Deck 26: The Role of Expectations in Monetary Policy

Question 1

An example of a rule used in non-discretionary monetary policy is ________.

A) the Taylor rule
B) the Taylor principle
C) Keynesian rule
D) interest rate consistency

Answer 1

A

Question 2

The Lucas critique is an attack on the usefulness of ________.

A) conventional econometric models as forecasting tools
B) conventional econometric models as indicators of the potential impacts on the economy of particular policies
C) rational expectations models of macroeconomic activity
D) the relationship between the quantity theory of money and aggregate demand

Answer 2

B

Question 3

A rule that is advocated by the monetarists is the ________ rule.

A) constant money growth rate
B) escalating money growth rate
C) fiscal expansionism
D) interest rate sterlization

Answer 3

A

Question 4

The rational expectations hypothesis implies that when macroeconomic policy changes,________.

A) the economy will become highly unstable
B) the way expectations are formed will change
C) people will be slow to catch on to the change
D) people will make systematic mistakes

Question 5

The time inconsistency problem means that policy makers are always tempted to pursue _________ policy in the short run.

A) expansionary
B) contractionary
C) inconsistent
D) non-discretionary

Question 6

The argument that econometric policy evaluation is likely to be misleading if policymakers assume stable economic relationships is known as ________.

A) the monetarist revolution
B) the Lucas critique
C) public choice theory
D) new Keynesian theory

Question 7

Milton Friedman and his followers are known as ________.

A) monetarists
B) activists
C) Keynesians
D) neo-Keynesians

Question 8

According to the Lucas critique,if past increases in the short-term interest rate have always been temporary,then ________.

A) the term-structure relationship using past data will then show only a weak effect of changes in the short-term interest rate on the long-term rate
B) the term-structure relationship using past data will show no effect of changes in the short-term interest rate on the long-term rate
C) one cannot predict the term-structure relationship as it depends on expectations
D) the term-structure relationship using past data will nevertheless show a strong effect of changes in the short-term interest rate on the long-term rate because of a change in the way expectations are formed

Question 9

The interest rate thought to have the most important impact on aggregate demand is the ________.

A) short-term interest rate
B) T-bill rate
C) rate on 90-day CDs
D) long-term interest rate

Question 10

The best way to keep inflation under control is to ________.

A) abandon discretionary policy
B) abandon expansionary policy
C) invoke activist solutions
D) both A and B

Question 11

A rise in short-term interest rates that is believed to be only temporary ________.

A) is likely to have a significant effect on long-term interest rates
B) will have a bigger impact on long-term interest rates than if the rise in short-term rates had been permanent
C) is likely to have only a small impact on long-term interest rates
D) cannot possibly affect long-term interest rates

Question 12

Operating with discretion in a monetary policy sense implies ________.

A) making no commitment to future actions
B) a constant growth rate rule
C) introducing a zero inflation rule
D) making decisions without regulatory oversight

Question 13

The Lucas critique highlighted the need for ________.

A) better econometric models
B) new policy models that included rational expectations
C) fiscal policy
D) adaptive expectations

Question 14

The time inconsistency problem with respect to policy conduct means ________.

A) the tendency to deviate from long-run plans when making short run decisions
B) implementing a constant growth rate rule
C) that politicians are not elected for long enough time frames
D) there is no room for hard and fast monetary rules

Question 15

The Lucas critique indicates that ________.

A) advocates of discretionary policies' criticisms of rational expectations models are well-founded
B) advocates of discretionary policies' criticisms of rational expectations models are not well-founded
C) expectations are important in determining the outcome of a discretionary policy
D) expectations are not important in determining the outcome of a discretionary policy

Question 16

Lucas argues that when policies change,expectations will change thereby ________.

A) changing the relationships in econometric models
B) causing the government to abandon its discretionary stance
C) forcing the Fed to keep its deliberations secret
D) making it easier to predict the effects of policy changes

Question 17

Today,most economists ________.

A) accept that expectations formation will change when the behavior of forecasted variables changes
B) believe that the Lucas critique has been discredited
C) accept the notion that there is no role for discretionary stabilization policy
D) believe that having policy credibility is not an important factor to a successful anti-inflation policy

Question 18

The opposite of a discretionary approach is a ________ approach.

A) rules based
B) activist
C) non-activist
D) Keynesian

Question 19

A policy in which the money supply is kept growing at a constant rate regardless of the state of the economy is ________.

A) a Taylor rule
B) a discretionary policy
C) a policy rule advocated by monetarists
D) advocated by activists

Question 20

Whether one views the discretionary policies of the 1960s and 1970s as destabilizing or believes the economy would have been less stable without these policies,most economists agree that ________.

A) stabilization policies proved more difficult in practice than many economists had expected
B) stabilization policies proved not to be inflationary
C) the nondiscretionary policymakers were right in believing that the private economy is inherently stable
D) the discretionary policymakers were right in believing that the private economy is inherently stable

Question 21

A credible,nonaccommodating policy rule has the ________ that it makes a cost-push by workers ________ likely and thus helps to reduce the output loss from controlling inflation.

A) advantage; less
B) advantage; more
C) disadvantage; less
D) disadvantage; more

Question 22

Monetarists contend that ________.

A) the self-correcting mechanism works slowly because wages are inflexible
B) the aggregate supply curve does not move quickly to restore the economy to the natural rate of unemployment
C) active government policy is required to restore the economy to full employment when unemployment is high
D) the Bank of Canada should adopt and follow a money growth rule

Question 23

One of the drawbacks of rules based monetary policy is ________.

A) it can be too rigid a system and unable to address unforeseen contingencies
B) it minimizes the role of central banks and bankers
C) these types of programs are difficult to implement in practice
D) none of the above

Question 24

One of the drawbacks of rules based monetary policy is ________.

A) they do not incorporate the judgment of monetary policy makers
B) they are too complicated for the general public to understand
C) these types of programs are difficult to implement in practice
D) none of the above

Question 25

One of the drawbacks of rules based monetary policy is ________.

A) the true model of the economy is unknown, so a single rule may not be appropriate
B) they are too complicated for the general public to understand
C) these types of programs are difficult to implement in practice
D) none of the above

Question 26

Which of the following views are consistent with the case for nondiscretionary macroeconomic policy?

A) Even with time lags, discretionary policy moves the economy to full employment before the economy's self-correcting mechanism would.
B) The wage and price adjustment process being extremely slow, a nondiscretionary policy results in a large loss of output.
C) Workers will come to expect expansionary policies whenever the economy moves below full employment.
D) A discretionary, accommodating policy of shifting the aggregate demand curve will produce less volatility in both the price level and output due to the short time it takes to shift aggregate demand.

Question 27

One example where a rules based approach would have improved the economy is ________.

A) the Great Depression
B) the financial crisis in 2007
C) the subprime mortgage markets
D) derivatives trading

Question 28

One of the drawbacks of rules based monetary policy is ________.

A) the current relationship between variables may not hold in the future
B) they are too complicated for the general public to understand
C) these types of programs are difficult to implement in practice
D) none of the above

Question 29

One of the drawbacks of rules based monetary policy is ________.

A) it is subject to the Lucas critique
B) they are too complicated for the general public to understand
C) these types of programs are difficult to implement in practice
D) none of the above

Question 30

The Lucas critique indicates that ________.

A) Keynesian criticisms of rational expectations models are well-founded
B) Keynesian criticisms of rational expectations models are not well-founded
C) expectations are important in determining the outcome of an activist policy
D) expectations are not important in determining the outcome of an activist policy

Question 31

Some economists contend that a policy of shifting the aggregate demand curve will be costly because it produces more volatility in both the price level and output.These economists likely are advocates of ________ policy.

A) supply-side
B) discretionary
C) demand-management
D) nondiscretionary

Question 32

Advocates of nondiscretionary policy contend that a discretionary policy of shifting the aggregate ________ curve will be costly because it produces ________ volatility in both the price level and output.

A) supply; less
B) supply; more
C) demand; less
D) demand; more

Question 33

If expectations about policy affect how wages are set,then the case for a(n)________ policy is much stronger.

A) discretionary
B) nondiscretionary
C) interventionist
D) stabilization

Question 34

Advocates of nondiscretionary policy contend that a policy of shifting the aggregate demand curve will be costly because it produces more volatility in both the price level and output.Thus they favor ________.

A) a policy of variable money supply growth
B) supply-side policy
C) demand-management policy
D) a constant-money-growth-rate rule

Question 35

The political business cycle can lead to ________.

A) expansionary monetary policy
B) expansionary fiscal policy
C) corruption
D) both A and B

Question 36

Monetarists argue that the Bank of Canada should pursue ________.

A) an interest-rate targeting strategy
B) an exchange-rate targeting strategy
C) a discretionary monetary policy
D) a constant growth rate rule

Question 37

Advocates of nondiscretionary policy emphasize the importance of a constant money growth rate rule more than the balanced-budget amendment or restrictions on union power because ________.

A) they regard excessive money growth as the cause of inflation
B) they believe that excessive government spending, not excessive monetary growth, is the cause of inflation
C) they believe that while unions cause inflation, they are too politically powerful to deal with
D) they regard high tax rates as the cause of inflation

Question 38

If aggregate output is below the natural rate level,advocates of nondiscretionary policy would recommend that the government ________.

A) do nothing
B) try to eliminate the high unemployment by attempting to shift the aggregate supply curve to the right
C) try to eliminate the high unemployment by attempting to shift the aggregate demand curve to the right
D) try to eliminate the high unemployment by attempting to shift the aggregate demand curve to the left

Question 39

The existence of lags prevents the instantaneous adjustment of the economy to policies changing aggregate demand,thereby strengthening the case for ________ policy.

A) supply-side
B) nondiscretionary
C) discretionary
D) demand-management

Question 40

Evidence indicating that the wage and price adjustment process is extremely slow would strengthen the case for ________.

A) nondiscretionary policy
B) a constant-money-growth-rate rule
C) discretionary policy
D) None of the above

Question 41

Arguments for discretionary policies include

A) policy rules can be too rigid because they cannot foresee every contingency
B) the time-inconsistency problem can lead to poor economic outcomes
C) discretionary policies pursue overly expansionary monetary policies to boost employment in the short run but generate higher inflation in the long run
D) all of the above

Question 42

Suppose that there is a negative aggregate demand shock and the central bank commits to an inflation rate target.If the commitment is credible,then ________.

A) the public's expected inflation will remain unchanged
B) the short-run aggregate supply curve will rise
C) over time inflation will fall
D) all of the above
E) both A and C

Question 43

Suppose that there is a positive aggregate demand shock and the central bank commits to an inflation rate target.If the commitment is credible,then ________.

A) the public's expected inflation will remain unchanged
B) the short-run aggregate supply curve will not shift
C) over time inflation will fall back down to the inflation target
D) all of the above
E) both A and B

Question 44

Monetarists believe all of the following except that ________.

A) active government policies are required to restore the economy to full employment
B) the Bank of Canada should adopt and follow a money growth rule
C) the self-correcting mechanism works quickly because wages are sufficiently flexible
D) the aggregate supply curve shifts quickly to restore the economy to the natural rate of unemployment

Question 45

Arguments for discretionary policies include ________.

A) policy rules can be too rigid because they cannot foresee every contingency
B) policy rules do not easily incorporate the use of judgment
C) discretion avoids the straightjacket that would lock in the wrong policy if the model that was used to derive the policy rule proved to be incorrect
D) discretion enables policy makers to change policy settings when an economy undergoes structural changes
E) all of the above

Question 46

Suppose that there is a negative aggregate demand shock and the central bank commits to an inflation rate target.But if the commitment is not credible,then ________.

A) the public's expected inflation will remain unchanged
B) the short-run aggregate supply curve will rise
C) economic contraction will be worse
D) all of the above
E) both B and C

Question 47

________ imposes a conceptual structure and inherent discipline on policy makers,but without eliminating all flexibility.

A) Constrained discretion
B) A policy rule
C) A discretionary policy
D) The Taylor rule

Question 48

Describe discretionary and nondiscretionary policy in the case of a negative aggregate supply shock to the economy.Use a graph to support your answer.

Question 49

Suppose that there is a negative aggregate supply shock and the central bank commits to an inflation rate target.

A) If the commitment is credible, the public's expected inflation will remain unchanged.
B) Credible policy produces better outcomes on both inflation and output in the short run.
C) Policies that are not credible produce worse economic contraction.
D) all of the above.
E) both A and C.

Question 50

It may be necessary to cut the deficit as part of a credible anti-inflationary policy because the public knows that large deficits ________.

A) are inflationary by themselves in the long run
B) create inefficiencies
C) put pressure on the Bank of Canada to expand the money supply to keep interest rates from rising
D) put pressure on the Bank of Canada to contract the money supply to prevent employment from rising

Question 51

If aggregate output is below the natural rate level,advocates of discretionary policy would recommend that the government ________.

A) do nothing
B) try to eliminate the high unemployment by attempting to shift the aggregate supply curve to the right
C) try to eliminate the high unemployment by attempting to shift the aggregate demand curve to the right
D) try to eliminate the high unemployment by attempting to shift the aggregate demand curve to the left

Question 52

Arguments for adopting a policy rule include ________.

A) discretion avoids the straightjacket that would lock in the wrong policy if the model that was used to derive the policy rule proved to be incorrect
B) discretion enables policy makers to change policy settings when an economy undergoes structural changes
C) discretionary policies pursue overly expansionary monetary policies to boost employment in the short run but generate higher inflation in the long run
D) all of the above

Question 53

Monetarists ________.

A) see wages as being sufficiently sticky so that the wage and price adjustment process is reasonably slow
B) are skeptical of the need for active government policies to restore the economy to full employment
C) argue for active government policy to restore the economy to full employment when unemployment is high
D) Only A and B of the above

Question 54

Arguments for adopting a policy rule include ________.

A) the time-inconsistency problem can lead to poor economic outcomes
B) discretionary policies pursue overly expansionary monetary policies to boost employment in the short run but generate higher inflation in the long run
C) policy makers and politicians cannot be trusted
D) all of the above

Question 55

By ________ its deficit,the government's credibility of anti-inflationary policy ________.

A) not changing; remains the same
B) reducing; increases
C) reducing; decreases
D) not changing; increases

Question 56

A credible nominal anchor ________.

A) can help overcome the time-inconsistency problem by providing an expected constraint on discretionary policy
B) can help to anchor inflation expectations, which leads to smaller fluctuations in inflation
C) is required for a policy rule
D) all of the above
E) both A and B

Question 57

The U.S.government can play an important role in establishing the credibility of anti-inflation policy by ________.

A) demonstrating fiscal responsibility
B) monitoring the Fed
C) conducting fiscal policy
D) all of the above

Question 58

By ________ its deficit,the government makes an anti-inflationary policy ________ credible.

A) increasing; more
B) reducing; more
C) reducing; less
D) not changing; more

Question 59

When expectations of inflation are formed rationally,an anti-inflationary policy will be more successful if it is ________.

A) credible
B) a surprise
C) unanticipated
D) announced

Question 60

Suppose that there is a positive aggregate demand shock and the central bank commits to an inflation rate target.But if the commitment is not credible,then ________.

A) the public's expected inflation will remain unchanged
B) the short-run aggregate supply curve will rise
C) over time inflation will fall back down to the inflation target
D) all of the above
E) both A and B

Question 61

The three big oil price shocks occurred in ________.

A) 1973, 1979, 2007
B) 1972, 1979, 2007
C) 1973, 1978, 2007
D) 1973, 1979, 2006

Question 62

With a negative aggregate supply shock,monetary policy credibility can ________.

A) produce a better outcome
B) set inflation equal to zero
C) determine the effective interest rate
D) prevent financial malfeasance

Question 63

A positive aggregate demand shock will only impact ________.

A) the equilibrium output
B) the equilibrium inflation rate
C) the short run aggregate supply curve
D) none of the above

Question 64

The benefits of a credible nominal anchor include ________.

A) anchors inflation expectations
B) preventing the real business cycle from occurring
C) encouraging activist policy
D) preventing discretion based actions

Question 65

If a negative aggregate supply shock occurs and monetary policy is not credible then ________.

A) inflation will higher and output lower than with credible policy
B) the equilibrium interest rate will fall
C) there will be a corresponding autonomous decrease in aggregate supply
D) none of the above

Question 66

An example of a negative aggregate demand shock is ________.

A) a global carbon cap-and-trade program
B) a global financial crisis
C) a decrease in the price of oil
D) thermonuclear war

Question 67

If a positive aggregate demand shock occurs and monetary policy is not credible then ________.

A) inflation will increase
B) the equilibrium interest rate will fall
C) there will be a corresponding autonomous decrease in aggregate supply
D) none of the above

Question 68

An example of a positive aggregate demand shock is ________.

A) carbon cap-and-trade program
B) productivity improving technological innovation
C) an increase in the price of oil
D) the shale gas revolution

Question 69

An example of a nominal anchor is ________.

A) the inflation rate
B) the real interest rate
C) government purchases
D) the tax rate

Question 70

A negative aggregate demand shock will only impact ________.

A) the equilibrium interest rate
B) the equilibrium inflation rate
C) the short run aggregate supply curve
D) none of the above

Question 71

If a negative aggregate demand shock occurs and monetary policy is not credible then ________.

A) economic activity will decrease
B) the equilibrium interest rate will rise
C) there will be a corresponding autonomous increase in inflation
D) none of the above

Question 72

The benefits of a credible nominal anchor include ________.

A) acting like a behaviour rule
B) preventing the real business cycle from occurring
C) encouraging activist policy
D) preventing discretion based actions

Question 73

With a negative aggregate demand shock,monetary policy credibility can ________.

A) stabilize output
B) set inflation equal to zero
C) determine the effective interest rate
D) prevent financial malfeasance

Question 74

An example of a negative supply shock is ________.

A) carbon cap-and-trade program
B) a rapid increase in energy costs
C) an fall in the price of oil
D) the shale gas revolution

Question 75

Which of the following components is NOT included in the equation for the short-run aggregate supply curve?

A) Nominal interest rate
B) Inflation
C) Expected inflation
D) Output gap

Question 76

A negative aggregate supply shock will impact ________.

A) the equilibrium output
B) the equilibrium inflation rate
C) the short run aggregate supply curve
D) all of the above

Question 77

The difference in outcomes occurring with a credible nominal anchor and without one,given a negative aggregate demand shock is that ________.

A) with the credible policy there is no shift in the aggregate supply curve
B) there is no difference but credibility provides national security
C) without credible policy, inflation will continue to spiral upwards
D) with credible policy, the aggregate supply curve shifts back quickly

Question 78

The difference in outcomes occurring with a credible nominal anchor and without one,given a negative aggregate supply shock is that ________.

A) the overall economic outlook is better
B) there is no difference but credibility provides national security
C) without credible policy, inflation will continue to spiral upwards
D) with credible policy, the aggregate supply curve shifts back quickly

Question 79

The difference in outcomes occurring with a credible nominal anchor and without one,given a positive aggregate demand shock is that ________.

A) with the credible policy there is no shift in the aggregate supply curve
B) there is no difference but credibility provides national security
C) without credible policy, inflation will continue to spiral upwards
D) with credible policy, the aggregate supply curve shifts back quickly

Question 80

With a positive aggregate demand shock,monetary policy credibility can ________.

A) stabilize inflation
B) set inflation equal to zero
C) determine the effective interest rate
D) prevent financial malfeasance