be 2.5%, the real interest rate is about

*c. 3%

14. Since the state of the economy is critical for proving for people's material needs, it is not surprising that church's comment on economic conditions. In one document (Mater et Magistra), the Vatican stated (54). [t]he present advance in scientific knowledge ...puts into the hands of public authority a greater means for limiting fluctuations in the economy and for providing effective measures to prevent the recurrence of mass unemployment. Given the tone, it is likely that

*c. It was written during the 1960s, during the high point of Keynesianism

9. Since the state of the economy is critical for providing for people's material needs, it is not surprising that churches com-ment on economic conditions. In one document (Mater et Magistra), the Vatican stated: [t]he present advance in scientific knowledge ...puts into the hands of public authority a greater means for limiting fluctuations in the economy and for provid-ing effective measures to prevent the recurrence of mass unemployment. (54) Given the tone, it is likely that

*c. It was written during the 1960s, during the high point of Keynesianism

32. In December 2008 the business cycle dating committee of the National Bureau of Economic Research declared that the economy was officially in a recession that had started in December 2007. In September 2010, they declared the recession had ended, as of June 2009. Yes, you read that correctly. They didn't declare the recession was over until a solid 15 months after it was actually over! What limitation did we discuss about this type of phenomenon? (Mises newsletter The Freemarket; Sept 2010; Vol28#9; Robert Murphy)

*c. Recognition lag

20. England has recently experienced a rapid rise in the value of the Pound relative to other currencies. FOR ENGLAND, this would likely cause

*c. a fall in net exports

11. What phrase goes in the underlined part of the article "The Fed vs the Recovery."

*c. a weaker dollar

In 2003, the Federal Reserve lowered interest rates numerous times, to quite low levels, and held those rates low for over a year. According to chapters 9 and 10, the effect of lower interest rates would be

*c. an increase in investment

12. In which case here is a tax increase most likely to be appropriate

*c. c

31. For Keynesians, in which case is a tax increase most likely to be appropriate

*c. c

11. Explain why economic stimulus potentially works via unanticipated inflation to expand output and reduce unemployment in terms of relative speed of adjustment of input and output prices. The stimulus policies

*c. cause output prices to temporarily rise relative to input prices. This temporarily expands profits of firms, who respond by expanding output, and hiring more workers to make this output (which reduces unemployment overall).

In an article, the author (Robert Bartley) wrote the following. The idea he is referring is also known as On reflection, it seems rather quaint to think of trying to spark recovery with surpluses or deficits; that is why modern economists talk about the death of macroe-conomics. A true macroeconomics would be built not on abstract models, but on solid microeconomic foundations, involving what happens to workers, producers and savers in the real world. More on this in a future column.

*c. crowding out

Mark is a Mount grad who owns his own firm. He reads in the paper that combined economic forces around the globe are expected to produce an increase in aggregate demand in the short term. That will cause an unanticipated increase in the level of prices in the goods and services market, which results in a temporary increase in real wage rates.....

*c. hire more workers, and cyclical unemployment will fall

Mark is a Mount grad who owns his own firm. If an increase in aggregate demand temporarily increases his prices, but wages he pays his workers do not change so rapidly, he is likely to

*c. hire more workers, and cyclical unemployment will fall

27. Sam, a Mount grad who owns his own firm, faces the following conditions: an increase in aggregate demand has tempo-rarily increased his prices, but wages he pays his workers have not changed so rapidly. He would likely ___, and, assuming his position is common, his action would likely have broad economic effects of___

*c. hire more workers; cyclical unemployment will fall

24. In the Keynesian model, if the marginal propensity to consume were 0.80, an autonomous increase in investment of $25 billion would cause equilibrium income to rise by much more, perhaps $125 billion, due to the ___ effect

*c. multiplier

In Popeye, Wimpy would gladly pay you Tuesday if you loan him money for a hamburger today. Thus the loan he takes out doesn't really raise his overall consumption across time, it just shifts it from the future into the present. This reasoning, that nothing is really changed if productivity is not enhanced, just shifted, could be applied to taxes too. ___ economists argue that trying to stimulate the economy by deficit spending now is weakened because people expect that the government will have to raise taxes on them in the future to repay the deficit, and they will take actions (e.g. save more) now to protect them from those future taxes

*c. new classical

What terms would fit in blanks A and B of the following article? Toyota Slams on the Brakes: Car Maker Cuts Profit Goal by 54%; __A__ Yen Is 'Destroying' Japanese Industry Wall St Journal DECEMBER 10, 2011. CHESTER DAWSON AND YOSHIO TAKAHASHI

*c. strong, rise

19. During President Yearwood's administration, expenditures were $3.7 trillion while revenue was $3.4 trillion, this implies

*c. the government had a budget deficit

24. During President Coleman's administration, expenditures were $3.1 trillion while revenue was $2.8 trillion, this implies

*c. the government had a budget deficit

Explain why economic stimulus potentially works via unanticipated inflation to expand output and reduce unemployment in terms of relative speed of adjustment of input and output prices.

*c. the stimulus policies cause output prices to temporarily rise relative to input prices. This temporarily expands profits of firms, who respond by expanding output and hiring more workers to make this output (which reduces unemployment overall).

2. OK, so deficits grew, and debts grew. So what!? So did the economy. Thus another way to discuss the deficit and debt is not simply as raw numbers (increasing from $2 to $4 is a 100% increase, but is still miniscule), but as a percent of GDP. By this measure, from 2008 to 2014,

*c. total national debt more than doubled in dollar terms from $6T to $13, and more than doubled as a fraction of the econ-omy, from 35-40% to 70-75%

14. In the article "Bernanke Unbounded," what term goes in the blank?

*c. wealth effects

18. ("Stimulus Package Won't Jolt") What word likely goes in the blank (__A___)

*d. Keynesian

As CEO, Andrew is trying to figure out whether to launch a new product category and is wise enough to realize that he will need to try to estimate how the economy is going to do so he can estimate demand at the time they launch the products. He believes that the impacts of the two events Reynolds discusses (falling stock and housing values) are likely to cause

*d. a decrease in AD, output, employment

In recent years, the term "Crony Capitalism" has seen a resurgence. What is meant by that?

*d. a setting in which businesses are private, but the government is very active in telling businesses how to operate, as well as being heavily involved in its own purchases. This connection corrupts both business and government: certain businesses try to influence government to guarantee they get profits and competitors are stopped, and government officials get businesses to support some government policies in exchange for protection in other areas.

25. In her State of the Nation address, President Johnson says "Things are racing here in America. Output is booming, un-employment is at record lows. On the other hand, prices have been increasing substantially. Thus I am going to follow Lord Keynes' advice that we implement

*d. a tax increase

30. The article "Republican _______" discusses a political relationship between a businessman (John Catsimatidis) who sells biofuels and Republican legislators in New York. Those legislators are offering a bill to require that all heating fuel include biofuels sold by.....Mr. Catsimitidis. This kind of arrangement, between politicians who seek donations and businesses who benefit from the actions of government, gets the slang term that the Wall Street Journal uses in the article, in both the title and the blank.

*d. crony capitalism

34. In the article "Three Views of the Fiscal Cliff," Edward Lazear refers to the Keynesians, "budget balancers," and supply siders. While Lazear doesn't specifically state it, what he means is that balancing the budget would reduce borrowing, and that would tend to reduce interest rates in the economy. What term did we use for this group?

*d. crowding out

2. "And if that's not enough, we've racked up deficits year after year, so that the total debt of this nation has

*d. doubled over the period 2009-2016, from about 6 trillion to over 14 trillion.

According to your book, it is "the capacity for market prices to direct individuals toward actions which benefit others." I de-scribed it as the "Modified Golden Rule," i.e. do unto others as they want you to do unto them and they will give you there gold. And the more you do unto them, the more gold they'll give. The common term for this is

*d. invisible hand

According to your book, it is "the capacity for market prices to direct individuals toward actions which benefit others." I described it as the "Modified Golden Rule," i.e. "do unto others as they want you to do unto them and they will give you their gold. And the more you do unto them, the more gold they'll give." The common term for this is

*d. invisible hand

24. The "loanable funds market" is a term used by economists to describe the

*d. market that coordinates the borrowing and lending of individuals and firms coordinated by the interest rate

35. Jen and Emily were having a conversation about the economy. Jen: "Well, I know that demand for different things changes over time. And that means that you have to move productive power out of some less desired areas and put it into some more highly desired areas. That's why it would be nice to have government coordinate it all. They could just offer payments to anyone who moves into whatever area the government planner has recognized is important." Emily: "Well, we already have such a mechanism in society. It's called _________"

*d. profit

35. An unanticipated decrease in prices, which results in a temporary effective increase in real wage rates, will

*d. result in an actual rate of unemployment that is temporarily greater than the natural rate of unemployment.

8. What terms would fit in blanks A and B of the following article? Answer____ Toyota Slams on the Brakes: Car Maker Cuts Profit Goal by 54%; __A__ Yen Is 'Destroying' Japanese Industry Wall St Journal DECEMBER 10, 2011. CHESTER

*d. strong, rise

. In the articles below ("The Deficit Gambit" and "Hauser's Law") the authors would appear to be _____ economists

*d. supply side

16. Given the policy prescriptions they make at the end (underlined)of the article "The Magnitude of the Mess We're In," the authors most likely emphasize ____ theory?

*d. supply side

28. According to Ed Prescott (Nobel Prize winner in Macro) So, why did the European labor supply decrease by a third

*d. supply side

According to Ed Prescott (Nobel Prize winner in Macro):..... Prescott appears to be making a ____ argument

*d. supply side

12. If federal expenditures exceed revenue from all sources,

*d. the U.S. Treasury will need to borrow additional funds by issuing bonds

33. In Tony's history class the professor stated "Then those crazy supply side economists took over in the 1980s and sent the government careening toward irresponsibility by impossible promises that they could cut taxes and revenues would go up! Of course, the rest of the profession thought they were nuts. Talk about sacrificing sound economics for political gain..."

*d. the professor was only partly right: most economists did think the supply siders were crazy at the time, but have come to accept many of the supply side ideas, especially for the long run (the founder won a Nobel prize). On the other hand, she is confusing the Laffer curve with supply side economics. The point of supply side economics is to make the economy more efficient, not maximize tax revenues by cutting tax rates.

17. How did fascism (which includes "National SOCIALISM) differ from socialism and communism?

*d. they all thought capitalism was evil but disagreed about how to deal with it. Fascism assumed that a strong state and em-phasis on nationalism would be enough to contain the evils of capitalism (people could own businesses, but only if they did what the government said), while socialism and communism thought the only solution was if the government owned the means of production.

16. How did fascism (which includes "National SOCIALISM) differ from socialism and communism?

*d. they all thought capitalism was evil but disagreed about how to deal with it. Fascism assumed that a strong state and emphasis on nationalism would be enough to contain the evils of capitalism (people could own businesses, but only if they did what the government said), while socialism and communism thought the only solution was if the government owned the means of production.

25. Suppose that a combination of events has caused the economy to move to e1, associated with AD1 and SRAS1. Business leaders should expect the next step in this process will be that a. prices will rise so SRAS will shift down

*d. wages and interest rates will rise, moving the economy to E2

13. In the article "Murder in Zurich," what term should go in the blank? Murder in Zurich Anonymous. Wall Street Journal, 16 Jan 2015: A.12.

*d. weaker

33. According to this model, a rise in aggregate demand

*d. will always raise prices and employment

4. Fern Iture runs a store specializing in items for living rooms and kitchens. Because many of the items are expensive, peo-ple often want to finance those purchase with loans, which she offers. If the real rate of interest is 3% and inflation is 2.5%, it is likely that Fern will charge her customers an interest rate of

*e. 5.5 %.

1. Senator Boremore: "Spending in the US is out of control, vastly outpacing our current tax collections, which themselves are based on high tax rates. For this year alone (2013), we're likely to see a deficit of about____"

*e. 590 billion

1. Senator Snooze: "Spending in the US is out of control, vastly outpacing our current tax collections, which themselves are based on high tax rates. For this year alone, we're likely to see a deficit of ____"

*e. 600 billion

28. The Canadian dollar is known as the "Loonie" (This is true: it has a picture of a loon on it). Until recently, the value of the loon was far less than to U.S. dollar: it took 1.4 loonies to equal one U.S. dollar. (You can see this as pricing on many books or magazines which have both US and Canadian prices). In the past 1-2 years, the U.S. dollar has fallen to be equal to the Loonie. If John & Matt make car parts here in Emmitsburg, this rise in the Loonie means...?

*e. This will improve their competitive position relative to Canadian competitors (parts producers), for both US & Canadian car companies that would use their parts

26. In the article "The Fed's New Foray into ___" Holcombe uses a slang term ___ to refer to fact that when government uses its power to favor particular businesses or industries, this often corrupts both businesses and government. Businesses try to get the government to help them and hinder opponents; governments offer these services in response to political support. Both are corrupted.

*e. crony capitalism

30. The three key goals of macroeconomic policy are

*e. employment, output, price stability (inflation)

15. If the marginal propensity to consume were 80%, the simple Keynesian model would imply that a $100B change in gov-ernment spending could potentially ____

*e. expand the economy by $500B

22. The theories we cover in class matter for how businesses perceive the world and what they should do. For example, if Brad is an economist for a large chemical company and crowding out is substantial, he will argue that the company should

*e. expect that changes in interest rates will weaken the government's policies to shift aggregate demand

10. Suppose you start @ c. Supply side economists would argue that the intent of their policies is to move the economy to

*e. m

3. No economic system can eliminate the problem of scarcity. Since there will be scarcity, societies will have to ration goods and services. In a market system, this is achieved by

*e. prices: people will see prices and determine if they want to buy the goods or not

2. The United States is on track to register a deficit of about _____for 2017

*f. 600 billion

14. Consider the following article by Greg Mankiw (a professor of economics at Harvard who served as President Bush's chief economist for several years). http://nationalaffairs.com/publications/detail/crisis-economics; Summer 2010. When we talk about the impact of government purchases on aggregate demand, and therefore on job creation, we must take into account an enormous......

*f. New Classical (Ricardian equivalence)

27. On the other hand, consumer loans like those for credit cards or furniture involve high interest rates because there is no or little collateral. Currently, the real rate of interest is 14% for such loans. If Fern Itcher, who owns the furniture store Tables, Chairs, and Beyond, offers an interest rate of 16.5%, it must be that she expects inflation to be

Add real rate of interest - interest rate 16.5-14= *c. 2.5%

26. Fitzgerald Ford not only sells cars, they even provide "financing," i.e. loans. If the real rate of interest for a car loan is 4% and inflation is 3.5%, then Kelly should expect to pay an interest rate of ___ when she buys a car from them.

Add real rate of interest+ inflation *e. 7.5 %.

As a Keynesian economist, Amy argues that if a fiscal policy change is going to exert a stabilizing impact on the economy, it must

a. inject demand stimulus during periods of economic slowdown. d. restrain aggregate demand during inflationary booms. *e. Both a and d are correct.

As shown in the figure, if people behave according to adaptive expectations theory, an increase in the aggregate demand curve from AD1 to AD2 will cause

a. labor to adjust nominal wages sluggishly. b. the aggregate supply curve to shift from SRAS1 to SRAS2 Answer_____ c. the price level to eventually rise from 100 to 110. * d. All of the above.

25. Economists often state that the interest rates which banks charge are "money" or "nominal" interest rates. This would apply to your student loans. Suppose Megan takes out an loan of $10,000 at 8%. This nominal rate accounts for

a. the inconvenience caused to the lender for sacrificing current consumption b. the lender sacrificing alternative investments c. risk d. inflation *e. all of the above

In the past year, the term "fascist" has been back in use. Fascism is not simply "any government I don't like. What was/were basic point(s) about fascism?

a. Capitalism is bad/dangerous because it undermines social cohesiveness b. The nation (for Italy) or race (Germany/Austria) is the most import goal. Answer_____ c. The state should be all powerful to enforce the nation/race d. People can keep private businesses, as long as they run them the way the state tells them *e. all of the above.

1. What were the three points about Marxism that were the opposite of A Christmas Carol?

a. There is no spirit world (no transcendent) b. Thus there can be no ideals c. You cannot appeal to ideals as the basis of social reform. *d. all of the above.

17. What were the three points about Marxism that were the opposite of A Christmas Carol?

a. There is no spirit world (no transcendent) b. Thus there can be no ideals c. You cannot appeal to ideals as the basis of social reform. *d. all of the above.

Prices are important in a market economy because they

a. eliminate imbalances between supply and demand. b. coordinates the choices of consumers and producers and brings them into harmony. c. provide a signaling mechanism to alert consumers to the value others place on the good or service, as well as the cost to society to provide it *d. all of the above.

When Ben takes out a loan from Shawn's Second National Bank, he pays the amount that the bank has advertised in the paper. This is likely to be a "nominal" interest rate of 8%, i.e. one which accounts for

a. the lender sacrificing alternative investments b. risk c. inflation d. the inconvenience caused to the lender for sacrificing current consumption *e. all of the above

If we were initially at c, reduction in interest rates would move us to?

d

The low rates, for too long, combined with a global glut of savings looking for place to go. People found the U.S., particularly the real estate market, to be high return, and thought that US real estate would be safe. As money from the U.S. and the world flooded into U.S. housing markets, this caused housing values to skyrocket. If we were initially at (c), rising real estate would move us to (ignoring any other effect, how would a massive rise in housing values affect us)?

d

So Ben faces the nominal rate of 8%. Suppose that inflation is expected to be 3%. This means that

nominal- inflation= real interest rate *b. the real interest rate is 5%