Question 1

In the early 1990s, although the U.S. economy was in a recession, Congress rejected the idea of using an expansionary fiscal policy to close the recessionary gap. What was the reason?
A) Policymakers believed that contractionary fiscal policies are more likely to increase employment because inflation would be lower and therefore producers could pay lower wages.
B) Congress recognized that fiscal policy lags rendered fiscal policy ineffective.
C) Congress was concerned that expansionary policies would increase the government budget deficit.
D) Congress believed that the economy's self-correcting mechanism was better able to eliminate output gaps than fiscal policies.

Accepted Answer

Congress was concerned that an expansionary fiscal policy would increase the budget deficit, which would, in turn, lead to higher interest rates and reduced private investment. This concern outweighed any potential benefits from using fiscal policy to close the recessionary gap.

Question 2

In 1979, the CPI rose 13.5%, the highest inflation rate recorded in the twentieth century in the U.S. Public opinion polls in 1979 consistently showed that most people regarded inflation as the leading problem facing the U.S. How did the Fed respond to this situation?
A) It continued to pursue expansionary policies to avert a potential recession caused by rising oil prices.
B) It switched from discretionary monetary policy to a fixed money growth rate rule where the growth rate was under 3%.
C) It pursued contractionary policies with the primary goal of lowering inflation.
D) It adopted a hands-off approach, relying on the economy's self correcting mechanism to lower inflation.

Accepted Answer

The Fed responded to the high inflation rate by pursuing contractionary policies with the primary goal of lowering inflation. This included raising interest rates and reducing the money supply to slow down spending and reduce price pressures. The switch to a fixed money growth rate rule did not occur until the early 1980s, after the Fed had already taken significant steps to combat inflation.

Question 3

Suppose the economy is initially in long-run equilibrium. Now suppose oil prices rise sharply and at the same time, policymakers pursue expansionary monetary and fiscal policies. Which of the following will occur as a result of these two events, given that supply-side effects dominate demand-side effects?
A) The price level will necessarily rise but the effect on output is indeterminate.
B) Real GDP must necessarily fall but the effect on the price level is indeterminate.
C) The price level and real GDP must rise.
D) The price level must rise and real GDP must fall.

Accepted Answer

The sharp rise in oil prices will increase the production cost for firms, shifting the short-run aggregate supply curve to the left, resulting in higher prices and lower output. Expansionary monetary and fiscal policies will increase aggregate demand, which can potentially offset the negative effects of the rise in oil prices. However, given that supply-side effects dominate, the result will be an increase in the price level and a decrease in real GDP. Therefore, the correct answer is D.

Question 4

The close relationship between M2 and nominal GDP in the 1960s and 1970s vanished from the 1980s through 2015. Which of the following contributed to this breakdown?
I. deregulation of the banking industry
II. introduction of new financial products (not included in M2) which allowed people to transfer funds into their checking accounts as and when needed
III. monetary policy lags
A) I and II only
B) II only
C) II and III only
D) I, II, and III

Accepted Answer

Deregulation of the banking industry and the introduction of new financial products allowed for more flexibility in managing funds, weakening the direct relationship between M2 and nominal GDP.

Question 5

In 2009, the Obama administration advocated and Congress passed a massive spending and tax relief package of about $800 billion to stimulate aggregate demand. This policy would be favored by
A) Keynesian economists but not new Keynesian economists.
B) monetarists but not new classical economists.
C) Keynesian and new Keynesian economists.
D) monetarists and new Keynesian economists.

Accepted Answer

Keynesian economists emphasize government intervention to stimulate aggregate demand during economic downturns, while new Keynesian economists focus on the role of imperfect information and price stickiness in causing economic fluctuations. Both schools of thought would support the use of fiscal policy, such as government spending and tax relief, to boost demand and stimulate economic growth.

Question 6

Which of the following is true about new Keynesian economics?
I. It incorporates monetarist ideas about the importance of monetary policy.
II. It incorporates new classical ideas about the importance of aggregate supply.
III. It includes a greater use of microeconomic analysis in macroeconomic analysis than Keynesian economics.
IV. Unlike Keynesian economics, it is opposed to active stabilization policies.
A) I and III only
B) II and III only
C) I, II, and III only
D) I, II, III, and IV

Accepted Answer

New Keynesian economics incorporates monetarist ideas about monetary policy (I) and new classical ideas about aggregate supply (II). It also uses more microeconomic analysis in macroeconomic contexts (III). However, it does not oppose active stabilization policies, unlike what is stated in IV.

Question 7

Use the following to answer questions.
Exhibit: Economic Adjustments 
-(Exhibit: Economic Adjustments) Suppose the economy is at point c. A classical economist would advocate
A) allowing the economy's self-correcting mechanism to move the economy to point a.
B) pursuing expansionary fiscal policies to move the economy to point a.
C) pursuing expansionary fiscal policies to move the economy to point b.
D) pursuing expansionary fiscal policies to move the economy to point d.

Accepted Answer

A classical economist would advocate allowing the economy's self-correcting mechanism to move the economy to point a. This is because they believe that the economy has a natural tendency towards equilibrium, and that any interference with this process would only prolong the adjustment process and lead to further imbalances.

Question 8

In the late 1970s, oil prices rose sharply and at the same time, U.S. policymakers pursued expansionary fiscal and monetary policies. As a result, real GDP stayed at potential output, while the implicit price deflator jumped 8.1%. If the Fed's goal was to reduce inflation, which of the following would also occur?
A) An increase in unemployment and a decrease in interest rates
B) A decrease in unemployment and an increase in interest rates
C) An increase in unemployment and an increase in interest rates
D) A decrease in unemployment and a decrease in interest rates

Accepted Answer

If the Fed's goal is to reduce inflation, it would pursue contractionary monetary policy, which would lead to an increase in interest rates and a decrease in aggregate demand. As a result, inflation would be reduced, but output and employment would also decrease, leading to an increase in unemployment. Therefore, the correct choice is an increase in unemployment and an increase in interest rates (C).

Question 9

Which of the following policies would supply-side economists favor?
A) Lowering taxes to increase work effort and investment tax credits to stimulate investments
B) Lowering taxes to increase work effort and lowering interest rates to stimulate investment
C) Eliminating welfare programs to increase employment and investment tax credits to encourage firms to provide on-the-job training programs
D) Investment tax credits and increasing government spending on applied research to increase productivity

Accepted Answer

The answer of Which of the following policies would supply-side...

Question 10

Use the following to answer questions.
Exhibit: Economic Adjustments 
-(Exhibit: Economic Adjustments) Suppose the economy is at point a. Assume that (1) the public's expectations are completely rational; (2) markets allocate resources instantaneously; and (3) the economy is at its natural level of employment. The theoretical adjustment path resulting from an increase in aggregate demand according to the rational expectations hypothesis is
A) a to c to d.
B) a to b to d.
C) a to d.
D) a to b and back to a.

Accepted Answer

Under rational expectations and instantaneous market adjustments, the economy would move directly from point a to point d, as agents anticipate the effects of increased aggregate demand and adjust their behavior accordingly.

Question 11

Classical economics is based primarily on the works of John Maynard Keynes.

Accepted Answer

Classical economics is not based primarily on the works of John Maynard Keynes, but rather on the ideas of Adam Smith, David Ricardo, and other economists of the 18th and 19th centuries. Keynes is associated with the development of Keynesian economics, which is a departure from classical economic theory.

Question 12

The worst economic downturn in the United States in the twentieth century occurred during the 1930s.

Accepted Answer

The worst economic downturn in the United States in the twentieth century did occur during the 1930s, known as the Great Depression.

Question 13

During the Johnson administration, the U.S. economy was headed toward an inflationary gap. In 1967 President Johnson proposed a temporary 10% increase in personal income taxes. If the Fed wanted to mitigate the effects of this contractionary policy, what could it do?
A) Conduct an open market purchase
B) Conduct an open market sale
C) Raise the reserve requirement ratio
D) Raise the discount rate

Accepted Answer

Conducting an open market purchase would increase the money supply, lower interest rates, and counteract the contractionary effects of the tax increase.

Question 14

New Keynesian economics is built on
I. the Keynesian approach
II. the monetarist approach
III. the new classical approach
A) I only
B) I and II only
C) II and III only
D) I, II, and III

Accepted Answer

New Keynesian economics incorporates elements from the Keynesian approach, the monetarist approach, and the new classical approach, integrating ideas such as price stickiness and rational expectations.

Question 15

Which of the following was not an explanation for the lower volatility of the U.S. economy during the 25-year period that preceded the Great Recession?
A) Improved monetary policy
B) Positive structural change in the economy
C) Increased government spending
D) Good luck

Accepted Answer

Increased government spending was not considered a primary explanation for the lower volatility of the U.S. economy during that period. Improved monetary policy, positive structural changes, and good luck were more commonly cited reasons.

Question 16

Suppose the economy is initially in long-run equilibrium. Now suppose oil prices rise sharply and at the same time, policymakers pursue expansionary monetary and fiscal policies. Which of the following will occur as a result of these two events?
A) The price level will necessarily rise but the effect on output is indeterminate.
B) Real GDP must necessarily fall but the effect on the price level is indeterminate.
C) The price level and real GDP must rise.
D) The price level must rise and real GDP must fall.

Accepted Answer

The combination of a supply shock (rise in oil prices) and expansionary policies can have conflicting effects on the economy. The increase in oil prices will shift the short-run aggregate supply (SRAS) curve to the left, causing both output and prices to rise. However, the expansionary policies will shift the aggregate demand (AD) curve to the right, causing output and prices to rise further. The net effect on output depends on the magnitudes of the two effects - it could either increase, decrease, or stay the same. However, the price level will necessarily rise due to the oil shock. Hence, option A is the correct answer.

Question 17

A recent survey of economists suggested that the _______ approach is the preferred approach to macroeconomic analysis.
A) Keynesian
B) monetarist
C) new classical
D) new Keynesian

Accepted Answer

The survey mentioned in the question suggests that the new Keynesian approach is the preferred approach to macroeconomic analysis among economists.

Question 18

Use the following to answer questions.
Exhibit: Economic Adjustments 
-(Exhibit: Economic Adjustments) Suppose the economy is at point c. A Keynesian economist would advocate
A) allowing the economy's self-correcting mechanism to move the economy to point a.
B) pursuing expansionary fiscal policies to move the economy to point a.
C) pursuing expansionary fiscal policies to move the economy to point b.
D) pursuing expansionary fiscal policies to move the economy to point d.

Accepted Answer

The answer of Use the following to answer questions.
Exhibit: Economic...

Question 19

New Keynesian economics
A) favor stabilization policies that shift the short-run aggregate supply curve to keep the economy operating close to its potential output.
B) advocates policies that increase wage and price flexibility so that the economy can self-correct quickly.
C) stresses the stickiness of prices and the need for activist stabilization policies through the aggregate demand management policies to move the economy to its potential output.
D) stresses the importance of operating at potential output and with shifting the long-run aggregate supply curve to the right.

Accepted Answer

New Keynesian economics stresses the stickiness of prices and wages in the short run and favors the use of stabilization policies to manage aggregate demand and keep the economy operating close to its potential output. This is because they believe that the economy may not always operate at its potential output due to market inefficiencies and that activist policies are needed to counteract these inefficiencies.

Question 20

Use the following to answer questions.
Exhibit: Economic Adjustments 
-(Exhibit: Economic Adjustments) Suppose the economy is at point a. The rational expectations hypothesis suggests that an increase in aggregate demand will result in the economy moving from
A) point a to point d whereas new Keynesian economics suggests that it will move point a to point b.
B) point a to point d whereas new Keynesian economics suggests that it will move point a to point c.
C) point a to point b whereas new Keynesian economics suggests that it will move point a to point d.
D) point a to point c whereas new Keynesian economics suggests that it will move point a to point d.

Accepted Answer

The rational expectations hypothesis suggests that an increase in aggregate demand will lead to an increase in both output and prices, moving the economy from point a to point d. New Keynesian economics, on the other hand, suggests that an increase in aggregate demand will lead to an increase in output but only a small increase in prices, moving the economy from point a to point b.

Quiz 17: A Brief History of Macroeconomic Thought and Policy

In the early 1990s, although the U.S. economy was in a recession, Congress rejected the idea of using an expansionary fiscal policy to close the recessionary gap. What was the reason?

In 1979, the CPI rose 13.5%, the highest inflation rate recorded in the twentieth century in the U.S. Public opinion polls in 1979 consistently showed that most people regarded inflation as the leading problem facing the U.S. How did the Fed respond to this situation?

In 2009, the Obama administration advocated and Congress passed a massive spending and tax relief package of about $800 billion to stimulate aggregate demand. This policy would be favored by

Use the following to answer questions. Exhibit: Economic Adjustments -(Exhibit: Economic Adjustments) Suppose the economy is at point c. A classical economist would advocate

Which of the following policies would supply-side economists favor?

Classical economics is based primarily on the works of John Maynard Keynes.

The worst economic downturn in the United States in the twentieth century occurred during the 1930s.

During the Johnson administration, the U.S. economy was headed toward an inflationary gap. In 1967 President Johnson proposed a temporary 10% increase in personal income taxes. If the Fed wanted to mitigate the effects of this contractionary policy, what could it do?

New Keynesian economics is built on I. the Keynesian approach II. the monetarist approach III. the new classical approach

Which of the following was not an explanation for the lower volatility of the U.S. economy during the 25-year period that preceded the Great Recession?

Suppose the economy is initially in long-run equilibrium. Now suppose oil prices rise sharply and at the same time, policymakers pursue expansionary monetary and fiscal policies. Which of the following will occur as a result of these two events?

A recent survey of economists suggested that the _______ approach is the preferred approach to macroeconomic analysis.

Use the following to answer questions. Exhibit: Economic Adjustments -(Exhibit: Economic Adjustments) Suppose the economy is at point c. A Keynesian economist would advocate

New Keynesian economics

Use the following to answer questions. Exhibit: Economic Adjustments -(Exhibit: Economic Adjustments) Suppose the economy is at point a. The rational expectations hypothesis suggests that an increase in aggregate demand will result in the economy moving from