Deck 34: The Influence of Monetary and Fiscal Policy on Aggregate Demand

Question 1

An increase in money demand will raise the equilibrium interest rate in the money market, holding all things constant.

Answer 1

True

Question 2

In the long run, the interest rate adjusts to balance the supply and demand for money, whereas in the short run, the interest rate adjusts to balance national saving and desired investment.

Answer 2

False

Question 3

The quantity of money demanded is _____ the interest rate.

A)the opportunity cost of
B)independent of
C)positively related to
D)inversely related to

Answer 3

D

Question 4

According to the theory of liquidity preference, the money demand curve is downward sloping, reflecting _____.

A)the opportunity cost holding money
B)the cost of buying goods and services
C)the effect of unforeseen inflation
D)the risk of holding money

Question 5

When the government increases its purchases, the increase in aggregate demand could be more than or less than the increase in government purchases, depending on whether the multiplier effect or the crowding-out effect is larger.

Question 6

Any change in government spending has a multiplier effect on the level of economic activity.

Question 7

According to the RBA's policy guidelines, if the RBA sees rising inflation, it would then increase interest rates.

Question 8

Keynes's theory that the interest rate adjusts to bring money supply and money demand into balance is called:

A)the theory of sticky wages
B)the theory of sticky prices
C)the classical dichotomy theory
D)the theory of liquidity preference

Question 9

The theory of Ricardian equivalence suggests that an increase in public saving will be balanced by an increase in private saving.

Question 10

Personal income tax revenue and transfer payments act as automatic stabilisers because they fluctuate over the course of the business cycle.

Question 11

In the liquidity preference theory, money is the most liquid asset and used as a medium of exchange.

Question 12

At a higher price level, the demand for money increases, the interest rate increases, and the demand for business and residential investment falls.Hence the aggregate-demand curve slopes downward.

Question 13

The multiplier effect suggests that the increase in aggregate demand could be smaller than the increase in government purchases, while the crowding-out effect suggests that the increase in aggregate demand could be larger than the increase in government purchases.

Question 14

The multipler > 1 represents a less than proportionate change on economic activity as a result of government spending.

Question 15

Changes in government spending affect saving and growth in the long run, and aggregate demand and employment in the short run.

Question 16

Like a commodity, the money supply curve is upward sloping, reflecting the fact that the quantity of money supplied raises with the interest rate in the money market.

Question 17

In the long run, the interest rate and inflation rate adjust to accommodate a fixed level of output.In the short run, the interest rate and output adjust to accommodate a predetermined level of prices.

Question 18

The global financial crisis has shown that the Australian government can influence the behaviour of the economy only with fiscal policy.

Question 19

In order to fight recession, the RBA has to raise its inflation target in order to reduce the real interest rate needed to stimulate the aggregate demand.

Question 20

Monetary policy affects the aggregate demand via the Reserve Bank changing its inflation target.

Question 21

The money demand curve shifts to the right if there is _____, causing the equilibrium interest rate to _____.

A)an increase in the price level; rise
B)an increase in the price level; fall
C)a decrease in the price level; rise
D)a decrease in the price level; fall

Question 22

Supply-side economists focus on:

A)how fiscal policy affects aggregate demand
B)how tax-policy affects the incentives to work
C)how fiscal policy affects aggregate supply
D)both A and B
E)both B and C

Question 23

The two macroeconomic effects that make the size of the shift in aggregate demand differ from the change in government purchases are:

A)the multiplier effect and the crowding-out effect
B)the multiplier effect and the Doppler effect
C)the Keynes effect and the crowding-out effect
D)the accelerator effect and the multiplier effect

Question 24

If MPC = 0.9, then the government-purchases multiplier is:

A)9
B)0.9
C)90
D)10
E)1/9

Question 25

Most economists believe that a cut in tax rates:

A)will give people the incentive to work less hours
B)will increase government tax revenue
C)will have only a small effect on the aggregate-supply curve
D)all of the above

Question 26

Assuming that the crowding-out effect is $100 billion and the multiplier effect of an increase in government purchases is $120 billion, then the total effect on aggregate demand will be:

A)an $80 billion increase
B)an $80 billion decrease
C)a $20 billion increase
D)a $20 billion decrease

Question 27

Suppose government purchases increase by $200 billion, that there is no crowding-out effect, and that the marginal propensity to consume is 0.75.What is the total effect of this increase in government purchases?

A)$150 billion
B)$267 billion
C)$800 billion
D)$600 billion

Question 28

An increase in money supply shifts the money supply curve to the _____, _____the equilibrium interest rate in the money market.

A)right; reducing
B)right; raising
C)left; reducing
D)left; raising

Question 29

The money-demand curve is downward-sloping because:

A)people will want to hold less money as the interest rate falls
B)people will want to hold more money as the interest rate falls
C)interest rates rise as the Reserve Bank reduces the quantity of money demanded
D)interest rates fall as the Reserve Bank reduces the supply of money

Question 30

The positive feedback from demand to investment is called:

A)the investment multiplier
B)the investment accelerator
C)the multiplier accelerator
D)the demand accelerator

Question 31

The government-purchases multiplier is defined as:

A)1 - (1/MPC)
B)1/(MPC - 1)
C)1 - (MPC - 1)
D)1/(1 - MPC)

Question 32

Which of the following policies would Keynes have supported when the economy is experiencing unemployment?

A)An open-market purchase
B)A reduction in tax rates
C)An increase in government purchases
D)All of the above

Question 33

The notion that when the government increases its purchases of aeroplanes, the owners and employees of the aeroplane manufacturing companies will also purchase more as their incomes rise, and hence total purchases will increase by more than the initial change in government purchases, is known as the:

A)crowding-out effect
B)Keynesian effect
C)multiplier effect
D)acceleration effect

Question 34

When the government reduces taxes, households' take-home pay:

A)increases, households' saving increases and households' consumption increases
B)decreases, households' saving decreases and households' consumption decreases
C)increases, households' saving is unaffected and households' consumption increases
D)increases, households' saving increases and households' consumption is unaffected

Question 35

Economists agree that:

A)fiscal policy can be used to shift the aggregate-demand curve
B)monetary policy should actively be used to stabilise the economy
C)fiscal policy should actively be used to stabilise the economy
D)all of the above

Question 36

An increase in government purchases of $100 billion will shift the aggregate-demand curve to the:

A)left by more than $100 billion
B)left by more or less than $100 billion
C)right by more than $100 billion
D)right by more or less than $100 billion

Question 37

The RBA can stimulate the economy by _____, all of which shifts the aggregate demand to the _____.

A)increasing the money supply; right
B)increasing the money supply; left
C)decreasing the interest rate; left
D)increasing the interest rate; right

Question 38

For a given fixed price level, an increase in the money supply will lead to:

A)an increase in the interest rate, which in turn decreases the quantity of goods and services demanded
B)an increase in the interest rate, which in turn increases the quantity of goods and services demanded
C)a fall in the interest rate, which in turn increases the quantity of goods and services demanded
D)a fall in the interest rate, which in turn decreases the quantity of goods and services demanded

Question 39

Fiscal policy refers to the idea that changes in:

A)the Reserve Bank of Australia with its money supply mechanisms can affect aggregate demand
B)government purchases and taxing policy can affect aggregate demand
C)the price level affects the equilibrium interest rate
D)the exchange rate affects net exports

Question 40

Assume that the MPC is 0.5.A $100-billion cut in taxes will shift the aggregate-demand curve to the:

A)right by $500 billion
B)right by $250 billion
C)left by $250 billion
D)none of the above

Question 41

The lag problem associated with monetary policy is due to:

A)the fact that firms make investment plans far in advance
B)the political process
C)the time it takes for monetary policy to affect the interest rate
D)none of the above

Question 42

Suppose we observe that an increase in government spending of $10 billion raises the total aggregate demand by $40 billion.If there is no crowding-out effect, what would be the marginal propensity?

A)0.25
B)0.4
C)0.75
D)4

Question 43

The aggregate supply curve is _____ in the short run, but _____ in the long run.

A)upward sloping; vertical
B)upward sloping; horizontal
C)downward sloping; vertical
D)downward sloping; horizontal

Question 44

Which of the following cannot stabilise a booming economy?

A)reducing the interest rate
B)raising the inflation target
C)reducing government purchases
D)raising the income tax rate

Question 45

If the marginal propensity to save is 0.3, then the corresponding marginal propensity to consume must be ____.

A)0.7
B)0
C)1
D)0.5

Question 46

According to the Ricardian equivalence theory, what would happen if the government were to cut taxes without changing its spending?

A)Public and national saving would fall
B)Public and national saving would rise
C)Public and national saving would not change
D)Private saving would rise, public saving would fall, and national saving would be unaffected

Question 47

Assume there is no crowding-out effect.If an increase in government spending of $10 billion raises the total aggregate demand by $50 billion, then the marginal propensity is:

A)0.2
B)0.5
C)5
D)0.8

Question 48

According to classical macroeconomic theory, an increase in aggregate demand will _____ in the long run.

A)only raise the inflation rate
B)increase both output and the inflation rate
C)only reduce the inflation rate
D)decrease both output and the inflation

Question 49

A rise in the inflation target by the RBA through monetary policy, means the:

A)aggregate demand curve shifts to the right
B)aggregate demand curve shifts to the left
C)aggregate supply curve shifts to the right
D)aggregate supply curve shifts to the left

Question 50

An increase in Australia's marginal propensity to import will:

A)have no effect on GDP, because GDP only includes spending in Australia
B)cause an increase in GDP, because Australians have risen their spending
C)cause a decrease in GDP, because some existing spending will demand production overseas instead of in Australia
D)always be bad for the economy

Question 51

A reduction in direct taxes will result in:

A)an increase in output and a little inflation if the economy is near full employment
B)a decrease in inflation and a small increase in output if the economy is near full employment
C)a leftward shift in the AD curve
D)no shift in the AD curve of these

Question 52

If the economy is in a recession, an appropriate combination of monetary and fiscal policies might be to:

A)increase taxes, lower government spending, expand the money supply
B)increase taxes, raise government spending, expand the money supply
C)decrease taxes, raise government spending, expand the money supply
D)decrease taxes, lower government spending, contract the money supply

Question 53

The government reduces taxes by $20 million.Suppose that there is no crowding-out effect, and that the marginal propensity to consume is 0.9.What is the total effect on aggregate demand?

A)$18 million
B)$22 million
C)$180 million
D)$200 million

Question 54

Which of the following is an automatic stabiliser?

A)Interest rate changes
B)Increases in government spending on infrastructure
C)Unemployment benefit payments to the unemployed
D)Reductions in nominal wages as the inflation rates rise

Question 55

Suppose government purchases increase by $100 billion, that there is no crowding-out effect, and that the marginal propensity to consume is 0.9.What is the total effect of this increase in government purchases?

A)$90 billion
B)$111 billion
C)$900 billion
D)$1000 billion

Question 56

In the short run:

A)price level is fixed at some level, the level of output adjusts to balance the supply and demand for money, and the interest rate responds to changes in aggregate demand and aggregate supply
B)level of output is fixed at some level, the price level adjusts to balance the supply and demand for money, and the interest rate responds to changes in aggregate demand and aggregate supply
C)interest rate is fixed at some level, the price level adjusts to balance the supply and demand for money, and the level of output responds to changes in aggregate demand and aggregate supply
D)price level is fixed at some level, the interest rate adjusts to balance the supply and demand for money, and the level of output responds to changes in aggregate demand and aggregate supply

Question 57

If the economy is producing a real output that is less than capacity output, a(n):

A)expansionary monetary policy could be used to decrease aggregate demand and decrease the general price level
B)contractionary monetary policy could be used to increase aggregate demand and increase the general price level
C)contractionary monetary policy could be used to decrease aggregate demand and decrease the general price level
D)expansionary monetary policy could be used to increase aggregate demand and increase the general price level

Question 58

Suppose government purchases increase by $100 billion, that there is no crowding-out effect, and that the marginal propensity to consume is 0.8.What is the total effect of this increase in government purchases?

A)$500 billion
B)$400 billion
C)$125 billion
D)$80 billion

Question 59

If MPC = 0.6, then the government purchases multiplier is:

A)0.4
B)4
C)2.5
D)25

Question 60

Suppose the government reduces taxes by $200 million, that there is no crowding-out effect, and that the marginal propensity to consume is 0.75.What is the total effect on aggregate demand?

A)$150 million
B)$600 million
C)$267 million
D)$800 million

Question 61

Is the effect of an election cycle (every three years) putting at risk long-term structural changes to the economy?

Question 62

If an economy goes into an expansion, then the government's:

A)outlays (e.g.transfer payments) will automatically fall and receipts (e.g.tax revenue) will automatically rise
B)outlays will automatically rise and receipts will automatically fall
C)outlays and receipts will automatically rise
D)outlays and receipts will automatically fall

Question 63

Suppose the government reduces taxes by $20 million, that there is no crowding-out effect, and that the marginal propensity to consume is 0.9.What is the total effect on aggregate demand? What would be the total effect on aggregate demand if the government increased purchases by $20 million?

Question 64

To eliminate a deflationary gap when the MPC is 0.75 and the deflationary gap is $500 million, investment will need to increase by how much?

Question 65

According to _____, net taxes _____ during an economic expansion.

A)automatic stabilisers; rise
B)automatic destabilisers; rise
C)automatic stabilisers; fall
D)automatic destabilisers; fall

Question 66

If an increase in interest rates reduces investment spending by $25m:

A)real GDP will decrease by $25 million
B)GDP will decrease by $25 million
C)GDP will decrease by more than $25 million
D)GDP will decrease by less than $25 million x

Question 67

Why could there be a great deal of frustration for policy makers when the long-term effects of their decisions do not seem to flow through, as they wanted?

Question 68

Define expansionary and contractionary fiscal policy, giving examples of each.

Question 69

What are the key determinants of the interest rate in the short run? What are the key determinants of the interest rate in the long run?

Question 70

What are the impacts of an expansionary fiscal policy on output and the inflation rate in the short run? How about in the long run?

Question 71

Suppose that equilibrium in the money market is described by the equation M = aP/r, where M is the money supply, P is the price level, r is the interest rate and a is a constant.Suppose that investment is described by the equation I = b - kr, where b and k are constants.Using the equation Y = C + I + G (where Y is GDP, C is consumption and G is government spending), show that a higher price level leads to lower GDP.

Question 72

When the economy goes into a recession, the amount of taxes collected by the government falls automatically.Why?

Question 73

Why do people still hold cash in their wallets, despite the fact that they receive no returns compared to storing cash in their bank accounts?