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224 Cards in this Set
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1. Inflation can be measured by the
a. change in the consumer price index. b. percentage change in the consumer price index. c. percentage change in the price of a specific commodity. d. change in the price of a specific commodity. |
Ans: B
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2. Over the last 70 years the average annual U.S. inflation rate was about
a. 2 percent. b. 4 percent. c. 6 percent. d. 8 percent. |
Ans: B
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3. Over the last 70 years the average annual U.S. inflation rate was about
a. 2 percent implying that prices have increased 10-fold. b. 4 percent implying that prices have increased 10-fold. c. 2 percent implying that prices have increased 16-fold. d. 4 percent implying that prices increased about 16-fold. |
Ans: D
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4. The price level rises from 120 to 150. What was the inflation rate?
a. 30% b. 25% c. 20% d. None of the above is correct. |
Ans: B
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5. The price level rises from 120 to 126. What is the inflation rate?
a. 3% b. 5% c. 6% d. None of the above is correct. |
Ans: B
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6. When prices are falling, economists say that there is
a. disinflation. b. deflation. c. a contraction. d. an inverted inflation. |
Ans: B
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7. If the price index in some country were falling over time, economists would say that country had
a. disinflation. b. deflation. c. a contraction. d. an inverted inflation. |
Ans: B
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8. Deflation
a. increases the ability to pay debts and raises the value of money. b. increases the ability to pay debts and lowers the value of money. c. reduces the ability to pay debts and raises the value of money. d. reduces the ability to pay debts and lowers the value of money. |
Ans: C
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9. Which of the following statements about U.S. inflation is not correct?
a. Low inflation was viewed as a triumph of President Carter's economic policy. b. There were long periods in the nineteenth century during which prices fell. c. The U.S. public has viewed inflation of even 7 percent as a major economic problem. d. The U.S. inflation rate has varied over time, but international data shows even more variation. |
Ans: A
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10. Which of the following concerning the history of U.S. inflation is not correct?
a. Prices rose at an average annual rate of about 4 percent over the last 70 years. b. There was about a 16-fold increase in the price level over the last 70 years. c. Inflation in the 1970s was below the average over the last 70 years. d. During it’s history the United States has experienced periods of deflation. |
Ans: C
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11. Which of the following is correct?
a. hyperinflation is a period of extraordinarily high inflation. b. deflation is negative inflation, not just a decrease in the inflation rate. c. during the 1990s US inflation averaged 2% per year. d. All of the above are correct. |
Ans: D
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12. There was hyperinflation
a. during 1880-1896 in the United States. b. in post-World War I Germany. c. during the 1970s in the United States. d. All of the above are correct. |
Ans: B
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13. The classical theory of inflation
a. is also known as the quantity theory of money. b. was developed by some of the earliest economic thinkers. c. is used by most modern economists to explain the long-run determinants of the inflation rate. d. All of the above are correct. |
Ans: D
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14. The quantity theory of money
a. is a fairly recent addition to economic theory. b. can explain both moderate inflation and hyperinflation. c. argues that inflation is caused by too little money in the economy. d. All of the above are correct. |
Ans: B
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15. Economists all agree that
a. neither high inflation nor moderate inflation is very costly. b. both high and moderate inflation are quite costly. c. high inflation is costly, but disagree about the costs of moderate inflation. d. moderate inflation is as costly as high inflation. |
Ans: C
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16. As the price level decreases, the value of money
a. increases, so people want to hold more of it. b. increases, so people want to hold less of it. c. decreases, so people want to hold more of it. d. decreases, so people want to hold less of it. |
Ans: B
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17. An increase in the price level makes the value of money
a. increase, so people want to hold more of it. b. increase, so people want to hold less of it. c. decrease, so people want to hold more of it. d. decrease, so people want to hold less of it. |
Ans: C
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18. When the price level falls, the number of dollars needed to buy a representative basket of goods
a. increases, so the value of money rises. b. increases, so the value of money falls. c. decreases, so the value of money rises. d. decreases, so the value of money falls. |
Ans: c
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19. When the price level rises, the number of dollars needed to buy a representative basket of goods
a. increases, and so the value of money rises. b. increases, and so the value of money falls. c. decreases, and so the value of money rises. d. decreases, and so the value of money falls |
Ans: B
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20. The supply of money is determined by
a. the price level. b. the Treasury and Congressional Budget Office. c. the Federal Reserve System. d. the demand for money. |
Ans: C
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21. The supply curve of money is vertical because the quantity of money supplied increases
a. when the value of money increases. b. when the value of money decreases. c. only if people desire to hold more money. d. only if the central bank increases the money supply. |
Ans: D
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22. The supply of money increases when
a. the value of money increases. b. the interest rate increases. c. the Fed makes open-market purchases. d. None of the above is correct. |
Ans: C
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23. Money demand refers to
a. the total quantity of financial assets that people want to hold. b. how much income people want to make per year. c. how much wealth people want to hold in liquid form. d. how much currency the Federal Reserve decides to print. |
Ans: c
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24. When the money market is drawn with the value of money on the vertical axis, the money demand curve slopes
a. upward because at higher prices people want to hold more money. b. downward because at higher prices people want to hold more money. c. downward because at higher price people want to hold less money. d. upward, because at higher prices people want to hold less money. |
Ans: B
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25. When the money market is drawn with the value of money on the vertical axis, as the price level increases the
quantity of money a. demanded increases. b. demanded decreases. c. supplied increases. d. supplied decreases. |
Ans: A
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26. When the money market is drawn with the value of money on the vertical axis, an increase in the price level causes
a a. shift to the right of the money demand curve. b. shift to the left of the money demand curve. c. movement to the left along the money demand curve. d. movement to the right along the money demand curve. |
Ans: D
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27. When the money market is drawn with the value of money on the vertical axis, as the price level increases, the
value of money a. increases, so the quantity of money demanded increases. b. increases, so the quantity of money demanded decreases. c. decreases, so the quantity of money demanded decreases. d. decreases, so the quantity of money demanded increases. |
Ans: D
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28. When the money market is drawn with the value of money on the vertical axis,
a. money demand slopes up and money supply is horizontal. b. money demand slopes down and money supply is vertical. c. money demand slopes up and money supply is horizontal. d. money demand slope down and money supply is vertical. |
Ans: B
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29. When the money market is drawn with the value of money on the vertical axis, long-run equilibrium is obtained
when the quantity demanded and quantity supplied of money are equal due to adjustments in the a. the value of money. b. real interest rates. c. nominal interest rates. d. money supply. |
Ans: A
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30. When the money market is drawn with the value of money on the vertical axis, if the price level is above the
equilibrium level, there is an a. excess demand for money, so the price level will rise. b. excess demand for money, so the price level will fall. c. excess supply of money, so the price level will rise. d. excess supply of money, so the price level will fall. |
Ans: B
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31. When the money market is drawn with the value of money on the vertical axis, if the value of money is below the
equilibrium level, a. the price level will rise. b. the value of money will rise. c. money demand will shift left. d. money demand will shift right. |
Ans: B
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32. Suppose the money market,drawn with the value of money on the vertical axis, is in equilibrium. If the money
supply increases, then at the old value of money there is a. a shortage that will increase spending. b. a shortage that will reduce spending. c. a surplus that will increase spending. d. a surplus that will reduce spending. |
Ans: C
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33. Which of the following is correct?
a. If the Fed purchases bonds in the open market, then the money supply curve shifts right. A change in the price level does not shift the money supply curve. b. If the Fed sells bonds in the open market, then the money supply curve shifts right. A change in the price level does not shift the money supply curve. c. If the Fed purchases bonds, then the money supply curve shifts right. An increase in the price level shifts the money supply curve right. d. If the Fed sells bonds, then the money supply curve shifts right. A decrease in the price level shifts the money supply curve right. |
Ans: A
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34. When the money market is drawn with the value of money on the vertical axis, an increase in the money supply
shifts the money supply curve to the a. right, lowering the price level. b. right, raising the price level. c. left, raising the price level. d. left, lowering the price level. |
Ans: B
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35. If the Fed raises the money supply, then 1/P
a. falls, so the value of money falls. b. falls, so the value of money rises. c. rises, so the value of money falls. d. rises, so the value of money rises. |
Ans: A
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36. When the money market is drawn with the value of money on the vertical axis, an increase in the money supply
a. increases the price level and the value of money. b. increases the price level and decreases the value of money. c. decreases the price level and increases the value of money. d. decreases the price level and the value of money. |
Ans: B
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37. When the money market is drawn with the value of money on the vertical axis, an increase in the money supply
causes the equilibrium value of money a. and equilibrium quantity of money to increase. b. and equilibrium quantity of money to decrease. c. to increase, while the equilibrium quantity of money decreases. d. to decrease, while the equilibrium quantity of money increases. |
Ans: D
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38. When the money market is drawn with the value of money on the vertical axis, if the Fed sells bonds then
a. the money supply and the price level increase. b. the money supply and the price level decrease. c. the money supply increases and the price level decreases. d. the money supply increases and the price level increases. |
Ans: B
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39. When the money market is drawn with the value of money on the vertical axis, the value of money increases if
a. either money demand or money supply shifts right. b. either money demand or money supply shifts left. c. money demand shifts right or money supply shifts left. d. money demand shifts left or money supply shifts right. |
Ans: C
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40. When the money market is drawn with the value of money on the vertical axis, the price level increases if
a. either money demand or money supply shifts right. b. either money demand or money supply shifts left. c. money demand shifts right or money supply shifts left. d. money demand shifts left or money supply shifts right. |
Ans: D
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41. When the money market is drawn with the value of money on the vertical axis, the price level decreases if
a. either money demand or money supply shifts right. b. either money demand or money supply shifts left. c. money demand shifts right or money supply shifts left. d. money demand shifts left or money supply shifts right. |
Ans: C
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42. When the money market is drawn with the value of money on the vertical axis, the price level increases if
a. money demand shifts right and decreases if money supply shifts right. b. money demand shifts right and decreases if money supply shifts left. c. money demand shifts left and decreases if money supply shifts right. d. money demand shifts left and decreases if money supply shifts left. |
Ans: D
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43. Open-market purchases by the Fed make the money supply
a. increase, which makes the value of money increase. b. increase, which makes the value of money decrease. c. decrease, which makes the value of money decrease. d. decrease, which makes the value of money increase. |
Ans: B
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44. Consider the money market drawn with the value of money on the vertical axis. If money demand is unchanged
and the price level rises, then a. the money supply must have increased, perhaps because the Fed bought bonds. b. the money supply must have increased, perhaps because the Fed sold bonds. c. the money supply must have decreased, perhaps because the Fed bought bonds. d. the money supply must have decreased, perhaps because the Fed sold bonds. |
Ans: A
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45. In the fourteenth century, the Western African Emperor Kankan Musa traveled to Cairo where he gave away much
gold, which was in use as a medium of exchange. We would predict that this increase in gold a. raised both the price level and the value of gold in Cairo. b. raised the price level, but decreased the value of gold in Cairo. c. lowered the price level, but increased the value of gold in Cairo. d. lowered both the price level and the value of gold in Cairo. |
Ans: B
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46. In the 1970s in response to recessions caused by an increase in the price of oil, the central banks in many countries
increased the money supply. The central banks might have done this by a. selling bonds on the open market, which would have raised the value of money. b. purchasing bonds on the open market, which would have raised the value of money. c. selling bonds on the open market, which would have raised the value of money. d. purchasing bonds on the open market, which would have lowered the value of money. |
Ans: D
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47. When the money market is drawn with the value of money on the vertical axis, an increase in the money supply
creates an excess a. supply of money causing people to spend more. b. supply of money causing people to spend less. c. demand for money causing people to spend more. d. demand for money causing people to spend less. |
Ans: A
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48. A decrease in the money supply creates an excess
a. supply of money that is eliminated by rising prices. b. supply of money that is eliminated by falling prices. c. demand for money that is eliminated by rising prices. d. demand for money that is eliminated by falling prices. |
Ans: D
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49. Refer to Figure 17-1. If the money supply is MS2 and the value of money is 2,
a. the value of money is less than its equilibrium level. b. the price level is higher than its equilibrium level. C. the quantity of money demanded is greater than the quantity of money supplied. D. the quantity of money supplied is greater than the quantity of money demanded. |
Ans: D
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Refer to Figure 17-1 (or the picture on 49)
50. Refer to Figure 17-1. If the money supply is MS2 and the value of money is 2, there is excess a. demand equal to the distance between A and C. b. demand equal to the distance between A and B. c. supply equal to the distance between A and C. d. supply equal to the distance between A and B. |
Ans: D
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51. Refer to Figure 17-1 (or the picture on 49).
When the money supply curve shifts from MS1 to MS2, the graph shows that a. the demand for goods and services decreases. b. the economy's ability to produce goods and services increases. c. the equilibrium price level increases. d. the equilibrium value of money increases. |
Ans: C
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52. Refer to Figure 17-1(or the picture on 49). When the money supply curve shifts from MS1 to MS2,
a. the equilibrium value of money decreases. b. the equilibrium price level decreases. c. the supply of money has decreased. d. the demand for goods and services will decrease. |
Ans: A
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53. Refer to Figure 17-1.
If the current money supply is located at MS1, a. there is no excess supply or excess demand if the value of money is 2. b. the equilibrium is at point C. c. there is an excess supply of money if the value of money is 1. d. None of the above is correct. |
Ans: A
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54. Economic variables whose values are measured in monetary units are called
a. dichotomous variables. b. nominal variables. c. classical variables. d. real variables. |
Ans: B
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55. Economic variables whose values are measured in goods are called
a. dichotomous variables. b. nominal variables. c. classical variables. d. real variables. |
Ans: D
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56. Sally sells 40 bags of lettuce for a total of $80 at the farmers’ market.
a. The $80 is a real variable. The quantity of lettuce is a nominal variable. b. The $80 is a nominal variable. The quantity of lettuce is a real variable. c. Both the $80 and the quantity of lettuce are nominal variables. d. Both the $80 and the quantity of lettuce are real variables. |
Ans: B
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57. Nominal GDP measures
a. the total quantity of final goods and services produced. b. the dollar value of the economy's output of final goods and services. c. the total income received from producing final goods and services measured in constant dollars. d. None of the above is correct. |
Ans: B
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58. Real GDP measures
a. the total quantity of final goods and services produced. b. the dollar value of the economy's output of final goods and services. c. the total income received from producing final goods and services at current prices. d. All of the above are correct. |
Ans: A
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59. The price level is a
a. relative variable. b. dichotomous variable c. real variable. d. nominal variable. |
Ans: D
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60. The price of a Honda Accord
a. and the price of a Honda Accord divided by the price of a Honda Civic are both real variables. b. and the price of a Honda Accord divided by the price of Honda Civic are both nominal variables. c. is a real variable, and the price of a Honda Accord divided by a Honda Civic is a nominal variable. d. is a nominal variable and the price of a Honda Accord divided by the price of a Honda Civic is a real variable. |
Ans; D
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61. An associate professor of economics gets a $100 a month raise. She figures that with her current monthly salary
she can't buy as many goods as she could last year. a. Her real and nominal salary have risen. b. Her real and nominal salary have fallen. c. Her real salary has risen and her nominal salary has fallen. d. Her real salary has fallen and her nominal salary has risen. |
Ans: D
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62. Your boss gives you an increase in the number of dollars you earn per hour. This increase in pay makes
a. your nominal wage increase. If your nominal wage rose by a greater percentage than the price level, then your real wage also increased. b. your nominal wage increase. If your nominal wage rose by a greater percentage than the price level, then your real wage decreased. c. your real wage increase. If your real wage rose by a greater percentage than the price level, then your nominal wage also increased. d. your real wage decrease. If your real wage rose by a greater percentage than the price level, then your nominal wage decreased. |
Ans: A
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63. Interest rates for savings accounts listed on your bank’s website
a. and a price index are real variables. b. and a price index are nominal variables. c. are real variable and a price index is a nominal variable. d. are nominal variables, and price index is a real variable |
Ans: B
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64. Interest rates adjusted for the effects of inflation
a. and inflation are nominal variables. b. and inflation are real variables. c. are real variables; inflation is a nominal variable. d. are nominal variables; inflation is a real variable. |
Ans: C
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65. You put money in the bank. The increase in the dollar value of your savings
a. and the change in the number of goods you can buy with your savings are both nominal variables. b. and the change in the number of goods you can buy with your savings are both real variables. c. is a nominal variable, but the change in the number goods you can buy with your savings is a real variable. d. is a real variable, but the change in the number of goods you buy with your savings is a nominal variable. |
Ans: C
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66. The idea that nominal variables are heavily influenced by the quantity of money and that money is largely
irrelevant for understanding the determinants of real variables is called the a. velocity concept. b. Fisher effect. c. classical dichotomy. d. Mankiw effect. |
Ans: C
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67. The classical dichotomy refers to the idea that the supply of money
a. is irrelevant for understanding the determinants of nominal and real variables. b. determines nominal variables, but not real variables. c. determines real variables, but not nominal variables. d. is a determinant of both real and nominal variables. |
Ans: B
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68. The classical dichotomy argues that changes in the money supply
a. affect both nominal and real variables. b. affect neither nominal nor real variables. c. affect nominal variables, but not real variables. d. do not affect nominal variables, but do affect real variables. |
Ans: C
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69. According to the classical dichotomy, which of the following increases when the money supply increases?
a. the real interest rate b. real GDP c. the real wage d. None of the above increases. |
Ans: D
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70. According to the classical dichotomy, which of the following is influenced by monetary factors?
a. real GDP b. unemployment c. nominal interest rates d. All of the above are correct. |
Ans: C
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71. According to the classical dichotomy, which of the following is influenced by monetary factors?
a. the real wage b. the real interest rate c. the nominal wage d. All of the above are correct. |
Ans: C
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72. According to the classical dichotomy, which of the following is not influenced by monetary factors?
a. the price level b. real GDP c. nominal interest rates d. All of the above are correct. |
Ans: B
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73. According to the classical dichotomy, which of the following is not influenced by monetary factors?
a. nominal GDP and nominal interest rates b. real wages and real GDP c. the price level and nominal GDP d. None of the above is correct. |
Ans: B
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74. Changes in nominal variables are determined mostly by the quantity of money and the monetary system according
to a. both the classical dichotomy and the quantity theory of money. b. the classical dichotomy, but not the quantity theory of money. c. the quantity theory of money, but not the classical dichotomy. d. neither the classical dichotomy nor the quantity theory of money. |
Ans: A
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75. According to the classical dichotomy, when the money supply doubles, which of the following also double?
a. the price level and nominal wages b. the price level, but not the nominal wage c. the nominal wage, but not the price level d. neither the nominal wage nor the price level |
Ans: A
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76. According to the classical dichotomy, when the money supply doubles which of the following double?
a. the price level and nominal GDP b. the price level and real GDP c. only real GDP d. only the price level |
Ans: A
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77. The principle of monetary neutrality implies that an increase in the money supply will
a. increase real GDP and the price level. b. increase real GDP, but not the price level. c. increase the price level, but not real GDP. d. increase neither the price level nor real GDP. |
Ans: C
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78. According to the principle of monetary neutrality, a decrease in the money supply will not change
a. nominal GDP. b. the price level. c. unemployment. d. All of the above are correct. |
Ans: C
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79. Monetary neutrality implies that an increase in the quantity of money will
a. increase employment. b. increase the price level. c. increase the incentive to save. d. Not increase any of the above. |
Ans: B
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80. Most economists believe the principle of monetary neutrality is
a. relevant to both the short and long run. b. irrelevant to both the short and long run. c. mostly relevant to the short run. d. mostly relevant to the long run. |
Ans: D
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81. Most economists believe that monetary neutrality provides
a. a good description of both the long run and the short run. b. a good description of neither the long run nor the short run. c. a good description of the short run, but not the long run. d. a good description of the long run, but not the short run. |
Ans: D
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82. In order to maintain stable prices, a central bank must
a. maintain low interest rates. b. keep unemployment low. c. tightly control the money supply. d. sell indexed bonds. |
Ans: C
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83. According to the classical dichotomy, when the money supply doubles, which of the following also double?
a. the price level b. nominal wages c. nominal GDP d. All of the above are correct. |
Ans: D
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84. The velocity of money is
a. the rate at which the Fed puts money into the economy. b. the same thing as the long-term growth rate of the money supply. c. the money supply divided by nominal GDP. d. the average number of times per year a dollar is spent. |
Ans: D
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85. Velocity is computed as
a. (P × Y)/M. b. (P × M)/Y. c. (Y × M)/P. d. (Y × M)/V. |
Ans: A
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86. Based on the quantity equation, if M = 100, V = 3, and Y = 200, then P =
a. 1. b. 1.5. c. 2. d. None of the above is correct. |
Ans: B
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87. Based on the quantity equation, if M = 100, V = 4, and Y = 200, then P =
a. 1/2. b. 2. c. 8. d. None of the above is correct. |
Ans: B
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88. According to the quantity equation, if P = 12, Y = 6, and M= 8, then V =
a. 16. b. 9. c. 4. d. None of the above is correct. |
Ans: B
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89. According to the quantity equation, if P = 2, Y = 6,000, and M= 3,000, then V =
a. 1/2. b. 1. c. 4. d. None of the above is correct. |
Ans: C
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90. According to quantity equation the price level would change less the proportionately with a rise in the money
supply if there were also a. either a rise in output or a rise in velocity. b. either a rise in output or a fall in velocity. c. either a fall in output or a rise in velocity. d. either a fall in output or a fall in velocity. |
Ans: B
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91. According to the assumptions of quantity theory, if the money supply increases 5% then
a. nominal and real GDP would rise by 5%. b. nominal GDP would rise by 5%; real GDP would be unchanged. c. nominal GDP would be unchanged; real GDP would rise by 5%. d. neither nominal GDP nor real GDP would change. |
Ans: B
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92. According to the assumptions of the quantity theory, if the money supply increases 5%
a. both the price level and real GDP would rise by 5%. b. the price level would rise by 5% and real GDP would be unchanged. c. the price level would be unchanged and real GDP would rise by 5%. d. both the price level and real GDP would be unchanged. |
Ans: B
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93. Last year, Tealandia produced 50,000 bags of green tea. This was Tealandia’s only production. Each bag sold at 4
units each of Tealandia's currency-the Leaf. Tealandia's money supply was 10,000. What was the velocity of money in Tealandia? a. 20 b. 5 c. 1/20 d. 1/5 |
Ans: A
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94. According to the quantity equation if P = 4 and Y= 800, which of the following pairs could M and V be?
a. 800, 4 b. 600, 3 c. 400, 2 d. 200, 1 |
Ans: A
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95. Velocity is
a. Y/(M x P) and increases if dollars are exchanged less frequently. b. Y/(M x P) and increases if dollars are exchanged more frequently. c. (P x Y)/M and increases if dollars are exchanged less frequently. d. (P x Y)/M and increases if dollars are exchanged more frequently. |
Ans: D
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96. If Y and V are constant, and M doubles, the quantity equation implies that the price level
a. more than doubles. b. changes but less than doubles. c. doubles. d. does not change |
Ans: C
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97. If Y and M are constant, and V doubles, the quantity equation implies that the price level
a. falls to half it’s original level. b. doubles. c. more than doubles. d. does not change. |
Ans: B
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98. If V and M are constant, and Y doubles, the quantity equation implies that the price level
a. falls to half its original level. b. does not change. c. doubles. d. more than doubles |
Ans: A
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99. If velocity and output were nearly constant,
a. the inflation rate would be much higher than the money supply growth rate. b. the inflation rate would be about the same as the money supply growth rate. c. the inflation rate would be much lower than the money supply growth rate. d. any of the above would be possible. |
Ans: B
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100. Suppose that velocity rises while the money supply stays the same. It follows that
a. P x Y must rise. b. P x Y must fall. c. P x Y must be unchanged. d. the effects on P x Y are uncertain. |
Ans: A
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101. The money supply in Tazland is $100 billion. Nominal GDP is $800 billion and real GDP is $200 billion. What are
the price level and velocity in Tazland? a. the price level and velocity are both 8 b. the price level is 8 and velocity is 4 c. the price level and velocity are both 4 d. the price level is 4 and velocity is 8 |
Ans: D
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102. Suppose that the money supply tripled, but at the same time velocity fell by half and real GDP was unchanged.
According to the quantity equation the price level a. is 1.5 times its old value. b. is 3 times its old value. c. is 6 times its old value. d. is the same as its old value. |
Ans: A
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103. Suppose that over some period the money supply tripled, velocity fell by half, and real GDP doubled. According to
the quantity equation the price level is now a. 6 times its old value. b. 3 times its old value. c. 1.5 times its old value. d. .75 times its old value |
Ans: D
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104. Suppose that over some period the money supply tripled, velocity was unchanged, and real GDP doubled.
According to the quantity equation the price level is now a. 6 times its old value. b. 3 times its old value. c. 1.5 times its old value. d. .75 times its old value |
Ans: C
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105. If real output in an economy is 1000 goods per year, the money supply is $300, and each dollar is spent an average
of 3 times per year, then according to the quantity equation, the average price of goods is a. $0.90. b. $1.00. c. $1.11. d. $1.33. |
Ans: A
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106. Suppose that monetary neutrality holds and that velocity is constant. A 5% increase in the money supply
a. increases the price level by more than 5%. b. increases the price level by 5%. c. increases the price level by 5%. d. does not change the price level. |
Ans: B
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107. Which of the following is not implied by the quantity equation?
a. If velocity is stable, an increase in the money supply creates a proportional increase in nominal output. b. If velocity is stable and money is neutral, an increase in the money supply creates a proportional increase in the price level. c. With constant money supply and output, an increase in velocity creates an increase in the price level. d. With constant money supply and velocity, an increase in output creates a proportional increase in the price level. |
Ans: D
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108. If money is neutral and velocity is stable, an increase in the money supply creates a proportional increase in
a. real output only. b. nominal output only. c. the price level only. d. Both the price level and nominal output. |
Ans: D
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109. The evidence from hyperinflations indicates that money growth and inflation
a. moved together, which is consistent with quantity theory. b. moved together, which is not consistent with quantity theory. c. did not move closely with each other, which is consistent with quantity theory. d. did not move closely with each other, which is not consistent with quantity theory. |
Ans: A
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110. When the money supply and the price level in countries that experienced hyperinflation are plotted against time,
we see that a. the price level grew at about the same rate as the money supply. b. the price level grew at a much faster rate than the money supply. c. the price level grew at a much slower rate than the money supply. d. the inflation rate and the money supply growth rate do not appear to be related. |
Ans: A
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111. The source of hyperinflations is primarily
a. lower output growth. b. continuing declines in velocity. c. increased money supply growth. d. continuing increases in money demand. |
Ans: C
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112. Which of the following events in post-World War I Germany likely contributed to the rise of Nazism and World
War II? a. deflation that proved detrimental to farmers b. an aversion to inflation by policymakers that kept wages from rising c. an unexpected drop in inflation that hurt borrowers d. an extraordinarily high rate of inflation |
Ans; D
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113. The inflation tax
a. is an alternative to income taxes and government borrowing. b. taxes most those who hold the most money. c. is the revenue created when the government prints money. d. All of the above are correct. |
Ans: D
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114. Governments may prefer an inflation tax to some other kind of tax because the inflation tax
a. is easier to impose. b. reduces inflation. c. falls mainly on high-income individuals. d. reduces the real cost of government expenditure. |
Ans: A
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115. The inflation tax falls mostly heavily on
a. those who hold a lot of currency and accounts for a large share of US revenue. b. those who hold a lot of currency but accounts for a small share of US revenue. c. those who hold little currency and accounts for a large share of US revenue. d. those who hold little currency but accounts for a small share of US revenue. |
Ans: B
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116. Printing money to finance government expenditures
a. causes the value of money to rise. b. imposes a tax on everyone who holds money. c. is the principle method by which the U.S. government finances its expenditures. d. None of the above is correct. |
Ans: B
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117. Which of the following is correct?
a. The Continental Congress used the inflation tax to help finance the American Revolution. b. The inflation tax has been a principle source of revenue for the U.S. government. c. There is no way a person can avoid the inflation tax. d. None of the above is correct. |
Ans: A
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118. Suppose that the United States unexpectedly decided to pay off its debt by printing new money. Which of the
following would happen? a. People who held money would feel poorer. b. Prices would rise. c. People who had lent money at a fixed interest rate would feel poorer. d. All of the above are correct |
Ans: D
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119. The claim that increases in the growth rate of the money supply increase nominal but not real interest rates is
known as the a. Friedman Effect. b. Hume Effect. c. Fisher Effect. d. None of the above is correct. |
Ans: C
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120. The nominal interest rate is 3 percent and the inflation rate is 2 percent. What is the real interest rate?
a. 6 percent b. 5 percent c. 1.5 percent d. 1 percent |
Ans: D
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121. The nominal interest rate is 4.5 percent and the inflation rate is .9 percent. What is the real interest rate?
a. 5.4 percent b. 5 percent c. 4.1 percent d. 3.6 percent |
Ans: D
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122. The nominal interest rate is 3.5 percent and the inflation rate is 2 percent. What is the real interest rate?
a. 7 percent b. 5.5 percent c. 1.75 percent d. 1.5 percent |
Ans: D
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123. The nominal interest rate is 6 percent and the real interest rate is 2 percent. What is the inflation rate?
a. 3 percent. b. 4 percent. c. 8 percent. d. 12 percent. |
Ans: B
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124. The nominal interest rate is 5 percent and the real interest rate is 2 percent. What is the inflation rate?
a. 10 percent b. 7 percent c. 3 percent d. 2.5 percent |
Ans: C
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125. If the nominal interest rate is 5 percent and there is a deflation rate of 2 percent, what is the real interest rate?
a. 7 percent b. 5 percent c. 3 percent d. 3/5 percent |
Ans: A
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126. If the real interest rate is 8 percent and there is a deflation rate of 4 percent, what is the nominal interest rate?
a. 1/2 percent b. 2 percent c. 4 percent d. 8 percent |
Ans: C
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127. The real interest rate is 8 percent and the nominal interest rate is 12 percent. Is there inflation or deflation? What is
the inflation or deflation rate? a. deflation; 1.5 percent b. deflation; 4 percent c. inflation; 1.5 percent d. inflation; 4 percent |
Ans: C
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128. Whitney puts money in a savings account at her bank earning 3.5 percent. One year later she takes her money out
and notes that while her money was earning interest, prices rose 1.5 percent. Whitney earned a nominal interest rate of a. 3.5 percent and a real interest rate of 5 percent. b. 3.5 percent and a real interest rate of 2 percent. c. 5 percent and a real interest rate of 3.5 percent d. 5 percent and a real interest rate of 2 percent |
Ans: B
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129. Arnold puts money into an account. One year later he sees that he has 5 percent more dollars and that his money
will buy 6 percent more goods. a. The nominal interest rate was 11 percent and the inflation rate was 5 percent. b. The nominal interest rate was 6 percent and the inflation rate was 5 percent. c. The nominal interest rate was 5 percent and the inflation rate was -1 percent. d. None of the above is correct. |
Ans: C
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130. Steven puts money into an account. One year later he sees that he has 6 percent more dollars and that his money
will buy 2 percent more goods. a. The nominal interest rate was 8 percent and the inflation rate was 6 percent. b. The nominal interest rate was 6 percent and the inflation rate was 4 percent. c. The nominal interest rate was 4 percent and the inflation rate was 2 percent. d. None of the above is correct. |
Ans: B
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131. If a country had deflation,
a. the nominal interest rate would be greater than the real interest rate. b. the real interest rate would be greater than the nominal interest rate. c. the real interest rate would equal the nominal interest rate. d. None of the above is necessarily correct. |
Ans: B
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132. From the early 1980s through the early 1990s
a. both inflation and nominal interest rates rose. b. both inflation and nominal interest rates fell. c. the inflation rate fell and the nominal interest rate rose. d. the inflation rate rose and the nominal interest rate fell. |
Ans: B
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133. The Fisher effect says that
a. the nominal interest rate adjusts one for one with the inflation rate. b. the growth rate of the money supply determines the inflation rate. c. real variables are heavily influenced by the monetary system. d. All of the above are correct. |
Ans: A
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134. Under the assumptions of the Fisher effect and monetary neutrality, if the money supply growth rate rises, then
a. both the nominal and the real interest rate rise. b. neither the nominal nor the real interest rate rise. c. the nominal interest rate rises, but the real interest rate does not. d. the real interest rate rises, but the nominal interest rate does not. |
Ans: C
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135. Under the assumptions of the Fisher effect and monetary neutrality, if the money supply growth rate falls, then
a. both the nominal and the real interest rate fall. b. neither the nominal nor the real interest rate fall. c. the nominal interest rate falls, but the real interest rate does not. d. the real interest rate falls, but the nominal interest rate does not. |
Ans: C
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136. When money is neutral, which of the following increases when the money supply growth rate increases?
a. real output growth b. real interest rates c. nominal interest rates d. the money supply divided by the price level |
Ans: C
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137. Which of the following can a country increase in the long run by increasing its money growth rate?
a. the nominal wage divided by the price level b. real output c. real interest rates d. None of the above is correct. |
Ans: D
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138. Suppose that monetary neutrality and the Fisher effect both hold and the money supply growth rate has been the
same for a long time. Other things the same a higher money supply growth would be associated with a. both higher inflation and higher nominal interest rates. b. a higher inflation rate, but not higher nominal interest rates. c. a higher nominal interest rate, but not higher inflation. d. neither a higher inflation rate nor a higher nominal interest rate. |
Ans: A
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139. Suppose that monetary neutrality and the Fisher effect both hold. An increase in the money supply growth rate
raises. a. the inflation rate and nominal interest rates. b. the inflation rate, but not nominal interest rates. c. nominal interest rates, but not the inflation rate. d. neither the inflation rate nor nominal interest rates. |
Ans: A
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140. Suppose that monetary neutrality and the Fisher effect both hold. An increase in the money supply growth rate
raises. a. the inflation rate and real interest rates. b. the inflation rate, but not real interest rates. c. real interest rates, but not the inflation rate. d. neither the inflation rate nor real interest rates. |
Ans: B
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141. Suppose that monetary neutrality and the Fisher effect both hold. An increase in the money supply growth rate
raises. a. the inflation rate and growth of real GDP. b. the inflation rate but not the growth rate of real GDP. c. the growth rate of real GDP, but not the inflation rate. d. neither the inflation rate nor the growth rate of real GDP. |
Ans: B
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142. Suppose that monetary neutrality and the Fisher effect both hold. An increase in the money supply growth rate
raises. a. the inflation rate and the nominal interest rate by the same percentage points. b. nominal interest rates but by less than the percentage point increase in the inflation rate. c. the inflation rate but not the nominal interest. d. neither the inflation rate nor the nominal interest rate. |
Ans: A
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143. According to monetary neutrality and the Fisher effect, an increase in the money supply growth rate eventually
increases a. inflation, nominal interest rates, and real interest rates. b. inflation and nominal interest rates, but does not change real interest rates. c. inflation and real interest rates, but does not change nominal interest rates. d. neither inflation, nominal interest rates, or real interest rates. |
Ans: B
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144. The inflation tax
a. transfers wealth from the government to households. b. is the increase in income taxes due to lack of indexation. c. is a tax on everyone who holds money. d. All of the above are correct |
Ans: C
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145. People can reduce the inflation tax by
a. reducing savings. b. increasing deductions on their income tax. c. reducing cash holdings. d. None of the above is correct. |
Ans: C
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146. If the inflation rate falls, people are likely to
a. change prices more frequently and go to the bank more frequently. b. change prices more frequently and go to the bank less frequently. c. change prices less frequently and go to the bank less frequently. d. change prices less frequently and go the bank more frequently. |
Ans: C
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147. The shoeleather cost of inflation refers to
a. the redistributional effects of unexpected inflation. b. the time spent searching for low prices when inflation rises. c. the waste of resources used to maintain lower money holdings. d. the increased cost to the government of printing more money. |
Ans: C
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148. Shoeleather costs refer to
a. the cost of more frequent price changes induced by higher inflation. b. the distortion in resource allocation created by distortions in relative prices due to inflation. c. resources used to maintain lower money holdings when inflation is high. d. the tendency for more effort searching for the lowest price when inflation is high. |
Ans: C
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149. People go to the bank more frequently to reduce currency holdings when inflation is high, the cost of their time to
do this would be counted as a. inflation-induced tax distortions. b. relative-price variability costs. c. shoeleather costs. d. menu costs. |
Ans: C
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150. As inflation rises, people will tend to
a. go to the bank more often. This is known as menu costs. b. go to the bank more often. This is known as shoeleather costs. c. go to the bank less often. This is known as the inflation fallacy. d. go to the bank less often. This is known as redistribution costs. |
Ans: B
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151. The cost of changing price tags and price listings is known as
a. inflation-induced tax distortions. b. relative-price variability costs. c. shoeleather costs. d. menu costs. |
Ans: D
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152. Menu costs refers to
a. resources used by people to maintain lower money holdings when inflation is high. b. resources used to price shop during times of high inflation. c. the distortion in incentives created by inflation when taxes do not adjust for inflation. d. the cost of more frequent price changes induced by higher inflation. |
Ans: D
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153. On income tax forms, people are required to report
a. nominal interest earnings. b. real interest earnings. c. real capital gains. d. All of the above. |
Ans: A
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154. You buy stock and its price rises just as much as the price level. Before taxes you made
a. a nominal and real gain, and you pay taxes on the nominal gain. b. a nominal and real gain, but you pay taxes only on the real gain. c. a nominal gain, but no real gain, yet you pay taxes on the nominal gain. d. a nominal gain, but no real gain, so you pay no taxes on the nominal gain. |
Ans: C
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155. You buy a stock and its price rises less than the price level. Before taxes you made
a. a nominal and real gain, and you pay taxes on the nominal gain. b. a nominal gain and a real loss, and you don't have to pay taxes since you gained less than the change in the price level. c. a nominal and a real gain, and you pay taxes on the real gain. d. a nominal gain and a real loss, and you pay taxes on the nominal gain. |
Ans: D
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156. When deciding how much to save, people care most about
a. after-tax nominal interest rates. b. after-tax real interest rates. c. before-tax real interest rates. d. before-tax nominal interest rates. |
Ans: B
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157. For a given real interest rate, an increase in inflation makes the after-tax real interest rate
a. decrease, which encourages savings. b. decrease, which discourages savings. c. increase, which encourages savings. d. increase, which discourages savings. |
Ans: B
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158. Given a nominal interest rate of 8 percent, in which case below would you earn the highest after-tax real interest
rate? a. Inflation is 5 percent; the tax rate is 20 percent. b. Inflation is 4 percent; the tax rate is 30 percent. c. Inflation is 3 percent; the tax rate is 40 percent. d. The after-tax real interest rate is the same for all of the above. |
Ans: C
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159. Given a nominal interest rate of 6 percent, in which case would you earn the highest after-tax real rate of interest?
a. Inflation is 4 percent; the tax rate is 25 percent. b. Inflation is 3 percent; the tax rate is 20 percent. c. Inflation is 2 percent; the tax rate is 15 percent. d. The after-tax real interest rate is the same for all of the above. |
Ans: C
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160. Given a nominal interest rate of 6 percent, in which case would you earn the lowest after-tax real rate of interest?
a. Inflation is 4 percent; the tax rate is 25 percent. b. Inflation is 3 percent; the tax rate is 20 percent. c. Inflation is 2 percent; the tax rate is 15 percent. d. The after-tax real interest rate is the same for all of the above. |
Ans: A
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161. Given a nominal interest rate of 5 percent, in which case below would you earn the highest after-tax real rate of
interest? a. Inflation is 3 percent; the tax rate is 20 percent. b. Inflation is 2 percent; the tax rate is 40 percent. c. Inflation is 1 percent; the tax rate is 60 percent. d. The after-tax real interest rate is the same for all of the above. |
Ans: D
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162. You put money in an account that earns a 5 percent nominal interest rate. The inflation rate is 3 percent, and your
marginal tax rate is 20 percent. What is your after-tax real rate of interest? a. 3.4 percent b. 1.6 percent c. 1 percent d. None of the above is correct. |
Ans: C
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163. You put money in an account and earn a real interest rate of 4 percent. Inflation is 2 percent, and your marginal tax
rate is 20 percent. What is your after-tax real rate of interest? a. 1.2 percent b. 2.8 percent c. 4.8 percent d. None of the above is correct. |
Ans: B
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164. You put money in an account and earn a real interest rate of 6 percent, inflation is 2 percent, and your marginal tax
rate is 20 percent. What is your after-tax real rate of interest? a. 4.8 percent b. 3.2 percent c. 2.8 percent d. None of the above is correct. |
Ans: D
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165. Suppose one year ago that the price index was 120 and Mark purchased $20,000 worth of bonds. One year later the
price index is 126. Mark redeems his bonds for $22,250 and is in a 40% tax bracket. What is Mark’s real after-tax rate of interest to the nearest tenth of a percent? a. 4.3% b. 3.1% c. 1.8% d. 1.2% |
Ans: C
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166. The country of Veridian has a tax system identical to that of the United States. Suppose someone in Veridian
bought a parcel of land for 20,000 deera (the local currency) in 1960 when the price index equaled 100. In 2002, the person sold the land for 100,000 deera, and the price index equaled 600. The tax rate on nominal gains was 20%. Compute the taxes on the nominal gain and the change in the real value of the land in terms of 2002 prices to find the after-tax real capital gain. a. 64,000 deera b. -36,000 deera c. -16,667 deera d. -$3,333 deera |
Ans: B
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167. The country of Veridian has a tax system identical to that of the United States. Suppose someone in Veridian
bought a parcel of land for 10,000 deera (the local currency) in 1964 when the price index equaled 100. In 2005, the person sold the land for 100,000 deera, and the price index equaled 500. The tax rate on nominal capital gains was 20%. Compute the taxes the person paid on the nominal gain and the change in the real value of the land in terms of 2005 prices to find the after-tax real capital gain. a. $72,000 b. $62,000 c. $32,000 d. $6,400 |
Ans: C
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168. Sally purchased one share of Stryker stock for $200 in year 1 and sold that share in year 2 for $400. The inflation
rate between year 1 and year 2 was 50%. The tax on nominal capital gains is 50%. What was the tax on Sally’s capital gain? a. $50 b. $75 c. $100 d. $200 |
Ans: C
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169. Kelly purchased ten shares of Gentech stock for $200 in year 1 and sold all the shares in year 2 for $220 a share.
Between year 1 and year 2, the price level increased by 5%. The tax on capital gains is 50%. If the capital gains tax is on nominal gains, how much tax does Sally pay on her gain? a. $90 b. $95 c. $100 d. None of the above is correct. |
Ans: C
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170. Sally purchased one share of Stryker stock for $200 in year 1 and sold that share in year 2 for $400. The inflation
rate between year 1 and year 2 was 50%. If the capital gains tax is 50%, what’s Sally’s after tax-real capital gain if the tax is on nominal gains? What is it if the tax is on real gains? a. $0, $50 b. $50, $0 c. $100, $150 d. $100, $150 |
Ans: A
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171. For a given real interest rate, a decrease in the inflation rate would
a. decrease the after-tax real interest rate and so decrease saving. b. decrease the after-tax real interest rate and so increase saving. c. increase the after-tax real interest rate and so decrease saving. d. increase the after-tax real interest rate and so increase saving. |
Ans: D
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172. Which of the following inflation costs matter even if actual inflation and expected inflation are the same?
a. menu costs b. inflation tax c. shoeleather costs d. All of the above are correct. |
Ans: D
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173. Indexing the tax system to take into account the effects of inflation would by itself
a. mean that only real interest earnings are taxed. b. mean an end to taxing capital gains. c. mean an increase in average tax rates. d. All of the above are correct. |
Ans: A
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174. Which of the following is correct? Inflation
a. impedes financial markets in their role of allocating resources. b. reduces the purchasing power of the average consumer. c. generally increases after-tax real interest rates. d. is most costly when anticipated. |
Ans: A
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175. Wealth is redistributed from debtors to creditors when inflation is
a. high, but expected. b. low, but expected. c. unexpectedly high. d. unexpectedly low. |
Ans: D
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176. Wealth is distributed from creditors to debtors when inflation is
a. high, whether it is expected or not. b. low, whether it is expected or not. c. unexpectedly high. d. unexpectedly low. |
Ans: C
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177. If the economy unexpectedly went from inflation to deflation,
a. both debtors and creditors would all have reduced real wealth. b. both debtors and creditors would all have increased real wealth. c. debtors would gain at the expense of creditors. d. creditors would gain at the expense of debtors. |
Ans: D
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178. If inflation is higher than expected,
a. creditors receive a lower real interest rate than they had anticipated. b. creditors pay a lower real interest rate than they had anticipated. c. debtors receive a higher real interest rate than they had anticipated. d. debtors pay a higher real interest rate than they had anticipated. |
Ans: A
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179. Mary takes out a fixed interest rate loan and then inflation rises more than expected. The real interest rate she pays
is a. higher than she’d expected, and the real value of the loan rises. b. higher than she’d expected, and the real value of the loan falls. c. lower than she’d expected, and the real value of the loan rises. d. lower then she’d expected, and the real value of the loan falls. |
Ans: D
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180. Marta lends money at a fixed interest rate and then inflation rises more than expected. The real interest rate she
earns is a. higher than she’d expected, and the real value of the loan rises. b. higher than she’d expected, and the real value of the loan falls. c. lower than she’d expected, and the real value of the loan rises. d. lower then she’d expected, and the real value of the loan falls. |
Ans: D
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181. High and unexpected inflation has a greater cost
a. for those who borrow than those who save. b. for those who hold a little money than for those who hold a lot of money. c. for those whose wages increase by as much as inflation, than those who are paid a fixed nominal wage. d. for savers in high income tax brackets than for savers in low income tax brackets. |
Ans: D
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182. High and unexpected inflation has a greater cost
a. for those who save than those who borrow. b. for those who hold a little money than for those who hold a lot of money. c. for those whose wages increase by as much as inflation, than those who are paid a fixed nominal wage. d. for savers in low income tax brackets than for savers in high income tax brackets. |
Ans: A
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183. Between 1880 and 1886 prices that were
a. lower than expected transferred wealth from creditors to debtors. b. lower than expected transferred wealth from debtors to creditors. c. higher than expected transferred wealth from creditors to debtors. d. higher than expected transferred wealth from debtors to creditors. |
Ans: B
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184. In 1898, prospectors on the Klondike River discovered gold. This discovery caused an unexpected price level
a. decrease that benefited creditors at the expense of debtors. b. decrease that benefited debtors at the expense of creditors. c. increase that benefited creditors at the expense of debtors. d. increase that benefited debtors at the expense of creditors. |
Ans: D
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185. Which of the following is accurate?
a. Monetary policy is neutral in both the short run and the long run. b. Though monetary policy is neutral in the long run, it may have effects on real variables in the short run. c. Monetary policy has profound effects on real variables in both the short run and the long run. d. Monetary policy has profound effects on real variables in the long run, but is neutral in the short run. |
Ans: B
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1. U.S. prices rose at an average annual rate of about 4 percent over the last 70 years.
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true
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2. The United States has never had deflation.
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false
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3. In the 1990s, U.S. prices rose at about the same rate as in the 1970s.
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false
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4. The quantity theory of money can explain hyperinflations but not moderate inflation.
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false
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5. If P represents the price of goods and services measured in money, then 1/P is the value of money measured in terms of goods and services.
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true
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6. When the value of money is on the vertical axis, an increase in the price level shifts money demand to the right.
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false
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7. The money supply curve shifts to the left when the Fed buys government bonds.
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false
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8. When the value of money is on the vertical axis, the money supply curve slopes upward because an increase in the value of money induces banks to create more money.
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false
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9. If the Fed increases the money supply, the equilibrium value of money decreases and the equilibrium price level must increase.
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true
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10. A rising price level eliminates an excess supply of money.
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true
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11. Nominal GDP measures output of final goods and services in physical terms.
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false
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12. The classical dichotomy is useful for analyzing the economy because in the long run nominal variables are heavily influenced by developments in the monetary system, and real variables are not.
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true
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13. The irrelevance of monetary changes for real variables is called monetary neutrality. Most economists accept monetary neutrality as a good description of the economy in the long run, but not the short run.
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true
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14. The quantity theory implies that if output and velocity are constant, then a 50 percent increase in the money supply would lead to less than a 50 percent increase in the price level.
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false
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15. The source of all four classic hyperinflations was high rates of money growth.
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true
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16. In the long run, an increase in the growth rate of the money supply leads to an increase in the real interest rate, but no change in the nominal interest rate.
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false
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17. Inflation induces people to spend more resources maintaining lower money holdings. The costs of doing this are called shoeleather costs.
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true
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18. Inflation distorts savings when the nominal rather than the real interest rate is taxed.
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true
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19. If the Fed were to unexpectedly increase the money supply, creditors would gain at the expense of debtors.
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false
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20. Even though monetary policy is neutral in the short run, it may have profound real effects in the long run.
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false
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1. Why did farmers in the late 1800s dislike deflation?
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Most had large nominal debts. The decrease in the price level meant that they received less for what they produced and so made it harder to pay off the debts whose real value rose as prices fell.
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2. Explain the adjustment process in the money market that creates a change in the price level when the money supply increases
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When the money supply increases, there is an excess supply of money at the original value of money. After the money supply increases, people have more money than they want to hold in their purses, wallets and checking accounts. They use this excess money to buy goods and services or lend it out to other people to buy goods and services. The increase in expenditures causes prices to rise and the value of money to fall. As the value of money falls, the quantity of money people want to hold increases so that the excess supply is eliminated. At the end of this process the money market is in equilibrium at a higher price level and a lower value of money.
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3. Suppose the Fed sells government bonds. Use a graph of the money market to show what this does to the value of money.
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When the Fed sells government bonds, the money supply decreases. This shifts the money supply curve from MS1 to MS2 and makes the value of money increase. Since money is worth more, it takes less to buy goods with it, which means the price level falls.
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4. Using separate graphs, demonstrate what happens to the money supply, money demand, the value of money, and
the price level if: a. the Fed increases the money supply. b. people decide to demand less money at each value of money. |
a. The Fed increases the money supply. When the Fed increases the money supply, the money supply curve shifts right from MS1 to MS2. This shift causes the value of money to fall, so the price level rises.
b. People decide to demand less money at each value of money. Since people want to hold less at each value of money, it follows that the money demand curve will shift to the left from MD1 to MD2. The decrease in money demand results in a lower value of money and so a higher price level. |
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5. According to the classical dichotomy, what changes nominal variables? What changes real variables?
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The classical dichotomy argues that nominal variables are determined primarily by developments in the monetary system such as changes in money demand and supply. Real variables are largely independent of the monetary system and are determined by productivity and real changes in the factor and loanable funds markets.
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6. Suppose that monetary neutrality holds. Of the following variables, which ones do not change when the money
supply increases? a. real interest rates b. inflation c. the price level d. real output e. real wages f. nominal wages |
ANS:
a. real interest rates d. real output e. real wages |
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7. Wages and prices are many times higher today than they were 30 years ago, yet people do not work a lot more hours or buy fewer goods. How can this be?
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Inflation has raised the general price level. An increase in the general price level has no effect on real variables in the long run. Wages are higher, but so are prices. Prices are higher, but so are wages and incomes. In the long run, people change their behavior in response to changes in real variables, not nominal ones.
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8. Identify each of the following as nominal or real variables.
a. the physical output of goods and services b. the overall price level c. the dollar price of apples d. the price of apples relative to the price of oranges e. the unemployment rate f. the amount that shows up on your paycheck after taxes g. the amount of goods you can purchase with the wage you get each hour h. the taxes that you pay the government |
ANS:
a. real variable b. nominal variable c. nominal variable d. real variable e. real variable f. nominal variable g. real variable h. nominal variable |
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9. Define each of the symbols and explain the meaning of M × V = P × Y.
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M is the quantity of money, V is the velocity of money, P is the price level, and Y is the quantity of output. P × Y is nominal GDP. The amount people spend should equal the amount of money in the economy times the average number of times each unit of currency is spent.
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10. What assumptions are necessary to argue that the quantity equation implies that increases in the money supply lead to proportional changes in the price level?
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We must suppose that V is relatively constant and that changes in the money supply have no effect on real output.
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11. What is the inflation tax, and how might it explain the creation of inflation by a central bank?
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The inflation tax refers to the fact that inflation is a tax on money. When prices rise, the value of money currently held is reduced. Hence, when a government raises revenue by printing money, it obtains resources from households by taxing their money holdings through inflation rather than by sending them a tax bill. In countries where governments are unable or unwilling to raise revenues by raising taxes explicitly, the inflation tax may be an alternative source of revenue.
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12. Economists agree that increases in the money supply growth rate increase inflation and that inflation is undesirable.
So why have there been hyperinflations and how have they been ended? |
Typically, the government in countries that had hyperinflation started with high spending, inadequate tax revenue, and limited ability to borrow. Therefore, they turned to the printing presses to pay their bills. Massive and continued
increases in the quantity of money led to hyperinflation, which ended when the governments instituted fiscal reforms eliminating the need for the inflation tax and subsequently slowed money supply growth. |
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13. Suppose that velocity and output are constant and that the quantity theory and the Fisher effect both hold. What happens to inflation, real interest rates, and nominal interest rates when the money supply growth rate increases from 5 percent to 10 percent?
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Inflation and nominal interest rates each increase by 5 percent points. There is no change in the real interest rate or any other real variable
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14. In recent years Venezuela and Russia have had much higher nominal interest rates than the United States while Japan has had lower nominal interest rates. What would you predict is true about money growth in these other
countries? Why? |
The Fisher effect says that increases in the inflation rate lead to one-to-one increases in nominal interest rates. The quantity theory says that in the long run, inflation increases one-to-one with money supply growth. It follows that differences in nominal interest rates may be due to differences in money supply growth rates. It is reasonable to guess
that much higher nominal interest rates in Venezuela and Russia indicate higher money supply growth while lower interest rates in Japan indicate lower money supply growth. |
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15. The U.S. Treasury Department issues inflation-indexed bonds. What are inflation-indexed bonds and why are they important?
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Inflation-indexed bonds are bonds whose interest and principal payments are adjusted upward for inflation, guaranteeing their real purchasing power in the future. They are important because they provide a safe, inflation-proof asset for savers and they may allow the Treasury to borrow more easily at a lower current cost.
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16. List and define any two of the costs of high inflation
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The costs include:
Shoeleather costs: the resources wasted when inflation induces people to reduce their money holdings. Menu costs: the cost of more frequent price changes at higher inflation rates. Relative Price Variability: because prices change infrequently, higher inflation causes relative prices to vary more. Decisions based on relative prices are then distorted so that resources may not be allocated efficiently. Inflation Induced Tax Distortions: the income tax is not completely indexed for inflation; an increase in nominal income created by inflation results in higher real tax rates that discourage savings. Confusion and Inconvenience: inflation decreases the reliability of the unit of account making it more complicated to differentiate successful and unsuccessful firms thereby impeding the efficient allocation of funds to alternativeinvestments. Unexpected Inflation: inflation decreases the real value of debt thereby transferring wealth from creditors to debtors. |
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17. Inflation distorts relative prices. What does this mean and why does it impose a cost on society?
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Relative prices are the value of one good in terms of other goods. Relative prices ordinarily provide signals concerning the relative scarcity of goods so the goods may be allocated efficiently. Some prices change infrequently, so that when inflation rises, there is greater variation in relative prices. However, changes in relative prices created by inflation do not signal changes in the scarcity of goods and so lead to an inefficient allocation of goods and resources.
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18. Explain how inflation affects savings.
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Inflation discourages savings. Income tax is collected on nominal rather than real interest rates. So an increase in inflation will increase nominal interest rates and taxes. The increase in taxes in turn lowers the real return on savings and so discourages savings.
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19. The U.S. Treasury Department began issuing inflation-indexed bonds in early 1997. Since these assets are virtually risk free, both in terms of default risk and inflation risk, will they quickly replace all other kinds of assets that still entail risk of one kind or another, such as ordinary government bonds or corporate bonds? Explain.
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When individuals are choosing between assets of different kinds, they consider both expected return and risk. Because the new inflation-indexed bonds have very low risk, they will also have very low real interest rates. So they will not replace other, more risky assets that promise to pay a much higher real interest rate. They do, however, offer a way of
escaping some inflation risk, and have become a popular addition to portfolios. |
