Week 14 Quiz
(Table: Annual Inflation) Refer to the figure. This table shows inflation data for an economy. During what period did this economy experience disinflation?
2001 to 2002
(Table: Annual Inflation) Refer to the figure. This table shows inflation data for an economy. During what period did this economy experience deflation?
2003 to 2005
U.S. housing prices peaked in
2006
The first signs of trouble in the subprime mortgage market came in August of
2007
According to Milton Friedman, if the economy's long-run growth rate is 3%, then the Fed should set the annual money growth rate at
3%
An increase in the money supply typically affects the economy with a lag that varies in time from
6 to 18 months
Which would be an example of running monetary policy by rules?
A 1% drop in real GDP growth will automatically elicit a 2% increase in money growth
The BEST type of negative shock for the Federal Reserve to respond to is a negative shock to
AD
In the AD-AS diagram, a "tight" monetary policy shifts the
AD curve to the left
In the best case scenario, the Federal Reserve is most successful at counteracting a negative
AD shock
Why did Alan Greenspan receive criticism during the 2008 financial crisis and recession?
Critics argue that Greenspan should have tried to control the rise in AD by reducing the money supply
How did the housing boom of 1997-2006 increase aggregate demand?
It created more jobs and increased wages in the construction sector
Which is a limitation of monetary policy in stabilizing the economy?
Monetary policy is subject to uncertain lags
What is a possible reason for the Fed's inability to prevent a recession?
Much of the information about the economy is unknown when the Fed is making policy
A nominal GDP rule says _____ should always grow at a constant rate
Mv
If the Fed wants to raise real GDP growth by raising money supply growth, which of the following conditions will make monetary policy more effective in raising real GDP growth?
Prices continue to remain very sticky
A negative real shock causes the economy's
SRAS and LRAS curves to shift inward
(Figure: Monetary Policy and Demand Shocks) Refer to the figure. In the figure, assume the initial real growth rate of the economy is 3% when a negative aggregate demand shock shifts the AD curve from AD1 to AD2. As a result of the Fed's policy response, the AD curve shifts to AD5 in the short run. Which of the following is TRUE about the Fed's policy response?
The Fed responded too much to the shock
What kind of monetary policy rule did Milton Friedman advocate?
The money supply should increase by 3% every year
In the face of a negative shock to consumer confidence, politicians are on the fence about whether to implement policies based on the advice of economists or to make decisions on the basis of Tarot card readings. What would happen during the period in which they are making up their minds about which strategy to pursue?
V would fall
What happens to GDP if the Fed is too responsive to changes in aggregate demand?
Volatility increases
An increase in uncertainty will lead to
a decrease in both V and M
When hit with a negative real shock, the Fed must pick a policy that chooses between
a growth rate that's too low and an inflation rate that's too high
A significant real shock in an economy can result in
a leftward shift of the LRAS, SRAS, and AD curves
When a central bank reacts the same way to a shock every time, it is likely using
a policy rule
Disinflation is
a reduction in the rate of inflation
The problem associated with too much expansionary monetary policy is
additional inflation
A nominal GDP rule requires the Fed to
adjust the money supply enough to make up for changes in velocity
Suppose the Fed reacts to an economic shock and quickly restores the economy to its long-run potential growth rate. It is most likely that this shock was
an aggregate demand shock
If the Federal Reserve wishes to avoid short-run increases in the unemployment rate, the correct response to a negative AD shock would be
an increase in money supply growth
(Figure: Negative Supply Shock) Refer to the figure. This economy initially begins at point A and a negative supply shock takes it to point Y. Taking the economy back to the LRAS curve would require
an inflation rate much greater than 16%
A potential problem with expansionary monetary policy is that banks can
be unwilling to lend
The lags associated with monetary policy make its implementation more difficult during
both expansions and recessions
The Federal Reserve reduced the Federal Funds rate during the recession of 2000-2001. Directly following the recession the Federal Funds rate
continued to decrease, but remained positive
If the Federal Reserve overstimulates the economy by increasing money growth too much, then inflation will
create arbitrary redistribution of wealth
When the Fed reacts to a positive aggregate demand shock, which is likely to make the period of disinflation shorter?
credibility on the part of the Fed
Low interest rates are a signal that
credit is easy and it is a good idea to borrow money
In the short run, a negative AD shock will cause the inflation rate to
decrease
In the short run, a negative real shock will cause output growth to
decrease
When a negative shock to aggregate demand occurs, the inflation rate will
decrease
If the growth rate of the money supply slows, there will be a(n)
decrease in aggregate demand
When the price level actually falls, what is the economy experiencing?
deflation
A reduction in the rate of inflation is called
disinflation
The economy's AD curve is
downward sloping
One of the Federal Reserve's most powerful tools is its influence over _____, not its influence over _____
expectations; the money supply
Economists who think that the Fed is likely to make a lot of mistakes believe that the Fed is best advised to
follow a consistent policy
The disinflation experiment reduced inflation in the United States, but at the cost of
high unemployment
The disinflation of the 1980s led to
high unemployment
Suppose the central bank targets a low rate of unemployment. If a negative real shock occurs, the real growth rate will be
higher if the central bank counters the shock than if it does not react
Economists who believe that the Federal Reserve is likely to make lots of mistakes in the implementation of monetary policy believe
in monetary policy rules
In the long run, a negative real shock will cause the inflation rate to
increase
In the short run, a negative real shock will cause the inflation rate to
increase
Some economists argue that the Fed should commit to keeping M + V fixed at a particular value, say 5%. How would this rule require the Fed to respond in the event of a negative spending shock? A negative real shock?
increase M; do nothing
If the Federal Reserve responds to a negative real shock with a decrease in money growth, the Federal Reserve's response will cause inflation to
increase by less than it otherwise would have
To offset the effect of negative growth in money velocity (v), the central bank should
increase the growth rate of the money supply
To restore growth and reduce unemployment in response to a negative real shock, the Federal Reserve would
increase the money growth rate, which will increase both the inflation rate and economic growth rate
Low interest rates in 2003-2004
increased demand for homes
Between 1997 and 2006, U.S. housing prices
increased rapidly
If businesses react to a pessimistic outlook and decrease spending, the Fed can counteract this by
increasing money supply growth, lowering real interest rates, and encouraging borrowing
Many economists worry about the Federal Reserve overstimulating the economy because such overstimulation will lead to rising
inflation
Uncertainty always causes
investment to decrease
Following the terrorist attacks of September 11, 2001, the Federal Reserve increased
its lending to banks
Which is regarded as a policy rule?
keeping the money supply growth rate consistent with a given inflation rate
Disinflation in the 1980s was a result of
leftward shifts in the aggregate demand curve due to money supply reductions
Monetary policy is
less effective in dealing with real shocks than with aggregate demand shocks
Which is a reasonable cause for the formation of the housing bubble in the 2000s?
low Federal Funds rate
In 2003-2004, the Fed kept the Federal Funds rate
low, even though the recession had ended
If the Fed reduces to fight inflation after a negative real shock, which of the following should occur?
lower real growth
f the Fed reduces M to fight inflation after a negative real shock, which of the following should occur?
lower real growth
If the Federal Reserve reduces the growth rate of the money supply to combat a negative real shock, the inflation rate will be
lower, but the growth rate will be even lower
The recession that began in 2001 was
mild and didn't last long, but employment never recovered
Monetary rules work best when
money velocity is stable
A negative shock to AD will cause the growth rate of real GDP to increase in
neither the short run nor the long run
A negative shock to AD will cause the inflation rate to increase in
neither the short run nor the long run
A rule that has been suggested to compensate for unexpected changes in velocity is a(n)
nominal GDP rule
The most appropriate monetary policy response to an asset price bubble for a central bank is to
not react to asset price bubbles because monetary policy can only affect aggregate demand, not demand in a specific market
In a worst-case scenario, the Federal Reserve is least successful at counteracting a negative
real shock
When homeowners saw the value of their homes rise in the 1997-2006 boom, they felt wealthier and
spent more
A negative real shock is often amplified, creating short-run aggregate supply and aggregate demand shocks due to
sticky wages and prices
A problem with a monetary rule that requires the Fed to keep money growth constant is
the Fed must ignore changes in money velocity
If the Fed attempts to pop a bubble on a boom such as housing, what sector of the economy is it most sure of having the ability to influence?
the GDP of the broader economy
Economist Milton Friedman called for a policy rule that keeps the growth rate of the money supply at 3% because
the economy's long-run potential growth rate is 3%
The economy is growing at its long-run potential growth rate of 3% with an inflation rate of 4%. If a positive aggregate demand shock occurs and the Fed responds by decreasing money growth, but fails to offset the aggregate demand shock, then in the short run
the real growth rate will be higher than 3% and the inflation rate will be higher than 4%
In the AD-AS model, an increase in money growth will cause the growth rate of real GDP to increase in
the short run only
If a country's central bank becomes more credible and announces a monetary contraction in advance, then
unemployment costs will be lower
The economy's LRAS curve is
vertical
In the late 1990s, America's economy
was booming and unemployment was very low
When the Federal Reserve increases the growth rate of the money supply to combat a negative real shock, the growth rate of real GDP
will increase less than the inflation rate
