Macroeconomics Test 3

Suppose that the Federal Reserve has a 2% target on inflation. If actual inflation is 1%, then the Fed will want the new real interest rate to be:

lower than the neutral interest rate.

The higher the opportunity cost of consumption, the:

lower the aggregate expenditures.

If the output gap is negative, then relative to the neutral interest rate, the Federal Reserve will _____ the real interest rate to drive _____ consumption and investment.

lower; up

With a progressive tax, those with _____ income tend to pay a _____.

more; higher share of their income in taxes

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%.

Which of the following did the New Deal create?

unemployment benefits

The standard deduction for a single person is $12,200. Based on this table, if your total income is $84,200, what is the amount of tax you will pay on your taxable income?

$11,699

Payroll taxes are 6.2%, and Medicare taxes are 2.9%. If your employer owes you $665, approximately how much will you get after these deductions?

$604.49

Payroll taxes are 6.2%, and Medicare taxes are 2.9%. Your employer owes you $665. How much will your work cost your employer?

$725.52

In your current job, you earn $41,000. You take the standard deduction of $12,200. You have an offer of a new job working for a different employer. Your salary would go up by $6,500. How much extra will you owe in federal income taxes if you take the new job?

$780

Payroll taxes are 6.2%, and Medicare taxes are 2.9%. Your employer owes you $850. How much will your work cost your employer?

$927.35

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%.

You are sitting at your desk in your new job as the Chair of the Federal Reserve Bank of the United States. The interest rate where potential GDP meets real GDP is 2%, the inflation rate is 1%, and the output gap is -1%. What is the appropriate new nominal federal funds rate that you should set for the economy?

1.5%

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

1.9%

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%.

a. What type of policy is the minimum wage? b. How can the minimum wage increase government spending?

A government regulation If a higher minimum wage increases unemployment, government spending on social insurance programs will increase.

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

Applications for unemployment benefits

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.

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.

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

GDP is 1.5% above potential GDP.

Which of the following is a reason to worry about government debt?

High and rising debt slows economic growth.

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.

Why is the discount rate the upper bound for the federal funds rate?

It is set higher than the federal funds rate.

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

Which of the following causes shifts in the IS curve?

Spending shocks occur.

What is the floor framework that the Federal Reserve uses to influence the federal funds rate?

The Fed's approach of setting other interest rates to put a lower bound on how low the federal funds rate can go

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

The employment cost index

a. Low birth rates mean that the share of the population that is working-age will fall over the next few decades. What impact will this have on spending on Medicare and Social Security? b. How might future spending change if Medicare and Social Security were discretionary spending programs instead?

The share of GDP spent on these programs will increase. Changes in spending on these programs could be made each year.

A debt crisis occurs when:

a government cannot repay its loans.

Explain how different types of government spending add to GDP directly and indirectly and how a rise in government spending can have a multiplied effect on GDP.

a. A change in the amount of government purchases will directly increase or decrease GDP. This is because something is purchased or produced in the transaction. b. A change in the amount of transfer payments will indirectly increase or decrease GDP. This is because nothing is purchased or produced when a change is made. c. An increase in government purchases or in transfer payments will increase GDP by more than that initial amount because it produces extra income across the economy.

Consider what happens if the federal government introduces new government spending to combat a recession.

a. In the short run, the economy will likely expand due to the increased government spending. b. As the economy recovers, political pressures lead the government to keep this spending in place. Possible long-run consequences of making this increased spending permanent include which of the following? Higher interest rates Inflation

The IS curve is constructed by:

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

Which of the following services are provided by local government?

bus services

The Great Moderation refers to the:

decreased volatility of the U.S. economy.

The Affordable Care Act is an example of:

discretionary spending.

In order to boost output, the federal government engages in _____ fiscal policy, which _____ government spending and _____ taxes.

expansionary; raises; lowers

How do automatic stabilizers respond when output is above potential output? Government spending

falls and tax payments rise to help keep the economic expansion in check.

How does the saying, "The federal government is an insurance company with a military," while exaggerating a bit, describe U.S. federal government spending? The saying is true because the

federal government spends the vast majority of its budget on the military and social insurance.

A budget deficit occurs when:

government spending exceeds government revenue.

a. How can increases in government spending crowd out investment spending? An increase in government spending b. Is crowding out a major concern when actual output is below potential output? Why? Crowding out

increases the real interest rate, which reduces private investment spending. is not a major concern, because the Fed will likely lower the real interest rate when actual output is far below potential.

How does mandatory government spending differ from discretionary government spending? Mandatory spending

is set by law, whereas discretionary spending is appropriated annually.

If the output gap is positive, then the Federal Reserve will use its floor framework to _____ the federal funds rate, influence short- and long-term interest rates _____, and _____ total spending in the economy.

raise; upward; decrease

The Philippines government provides retirement benefits, unemployment benefits, maternity leave benefits, death and funeral benefits, and other benefits. These are examples of:

social insurance.

Insufficient demand leads to a:

surplus and falling prices.

Consider the following graph. One of the reasons that government spending rose during the 2007 to 2009 period was the introduction of:

the Affordable Care Act.

The government's debt is:

the accumulation of all the deficits.

If actual GDP is greater than potential GDP:

the economy can experience inflation.

What is a reserve requirement?

the minimum amount of reserves that each bank must hold

Fiscal policy is increased in its effectiveness through:

the multiplier effect.

Fiscal policy works best when it is:

timely, targeted, and temporary.the multiplier effect.

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.

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

loan to the US government

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.

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

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.

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.

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

a commercial bank

Monetary policy is defined as the:

adjustment of interest rates to influence economic conditions.

The four stages of the business cycle are:

peak, recession, trough, and expansion.

Consider the Phillips curve shown here. In region B:

there is excess demand.

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%

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

1.77

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%

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

3.5

How do interest rates affect investment in the economy?

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

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.

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

S&P 500

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

a movement from point C to point D

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

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

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

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

rise above the equilibrium unemployment rate.

The Federal Reserve was created after:

a series of bank runs and bankruptcies.

Which of the following correctly describes the business cycle?

It is the fluctuations of GDP around the potential output.

A rise in nominal wages represents:

an increase in production costs.

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

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

old arrow pointing down to new

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 %

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

macroeconomic equilibrium.

What is excess demand?

too many buyers for too few goodscost-push inflation.

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.

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

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.

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%.

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%

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

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.

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

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.

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

lower nominal wages by 1%.

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.

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

prices will rise.

An example of a leading indicator is:

the stock market.

Consider the Phillips curve shown here. In region A:

there is insufficient demand.

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

Employment cost index

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

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

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%.

In the long run, inflation is determined by:

inflation expectations.

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.

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

cost-push 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.

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

seasonally adjusted data

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

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

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

Dodd-Frank Act.

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.

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

equilibrium

Demand-pull inflation is inflation resulting from:

excess demand.

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.

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.

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.

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

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