Deck 27: Rational Expectations: Theory and Policy Implications

Question 1

If interest rates have been increasing, adaptive expectations would predict

A) that interest rates will increase.
B) that interest rates will decrease.
C) that inflation rates will increase.
D) that inflation rates will decrease.

Answer 1

A

Question 2

Which of the following would be included in inflationary expectations that are formed adaptively?

A) Money supply growth over the past two years
B) Statements made by the President of the United States
C) The average inflation rate over the past three years
D) A recent price agreement by oil exporting nations

Answer 2

C

Question 3

Real wages will decline if

A) money supply growth exceeds expectations.
B) real interest rates rise.
C) aggregate demand exceeds aggregate supply.
D) money supply growth exceeds the inflation rate.

Answer 3

A

Question 4

An anticipated change in the money supply will result in a(n)__________ level of economic activity and a __________ price level.

A) increased; higher
B) decreased; higher
C) unchanged; lower
D) unchanged; higher

Question 5

If wages and prices are flexible, an anticipated change in the money supply has no effect on

A) money demand.
B) nominal interest rates.
C) real GDP.
D) the inflation rate.

Question 6

If an inflation forecast is based on last year's inflation rate, it is said to be

A) historical.
B) rational.
C) logical.
D) adaptive.

Question 7

Real wages will rise if

A) money supply growth is less than expectations.
B) real interest rates fall.
C) aggregate demand is less than aggregate supply.
D) money supply growth exceeds the inflation rate.

Question 8

Adaptive expectations are "__________" according to the New Classical economists because they __________ information it is possible to use in making a forecast.

A) rational; include all
B) rational; exclude some
C) irrational; include all
D) irrational; exclude some

Question 9

If wages and prices are flexible and expectations are formed rationally, an increase in the money supply will cause

A) real wages to rise.
B) real wages to fall.
C) nominal wages to rise.
D) nominal wages to fall.

Question 10

If participants in securities markets believe that an announced decrease in the money supply will reduce the rate of inflation, the likely result will be

A) higher real interest rates.
B) higher nominal interest rates.
C) lower real interest rates.
D) lower nominal interest rates.

Question 11

As long as wages and prices are flexible, an anticipated change in the money supply will lead to an increase in

A) the unemployment rate.
B) industrial production.
C) nominal income.
D) real wages.

Question 12

If inflationary expectations are based on all available information, they are referred to as

A) optimal.
B) rational.
C) adaptive.
D) informed.

Question 13

Adaptive inflationary expectations are based on

A) monetary growth.
B) all available information.
C) previous inflation rates.
D) price changes in futures markets.

Question 14

If wages and prices are flexible, then an anticipated change in the money supply will cause wages and prices to __________ the actual inflation rate.

A) increase at the same rate as
B) increase at a higher rate than
C) increase at a slower rate than
D) cannot be exactly predicted

Question 15

A rightward shift of aggregate demand will raise output only if

A) wages remain unchanged.
B) wages rise by a lower percentage than prices.
C) wages rise by the same percentage as prices.
D) wages rise by a greater percentage than prices.

Question 16

Economic agents have an incentive to formulate expectations rationally

A) because ignoring information is usually costly.
B) to increase prices.
C) to reduce wages.
D) to ensure that all expectations are realized.

Question 17

Extrapolating past values of a variable to the present is the practice of __________ expectations, which is fairly common among __________ economists.

A) adaptive; New Classical
B) adaptive; Keynesian
C) rational; New Classical
D) rational; Keynesian

Question 18

The primary incentive for economic agents to formulate expectations rationally is to

A) increase earnings.
B) increase prices.
C) reduce prices.
D) ensure that all expectations are realized.

Question 19

If an inflation forecast is based on expected monetary growth, it is likely to be

A) historical.
B) rational.
C) logical.
D) adaptive.

Question 20

If the consensus in securities markets is that a previous increase in the money supply will be inflationary, the likely result will be

A) higher real interest rates.
B) higher nominal interest rates.
C) lower real interest rates.
D) lower nominal interest rates.

Question 21

Suppose that for several periods the aggregate demand and supply curves have been intersecting at the same point, and at full employment. Then the central bank increases money growth as the result of an unannounced policy change. Under New Classical assumptions the likely short-run result is __________ output and __________ price level.

A) rising; a rising
B) rising; an unchanged
C) unchanged; a rising
D) unchanged; an unchanged

Question 22

Keynesians argue that changes in wages will lag price level changes even if expectations are formed rationally because

A) workers have very little bargaining power compared with that of management.
B) only a small percentage of workers are unionized.
C) wages are often set by long-term contracts.
D) workers often have incorrect information.

Question 23

If expectations are formed rationally and wages are flexible, the aggregate supply curve is

A) upward sloping.
B) horizontal.
C) vertical.
D) relatively flat.

Question 24

An effective way to restore credibility to monetary authorities after a period of hyperinflation is

A) the introduction of a new monetary unit.
B) the introduction of wage and price controls.
C) a reduction in bank reserve requirements.
D) the centralization of monetary and fiscal policy under a single governmental unit.

Question 25

A contractionary monetary policy can reduce the inflation rate without causing a rise in unemployment if expectations are formed rationally and monetary policy is

A) combined with expansionary fiscal policy.
B) carried out in total secrecy.
C) publicly announced and credible.
D) combined with contractionary fiscal policy.

Question 26

If labor contracts prevent wage flexibility, the aggregate supply curve will be

A) vertical.
B) horizontal.
C) negatively sloped.
D) positively sloped.

Question 27

Contractual inflexibility is most likely to slow price adjustment in the

A) money market.
B) capital market.
C) real estate market.
D) labor market.

Question 28

Suppose that for several periods the aggregate demand and supply curves have been intersecting at the same point, and at full employment. The central bank increases money growth as a result of an unannounced policy change. Under the assumption of adaptive expectations the likely short-run result is __________ output and __________ price level.

A) rising; a rising
B) rising; an unchanged
C) unchanged; a rising
D) unchanged; an unchanged

Question 29

Assuming rational expectations and complete wage and price flexibility, systematic stabilization policy impacts

A) real GDP.
B) real wages.
C) the unemployment rate.
D) the inflation rate.

Question 30

If wages do not instantaneously adjust to reflect expected inflation that is based on an anticipated increase in the money supply,

A) the aggregate demand and positively sloped aggregate supply curve shift to the right at the same time.
B) the positively sloping aggregate supply curve shifts to the left after the aggregate demand curve shifts to the right.
C) the positively sloping aggregate supply curve shifts to the left before the aggregate demand curve shifts to the right.
D) the positively sloping aggregate supply curve does not shift to the right at the same time as the aggregate demand curve shifts to the left.

Question 31

Suppose that for several periods the aggregate demand and supply curves have been intersecting at the same point, and at full employment. Then the central bank increases money growth as a result of an announced policy change. Under the assumption of adaptive expectations the likely short-run result is __________ output and __________ price level.

A) rising; a rising
B) rising; an unchanged
C) unchanged; a rising
D) unchanged; an unchanged

Question 32

Suppose that for several periods the aggregate demand and supply curves have been intersecting at the same point, and at full employment. Then the central bank increases money growth as the result of an announced policy change. Under New Classical assumptions the likely short-run result is __________ output and __________ price level.

A) rising; a rising
B) rising; an unchanged
C) unchanged; a rising
D) unchanged; an unchanged

Question 33

An unannounced increase in the money supply will increase both prices and real GDP under

A) neither rational nor adaptive expectations.
B) rational but not adaptive expectations.
C) adaptive but not rational expectations.
D) both adaptive and rational expectations.

Question 34

In a world of rational expectations,

A) an anticipated increase in money supply leads immediately to higher nominal interest rates.
B) an anticipated increase in money supply leads immediately to lower nominal interest rates.
C) an unanticipated increase in money supply leads immediately to higher nominal interest rates.
D) an unanticipated decrease in money supply leads immediately to lower nominal interest rates.

Question 35

According to rational expectations,

A) the Fed should focus its policies on interest rates.
B) the Fed should focus its policies on inflation.
C) the Fed should focus its policies on unemployment.
D) the Fed is unable to influence real economic activity.

Question 36

The assumption that wages adjust more slowly than prices implies that the Phillips Curve

A) exists in the short-run.
B) exists in the long-run.
C) is vertical.
D) does not exist.

Question 37

Can a Keynesian still believe in an active counter-cyclical policy if she adopts the assumption of rational expectations?

A) No, it destroys the case for active policy.
B) Yes, so long as she continues to assume wage and price rigidity.
C) Yes, if she also adopts the assumption of wage and price flexibility.
D) Yes, if she assumes that economic policy shifts are anticipated in advance.

Question 38

If expectations are formed rationally and wages are inflexible in the short run, the short-run aggregate supply curve is

A) upward sloping.
B) horizontal.
C) vertical.
D) relatively flat.

Question 39

A contractionary monetary policy can reduce real GDP if expectations are formed rationally and monetary policy is

A) combined with expansionary fiscal policy.
B) carried out in total secrecy.
C) publicly announced and credible.
D) combined with contractionary fiscal policy.

Question 40

If wages instantaneously adjust to reflect expected inflation that is based on an anticipated increase in the money supply,

A) the aggregate demand and positively sloped aggregate supply curve shift to the right at the same time.
B) the positively sloping aggregate supply curve shifts to the left after the aggregate demand curve shifts to the right.
C) the positively sloping aggregate supply curve shifts to the left before the aggregate demand curve shifts to the right.
D) the positively sloping aggregate supply curve does not shift to the right at the same time as the aggregate demand curve shifts to the left.

Question 41

In a world of rational expectations,

A) an unanticipated increase in money supply leads immediately to lower nominal interest rates.
B) an unanticipated increase in money supply leads immediately to higher nominal interest rates.
C) an anticipated increase in money supply leads immediately to lower nominal interest rates.
D) an anticipated decrease in money supply leads immediately to higher nominal interest rates.