ECO 11 - Chapter 16 Homework

10. The government purchases multiplier is calculated as

a. 1/MPC.

4. Expansionary fiscal policy

a. Refers to fiscal policy intended to boost aggregate demand b. Usually leads to an increase in interest rates c. Is usually more effective when the marginal propensity to consume is higher

3. Expansionary monetary policy

a. Refers to monetary policy intended to increase aggregate demand b. Usually leads to an increase in the money supply c. Usually leads to a decrease in interest rates

8. According to the short-run macroeconomic theory of the interest rate—also called the theory of liquidity preference—which of the following is true?

a. The demand for money is inversely related to the interest rate b. The demand for money is directly related to the overall price level c. The demand for money is directly related to real gross domestic product d. The interest rate automatically reaches the level at which the magnitude of money demanded equals the magnitude of money supplied

18. The use of fiscal policy and monetary policy to stabilize an economy is referred to as stabilization policy. Critics of stabilization policy argue that

a. there is a time lag between the time a policy is initiated and the time the policy has an impact on the economy. b. the impact of government policy may last longer than the problem it was designed to deal with. c. policy interventions can be a source of, instead of a cure for, economic fluctuations.

22. A constitutional amendment requiring the federal government to always run a balanced budget

a. would eliminate the effects of automatic stabilizers.

21. Automatic stabilizers

b. are changes in taxes or government spending that increase aggregate demand without requiring policy makers to enact new laws when the economy goes into recession.

20. The lag problem associated with fiscal policy is due mostly to

b. the political system of checks and balances that slows down the process of implementing fiscal policy.

12. Consider two countries, Prudent and Flashy. Whenever they earn an additional dollar of income, the citizens of Prudent spend an additional 50 cents, meaning that their marginal propensity to consume (MPC) is 0.50. In Flashy, on the other hand, MPC = 0.90. According to the formula for the government purchases multiplier, a $10 million increase in government purchases will shift the aggregate demand curve to the right by _____ in Prudent and by _____ in Flashy.

c. $20 million; $100 million

2. Monetary policy refers to

c. A central bank's decisions on the level of money supply

5. Which of the following is a correct comparison of classical monetary theory and liquidity preference theory?

c. Liquidity preference theory assumes the interest rate adjusts to bring the money market into equilibrium. Classical theory assumes the price level adjusts to bring the money market into equilibrium.

7. Money demand refers to:

c. The part of their wealth that people wish to hold in the form of currency and demand deposits

11. Consider two countries, Prudent and Flashy. Whenever they earn an additional dollar of income, the citizens of Prudent spend an additional 50 cents, meaning that their marginal propensity to consume (MPC) is 0.50. In Flashy, on the other hand, MPC = 0.90. According to the theory for the government purchases multiplier, a $10 million increase in government purchases will shift the aggregate demand curve to the right by _____ in Prudent and by _____ in Flashy.

c. To the right, and by a bigger amount in Flashy than in Prudent

6. If the Federal Reserve (that is, the central bank of the USA) conducts open-market purchases (of US Treasury bonds), the money supply

c. increases and aggregate demand curve shifts right.

15. The government builds a new water-treatment plant. The owner of the company that builds the plant pays her workers. The workers increase their spending. The firms from which the workers buy goods increase their output. Their workers earn more and spend part of their added income. This type of continuing increases in spending illustrates

c. the multiplier effect.

1. Fiscal policy refers to

d. A government's decisions on the levels of spending and taxation

14. Which of the following correctly explains the crowding-out effect?

d. An increase in government expenditures increases the interest rate and so reduces investment spending.

9. Which of the following explains the multiplier effect?

d. In an economy with unemployed resources, an increase in government spending provides employment and income for hitherto unemployed people. The resulting increase in spending by these people provides employment and income for other unemployed people. In this way, the increase in government spending leads to a larger increase in overall spending.

13. Consider two countries, Outward and Inward. In both countries, whenever someone earns an additional dollar of income, he or she spends an additional 90 cents. Of that additional spending, the amount spent on foreign goods is 40 cents in Outward and 15 cents in Inward. According to the theory for the government purchases multiplier, a $10 million increase in government purchases will

d. Shift the aggregate demand curve to the right, and to a larger extent in Inward

19. Monetary policy affects the economy after a long time lag, in part because

d. changes in interest rates primarily influence investment spending by firms, and firms make investment plans far in advance. Therefore, a change in interest rates has a delayed effect on spending by firms.

17. If households view a tax cut as temporary, then the tax cut

d. has less of an effect on aggregate demand than if households view it as permanent.

16. The government increases spending on the construction of roads, bridges, etc. This leads to an increase in employment, income, and expenditure throughout the country. People increase their holdings of currency and demand deposits—that is, their money demand—to support their increased shopping needs. However, the central bank has not changed the money supply. As a result, interest rates rise to reverse the increase in money demand mentioned two sentences back. This increase in interest rates reduces investment spending and partially reverses the boost to aggregate demand provided by the government's spending. This illustrates:

d. the crowding-out effect.