Deck 12: Aggregate Supply and the Short-Run Tradeoff Between Inflation and Unemployment

Question 1

According to the imperfect-information model, in countries in which there is a great deal of variability of prices:

A)the response of output to unexpected changes in prices will be relatively large.
B)the response of output to unexpected changes in prices will be relatively small.
C)output will respond negatively to an unexpected rise in prices.
D)output will not respond to an unexpected change in prices.

Answer 1

the response of output to unexpected changes in prices will be relatively small.

Question 2

According to the sticky-price model, deviations of output from the natural level are deviations of the price level from the expected price level.

A)positively associated with
B)negatively associated with
C)not related to
D)equal to

Answer 2

positively associated with

Question 3

The short-run aggregate supply curve is drawn for a given:

A)output level.
B)price level.
C)expected price level.
D)level of aggregate demand.

Answer 3

expected price level.

Question 4

Some firms do not instantly adjust the prices they charge in response to changes in demand for all of the following reasons except:

A)it is costly to alter prices.
B)they do not want to annoy their frequent customers.
C)prices do not adjust when there is perfect competition.
D)some prices are set by long-term contracts between firms and customers.

Question 5

Both models of aggregate supply discussed in Chapter 12 imply that if the price level is lower than expected, then output natural rate of output.

A)exceeds the
B)falls below the
C)equals the
D)moves to a different

Question 6

According to the imperfect-information model, when the price level falls but the producer did not expect it to fall, the producer:

A)increases production.
B)does not change production.
C)decreases production.
D)hires more workers.

Question 7

According to the sticky-price model, output will be at the natural level if:

A)firms expect a high price level and the demand for goods is high.
B)the proportion of firms with flexible prices equals the proportion of firms with sticky prices.
C)the price level equals the expected price level.
D)expectations are formed adaptively, but not if expectations are formed rationally.

Question 8

Both models of aggregate supply discussed in Chapter 12 imply that if the price level is higher than expected, then output natural rate of output.

A)exceeds the
B)falls below the
C)equals the
D)moves to a different

Question 9

According to the sticky-price model, other things being equal, the greater the proportion, s, of firms that follow the sticky-price rule, the the in output in response to an unexpected price increase.

A)greater; increase
B)smaller; increase
C)greater; decrease
D)smaller; decrease

Question 10

In the sticky-price model, the relationship between output and the price level depends on:

A)the proportion of firms with flexible prices.
B)the target real wage rate.
C)the target nominal wage rate.
D)the implicit agreements between workers and firms.

Question 11

Each of the two models of short-run aggregate supply is based on some market imperfection. In the sticky-price model, the imperfection is that:

A)some firms do not adjust their prices instantly to changes in demand.
B)expectations are formed adaptively rather than rationally.
C)firms confuse changes in the overall level of prices with changes in relative prices.
D)the real wage adjusts to bring labor supply and labor demand into equilibrium.

Question 12

According to the imperfect-information model, when the price level is greater than the expected price level, output will the natural level of output

A)be greater than
B)be less than
C)equal to
D)shift the

Question 13

According to the sticky-price model:

A)all firms announce their prices in advance.
B)all firms set their prices in accord with observed prices and output.
C)some firms set their prices according to the aggregate supply equation.
D)some firms announce their prices in advance, and some firms set their prices in accord with observed prices and output.

Question 14

Based on the sticky-price model, the short-run aggregate supply curve will be steeper, the greater the:

A)target nominal-wage rate.
B)target real-wage rate.
C)proportion of firms with flexible prices.
D)proportion of firms with sticky prices.

Question 15

According to the imperfect-information model, when the price level rises and the producer expects the price level to rise, the producer:

A)increases production.
B)does not change production.
C)decreases production.
D)hires more workers.

Question 16

After examining international data, the economist Robert Lucas found that aggregate demand has the biggest effect on output in countries where aggregate demand:

A)and prices are most stable.
B)and prices are most variable.
C)is most stable but prices are most variable.
D)is most variable but prices are most stable.

Question 17

The higher the average rate of inflation, the more frequently firms must adjust their prices, which implies that a high rate of inflation:

A)has no effect on the slope of the short-run aggregate supply curve.
B)should make the short-run aggregate supply curve flatter.
C)makes the short-run aggregate supply curve steeper.
D)causes prices to be sticky.

Question 18

The imperfect-information model bases the difference in the short-run and long-run aggregate supply curve on:

A)sticky wages.
B)sticky prices.
C)temporary misperceptions about prices.
D)procyclical real wages.

Question 19

The imperfect-information model assumes that producers find it difficult to distinguish between changes in:

A)real wages and nominal wages.
B)the overall level of prices and relative prices.
C)the overall level of prices and the expected level of prices.
D)cost-push inflation and demand-pull inflation.

Question 20

Each of the two models of short-run aggregate supply is based on some market imperfection. In the imperfect- information model, the imperfection is that:

A)some firms do not adjust their prices instantly to changes in demand.
B)contracts and arrangements may prevent nominal wages from adjusting rapidly to changing economic conditions.
C)firms confuse changes in the overall level of prices with changes in relative prices.
D)the real wage adjusts to bring labor supply and labor demand into equilibrium.

Question 21

The classical dichotomy breaks down for a Phillips curve, which shows the relationship between a nominal variable, , and a real variable, .

A)output; prices
B)money; output
C)inflation; unemployment
D)unemployment; inflation

Question 22

If the short-run aggregate supply curve is steep, the Phillips curve will be:

A)flat.
B)steep.
C)backward-bending.
D)unrelated to the slope of the short-run aggregate supply curve.

Question 23

Based on the Phillips curve, unexpected movements in inflation are related to and based on the short-run aggregate supply curve, unexpected movements in the price level are related to .

A)sticky wages; sticky prices
B)sticky prices; sticky wages
C)output; unemployment
D)unemployment; output

Question 24

The Phillips curve expresses a short-run link:

A)among nominal variables.
B)among real variables.
C)among unexpected variables.
D)between nominal and real variables.

Question 25

When adaptive expectations are used to model inflation expectations in the Phillips curve, then the natural rate of unemployment is called the rate of unemployment.

A)structural
B)cyclical
C)short-run aggregate supply
D)nonaccelerating inflation

Question 26

The Phillips curve shows a relationship between inflation and unemployment, and the short-run aggregate supply curve shows a relationship between the price level and output.

A)positive; positive
B)positive; negative
C)negative; negative
D)negative; positive

Question 27

According to the Phillips curve, other things being equal, inflation depends positively on all of the following except:

A)expected inflation.
B)the unemployment rate.
C)the natural unemployment rate.
D)a supply shock, if one occurs.

Question 28

The relationship between short-run aggregate supply curves and Phillips curves is that there:

A)is no relationship between short-run aggregate supply curves and Phillips curves.
B)are several short-run aggregate supply curves for each Phillips curves.
C)are several Phillips curves for each short-run aggregate supply curve.
D)is exactly one Phillips curve corresponding to each short-run aggregate supply curve.

Question 29

The NAIRU is the:

A)North American institutional rate of unemployment.
B)natural aggregate investment return on utilization.
C)nonaccelerating inflation rate of unemployment.
D)normal American inelastic rate of unemployment.

Question 30

The model of aggregate demand and aggregate supply is consistent with short-run monetary and long-run monetary .

A)neutrality; neutrality
B)nonneutrality; nonneutrality
C)neutrality; nonneutrality
D)nonneutrality; neutrality

Question 31

Along an aggregate supply curve, if the level of output is less than the natural level of output, then the price level is:

A)greater than the expected price level.
B)less than the expected price level.
C)equal to the natural price level.
D)stuck at the existing price level.

Question 32

Which of the following will shift the aggregate supply curve up to the left?

A)an increase in the price level.
B)a decrease in the level of output.
C)an increase in the expected price level.
D)a decrease in the price level.

Question 33

Inflation inertia is represented in the aggregate supply and aggregate demand model by continuing upward shifts in the:

A)aggregate demand curve.
B)short-run aggregate supply curve.
C)long-run aggregate supply curve.
D)aggregate demand and short-run aggregate supply curves.

Question 34

If the equation for a country's Phillips curve is π = .02 - .8(u - .05), where π is the rate of inflation and u is the unemployment rate, what is the short-run inflation rate when unemployment is 4 percent (.04)?

A)above 2 percent (.02)
B)below 2 percent (.02)
C)2 percent (.02)
D)-2 percent (-.02)

Question 35

In the short-run if the price level is greater than the expected price level, then in the long run the aggregate:

A)demand curve will shift leftward.
B)demand curve will shift rightward.
C)supply curve will shift upward.
D)supply curve will shift downward.

Question 36

Along a short-run aggregate supply curve, output is related to unexpected movements in the . Along a Phillips curve, unemployment is related to unexpected movements in the .

A)price level; inflation rate
B)rate; price level
C)unemployment rate; price level
D)price level; level of output

Question 37

The assumption of adaptive expectations for inflation means that people will form their expectations of inflation by:

A)taking all information into account using the best economic model available.
B)asking the opinions of experts.
C)basing their opinions on recently observed inflation.
D)flipping a coin.

Question 38

The Phillips curve depends on all of the following forces except:

A)the current exchange rate.
B)expected inflation.
C)the deviation of unemployment from its natural rate.
D)supply shocks.

Question 39

Starting from the natural level of output, an unexpected monetary contraction will cause output and the price level to in the short run, and in the long run the expected price level will , causing the level of output to return to the natural level.

A)increase; increase
B)increase; decrease
C)decrease; decrease
D)decrease; increase

Question 40

Along any aggregate supply curve, there is only one:

A)unemployment level.
B)expected price level.
C)inflation level.
D)output level.

Question 41

In the case of cost-push inflation, other things being equal:

A)both the inflation rate and the unemployment rate rise at the same time.
B)the unemployment rate rises but the inflation rate falls.
C)the inflation rate rises but the unemployment rate falls.
D)both the inflation rate and the unemployment rate fall.

Question 42

Each of the following phenomena hinders the precise estimation of the natural rate of unemployment except:

A)supply shocks such as oil price increases.
B)demographic changes such as the aging baby boom.
C)policy changes such as minimum wage increases.
D)introduction of new products such as DVD players.

Question 43

In the 1960s, in the United States:

A)both the inflation rate and the unemployment rate rose at the same time.
B)the unemployment rate rose but the inflation rate fell.
C)the inflation rate rose but the unemployment rate fell.
D)both the inflation rate and the unemployment rate fell.

Question 44

The tradeoff between inflation and unemployment does not exist in the long run because people will adjust their expectations so that expected inflation:

A)exceeds the inflation rate.
B)equals the inflation rate.
C)is below the inflation rate.
D)equals the inflation rate of the previous year.

Question 45

The short-run Phillips curve:

A)shifts upward if expected inflation increases.
B)shifts upward if expected inflation decreases.
C)shifts downward if expected inflation increases.
D)is vertical.

Question 46

To illustrate inflation inertia in an aggregate demand-aggregate supply model, the short-run aggregate supply curve shifts upward because of increases in , and the aggregate demand curve shifts upward because of increases in .

A)the expected price level; the money supply
B)the money supply; the expected price level
C)output; the price level
D)the price level; output

Question 47

Cost-push inflation is the result of:

A)high aggregate demand.
B)low aggregate demand.
C)favorable supply shocks.
D)adverse supply shocks.

Question 48

The most prominent feature of the U.S. economy in the 1980s was:

A)cost-push inflation.
B)cost-push deflation.
C)demand-pull inflation.
D)demand-pull deflation.

Question 49

The percentage of a year's real GDP that must be foregone to reduce inflation by 1 percentage point is called the:

A)NAIRU.
B)short-run Phillips curve.
C)sacrifice ratio.
D)Okun's law.

Question 50

Economists are able to estimate the natural rate of unemployment in the United States:

A)very precisely.
B)in a 95 percent confidence interval of 2 to 3 percentage points.
C)in a 95 percent confidence interval of 10 to 20 percentage points.
D)only in years when there are no supply shocks.

Question 51

Inflation inertia refers to the idea that inflation:

A)is always present in economies.
B)keeps on going unless something acts to stop it.
C)cannot be reduced unless unemployment is increased.
D)can be generated by either demand-pull or cost-push forces.

Question 52

An economy must sacrifice 12 percent of GDP to reduce inflation. Which of the following plans represents the "cold turkey" solution to inflation?

A)Reduce output by 1 percent for 12 years.
B)Reduce output by 2 percent for 6 years.
C)Reduce output by 4 percent for 3 years.
D)Reduce output by 12 percent for 1 year.

Question 53

Assume that the sacrifice ratio for an economy is 4. If the central bank wishes to reduce inflation from 10 percent to 5 percent, this will cost the economy percent of one year's GDP.

A)4
B)5
C)20
D)40

Question 54

The Phillips curve analysis described in Chapter 12 implies that there is a negative tradeoff between inflation and unemployment in:

A)both the short run and long run.
B)in the short run only.
C)in the long run only.
D)in neither the short run nor the long run.

Question 55

In the case of demand-pull inflation, other things being equal:

A)both the inflation rate and the unemployment rate rise at the same time.
B)the unemployment rate rises but the inflation rate falls.
C)the inflation rate rises but the unemployment rate falls.
D)both the inflation rate and the unemployment rate fall.

Question 56

The most prominent feature of the U.S. economy in the 1970s was:

A)cost-push deflation.
B)cost-push inflation.
C)demand deflation.
D)demand inflation.

Question 57

Demand-pull inflation is the result of:

A)high aggregate demand.
B)low aggregate demand.
C)favorable supply shocks.
D)adverse supply shocks.

Question 58

The assumption of rational expectations for inflation means that people will form their expectations of inflation by:

A)optimally using all available information, including information about current policies, to forecast the future.
B)asking the opinions of the best experts.
C)subscribing to the forecasting service that uses the best econometric model.
D)basing their opinions on recently observed inflation.

Question 59

Analysis of the short-run Phillips curve suggests that policymakers who want to reduce unemployment in the short run should aggregate demand at a cost of generating inflation.

A)increase; higher
B)increase; lower
C)decrease; higher
D)decrease; lower

Question 60

The sacrifice ratio measures the:

A)number of percentage points of the money supply that must be reduced to reduce inflation by 1 percentage point.
B)extra taxes that must be paid to balance the budget.
C)number of months of real gross domestic product (GDP) that must be foregone to reduce the inflation rate by 1 percentage point.
D)percentage of a year's real gross domestic product (GDP) that must be foregone to reduce inflation by 1 percentage point.

Question 61

The hypothesis that hysteresis may play an important role in macroeconomics implies, among other things, that:

A)the history of economic thought is important to macroeconomics.
B)workers get hysterical during long depressions.
C)hysteresis lowers the sacrifice ratio.
D)the natural rate of unemployment may increase if unemployment is high for a long period of time.

Question 62

In the sticky-price model, if no firms have flexible prices, the short-run aggregate supply schedule will:

A)be vertical.
B)be steeper than it would be if some firms had flexible prices.
C)slope upward to the right.
D)be horizontal.

Question 63

Each of the following conditions will tend to reduce the sacrifice ratio except when:

A)workers and firms set wages and prices based on rational expectations.
B)policymakers make credible commitments to policy changes.
C)announcements of policy changes are made before workers and firms have formed expectations.
D)the concept of hysteresis accurately describes the impact of history on the natural rate of unemployment.

Question 64

According to the natural-rate hypothesis, output will be at the natural rate:

A)if inflation exceeds expected inflation.
B)if inflation falls below expected inflation.
C)in the long run.
D)if aggregate demand affects output in the long run.

Question 65

The firms and workers in Alpha form expectations adaptively. The firms and workers in Omega form expectations rationally. Their otherwise identical economies are initially in equilibrium at the natural level of output with 10 percent inflation. The central banks of both Alpha and Omega make credible commitments to reduce the growth rates of money until they achieve 2 percent inflation. Compare and contrast the adjustment process to the new equilibrium at the lower rate of inflation in both countries.

Question 66

If only unanticipated changes in the money supply affect real GDP, the public has rational expectations, and everyone has the same information about the state of the economy, then:

A)monetary policy can be used to systematically stabilize output.
B)monetary policy cannot be used to systematically stabilize output.
C)a policy of keeping the money supply constant is optimal.
D)a policy of adjusting the money supply in response to the state of the economy is optimal.

Question 67

Assume that an economy is initially at the natural rate of unemployment.
a. Use a Phillips curve diagram to illustrate graphically how the inflation rate and unemployment rate change both in the short run and in the long run to an unexpected expansionary monetary policy.
b. Use a Phillips curve diagram to illustrate graphically how the inflation rate and unemployment rate change both in the
short run and in the long run to the announcement of a credible plan of expansionary monetary policy when people have rational expectations.

Question 68

Assume that an economy has the Phillips curve π = π -1
- 0)5(u - 0.06). How many percentage point-years of cyclical
Unemployment are needed to reduce inflation by 5 percentage points?

A)20
B)10
C)5
D)2.5

Question 69

Assume that an economy has the Phillips curve π = π -1
- 0)5(u - 0.06). Then the natural rate of unemployment is:

A)0.5.
B)0.12.
C)0.06.
D)0.03.

Question 70

Advocates of the rational expectations approach predict that a credible policy to lower inflation will the sacrifice ratio.

A)raise
B)lower
C)not change
D)sometimes raise and sometimes lower

Question 71

A recession may alter an economy's natural rate of unemployment in all of the following ways except by:

A)changing an unemployed individual's attitude toward work.
B)reducing an unemployed worker's job skills.
C)permanently reducing the money supply.
D)altering the wage-setting process.

Question 72

According to the natural-rate hypothesis, fluctuations in aggregate demand affect output in:

A)both the short run and the long run.
B)only in the short run.
C)only in the long run.
D)in neither the short run nor the long run.

Question 73

Assume that an economy is initially operating at the natural rate of output. Use the model of aggregate demand and aggregate supply (using the upward-sloping short-run aggregate supply curve) to illustrate graphically the short-run and long-run effects on price and output of a reduction in government spending that produces a budget surplus.

Question 74

The idea that the natural rate of unemployment is increased following extended periods of unemployment is called:

A)Okun's law.
B)the cold-turkey approach.
C)the natural-rate hypothesis.
D)hysteresis.

Question 75

If the hypothesis of hysteresis is correct and output is lost even after a period of disinflation, the sacrifice ratio for an economy will:

A)increase.
B)decrease.
C)remain unchanged.
D)be zero.

Question 76

The government can lower inflation with a low sacrifice ratio if the:

A)money supply is reduced slowly.
B)public has adaptive expectations.
C)short-run aggregate supply schedule is relatively flat.
D)public believes that policymakers are committed to reducing inflation.

Question 77

According to the natural-rate hypothesis, the levels of output and unemployment depend on:

A)aggregate demand in the short run, but not in the long run.
B)aggregate demand in the long run, but not in the short run.
C)the natural rate of unemployment in the short run, but the natural rate of inflation in the long run.
D)the natural rate of inflation in the short run, but the natural rate of unemployment in the long run.

Question 78

Assume that an economy has the usual type of Phillips curve except that the natural rate of unemployment in an economy is given by an average of the unemployment rates in the last two years. Then, there is:

A)a long-run tradeoff between inflation and unemployment.
B)no long-run tradeoff between inflation and unemployment.
C)no short-run tradeoff between inflation and unemployment.
D)a sacrifice ratio that is large but not infinite.

Question 79

The estimate of the sacrifice ratio from the Volcker disinflation is approximately:

A)5-6.
B)2.5-3.
C)1-1.5.
D)0-0.5.

Question 80

All of the following are requirements for reducing inflation without causing a recession except:

A)workers and firms must form expectations rationally.
B)the plan must be announced before expectations are formed.
C)the plan must be believed by workers and firms.
D)the government's budget must be balanced.