Chapter 16

What effect would the following have on the natural rate of​ unemployment?

(a) A reduction in the level of information concerning available work Rise ​(b) The decline in traditional heavy industry Rise ​(c) An increase in the power trade unions have within the​ wage-negotiating process Rise ​(d) An expansion of job retraining schemes Fall ​(e) A more rapid and widespread introduction of new technology into the workplace Rise ​(f) An increase in unemployment benefits Rise

Keynesian theory emphasised an active role for government in maintaining the​ full-employment level of national income. There are two major methods a government can use to control the level of aggregate demand. These are fiscal policy and monetary policy. Which of the following is not part of fiscal​ policy?

An increase in interest rates.

Many banks massively increased their lending during the late 1990s and early​ 2000s, and by 2007 many small banks found themselves in difficulties. Some large​ banks, such as Lehman Brothers in the​ USA, followed. The result was that lending between banks dried up and several banks had to be bailed out by their governments. The resulting credit crunch led to a deep recession in many developed countries. The new macroeocnomic consensus was challenged by this.

Economists on the right tended to argue that the banking crisis was the result of too much government intervention. Economists on the left tended to argue that the banking crisis was the result of too little government intervention.

Which of the following policy decisions would not have been characteristic of the classical​ economists' approach to the Great​ Depression? ​(c) and​ (e).

Encourage workers to take wage cuts. ​(b) Increase the rate of interest. ​(c) Expand the public​ sector's provision of goods and services. ​(d) Reduce unemployment benefits. ​(e) Increase the supply of money in circulation. ​(f) The government should aim to balance its budget. ​(g) Encourage people to save.

Macroeconomics as a separate branch of economics had its birth in the mass unemployment experienced in the 1920s and 1930s

Macroeconomics as a separate branch of economics had its birth in the mass unemployment experienced in the 1920s and 1930s

Following the Second World​ War, Keynesian views became the accepted orthodoxy. If the economy was experiencing rising​ inflation, then deflationary fiscal and monetary policy was to be used.​ Alternatively, an economy suffering low rates of growth and unemployment would require expansionary policy measures. Because of the cyclical nature of the​ economy, the policies alternated between deflationary and reflationary​ (i.e. expansionary) measures.

Policies failed to stabilise the economy. yes Policies were short term rather than long term. yes The Phillips curve relationship appeared to be breaking down yes Policy had almost instantaneous effects and became destabilising. no Balance of payments problems meant that deflationary policies were needed even when unemployment was high. yes

The figure shows the classical​ economists' view of the market for loanable funds. The market is in equilibrium with the rate of interest at r. Use the Line Drawing Tool to show on the figure the effect on the market if firms become more gloomy about the future of the economy. Label your new line Upper I 1 or Upper S 1 as appropriate.

The new equilibrium for the market has a lower interest rate and a lower quantity.

Based on the above​ passage, which of the following is not a key assumption of the Keynesian​ school?

The role of government policy should be to remove impediments to the free play of market forces.

The problems encountered with the Keynesian model of the economy led certain economists to return to the old classical theory of income determination. The​ monetarists, led by Milton​ Friedman, returned to the quantity theory of money.

They reasserted that both V​ (the velocity of​ circulation) and Y​ (the level of real national​ income) were exogenous ​variables, meaning that V and Y are determined independently of the supply of money . The implication was that any change in the money supply would have a direct effect upon the level of prices

Inflation bias is excessive inflation that results from people raising their expectations of the inflation rate following expansionary demand management​ policy, encouraging govenrment to loosen policy even further. Inflation targeting with central bank independence can help to eliminate inflation bias.

True

Much of the disagreement between the different schools of thought centres on the responsiveness of aggregate supply to changes in aggregate demand.

True

The new analysis of the economy put forward by Keynes advocated active intervention by​ governments, especially through managing

aggregate demand

Macroeconomic problems are the result of too much government intervention.

cannot tell

The figure shows the classical​ economists' view of the market for loanable funds. The market is in equilibrium with the rate of interest at r. Use the Line Drawing Tool to show on the figure the effect on the market if firms become more confident about the future of the economy. Label your new line Upper I 1 or Upper S 1 as appropriate.

higher higher

People on the political right argued in favour of rapid deficit​ reduction, arguing that otherwise there would be upward pressure on interest rates as confidence in the​ government's finances was undermined and the public sector competed with the private sector for scarce resources. People on the political left took a more Keynesian​ line, arguing that cutting the deficit too quickly would endanger the economic recovery.

right left

The classical economists argued that because the markets for loanable funds and for imports and exports would​ clear, then​ Say's law would apply.

supply creates its own demand.

If real national income​ (i.e. measured in​ base-year prices) were euro36​bn, if prices had doubled since the base​ year, and if the velocity of circulation were 6​, then the level of money supply would be​:

the numbers we 36 and 6, the answer was 12

The efficiency wage hypothesis states​ that:

the productivity of workers is affected by the wage rate that they receive.

The Monetarists think that inflation is caused​ by:

too much money in circulation.

In terms of the circular flow of income​ diagram, Say's law would imply that flexible prices​ (as opposed to changes in national​ income) would ensure that withdrawals equalled injections.

true

Keynes argued that a successful cut in​ workers' wages, as advocated by the classical​ school, would deepen the recession and not improve it because as workers took a wage​ cut, their ability to consume goods and services would fall. This would deepen the recession as firms would consequently have less demand for their output.

true

One of the arguments used by those advocating government intervention in the economy is that​ people's expectations are slow to adjust to changes in the economic environment.

true

The New Keynesians are economists who seek to explain how market imperfections and frictions can result in fluctuations in real GDP and the persistence of unemployment.

true

The first strand of new classical models focused on how imperfect information could generate unexpected​ inflation, following work led by Professor Robert Lucas. The monetary surprise model argues that unexpected changes in monetary policy could cause the economy to deviate form equilibrium​ temporarily, so that policy is ineffecti

true

Keynesians criticised monetarism for various reasons. These include​:

​(a) Monetarists place too much reliance on markets. True ​(b) Market imperfections prevent an optimum allocation of resources. True ​(c) Firms may be discouraged from undertaking investment if markets​ (for example, stock​ markets, money markets or foreign exchange​ markets) are volatile in the face of​ short-term pressures. True ​(d) Problems of​ inflation, unemployment and industrial decline cannot be controlled via money supply and unregulated market forces. True ​(e) Monetarists encourage governments to take too interventionist a stance in trying to maintain aggregate demand. False

Keynes rejected the simple quantity theory of money. Under certain​ circumstances, a rise in money supply may have little or no effect on prices. If there was an expansion of the money​ supply, what, according to​ Keynes, would happen to each of the​ following?

​(a) V fall ​(b) Y minus if there was substantial unemployment rise ​(c) Y minus if there was full employment stay the same

During the 1990s and up to the financial crisis of the late 2000s a new mainstream macroeconomic consensus​ emerged, taking elements of a number of schools of thought. This included which of the following​ schools?

​(ii), (iii) and​ (iv).