Macroeconomics Test 3

Which of the following changes could create a more positive output gap? (i) The U.S. dollar appreciates. (ii) The U.S. dollar depreciates. (iii) Trading partners reduce tariffs on U.S. exports. (iv) Monetary policy actions boost the economy.

(ii), (iii), and (iv)

Refer to the following table. What was the approximate output gap in 1998?

-1.2%

Refer to the following table. What was the approximate output gap in 1974?

-6.5%

In the first quarter of 2019, the output gap in the United States was 0.8%. a. Make a prediction about what you think the output gap will be in the second quarter of 2019. Explain your reasoning.

.8

Suppose that in a given country, the line of best fit approximates the Phillips curve shown here. Next year, you expect GDP to be equal to potential GDP. What is your forecast for unexpected inflation?

0 percent

Forecasts expect inflation to be 2%. Actual inflation ends up being 1.75%. Holding all else equal, if there is no supply-side change in the economy, these statistics indicate inflation is ____ less than expected.

0.25%

If expected inflation is 2%, and actual inflation is 2.8%, then unexpected inflation is:

0.8%.

If government spending rises by $62 billion and GDP rises by $110 billion, then the multiplier in the economy is approximately:

1.77

Refer to the following table. What was the approximate output gap in 1999?

1.9%

Suppose that in a given country, the line of best fit approximates the Phillips curve shown here. Suppose for next year, you expect GDP to be equal to potential GDP. Current inflation expectations are at 2%. How much does your salary have to change, in nominal terms, in order to maintain your purchasing power at the current level?

2%

You are the Chair of the Federal Reserve Bank of the United States. The neutral rate of interest is 2%, the inflation rate is 1%, and the output gap is -0.5%. Using the Fed's rule of thumb, what is the appropriate new nominal federal funds rate that you should set for the economy?

2%

What was the Fed's inflation target in 2019?

2%.

If the risk-free rate is 1.5% and the risk premium is 2%, the MP curve is at:

3.5

The figure shows inflation expectations and actual inflation for U.S. consumers over time. Which of the following statements correctly describes the relationship between these rates?

Actual inflation tends to follow inflation expectations.

Which of the following will fall when the economy is expanding?

Applications for unemployment benefits

Why are consumer and business confidence indices helpful in making predictions about the state of the economy?

Because they are leading indicators that tend to predict the future path of the economy.

The Federal Reserve's lender-of-last-resort function has been curtailed over time by the:

Dodd-Frank Act.

Refer to the data dashboard shown. Which indicator tells you how fast wages and benefits are rising?

Employment cost index

If an economy has a positive output gap of 1.5%, this means:

GDP is 1.5% above potential GDP.

In January 2019, inflation expectations in the United Kingdom fell from 2.9% to 2.6%.

If nothing else changes in the economy, this will decrease inflation.

Use the graph of Turkey's real GDP to answer the following questions.

In which year or years did Turkey experience a recession? 2001

Which of the following will probably rise when the economy is in a recession?

Initial unemployment claims

The S&P 500 has been increasing steadily over the last several months. What does this signal about how investors view future profits?

Investors believe future profits will be higher than previously expected.

Which of the following correctly describes the business cycle?

It is the fluctuations of GDP around the potential output.

How do interest rates affect investment in the economy?

Lower interest rates lower the cost of borrowing for firms, and so investment rises.

Refer to the data dashboard shown. Which indicator is a cross-check on GDP?

Real GDI

Which of the following is a broad indicator?

Real gross domestic income

Describe some of the historical similarities and differences between recessions. For example, do they always have the same duration and severity? What about expansions?

Recessions tend to be short in duration. Expansions are often longer than recessions. Recessions vary significantly in their severity.

The figure shows inflation from 2009 to 2018 for countries in the Organization for Economic Cooperation and Development (OECD). The country with the second-highest inflation rate was:

Russia.

Which economic indicator tells you about the future expected profits of businesses?

S&P 500

Which of the following causes shifts in the IS curve?

Spending shocks occur.

You are the manager of a local bank. Due to unstable financial conditions, savers are worried that your bank may fail. When they show up in large numbers to withdraw their savings, you find that you do not have enough cash to meet the obligations. Where can you turn for a loan if no other bank will lend to you?

The discount window

Which economic indicator tells you how fast wages and benefits are rising?

The employment cost index

Javier is a department manager at a big box store. Over the last month, sales have slumped, and he has lots of inventory going unsold. Now it's time to put in his orders to restock for next month. a. How, if at all, should Javier adjust his orders for new products? b. How will his suppliers respond to this decision? c. Most other businesses are experiencing a similar decline in sales. Which of the following are is likely to occur as a result of the decline in sales?

The inventory buildup is not an equilibrium. Javier should respond by cutting back on his orders. They will cut back on production.

Which of the following is a narrow indicator?

The stock price for JPMorgan Chase & Co.

assume the equilibrium unemployment rate is 5%. If actual output falls to 5 percentage points below potential output, how would you expect the unemployment rate to change? (Note: Specify your answer to one decimal place, if necessary.)

The unemployment rate would change by 2.5 percentage points.

A politician makes the following comment: "The fundamentals of our economy are very strong. According to market economists, we are producing more than anyone expected and even beyond what they call our potential output. My goal is to guarantee that we continue to produce more than our potential output throughout the next few decades."

This can only continue for limited time because eventually factories will need to make repairs, and people will want to reduce their hours.

You have saved $747. Where should you go if you want to open a checking account?

a commercial bank

Which of the following shows the correct effect on the IS curve of a decrease in personal income tax rates?

a movement from point C to point D

The Federal Reserve was created after:

a series of bank runs and bankruptcies.

Seana owns a small pet shop and expects inflation to be 3% next year. a. By how much does Seana expect her marginal costs to change? b. By how much does she expect her competitor's prices to change?

a- 3 percent b. 3 percent

Use the Fed rule‑of‑thumb to predict the Fed's target for the federal funds rate for each of the following scenarios if its estimate of the neutral real interest rate is 2%.

a. A recession hits the economy, causing output to fall to 0.75% below potential output and inflation to fall to 1%. Predicted federal funds rate: .375 % b. An increase in consumer and business confidence pushes output to 2% above potential output, while inflation rises to 3.5%. Predicted federal funds rate: 1 %

After a meeting, the Federal Open Market Committee (FOMC) decides that the state of the economy warrants actions to increase real interest rates.

a. As a result of the increase in real interest rates, consumption, investment, government spending, and net exports will all decrease. b. With the increase in real interest rates, output will decrease , inflation will decrease, and unemployment will increase. c. Each of the following situations would cause the FOMC to consider increasing rates except one. a negative output gap and low inflation.

Complete the following sentences to explain why countries with central banks which are independent from the government have lower inflation on average.

a. Countries with independent central banks face less short‑term political pressure. This allows the central bank to make good long‑term decisions regarding the economy. b. Policy makers tend to want to achieve temporarily higher output and overheat the economy. This leads to higher inflation, which leads to higher expected inflation in the future. The temporary increase in output eventually dissipates, but higher inflation persists. c. Thus, countries with independent central banks have lower inflation on average because they are better equipped to balance the economy over the long run.

Compare and contrast changes in the federal funds rate and quantitative easing.

a. The Fed adjusts the federal funds rate by buying and selling short‑term government bonds. This tool is called open market operations. b. Quantitative easing is when the Fed buys long‑term government bonds and securities in order to put downward pressure on long‑term interest rates. c. Quantitative easing is considered unconventional monetary policy and may be used when the federal funds rate has hit the zero lower bound. d. If the Fed pushes rates down the opportunity cost of borrowing falls . The level of output in the economy should increase . Solved

Predict how the Fed would likely respond if the output gap became more positive, so that output moved from being 0.1% above potential output to being 3% above potential output, and inflation rose above its 2% target rate.

a. The Fed would likely set a higher interest rate target. How would you expect unemployment to change over the next year or two in response to the Fed's actions? b. If the Fed pursued this action, you would expect unemployment to increase over the next year or two.

You are the managing director of a small local bank. The Fed announces that it is moving its federal funds rate target from 2.25% up to 3.0%.

a. The increase in the federal funds rate will increase the interest rates on the business lines of credit and personal loans you make. What would have to happen for you to also change the interest rate you charge on longer-term loans such as mortgages or business loans? b. You would change long‑term rates if you believe the change in the federal funds rate will be long‑lasting.

You are working at the campus bookstore, earning $9.00 per hour. Your manager tells you that in the upcoming year, you will get a 2% raise.

a. What is the approximate change in your real wage if inflation is 1%? Change in real wage: dollars per hour. .9 b. What is the approximate change in your real wage if inflation is 2%? Change in real wage: dollars per hour. 0 c. What is the approximate change in your real wage if inflation is 3%? Change in real wage: dollars per hour. .9 Gave Up

Identify which economic indicator should be used to track each of the following. a. The overall size of the economy b. Labor market performance

a. the real GDP b. the unemployment rate

You've been invited to help a foreign affiliate of your company set next year's prices. Inflation last year was 5%, the unemployment rate dropped to record lows, and GDP sky-rocketed. In addition, geopolitical tensions led the price of crude oil to rise by 50%. Given these circumstances, what do you think annual inflation will be next year?

above 5%.

The IS curve is constructed by:

adding up the level of aggregate expenditure at each real interest rate.

Monetary policy is defined as the:

adjustment of interest rates to influence economic conditions.

A rise in nominal wages represents:

an increase in production costs.

a. Expected inflation results from collective feelings about inflation in the future and causes future inflation. b. Unexpected inflation results from cost‑push and demand‑pull inflation and equals the difference between total inflation and expected inflation.

answer is in def.

Which of the following shows the correct effect on the IS-MP framework if there is a rise in home values and wealth in the economy?

arrow is in the top part pointing right

In September 2008, the stock market fell sharply and continued to perform poorly due to the financial crisis. How did this change impact GDP in the economy?

arrow is pointing to the top left.

Which of the following shows the correct effect on the IS-MP framework if there is a credit crunch the economy, meaning banks are unwilling to lend except at high interest rates?

arrow is pointing up

in June 2019, the average price of a cup of coffee in Venezuela was 6,500 bolivars; in June 2018, the average price was just 8 bolivars. This represents an 81,150% increase in the price of a cup of coffee for Venezuelans, who have seen similarly dramatic increases in the prices of nearly everything they buy. How might this experience of inflation impact inflation going forward?

causes inflation expectations to rise, which in turn causes still higher inflation.

Which of the following cause(s) shifts in the MP curve?

changes in monetary policy

Suppose rubber prices rise in international markets. For countries that import rubber, this scenario would lead to:

cost-push inflation.

The Great Moderation refers to the:

decreased volatility of the U.S. economy.

If the U.S. government lowers personal income tax rates:

disposable income increases, and this leads to an increase in consumption and a right shift of the IS curve.

When unexpected inflation is zero, the corresponding unemployment rate is the _____ unemployment rate.

equilibrium

Demand-pull inflation is inflation resulting from:

excess demand.

Planned investment is the:

expenditure on capital goods by businesses.

The risk premium is the:

extra interest charged by lenders to account for risk.

Which of the following cause shifts in the MP curve?

financial shocks

You are driving to see your grandparents when you get caught in traffic caused by construction on the interstate. The construction is an example of:

government expenditure.

In the long run, inflation is determined by:

inflation expectations.

Explain how inflation expectations are like a self-fulfilling prophecy. They are self-fulfilling because

inflation managers will raise their prices by whatever rate they expect and create that level of inflation.

Forecasts expect inflation to be 2%. Actual inflation ends up being 1.75%. Holding all else equal, if there is no supply-side change in the economy, these statistics indicate there is:

insufficient demand.

A good proxy for the risk-free interest rate is the interest rate on a:

loan to the US government

If inflation is 0%, and a firm wants to lower real wages by 1%, it will need to:

lower nominal wages by 1%.

The higher the opportunity cost of consumption, the:

lower the aggregate expenditures.

The intersection of the IS curve and the MP curve determine:

macroeconomic equilibrium.

A bank run occurs when:

many people want to withdraw their savings from a bank at the same time, and the bank does not have enough cash on hand.

Which figure shows the correct effect on the Phillips curve when the domestic currency depreciates?

new arrow pointing up at new old

The use of automated harvesting machines greatly increased productivity in farming. How does this affect the Phillips curve for an economy where agriculture is a significant part of GDP?

old arrow pointing down new

Which figure shows the correct effect on the Phillips curve when there are falling production costs?

old arrow pointing down to new

The four stages of the business cycle are:

peak, recession, trough, and expansion.

If managers have an expectation of ongoing inflation, then it is likely that:

prices will rise.

Forward guidance occurs when the Federal Reserve:

provides information about the future course of monetary policy in order to influence expectations about future interest rates.

If the output gap is positive, the Federal Reserve will _____ the real interest rate to _____.

raise; cool inflationary pressures

If the actual inflation rate is greater than the target inflation rate, then relative to the neutral interest rate, the Federal Reserve will _____ the real interest rate to drive _____ consumption and investment.

raise; down

If government expenditure rises by $27.5 billion and the multiplier in the economy is 2.5, then:

real GDP rises by $68.75 billion, and the IS curve shifts to the right.

If inflation is 4% and a firm gives its workers a 1.5% nominal wage raise, then:

real wages have fallen by 2.5%.

Suppose that an economy is in a recession. You would expect to see the unemployment rate:

rise above the equilibrium unemployment rate.

Based on Okun's rule of thumb, if you forecast that the output gap will decline from 0% to -3%, the unemployment rate will:

rise by 1.5%

According to Okun's rule of thumb, for every 1% fall in the actual output below potential output, the unemployment rate:

rises by 0.5%.

What kind of data adjustment removes the effect of sales spikes due to the holiday season?

seasonally adjusted data

Insufficient demand leads to a:

surplus and falling prices.

If actual GDP is greater than potential GDP:

the economy can experience inflation.

Why does the Fed pay such close attention to GDP, if its mandate is to promote maximum employment while keeping prices stable? The Fed focuses on GDP because

the maximum sustainable level of employment occurs when the economy's GDP is equal to its potential GDP.

Consider the Phillips curve shown here. In region B:

the output gap is positive.

An economy's potential output level is:

the output that is possible when all resources are fully employed.

An example of a leading indicator is:

the stock market.

Consider the Phillips curve shown here. In region B:

there is excess demand.

Consider the Phillips curve shown here. In region A:

there is insufficient demand.

What is excess demand?

too many buyers for too few goodscost-push inflation.

The Fed has decreased the federal funds rate—a nominal short‑term interest rate—to 0%, and yet the economy is still struggling. Which of the following actions could the Fed take to further stimulate the economy? The Fed could

use forward guidance. use quantitative easing.