Part I (50%) - Multiple Choice (2% each). On a scantron form, mark the single best answer. Put your name on the scantron, and turn it in with this exam. You have 50 minutes to complete this exam, and you may use a calculator.
1. At the beginning of the 1980s, a recession occurred soon after two new policy initiatives. One was a high interest rate policy pursued by the Federal Reserve Board, the other an income tax cut introduced by President Reagan. Which one of the following statements about this period is not correct?
a. The recession would not have happened without the high interest rate.2. When there is excess capacity:
b. The tax cut alone would have shifted the aggregate demand curve leftward.
c. The recession would have been worse without the tax cut.
d. The net effect of the two policy initiatives was to shift the aggregate demand curve leftward.
a. an increase in aggregate demand has no effect on output.3. Monetary policy affects aggregate demand through its effect on:
b. a decrease in aggregate supply puts upward pressure on prices.
c. an increase in aggregate demand increases output with little effect on prices.
d. an increases in aggregate supply increases output and reduces the price level.
a. unemployment.4. Monetary policy is controlled by the:
b. interest rates.
c. real wages.
d. the price level.
a. U.S. Treasury Department.5. The oil price shocks of the early 1970s caused:
b. Congress.
c. President.
d. Federal Reserve.
a. aggregate supply to shift to the left.6. In income-expenditure analysis, equilibrium occurs when:
b. aggregate demand to shift to the right.
c. aggregate supply to shift to the right.
d. aggregate demand to shift to the left.
a. aggregate expenditures = consumption + investment + government spending + net exports.7. In income-expenditure analysis, if total inventories are less than planned inventories:
b. gross domestic product = national income.
c. gross national product = net national product.
d. national income = national output = aggregate expenditures.
a. aggregate expenditures exceed national output.8. The marginal propensity to consume is the:
b. the economy is above its equilibrium output.
c. aggregate expenditures are less than national output.
d. aggregate expenditures equal national output.
a. proportion of total disposable income devoted to consumption.9. Let MPC denote the marginal propensity to consume, MPS the marginal propensity to save, and t the tax rate. In a closed economy, the slope of the aggregate consumption function is:
b. amount by which income rises when autonomous consumption rises by one dollar.
c. amount by which disposable income must rise to yield an increase of one dollar in consumption.
d. amount by which consumption increases when disposable income rises by one dollar.
a. (1-t)MPS.10. The introduction of trade into the model of income-expenditure analysis:
b. t(1-MPC).
c. (1-t)MPC.
d. (1-t)(1-MPC).
a. increases the multiplier and makes the aggregate expenditures function flatter.11. If the future-oriented theories of consumption proposed by Milton Friedman and Franco Modigliani arecorrect, a change in income tax that is:
b. decreases the multiplier and makes the aggregate expenditures function flatter.
c. decreases the multiplier and makes the aggregate expenditures function steeper.
d. has no effect on the multiplier or the aggregate expenditures function.
a. temporary will be much less effective in stimulating consumption than is predicted by the Keynesian model.12. According to future-oriented theories of consumption, an important determinant of consumption is:
b. permanent will be much less effective in stimulating consumption than a temporary tax change.
c. temporary will be just as effective in stimulating consumption as the Keynesian model predicts it to be.
d. temporary will be much more effective in stimulating consumption than a permanent tax change.
a. wealth exclusive of human wealth.13. Credit rationing:
b. human capital, but not other forms of wealth.
c. stock, but not other forms of wealth.
d. wealth inclusive of human capital.
a. increases the importance of current income for consumption decisions, and makes unemployment less of a problem than it would otherwise be.14. The measure of the money supply referred to as M2 consists of:
b. increases the importance of current income for consumption decisions, and makes unemployment more of a problem than it would otherwise be.
c. increases the importance of permanent income for consumption decisions, and makes unemployment more of a problem than it would otherwise be.
d. decreases the importance of current income for consumption decisions, and makes unemployment more of a problem than it would otherwise be.
a. currency, coin, traveler's checks, and demand deposits.15. Financial intermediaries:
b. currency, coin, traveler's checks, demand deposits, and savings deposits of less than $100,000.
c. currency, coin, traveler's checks, demand deposits, savings deposits of less than $100,000, certificates of deposit, individual money market mutual funds, and Eurodollars.
d. currency, coin, traveler's checks, demand deposits, all savings deposits, certificates of deposits, all money market mutual funds, and Eurodollars.
a. borrow money from those individuals with savings and lend it to borrowers.16. The Federal Reserve System does all of the following, except which one?
b. borrow money from the government and lend it to members of the public.
c. determine the equilibrium interest rate.
d. insure the deposits of account holders at banks.
a. lend money to member banks17. If there are many commercial banks, the public holds no currency, and the reserve requirement is 20 percent, a new deposit of $500,000 in one commercial bank eventually results in deposits in all banks increasing by:
b. control the money supply
c. set tax rates
d. regulate the banking system
a. $2.5 million.18. If p is the price level, Q is output, and M is the money supply, velocity equals:
b. $2 million.
c. $500,000.
d. $100,000.
a. QM/p.19. Assume that the price level is fixed and there is excess capacity in the economy. Which of the following correctly describes all the steps by which monetary policy influences output?
b. pQM.
c. pQ/M.
d. pM/Q.
a. An increase in the money supply raises the interest rate, increasing investment, which raises aggregate expenditures and output.20. Consider the market for dollars, in which the price is denominated in terms of the foreign currency. A reduction in the U.S. interest rate:
b. An increase in the money supply lowers the interest rate, reducing investment, which lowers aggregate expenditures and output.
c. An increase in the money supply raises the interest rate, reducing investment, which decreases aggregate expenditures and output.
d. An increase in the money supply lowers the interest rate, increasing investment, which raises aggregate expenditures and output.
a. shifts the supply of dollars and the demand for dollars to the right, which results in an indeterminate effect on the price of dollars.21. The opportunity cost of holding money is:
b. shifts the supply of dollars to the right, and the demand for dollars to the left, both of which reduce the price of dollars.
c. shifts the supply of dollars and the demand for dollars to the left, which results in an indeterminate effect on the price of dollars.
d. shifts the supply of dollars to the left, and the demand for dollars to the right, both of which increase the price of dollars.
a. the exchange rate.22. Accommodative monetary policy refers to the practice of:
b. the velocity.
c. the real interest rate
d. the nominal interest rate.
a. altering monetary policy to keep national income constant when fiscal policy would otherwise increase aggregate expenditures, and hence national income.23. Which of the following relates to the issue of lags in monetary and fiscal policy?
b. altering monetary policy to offset any beneficial effect of fiscal policy.
c. altering monetary policy to keep the interest rate constant when fiscal policy increases aggregate expenditures, national income, and money demand.
d. altering monetary policy to increase the exchange rate when a fiscal policy stimulus increases aggregate expenditures, national income, and hence net exports.
a. Monetary policy's effectiveness is delayed while businesses wait to undertake new investments.24. A balanced budget amendment, if enacted, would require government:
b. Governments take time to make decisions about tax and expenditure changes.
c. Exchange rates adjust slowly.
d. a and b.
e. All of the above.
a. to increase spending or reduce taxes, or both, in a recession.25. The full employment deficit:
b. to reduce spending or increase taxes, or both, in a recession.
c. to increase the federal budget deficit in a recession.
d. to reduce spending or increase taxes, or both, in a boom.
a. is the difference between government spending and government revenue, evaluated at full employment.
b. is the extent to which the federal deficit is necessary to ensure full employment.
c. is the difference between the value of imports and the value of exports, evaluated at full employment.
d. is the difference between the number of workers employed when the economy is at full employment, and the actual number of workers employed.
Part II (50%) - Problems and Graphs. Label your graphs carefully,
but don't worry about drawing your graphsto precise scale. Use the back
of the page if necessary, noting where your answer continues.
1. (10%) Use the Aggregate Demand and Supply Model to illustrate the effect of the following two events. Assume that prices are sticky, and the economy is operating at less than its capacity.
a. (5%) The government reduces personal income taxes.2. (25%) Assume that the economy in 1929 could be described by the following equations: consumption expenditures C =7 + 0.8 Yd, where disposable income Yd = Y - T, and taxes T = (1/6) Y, gross private investment I = 16, government purchases G = 11, and net exports equals zero (the economy is closed). (All numbers are in billions of current dollars.)
b. (5%) Government deregulation frees up a significant number of employed workers for more productive purposes, and thus increases the amount that firms can produce.
a. (10%) Solve for the equilibrium level of national output Y*. How much is consumption?3. (8%) Suppose that the Fed decreases the discount rate member banks must pay to borrow from the Fed. Using a supply and demand diagram, show how will this affect the money market. Assuming that the supply of bonds is fixed, show how will this affect the bonds market. How will the interest rate be affected?
b. (5%) What is the Keynesian multiplier in this case?
c. (5%) Suppose that I falls by 15, to 1 by 1933. What is the new level of equilibrium output in 1933?
d. (5%) Show your answers to the above questions using a graph of the Aggregate Expenditures (or Keynesian Cross) Model.
4. (7%) Suppose a firm predicts that a current investment of $10,000 will pay $15,000 back five years from now. What is the present value of this investment if the interest rate is 10%? Should the firm invest? How does your answer change if the interest rate falls to 8%?
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