Problem Set #7

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 ______.

$.75 billion; more than $.75 billion

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.

If MPC = 0.75 (and there are no income taxes but only lump-sum taxes) when T decreases by 100, then the IS curve for any given interest rate shifts to the right by:

300

If MPC = 0.75 (and there are no income taxes) when G increases by 100, then the IS curve for any given interest rate shifts to the right by:

400.

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

Y2 and PE2.

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

between zero and one.

In the IS-LM model, changes in taxes initially affect planned expenditures through:

consumption

In the IS-LM model, a decrease in government purchases leads to a(n) ______ in planned expenditures, a(n) ______ in total income, a(n) ______ in money demand, and a(n) ______ in the equilibrium interest rate.

decrease; decrease; decrease; decrease

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

fall; increase

In the IS-LM model when M/P rises, in short-run equilibrium, in the usual case, the interest rate ______ and output ______.

falls; rises

According to the IS-LM model, if Congress raises taxes but the Fed wants to hold income constant, then the Fed must ______ the money supply.

increase

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

increase by 100

(Exhibit: Policy Interaction) Based on the graph, starting from equilibrium at interest rate r3, income Y2, IS1, and LM1, if there is an increase in government spending that shifts the IS curve to IS2, then in order to keep the interest rate constant the Federal Reserve should _____ the money supply shifting to _____.

increase; LM2

In the IS-LM model, the impact of an increase in government purchases in the goods market has ramifications in the money market, because the increase in income causes a(n) ______ in money ______.

increase; demand

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

An increase in investment demand for any given level of income and interest rates—due, for example, to more optimistic "animal spirits"—will, within the IS-LM framework, ______ output and ______ interest rates.

increase; raise

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, a decrease in the interest rate ______ planned investment spending and ______ the equilibrium level of income.

increases; increases

The increase in income in response to a fiscal expansion in the IS-LM is:

less than in the Keynesian-cross model unless the LM curve is horizontal.

If Congress passed a tax increase at the request of the president to reduce the budget deficit, but the Fed held the money supply constant, then the two policies together would generally lead to ______ income and a ______ interest rate.

lower; lower

(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.

(Exhibit: IS-LM Monetary Policy) Based on the graph, starting from equilibrium at interest rate r1 and income Y1, a decrease in the money supply would generate the new equilibrium combination of interest rate and income:

r2, Y2

(Exhibit: IS-LM Fiscal Policy) Based on the graph, starting from equilibrium at interest rate r1 and income Y1, a tax cut would generate the new equilibrium combination of interest rate and income:

r2, Y3

(Exhibit: IS-LM Fiscal Policy) Based on the graph, starting from equilibrium at interest rate r1 and income Y1, an increase in government spending would generate the new equilibrium combination of interest rate and income:

r2, Y3

(Exhibit: Policy Interaction) Based on the graph, starting from equilibrium at interest rate r3, income Y2, IS1, and LM1, if there is an increase in government spending that shifts the IS curve to IS2 and the Federal Reserve does not change the money supply, the new equilibrium combination of interest and income will be _____.

r2, Y3

(Exhibit: IS-LM Fiscal Policy) Based on the graph, starting from equilibrium at interest rate r1 and income Y1, a decrease in government spending would generate the new equilibrium combination of interest rate and income:

r3, Y2

(Exhibit: IS-LM Monetary Policy) Based on the graph, starting from equilibrium at interest rate r1 and income Y1, an increase in the money supply would generate the new equilibrium combination of interest rate and income:

r3, Y3

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

rise; decrease

In the IS-LM model when government spending rises, in short-run equilibrium, in the usual case, the interest rate ______ and output ______.

rises; rises

(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

If the LM curve is vertical and government spending rises by G, in the IS-LM analysis, then equilibrium income rises by:

zero.

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:

600.

(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

(Exhibit: Policy Interaction) Based on the graph, starting from equilibrium at interest rate r3, income Y2, IS1, and LM1, if there is an increase in government spending that shifts the IS curve to IS2, then in order to keep output constant the Federal Reserve should _____ the money supply shifting to _____.

decrease; LM3