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

Question 1

For the U.S.economy,the most important reason for the downward slope of the aggregate-demand curve is the interest-rate effect.

Answer 1

True

Question 2

For the most part,fiscal policy affects the economy in the short run while monetary policy primarily matters in the long run.

Answer 2

False

Question 3

Stock prices often rise when the Fed raises interest rates.

Answer 3

False

Question 4

When the Fed increases the money supply,the interest rate decreases.This decrease in the interest rate increases consumption and investment demand,so the aggregate-demand curve shifts to the right.

Question 5

When the Fed announces a target for the federal funds rate,it essentially accommodates the day-to-day fluctuations in money demand by adjusting the money supply accordingly.

Question 6

An increase in the money supply decreases the equilibrium interest rate and shifts the aggregate-demand curve to the right.

Question 7

If the marginal propensity to consume is 6/7,then the multiplier is 7.

Question 8

According to the theory of liquidity preference,the interest rate adjusts to balance the supply of,and demand for,loanable funds.

Question 9

Both monetary policy and fiscal policy affect aggregate demand.

Question 10

Changes in monetary policy aimed at reducing aggregate demand involve decreasing the money supply or increasing the interest rate.

Question 11

For a country such as the U.S. ,the wealth effect exerts a very important influence on the slope of the aggregate-demand curve,since U.S.wealth is large relative to wealth in most other countries.

Question 12

In liquidity preference theory,an increase in the interest rate,other things the same,decreases the quantity of money demanded,but does not shift the money demand curve.

Question 13

An increase in the price level shifts the money demand curve to the left,causing interest rates to increase.

Question 14

If the marginal propensity to consume is 4/5,then a decrease in government spending of $1 billion decreases the demand for goods and services by $5 billion.

Question 15

If the inflation rate is zero,then the nominal and real interest rate are the same.

Question 16

The multiplier is computed as MPC / (1 - MPC).

Question 17

The theory of liquidity preference was developed by Irving Fisher.

Question 18

Both the multiplier effect and the investment accelerator tend to make the aggregate-demand curve shift further than it does due to an initial increase in government expenditures.

Question 19

An increase in the money supply shifts the aggregate-supply curve to the right.

Question 20

Other things the same,an increase in the price level causes the real value of the dollar to fall in the market for foreign-currency exchange.

Question 21

Use the money market to explain the interest-rate effect and its relation to the slope of the aggregate demand curve.

Question 22

In principle,the government could increase the money supply or increase government expenditures to try to offset the effects of a wave of pessimism about the future of the economy.

Question 23

A significant lag for monetary policy is the time it takes to for a change in the money supply to change the economy.A significant lag for fiscal policy is the time it takes to pass legislation authorizing it.

Question 24

Suppose that there are no crowding-out effects and the MPC is .9.By how much must the government increase expenditures to shift the aggregate demand curve right by $10 billion?

Question 25

Unemployment insurance and welfare programs work as automatic stabilizers.

Question 26

Permanent tax cuts have a larger impact on consumption spending than temporary ones.

Question 27

There are three factors that help explain the slope of the aggregate demand curve.Which two are less important? Why are they less important?

Question 28

An implication of the Employment Act of 1946 is that the government should respond to changes in the private economy to stabilize aggregate demand.

Question 29

Explain the logic according to liquidity preference theory by which an increase in the money supply changes the aggregate demand curve.

Question 30

Suppose that the government increases expenditures by $150 billion while increasing taxes by $150 billion.Suppose that the MPC is .80 and that there are no crowding out or accelerator effects.What is the combined effects of these changes? Why is the combined change not equal to zero?

Question 31

How does a reduction in the money supply by the Fed make owning stocks less attractive?

Question 32

During recessions,the government tends to run a budget deficit.

Question 33

The main criticism of those who doubt the ability of the government to respond in a useful way to the business cycle is that the theory by which money and government expenditures change output is flawed.

Question 34

Suppose that the government spends more on a missile defense program.What does this do to aggregate demand? How is you answer affected by the presence of the multiplier,crowding-out,taxes,and investment-accelerator effects?

Question 35

During recessions,unemployment insurance payments tend to rise.

Question 36

Depending on the size of the multiplier and crowding-out effects,the rightward shift in aggregate demand from a tax cut could be larger or smaller than the tax cut.

Question 37

What is the difference between monetary policy and fiscal policy?

Question 38

Explain why the interest rate is the opportunity cost of holding currency.What is the benefit of holding currency?

Question 39

Some economists,called supply-siders,argue that changes in the money supply exert a strong influence on aggregate supply.

Question 40

Describe the process in the money market by which the interest rate reaches its equilibrium value if it starts above equilibrium.

Question 41

Fiscal policy affects the economy

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

Question 42

On the graph that depicts the theory of liquidity preference,

A) the demand-for-money curve is vertical.
B) the supply-of-money curve is vertical.
C) the interest rate is measured along the horizontal axis.
D) the price level is measured along the vertical axis.

Question 43

For the U.S.economy,which of the following is the most important reason for the downward slope of the aggregate-demand curve?

A) the wealth effect
B) the interest-rate effect
C) the exchange-rate effect
D) the real-wage effect

Question 44

The interest-rate effect

A) depends on the idea that increases in interest rates decrease the quantity of goods and services demanded.
B) depends on the idea that increases in interest rates decrease the quantity of goods and services supplied.
C) is responsible for the downward slope of the money-demand curve.
D) is the least important reason,in the case of the United States,for the downward slope of the aggregate-demand curve.

Question 45

According to classical macroeconomic theory,

A) the price level is sticky in the short run and it plays only a minor role in the short-run adjustment process.
B) for any given level of output,the interest rate adjusts to balance the supply of,and demand for,money.
C) output is determined by the supplies of capital and labor and the available production technology.
D) All of the above are correct.

Question 46

According to classical macroeconomic theory,

A) output is determined by the supplies of capital and labor and the available production technology.
B) for any given level of output,the interest rate adjusts to balance the supply of,and demand for,loanable funds.
C) given output and the interest rate,the price level adjusts to balance the supply of,and demand for,money.
D) All of the above are correct.

Question 47

Explain how unemployment insurance acts as an automatic stabilizer.

Question 48

The wealth effect helps explain the slope of the aggregate-demand curve.This effect is

A) relatively important in the United States because expenditures on consumer durables is very responsive to changes in wealth.
B) relatively important in the United States because consumption spending is a large part of GDP.
C) relatively unimportant in the United States because money holdings are a small part of consumer wealth.
D) relatively unimportant because it takes a large change in wealth to cause a significant change in interest rates.

Question 49

Which of the following claims concerning the importance of effects that explain the slope of the U.S.aggregate-demand curve is correct?

A) The exchange-rate effect is relatively small because exports and imports are a small part of real GDP.
B) The interest-rate effect is relatively small because investment spending is not very responsive to interest rate changes.
C) The wealth effect is relatively large because money holdings are a significant portion of most households' wealth.
D) None of the above is correct.

Question 50

With respect to their impact on aggregate demand for the U.S.economy,which of the following represents the correct ordering of the wealth effect,interest-rate effect,and exchange-rate effect from most important to least important?

A) wealth effect,exchange-rate effect,interest-rate effect
B) exchange-rate effect,interest-rate effect,wealth effect
C) interest-rate effect,wealth effect,exchange-rate effect
D) interest-rate effect,exchange-rate effect,wealth effect

Question 51

Which of the following is likely more important for explaining the slope of the aggregate-demand curve of a small economy than it is for the United States?

A) the wealth effect
B) the interest-rate effect
C) the exchange-rate effect
D) the real-wage effect

Question 52

The interest-rate effect

A) depends on the idea that increases in interest rates increase the quantity of money demanded.
B) depends on the idea that increases in interest rates increase the quantity of money supplied.
C) is the most important reason,in the case of the United States,for the downward slope of the aggregate-demand curve.
D) is the least important reason,in the case of the United States,for the downward slope of the aggregate-demand curve.

Question 53

According to John Maynard Keynes,

A) the demand for money in a country is determined entirely by that nation's central bank.
B) the supply of money in a country is determined by the overall wealth of the citizens of that country.
C) the interest rate adjusts to balance the supply of,and demand for,money.
D) the interest rate adjusts to balance the supply of,and demand for,goods and services.

Question 54

According to the theory of liquidity preference,

A) if the interest rate is below the equilibrium level,then the quantity of money people want to hold is less than the quantity of money the Fed has created.
B) if the interest rate is above the equilibrium level,then the quantity of money people want to hold is greater than the quantity of money the Fed has created.
C) the demand for money is represented by a downward-sloping line on a supply-and-demand graph.
D) All of the above are correct.

Question 55

The wealth effect stems from the idea that a higher price level

A) increases the real value of households' money holdings.
B) decreases the real value of households' money holdings.
C) increases the real value of the domestic currency in foreign-exchange markets.
D) decreases the real value of the domestic currency in foreign-exchange markets.

Question 56

Suppose that consumers become pessimistic about the future health of the economy.What will happen to aggregate demand and to output? What might the president and Congress have to do to keep output stable?

Question 57

According to the liquidity preference theory,an increase in the overall price level of 10 percent

A) increases the equilibrium interest rate,which in turn decreases the quantity of goods and services demanded.
B) decreases the equilibrium interest rate,which in turn increases the quantity of goods and services demanded.
C) increases the quantity of money supplied by 10 percent,leaving the interest rate and the quantity of goods and services demanded unchanged.
D) decreases the quantity of money demanded by 10 percent,leaving the interest rate and the quantity of goods and services demanded unchanged.

Question 58

Shifts in the aggregate-demand curve can cause fluctuations in

A) neither the level of output nor the level of prices.
B) the level of output,but not in the level of prices.
C) the level of prices,but not in the level of output.
D) the level of output and in the level of prices.

Question 59

Which particular interest rate(s)do we attempt to explain using the theory of liquidity preference?

A) only the nominal interest rate
B) both the nominal interest rate and the real interest rate
C) only the interest rate on long-term bonds
D) only the interest rate on short-term government bonds

Question 60

For the U.S.economy,which of the following helps explain the slope of the aggregate-demand curve?

A) An increase in the price level decreases the interest rate.
B) An increase in the price level increases the interest rate.
C) An increase in the money supply decreases the interest rate.
D) An increase in the money supply increases the interest rate.

Question 61

According to liquidity preference theory,the money-supply curve is

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

Question 62

In recent years,the Federal Reserve has conducted policy by setting a target for the

A) size of the money supply.
B) growth rate of the money supply.
C) federal funds rate.
D) discount rate.

Question 63

Monetary policy

A) must be described in terms of interest-rate targets.
B) must be described in terms of money-supply targets.
C) can be described either in terms of the money supply or in terms of the interest rate.
D) cannot be accurately described in terms of the interest rate or in terms of the money supply.

Question 64

If expected inflation is constant,then when the nominal interest rate falls,the real interest rate

A) falls by more than the change in the nominal interest rate.
B) falls by the change in the nominal interest rate.
C) rises by the change in the nominal interest rate.
D) rises by more than the change in the nominal interest rate.

Question 65

The theory of liquidity preference assumes that the nominal supply of money is determined by the

A) level of real output only.
B) interest rate only.
C) level of real output and by the interest rate.
D) Federal Reserve.

Question 66

According to the theory of liquidity preference,the money supply

A) and money demand are positively related to the interest rate.
B) and money demand are negatively related to the interest rate.
C) is negatively related to the interest rate while money demand is positively related to the interest rate.
D) is independent of the interest rate,while money demand is negatively related to the interest rate.

Question 67

The theory of liquidity preference is most helpful in understanding

A) the wealth effect.
B) the exchange-rate effect.
C) the interest-rate effect.
D) misperceptions theory.

Question 68

Liquidity preference theory is most relevant to the

A) short run and supposes that the price level adjusts to bring money supply and money demand into balance.
B) short run and supposes that the interest rate adjusts to bring money supply and money demand into balance.
C) long run and supposes that the price level adjusts to bring money supply and money demand into balance.
D) long run and supposes that the interest rate adjusts to bring money supply and money demand into balance.

Question 69

According to liquidity preference theory,the money-supply curve would shift if the Fed

A) engaged in open-market transactions.
B) changed the discount rate.
C) changed the reserve requirement.
D) did any of the above.

Question 70

People choose to hold a smaller quantity of money if

A) the interest rate rises,which causes the opportunity cost of holding money to rise.
B) the interest rate falls,which causes the opportunity cost of holding money to rise.
C) the interest rate rises,which causes the opportunity cost of holding money to fall.
D) the interest rate falls,which causes the opportunity cost of holding money to fall.

Question 71

Liquidity preference refers directly to Keynes' theory concerning

A) the effects of changes in money demand and supply on interest rates.
B) the effects of changes in money demand and supply on exchange rates.
C) the effects of wealth on expenditures.
D) the difference between temporary and permanent changes in income.

Question 72

If expected inflation is constant,then when the nominal interest rate increases,the real interest rate

A) increases by more than the change in the nominal interest rate.
B) increases by the change in the nominal interest rate.
C) decreases by the change in the nominal interest rate.
D) decreases by more than the change in the nominal interest rate.

Question 73

Which of the following would not be an expected response from a decrease in the price level and so help to explain the slope of the aggregate-demand curve?

A) When interest rates fall,Sleepwell Hotels decides to build some new hotels.
B) The exchange rate falls,so French restaurants in Paris buy more Iowa pork.
C) Janet feels wealthier because of the price-level decrease and so she decides to remodel her bathroom.
D) With prices down and wages fixed by contract,Millio's Frozen Pizzas decides to lay off workers.

Question 74

According to liquidity preference theory,the money-supply curve would shift rightward

A) if the money demand curve shifted right.
B) if the Federal Reserve chose to increase money supply.
C) if the interest rate increased.
D) All of the above are correct.

Question 75

According to liquidity preference theory,equilibrium in the money market is achieved by adjustments in

A) the price level.
B) the interest rate.
C) the exchange rate.
D) real wealth.

Question 76

Which of the following is not a reason the aggregate-demand curve slopes downward? As the price level increases,

A) firms may believe the relative price of their output has risen.
B) real wealth declines.
C) the interest rate increases.
D) the exchange rate increases.

Question 77

If expected inflation is constant and the nominal interest rate increases by 2 percentage points,then the real interest rate

A) increases by 2 percentage points.
B) increases,but by less than 2 percentage points.
C) decreases,but by less than 2 percentage points.
D) decreases by 2 percentage points.

Question 78

While a television news reporter might state that "Today the Fed lowered the federal funds rate from 5.5 percent to 5.25 percent," a more precise account of the Fed's action would be as follows:

A) "Today the Fed told its bond traders to conduct open-market operations in such a way that the equilibrium federal funds rate would decrease to 5.25 percent."
B) "Today the Fed lowered the discount rate by a quarter of a percentage point,and this action will force the federal funds rate to drop by the same amount."
C) "Today the Fed took steps to decrease the money supply by an amount that is sufficient to decrease the federal funds rate to 5.25 percent."
D) "Today the Fed took a step toward contracting aggregate demand,and this was done by lowering the federal funds rate to 5.25 percent."

Question 79

In the graph of the money market,the money supply curve is

A) vertical.It shifts rightward if the Fed buys bonds.
B) vertical.It shifts rightward if the Fed sells bonds.
C) upward sloping.It shifts rightward if the Fed buys bonds.
D) upward sloping.It shifts rightward if the Fed sells bonds.

Question 80

Using the liquidity-preference model,when the Federal Reserve increases the money supply,

A) the equilibrium interest rate decreases.
B) the aggregate-demand curve shifts to the left.
C) the quantity of goods and services demanded is unchanged for a given price level.
D) the long-run aggregate-supply curve shifts to the right.