Question 1

Monetary Policy in Highland
Highland has had inflation of 15% for many years. Highland establishes a new central bank, the Bank of Highland, with the hopes of reducing the inflation rate.
-Refer to Monetary Policy in Highland. The Bank of Highland publicizes that it intends to reduce the inflation rate to 5%. If Highlanders lower their inflation expectations, which curve shifts to the left?

Accepted Answer

The short-run Phillips curve is a graphical representation of the inverse relationship between inflation and unemployment in the short run, assuming that inflation expectations are fixed. If Highlanders lower their inflation expectations due to the Bank of Highland's announcement, it will cause a shift in the short-run Phillips curve to the left, indicating that for any given level of unemployment, there will be a lower level of inflation. The long-run Phillips curve, on the other hand, represents the relationship between unemployment and inflation in the long run, assuming that inflation expectations adjust to changes in actual inflation. As such, it is not affected by changes in inflation expectations and will remain unchanged.

Question 2

Monetary Policy in Southland
In Southland the Department of Finance is responsible for monetary policy. Southland has had an inflation rate of 25% for many years.
-Refer to Monetary Policy in Southland. Suppose that the Southland Department of Finance undertakes a public relations campaign to convince people that it will soon change monetary policy to reduce inflation to 12.5%. If Southlanders believe their government then which, if any, curve(s) shift left?

Accepted Answer

If Southlanders believe the government's commitment to reducing inflation, the short-run Phillips curve will shift left as expectations of lower inflation adjust. The long-run Phillips curve remains unchanged as it is vertical and represents the natural rate of unemployment.

Question 3

The long-run response to a decrease in the money supply growth rate is shown by shifting

Accepted Answer

The answer of The long-run response to a decrease in...

Question 4

Other things the same, if the central bank decreases the rate at which it increases the money supply, then in the long run

Accepted Answer

The answer of Other things the same, if the central...

Question 5

Monetary Policy in Southland
In Southland the Department of Finance is responsible for monetary policy. Southland has had an inflation rate of 25% for many years.
-Refer to Monetary Policy in Southland. Suppose the Southland Department of Finance has run a public relations campaign claiming it will reduce inflation to 12.5% and actually reduces inflation to that level. Suppose at first that the public thought inflation would only drop to 18%, but eventually become convinced that the inflation rate will stay at 12.5%.

Accepted Answer

In the short run, unemployment rises due to the unexpected reduction in inflation. In the long run, as expectations adjust to the new inflation rate, unemployment returns to its natural rate.

Question 6

Monetary Policy in Southland
In Southland the Department of Finance is responsible for monetary policy. Southland has had an inflation rate of 25% for many years.
-Refer to Monetary Policy in Southland. Suppose that the Southland Department of Finance has run a public relations campaign claiming it will reduce inflation to 12.5% and that it actually reduces inflation to that level. Suppose that the public was very skeptical and in fact thought the Southland Department of Finance was going to raise inflation to 30% so it could increase its expenditures. Then

Accepted Answer

Unemployment rises because the public expected higher inflation (30%) than what actually occurred (12.5%), leading to a negative surprise in inflation expectations, which typically results in higher unemployment. If people had been expecting 25% inflation, the surprise would have been smaller, and unemployment would have risen less.

Question 7

Monetary Policy in Highland
Highland has had inflation of 15% for many years. Highland establishes a new central bank, the Bank of Highland, with the hopes of reducing the inflation rate.
-Refer to Monetary Policy in Highland. The Bank of Highland reduced inflation to its announced goal of 5%. However the unemployment rate was on average higher for many years after. A newspaper editorial argues that the unemployment rate had moved to this higher natural rate because (1) by itself the decrease in inflation had permanently increased unemployment and (2) that at the same time the central bank was fighting inflation the government of Highland had made a large increase in the minimum wage. Which of these arguments is consistent with the Phillip's curve model?

Accepted Answer

Explanation 2 is consistent with the Phillips curve model, which suggests that higher minimum wages can lead to higher unemployment. Explanation 1 is not consistent because the Phillips curve does not imply that a decrease in inflation permanently increases unemployment.

Question 8

If a central bank reduces inflation 2 percentage points and this makes output fall 3 percentage points and unemployment rise 5 percentage points for one year, the sacrifice ratio is

Accepted Answer

The sacrifice ratio measures the reduction in output and increase in unemployment that a central bank must accept to achieve a one percentage point reduction in inflation. This is calculated as the ratio of the percentagepoint decline in output to the percentage-point reduction in inflation. In this case, the central bank reduced inflation by 2 percentage points, but output fell by 3 percentage points and unemployment rose by 5 percentage points. Therefore, the sacrifice ratio is:

Sacrifice ratio = (percentage-point decline in output)/(percentage-point reduction in inflation)
= 3/2
Therefore, the answer is B.

Question 9

Which of the following is not correct?

Accepted Answer

Unemployment can be affected by factors other than government policy, such as technological advancements, changes in consumer preferences, and shifts in the global economy.

Question 10

Most economists believe that a tradeoff between inflation and unemployment exists

Accepted Answer

The answer of Most economists believe that a tradeoff between...

Question 11

Monetary Policy in Highland
Highland has had inflation of 15% for many years. Highland establishes a new central bank, the Bank of Highland, with the hopes of reducing the inflation rate.
-Refer to Monetary Policy in Highland. The Bank of Highland publicizes that it intends to reduce the inflation rate to 5%. If it is successful in doing so but people had expected inflation to fall only to 10%, then

Accepted Answer

If people had expected inflation to fall to 10%, then the reduction to 5% would have been greater than anticipated. This means that the Bank of Highland would need to implement more contractionary monetary policy, which would lead to higher unemployment. However, if people had expected inflation to fall to 6%, then the reduction to 5% would have been smaller than anticipated. This means that the Bank of Highland would need to implement less contractionary monetary policy, which would result in lower unemployment than expected. Therefore, the actual outcome of unemployment rising would have been less severe than if people had expected inflation to fall to 6%.

Question 12

Monetary Policy in Highland
Highland has had inflation of 15% for many years. Highland establishes a new central bank, the Bank of Highland, with the hopes of reducing the inflation rate.
-Refer to Monetary Policy in Highland. The Bank of Highland reduced inflation to its announced goal of 5%. However its efforts made the unemployment rate rise by 10 percentage points for a year while output fell by 30 percent for a year. Which of the following is correct?

Accepted Answer

The initial inflation expectations were higher than 5% because the central bank's actions led to a significant increase in unemployment and a decrease in output, indicating a strong adjustment to lower inflation expectations. The sacrifice ratio, calculated as the percentage loss in output divided by the reduction in inflation, is 3 (30% output loss / 10% inflation reduction).

Question 13

Monetary Policy in Southland
In Southland the Department of Finance is responsible for monetary policy. Southland has had an inflation rate of 25% for many years.
-Refer to Monetary Policy in Southland. Suppose that the Southland Department of Finance has run a public relations campaign claiming it will reduce inflation to 12.5% and that it actually reduces inflation to that level. Suppose that the public had expected that the Department of Finance would reduce inflation but only to 22%. Then

Accepted Answer

Unemployment rises because the actual inflation rate is lower than the expected rate (22%), leading to higher real wages and reduced demand for labor. It would have risen more if people had been expecting the original 25% inflation, as the gap between expected and actual inflation would have been larger.

Question 14

Monetary Policy in Southland
In Southland the Department of Finance is responsible for monetary policy. Southland has had an inflation rate of 25% for many years.
-Refer to Monetary Policy in Southland. Suppose that the Southland Department of Finance has run a public relations campaign claiming it will reduce inflation to 12.5% but it actually raises inflation to 30%. Suppose that the public had expected that the Department of Finance would reduce inflation but only to 22%. Then

Accepted Answer

Unemployment falls because the actual inflation rate (30%) is higher than the expected rate (22%), leading to a short-term boost in economic activity. If people had expected 25% inflation, the surprise would be smaller, and the fall in unemployment would be less pronounced.

Question 15

Monetary Policy in Highland
Highland has had inflation of 15% for many years. Highland establishes a new central bank, the Bank of Highland, with the hopes of reducing the inflation rate.
-Refer to Monetary Policy in Highland. The Bank of Highland reduced inflation to its announced goal of 5%. However, people were expecting inflation to fall to 7% and there was a favorable supply shock. In the short run which of the following made unemployment lower than otherwise?

Accepted Answer

The favorable supply shock increased output and employment.

Question 16

Monetary Policy in Southland
In Southland the Department of Finance is responsible for monetary policy. Southland has had an inflation rate of 25% for many years.
-Refer to Monetary Policy in Southland. Suppose that the Southland Department of Finance has run a public relations campaign claiming it will reduce inflation to 12.5% but that it actually leaves inflation at 25%. Suppose that the public had expected that the Department of Finance would reduce inflation, but only to 20%. Then

Accepted Answer

The answer of Monetary Policy in Southland
In Southland the Department...

Question 17

Other things the same, if the central bank decreases the rate at which it increases the money supply, then

Accepted Answer

If the central bank decreases the rate at which it increases the money supply, then it is reducing the expansionary monetary policy. This reduction in money supply will lead to a decrease in demand and a decrease in economic activity. In the short run, this will lead to an increase in unemployment. However, as demand decreases, prices may also fall, leading to a decrease in inflation. Therefore, in the short run, unemployment would rise and inflation would fall.

Question 18

The long-run response to an increase in the growth rate of the money supply is shown by shifting

Accepted Answer

The answer of The long-run response to an increase in...

Question 19

Monetary Policy in Highland
Highland has had inflation of 15% for many years. Highland establishes a new central bank, the Bank of Highland, with the hopes of reducing the inflation rate.
-Refer to Monetary Policy in Highland. The Bank of Highland publicizes that it intends to reduce the inflation rate to 5%. If it actually reduces inflation to 3% and people were expecting inflation to fall only to 8%, then

Accepted Answer

The answer of Monetary Policy in Highland
Highland has had inflation...

Question 20

Monetary Policy in Southland
In Southland the Department of Finance is responsible for monetary policy. Southland has had an inflation rate of 25% for many years.
-Refer to Monetary Policy in Southland. Suppose Southland has had the same inflation rate for a long time. Which, if either, of the following ideas imply that the unemployment rate in Southland would be above the natural rate.

Accepted Answer

The long-run Phillips curve suggests that there is no trade-off between inflation and unemployment in the long run, implying that unemployment would be at the natural rate regardless of inflation. The Classical dichotomy also separates real and nominal variables, suggesting inflation does not affect real variables like unemployment in the long run. Therefore, neither implies that unemployment would be above the natural rate.

Quiz 22: The Short-Run Trade-Off Between Inflation and Unemployment