Ch. 25-27

If the government increases expenditure without raising​ taxes, this will

A and B only. increase the budget deficit and require the government to borrow additional funds. cause the interest rate to​ increase, thereby, reducing private investment and crowding out the private sector.

The graph to the right illustrates the static​ AD-AS model. Suppose the economy is initially in​ long-run equilibrium at point A. The government decides to decrease government spending. In the​ short-run, this contractionary fiscal policy will​ cause:

A shift from AD 2 to AD 1 and a movement to point​ D, with a lower price level and lower output.

Suppose a political candidate hired you to develop two arguments in favor of a flat tax. Consider the following list of arguments about changing to a flat​ tax: A. There would be a reduction in paperwork and the compliance cost of the tax system. B. The complexities in the current tax code allow the government to pursue other policy goals. C. A change in the tax code would result in a more unequal distribution of income because the marginal tax rate on​ high-income taxpayers would be reduced. D. There are potential increases in labor​ supply, savings, and investment from a lower marginal tax rate. Which two out of the above list of arguments would you advance in favor of a flat​ tax? Consider the same list of arguments about changing to a flat tax. Which two out of the above list of arguments would you advance against a flat​ tax?

A and D B and C

When the Federal Reserve sells bonds as a part of a contractionary monetary​ policy, there​ is:

A decrease in the money supply and an increase in the interest rate.

What is a banking​ panic? Which of the following best explains how the Federal Reserve acts to help prevent banking​ panics?

A situation in which many banks experience runs at the same time. The Fed acts as a lender of last​ resort, making loans to banks so that they can pay off depositors.

Which of the following is true with respect to Irving​ Fisher's quantity​ equation, Upper M times Upper V equals Upper P times Upper Y​?

All of the above

Which of the following is a monetary policy response to the economic recession of 2007-2009 and the accompanying financial​ crisis?

All of the above were responses.

How does a budget deficit act as an automatic stabilizer and reduce the severity of a​ recession?

All of the above.

The introduction of Fannie Mae and Freddie Mac into the​ mortgage-backed securities market by the government

All of the above.

The use of money

All of the above.

Which of the following is a monetary policy tool used by the Federal Reserve​ Bank?

All of the above.

The​ (FOMC) Federal Open Market Committee The Federal Reserve Bank of New York is always a voting member of the FOMC because

All of the above. it carries out the policy directives of the FOMC.

Which of the following are categories of federal government​ expenditures? The largest and​ fastest-growing category of federal expenditures is The federal​ government's day-to-day activities include running federal agencies like the Environmental Protection​ Agency, the​ FBI, the National Park​ Service, and the Immigration and Customs Enforcement. Spending on these types of activities make up

All of the above. transfer payments. less than 10 percent of federal government expenditures.

Consider the figures below and determine which is the best description of what causes the shift from AD 1 to AD 2.

Both A and B.

What is inflation​ targeting?

Committing the central bank to achieve an announced level of inflation.

What is meant by crowding​ out? Which of the following best describes the difference between crowding out in the short run and in the long​ run?

Crowding out is a decline in private expenditures as a result of increases in government purchases. In the short​ run, an increase in government purchases may not fully crowd out private expenditures due to the stimulative effect of an increase in government purchases on aggregate demand. In the long​ run, most economists believe that a permanent increase in government purchases will result in complete crowding out of private expenditures.

Consider the following​ statement: ​"In the dynamic AD and AS​ model, contractionary monetary policy causes the price level to​ fall." The statement is

False. Contractionary policy causes the price level to rise by less than it would have without the policy.

For more than 20​ years, the Fed has used the federal funds rate as its monetary policy target. It has not targeted money supply at the same time because the

Fed cannot target both at the same​ time: It has to choose between targeting an interest rate and targeting the money supply.

What is fiscal​ policy? Who is responsible for fiscal​ policy?

Fiscal policy can be described as changes in government spending and taxes to achieve macroeconomic policy objectives. The federal government controls fiscal policy.

If Congress and the president decide an expansionary fiscal policy is​ necessary, what changes should they make in government spending or​ taxes? What changes should they make if they decide a contractionary fiscal policy is​ necessary?

In this​ case, Congress and the president should enact policies that increase government spending and decrease taxes. In this​ case, Congress and the president should enact policies that decrease government spending and increase taxes.

Which of the following is a monetary policy target used by the​ Fed? The Fed uses policy targets of interest rate​ and/or money supply because

Interest rate. it can affect the interest rate and the money supply directly and these in turn can affect​ unemployment, GDP​ growth, and the price level.

What are the largest asset and the largest liability of a typical​ bank?

Loans are the largest asset and deposits are the largest liability of a typical bank.

Recall that​ "securitization" is the process of turning a​ loan, such as a​ mortgage, into a bond that can be bought and sold in secondary markets. An article in the Economist ​notes: That securitization caused more subprime mortgages to be written is not in doubt. By offering access to a much deeper pool of​ capital, securitization helped to bring down the cost of mortgages and made​ home-ownership more affordable for borrowers with poor credit histories. ​Source: "Ruptured​ Credit," Economist​, May​ 15, 2008. What is a​ "subprime mortgage," and would a subprime borrower be likely to pay a higher or a lower interest rate than a borrower with a better credit​ history? Why would securitization give mortgage borrowers access to a deeper pool of​ capital?

Loans granted to borrowers with flawed credit​ histories; a higher interest rate. Since banks could resell mortgages to​ investors, they had access to more funds than just their own deposits.

Which of the following is NOT a monetary policy goal of the Federal Reserve bank​ (the Fed)?

Low prices

The Federal Reserve uses two definitions of the money​ supply, M1 and​ M2, because

M1 is a narrow definition focusing more on​ liquidity, whereas M2 is a broader definition of the money supply.

The graph shows equilibrium in the money market. The equilibrium interest rate is determined at point E where the money demand and money supply curves intersect. Suppose the Fed wants to lower the equilibrium interest rate. ​1.) Using the line drawing tool​, draw a new money demand or money supply curve that can show how the Fed would accomplish this objective. Properly label the new line. ​2.) Using the point drawing tool​, identify the new equilibrium point. Label it F. ​Note: Carefully follow the instructions​ above, and only draw the required objects.

MS shifts to the right.

Which can be changed more​ quickly: monetary policy or fiscal​ policy?

Monetary policy can be changed more quickly than fiscal policy. Monetary policy can be changed at any of the FOMC meetings and the smaller number of individuals involved makes it easier to change policy.

In the graph of the money market shown on the​ right, what could cause the money supply curve to shift from MS1 to MS2​? In the graph of the money market shown on the​ right, what could cause the money demand curve to shift from MD1 to MD2​?

The Fed decreases the money supply by deciding to sell U.S. Treasury securities. Both​ (a) and​ (c).

Nobel laureate Milton Friedman and his followers belong to a school of thought known as monetarism. What do the monetarists argue the Fed should​ target?

The Fed should target the money​ supply, not the interest​ rate, and that it should adopt the monetary growth rule.

What is the difference between the federal budget deficit and federal government​ debt?

The federal budget deficit is the​ year-to-year short fall in tax revenues relative to government spending ​ (T < G​ + TR), financed through government bonds. The federal government debt is the accumulation of all past deficits.

The Federal Reserve has multiple economic goals for monetary policy to​ achieve, ​ However, it can be difficult to manage all of the goals at once. Which of the following is not true regarding the multiple goals of the​ Fed?

The goal of financial market stability means that the Fed tries to ensure that asset​ prices, such as stock​ prices, increase at a very high rate so investors can make more money.

According to the quantity theory of money​, inflation results from which of the​ following?

The money supply grows faster than real GDP.

Why does a​ $1 increase in government purchases lead to more than a​ $1 increase in income and​ spending?

Through the government purchases​ multiplier, the​ $1 increase in government spending will lead to an increase in aggregate demand and national​ income, which will lead to an increase in induced spending.

How do the banks​ "create money"?

When there is an increase in checking account​ deposits, banks gain reserves and make new​ loans, and the money supply expands.

In​ 2015, Richard​ Fuld, the last CEO of Lehman​ Brothers, gave a talk in which according to an article in the Wall Street​ Journal,​ "He outlined what he called the​ 'perfect storm' of events that led to the financial​ crisis, saying​ 'it all started with the​ government' and policies that subsidized cheap loans for people to buy homes in order to help them chase the American​ dream." ​Source: Maureen​ Farrell, "Lehman's Fuld Says It​ Wasn't His​ Fault," Wall Street Journal​, May​ 28, 2015. The events that led to the financial crisis include Government policies that could have been said to have been subsidizing cheap loans included

a burst in a housing bubble in 2006 which led to mortgage​ defaults, and a disruption of the financial system resulting from the creation of complex packagings of mortgages. the creation of a secondary mortgage market through Fannie Mae and Freddie​ Mac, and the low interest rates following the 2001 recession.

The figure to the right illustrates the economy using the Dynamic Aggregate Demand and Aggregate Supply Model If actual real GDP in 2006 occurs at point B and potential GDP occurs at LRAS 06​, we would expect the Federal Reserve Bank to pursue ________ monetary policy. If the​ Fed's policy is​ successful, what is the effect of the policy on the following macroeconomic​ indicators? Actual real GDP ______________. Potential real GDP ___________________. Price level _______________. Unemployment __________________.

a contractionary decreases does not change decreases increases

The hypothetical information in the following table shows what the situation will be in 2021 if the federal government does not use fiscal​ policy: If Congress and the president want to keep real GDP at its potential level in​ 2021, they should use ___________________​, which would mean __________________________________________________. If Congress and the president are successful in keeping real GDP at its potential level in​ 2021, state whether each of the following will be​ higher, lower, or the same as it would have been if they had taken no​ action: Real GDP will be ______________. Potential real GDP will be _____________. The inflation rate will be _____________. The unemployment rate will be ______________.

an expansionary fiscal policy, increasing government spending or cutting taxes higher the same higher lower

The hypothetical information in the following table shows what the situation will be in 2021 if the Fed does not use monetary policy. If the Fed wants to keep real GDP at its potential level in​ 2021, it should use ________________ policy. The trading desk should be __________ ​T-bills. If the​ Fed's policy is successful in keeping real GDP at its potential level in​ 2021, state whether each of the following will be​ higher, lower, or the same as it would have been if the Fed had taken no​ action: i. Real GDP will be ______________ it would have been if the Fed had taken no action. ii.​ Full-employment real GDP will be _______________ it would have been if the Fed had taken no action. iii. The inflation rate will be ____________ it would have been if the Fed had taken no action. iv. The unemployment rate will be _____________ it would have been if the Fed had taken no action.

an expansionary, buying i. higher than ii. the same as iii. higher than iv. lower than

When actual GDP is below potential GDP the budget deficit increases because​ of:

an increase in transfer payments and a decrease in tax revenues.

Excess reserves

are reserves banks keep above the legal requirement.

Government spending and taxes that increase or decrease without any actions taken by the government are referred to as Which of the following are examples of discretionary fiscal​ policy? ​(Check all that​ apply.)

automatic stabilizers. Congress provides a tax rebate to encourage additional spending in order to reduce the unemployment rate. The government provides stimulus funds to repair roads and bridges to increase spending in the economy. The president and Congress reduce tax rates to increase the amount of investment spending.

In the securitization​ process,

banks grant loans to households and bundle the loans into securities that are then sold to investors.

The figure to the right illustrates the economy using the Dynamic Aggregate Demand and Aggregate Supply Model If actual real GDP in 2006 occurs at point B and potential GDP occurs at LRAS 06​, we would expect the federal government to pursue​ a(n) ___________ fiscal policy. If the​ government's policy is​ successful, what is the effect of the policy on the following macroeconomic​ indicators? Actual real GDP ____________. Potential real GDP ___________. Price level ___________. Unemployment ___________.

contractionary decreases does not change decreases increases

Look carefully at the following list. a. The coins in your pocket. b. The funds in your checking account. c. The funds in your savings account. d. The​ traveler's check that you have left over from a trip. e. Your Citibank Platinum MasterCard. Which of the things above are NOT included in the M1 definition of the money​ supply?

c​ & e

Complete the following table for a static​ AD-AS model:

decrease taxes, rise Decrease gov't spending, fall

Congress passed legislation to create the Federal Reserve System in 1913 in order to The most important role of the Federal Reserve in​ today's U.S. economy is

end the instability created by bank panics by acting as a lender of last resort. controlling the money supply to pursue economic objectives.

Consider the following​ statement: ​ "Real GDP is currently​ $17.7 trillion, and potential real GDP is​ $17.4 trillion. If Congress and the president would decrease government purchases by​ $300 billion or increase taxes by​ $300 billion, the economy could be brought to equilibrium at potential​ GDP." If government purchases were to decrease by​ $300 billion or if taxes were increased by​ $300 billion, the equilibrium level of real GDP would decrease by ​Therefore, the statement above is _____________.

more than​ $300 billion. incorrect

Money serves as a unit of account when Money serves as a standard of deferred payment when

prices of goods and services are stated in terms of money. payments agreed to today but made in the future are in terms of money.

Which of the following policy tools is the Federal Reserve least likely to use in order to actively change the money​ supply? Reserve requirements are changed infrequently because

reserve requirements banks set​ long-term policy​ decisions, loan​ decisions, and deposit decisions based on the reserve requirement.

An asset would be usable as a medium of exchange for all of the following reasons ​except: Which of the following would be the least desirable candidate to be a good medium of​ exchange?

the asset should be a commodity that has intrinsic value. milk

The federal funds rate is ​Additionally, the federal funds rate is

the interest rate that banks charge each other for overnight loans. very important for the​ Fed's monetary policy because the Fed uses the federal funds rate as a monetary policy target since it can control the rate through open market operations.

When the Federal Reserve purchases Treasury securities in the open​ market, When the Federal Reserve sells Treasury securities in the open​ market,

the sellers of such securities deposit the funds in their banks and bank reserves increase. the buyers of these securities pay for them with checks and bank reserves fall.

It would seem that both households and businesses would benefit if the federal income tax were simpler and tax forms were easier to fill out. ​However, tax laws have become increasingly complicated because

the tax laws are used to encourage certain activities and discourage others.

The national debt is best measured as

the total value of U.S. Treasury securities outstanding.

The average number of times each dollar in the money supply is used to purchase goods and services is called Evidence shows that the quantity equation is correct over the long​ run, which implies that the

the velocity of money. growth rate of the money supply determines the rate of inflation.

If the Fed believes the economy is about to fall into​ recession, it should If the Fed believes the inflation rate is about to​ increase, it should

use an expansionary monetary policy to lower the interest rate and shift AD to the right. use a contractionary monetary policy to increase the interest rate and shift AD to the left.

In addition to the Federal Reserve​ Bank, what other economic actors influence the money​ supply?

​Households, firms, and banks.

The M2 definition of the money supply includes

​M1, savings​ accounts, small time​ deposits, and money markets.

Is it possible for Congress and the president to carry out an expansionary fiscal policy if the money supply does not​ increase?

​Yes, because fiscal policy and monetary policy are separate things.