Question 1

Why does inflation increase your tax burden, at least in the short run? I. Inflation bloats stock prices, which leads to a capital gains tax burden. II. The market value of financial assets rises with inflation and the U.S. tax system assesses taxes on such gains, even if the "real" value of such assets remains the same. III. Consumers pay higher sales taxes when the prices of goods and services increase due to inflation.

Accepted Answer

Inflation can increase your tax burden because it can lead to higher capital gains taxes as stock prices rise (I), taxes on nominal gains in financial assets even if their real value hasn't increased (II), and higher sales taxes as the prices of goods and services increase (III).

Question 2

Hyperinflation causes financial intermediation to

Accepted Answer

Hyperinflation leads to a breakdown in financial intermediation as lenders and borrowers lose confidence in the value of the currency, making it difficult to establish appropriate interest rates and evaluate credit risk. This can result in a reduction in the availability of credit and undermine overall economic activity.

Question 3

What happens to workers who contract for cost of living allowances of 10 percent a year when the inflation rate falls to 4 percent?

Accepted Answer

When the inflation rate falls to 4 percent, workers with a 10 percent cost of living allowance become more costly to employ, as their wages increase faster than the inflation rate, potentially leading to job loss.

Question 4

Inflation increases as long as the average level of prices increases.

Accepted Answer

The answer of Inflation increases as long as the average...

Question 5

Compared to the early 1980s, inflation since 1985 has been relatively low.

Accepted Answer

Since the early 1980s, inflation rates have generally been lower than they were during that time period.

Question 6

In the long run, money is neutral.

Accepted Answer

Money is simply a medium of exchange and doesn't have inherent value or morality. Its impact on the economy and people's lives depends on how it's used and distributed.

Question 7

The CPI measures the average price of all final goods and services.

Accepted Answer

The CPI (Consumer Price Index) measures the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services, not all final goods and services.

Question 8

Changes in money velocity and GDP have long-term effects on the inflation rate.

Accepted Answer

The answer of Changes in money velocity and GDP have...

Question 9

The inflation rate is equal to the rate of change of the price level.

Accepted Answer

The inflation rate is defined as the percentage change in the price level, which means it is equal to the rate of change of the price level. Therefore, the statement is true.

Question 10

Inflation generally causes the taxes paid by individuals and business firms to

Accepted Answer

Inflation causes an increase in the cost of goods and services, which in turn increases the nominal income of both individuals and business firms. As a result, the tax paid by individuals and business firms also increases to maintain the same level of real income. Therefore, inflation generally causes the taxes paid by individuals and business firms to increase.

Question 11

When a nation has a money supply of 4,000, a money velocity of 2, and a GDP of 800, the price level is 100.

Accepted Answer

The equation of exchange, MV = PQ, where M is the money supply, V is the velocity of money, P is the price level, and Q is the real GDP, can be used to calculate the price level. Given M = 4000, V = 2, and Q (real GDP) = 800, we can solve for P. MV = PQ gives 4000 * 2 = P * 800. Solving for P gives 8000/800 = 10, not 100.

Question 12

For a tax system in which higher income earners pay a larger share of their incomes in taxes, a higher inflation rate

Accepted Answer

In a tax system where higher income earners pay a larger share of their incomes in taxes, a higher inflation rate typically raises the tax burden of taxpayers. This is because inflation can push taxpayers into higher tax brackets even if their real income hasn't increased, leading to a higher tax burden relative to their purchasing power.

Question 13

Debt monetization means that a government pays off its debt by

Accepted Answer

Debt monetization involves a central bank buying government debt and creating new money to finance that purchase. This increases the money supply in circulation, leading to an increase in liquidity and availability of funds.

Question 14

In hyperinflationary situations, one might expect there to be bi-causality between inflation and the velocity of money.

Accepted Answer

In hyperinflationary situations, the velocity of money tends to increase as people try to quickly spend their money before it loses even more value, which in turn can further fuel inflation. Therefore, there is bi-causality between inflation and the velocity of money in such situations.

Question 15

A major problem with inflation is that after it starts

Accepted Answer

Inflation is difficult to stop without experiencing high unemployment because when the government tries to slow down inflation by decreasing the money supply, it often leads to less spending and less job creation. This can lead to higher unemployment rates as businesses and individuals struggle to adjust. Therefore, option C is the correct answer.

Question 16

According to the Fisher equation, if the expected inflation rate is less than the actual inflation rate, then the actual interest rate will be

Accepted Answer

The Fisher equation states that the nominal interest rate is the sum of the real interest rate and the expected inflation rate. If the actual inflation rate is higher than expected, the real interest rate will be lower than anticipated, leading to a nominal interest rate lower than the equilibrium interest rate.

Question 17

According to the quantity theory of money, the velocity of money equals the amount of money people spend divided by the product of the price level and the quantity of goods and services they purchase.

Accepted Answer

The answer of According to the quantity theory of money,...

Question 18

When the government monetizes its debt, the results are

Accepted Answer

Monetizing the government debt means that the government is printing more money to pay off its debts, leading to an increase in the money supply. This increased money supply can lead to higher inflation as there is more money available to chase the same amount of goods and services. This, in turn, can lead to losses for holders of government bonds, as inflation reduces the real value of their bond holdings. Therefore, option C is the correct choice.

Question 19

What effect did reducing U.S. inflation from 13.5 percent in 1980 to 3 percent in 1983 have?

Accepted Answer

Reducing inflation during this period was associated with tight monetary policy, which led to a recession in the early 1980s.

Question 20

Nobel Laureate Milton Friedman said, "Inflation is always and everywhere an unemployment phenomenon."

Accepted Answer

Milton Friedman famously said, "Inflation is always and everywhere a monetary phenomenon," emphasizing the role of money supply in causing inflation, not unemployment.

Quiz 29: Saving, Investment, and the Financial System