Deck 18: Balance of Payments II: Output, Exchange Rates, and Macroeconomic Policies in the Short Run

Question 1

If a government must run a balanced budget, then tax revenues and government spending:

A) move roughly in opposite directions.
B) move exactly in opposite directions.
C) move exactly in the same direction.
D) move roughly in the same direction.

Answer 1

C

Question 2

A short-run open-economy model with demand shocks can analyze the effect on _____ if output prices and factor prices are sticky.

A) inflation
B) real economic activity (real GDP and unemployment)
C) long-run variables
D) expectations

Answer 2

B

Question 3

The assumption of short-run price stickiness implies:

A) that we must adjust nominal quantities for changes in inflation.
B) that we must always allow for unexpected inflation.
C) that expected inflation is zero and nominal quantities are the same as real.
D) a balanced budget.

Answer 3

C

Question 4

Consider the following information for a family. If the income for the family is $58,000, then an increase in income by $20,000 will result in an increase in consumption by:

A) $15,000 if the MPC is 0.9.
B) $10,000 if the MPC is 0.5.
C) $12,000 if the MPC is 0.7.
D) $1,000 if the MPC is 0.2.

Question 5

Assumptions that output is fixed and factor prices have adjusted to reach the level of full employment are:

A) useful for long-run analysis.
B) necessary for short-run analysis.
C) unrealistic to the extent that economists should not make such assumptions.
D) always true and therefore useful both in the long run and short run.

Question 6

To simplify the analysis of demand shocks in an open, two-economy, short-run model, we assume all of the following, EXCEPT:

A) fixed prices and wages.
B) levels of government spending and taxes; foreign GDP and foreign rates of interest are given.
C) no net unilateral transfers or foreign factor income.
D) foreign GDP and foreign rates of interest are constant.

Question 7

When the expected real rate of interest declines, ceteris paribus, we expect:

A) more investment projects will be undertaken.
B) lenders will need to lower their average default rate to maintain their profit margins.
C) firms will borrow less and cut back on their investment projects.
D) individuals will steer clear of equity markets.

Question 8

With expected inflation equal to zero in the model, investment activity for an economy is:

A) a positive function of the nominal rate of interest.
B) a negative function of the nominal rate of interest.
C) constant in the face of differing nominal rates of interest.
D) limited to the rate of growth of nominal GDP minus the inflation rate.

Question 9

If taxes go up and all else remains equal, then consumption should:

A) rise by more than the tax increase.
B) rise by the same amount as the tax increase.
C) rise by less than the tax increase.
D) fall.

Question 10

A Keynesian model is one in which prices are sticky:

A) in the short run only.
B) in the short run and in the long run.
C) in the long run only.
D) so that they never depend on the money supply.

Question 11

Normally, a firm's borrowing cost is the expected real interest rate, which takes expected inflation into account. With price stickiness, however, the firm will consider only:

A) expected inflation.
B) expected wages.
C) the nominal rate of interest.
D) the expected appreciation of the asset.

Question 12

Investment occurs when:

A) firms are very profitable and have lots of extra cash on hand.
B) there is a reduction in risk aversion.
C) the expected real interest rate is less than the expected real return on the investment project.
D) individuals realize that there are greater long-term gains in the equity and credit markets.

Question 13

The slope of the consumption function relates changes in consumer spending to changes in disposable income received by consumers. This is called:

A) the marginal propensity to consume.
B) the average propensity to consume.
C) the utility-maximization function.
D) the marginal rate of transformation.

Question 14

Consider the following information for a family. The income for the family is $58,000; if the MPS is 0.25, and the income for the family decreases by $15,000, then the decrease in consumption will be:

A) $3,750.
B) $10,500.
C) $11,250.
D) $1,500.

Question 15

If consumption has fallen, which of the following could be true?

A) Taxes have fallen.
B) Income has fallen.
C) Taxes and income have fallen.
D) Disposable income has risen.

Question 16

When analyzing the effects of changes in demand in an open economy, we assume that firms:

A) have only one fixed rate of return on various projects when deciding investment activity.
B) have differing returns on various projects when deciding investment activity.
C) are required to borrow only from domestic banks when funding investment activity.
D) consider the effects of inflation on investment activity.

Question 17

The short-run model makes use of the ______, which assumes that private consumption expenditure is sensitive to changes in current income.

A) Pareto-optimal condition
B) consumer sovereignty model
C) Keynesian consumption function
D) consumption-smoothing model

Question 18

What assumption results in investment depending only on the nominal interest rate?

A) rationality
B) zero expected inflation
C) uncertainty
D) The MPC is less than 1.

Question 19

Consider the following information for a family. The income for the family is $58,000; if the MPC is 0.6, and income increases by $13,000, then the increase in savings for the family is:

A) $5,400.
B) $5,200.
C) $420.
D) $7,800.

Question 20

If the marginal propensity to consume for a nation is 0.8, it means:

A) consumers save 80% of their incomes.
B) consumers spend 80% of their incomes.
C) consumers pay 20% tax on their earnings.
D) consumers decrease their spending by $0.80 for each $1 of a decrease in their income.

Question 21

If domestic income falls, what must happen to keep the trade balance the same?

A) The real exchange rate must fall.
B) Foreign income must rise.
C) The domestic price level must fall.
D) Domestic income must fall.

Question 22

When the marginal propensity to consume foreign imports (MPC_F) rises, ceteris paribus, what happens to the trade balance?

A) It increases.
B) It decreases.
C) It depends on what happens to the MPC of domestic goods.
D) It will not change.

Question 23

If the marginal propensity to consume foreign imports (MPC_F) is equal to 0.15, then a(n):

A) increase in domestic consumption will generate a 15% rise in imports.
B) decrease in domestic consumption will generate a 15% rise in imports.
C) increase in domestic income will generate a 15% rise in imports.
D) decrease in domestic income will generate a 15% rise in imports.

Question 24

The marginal propensity to consume goods and services can be broken out into the:

A) marginal propensity to invest plus the marginal propensity to save.
B) marginal propensity to consume home-produced goods and services plus the marginal propensity to consume imports.
C) marginal propensity to spend minus the marginal propensity to save.
D) marginal propensity to consume goods plus the marginal propensity to consume services.

Question 25

When the real exchange rate decreases in the United States, then there is a(n) ______ in U.S. demand for U.S. goods and a(n) _________ in U.S. demand for Mexican goods.

A) decrease; increase
B) increase; decrease
C) increase; increase
D) decrease; decrease

Question 26

If domestic and foreign prices rise by the same relative amount, what will happen to the trade balance?

A) It will rise.
B) Nothing will happen.
C) It will fall.
D) Not enough information is provided to answer the question.

Question 27

The TB (i.e., X - M) is part of the short-run spending equation. With sticky prices, what would be the effect on the TB with an increase (a real depreciation) of the home nation's exchange rate?

A) Consumers in the home nation would find it more expensive to buy domestic goods compared with foreign goods, and the TB would decrease.
B) Consumers in the home nation would cut back on both domestic and foreign goods and the TB would decrease.
C) Consumers in the home nation would increase spending on both domestic and foreign goods, and the TB would be unchanged.
D) Consumers in the home nation would increase spending on domestic goods and decrease spending on foreign goods, causing the TB to increase.

Question 28

When income levels in the rest of the world increase, what is the effect on the home TB?

A) It decreases because of expenditure switching.
B) It decreases because of an increase in imports.
C) It increases because of an increase in exports.
D) It increases because of expenditure switching.

Question 29

A major factor in changing levels of imports in an open economy is:

A) real international rates of interest.
B) relative international price levels.
C) a change in a nation's disposable income.
D) a change in transportation costs.

Question 30

If the trade surplus has fallen, which of the following is a possible explanation?

A) The real exchange rate rose.
B) Foreign income fell.
C) Domestic income fell.
D) The foreign price level rose.

Question 31

An increase in the home country's income will result in a(n) _____ in the home country trade balance, and an increase in foreign income will result in a(n) _____ in the home country trade balance.

A) fall; fall
B) increase; increase
C) increase; fall
D) fall; increase

Question 32

Calculate the relative price of a basket of goods sold in the United States and Japan in terms of dollars if the yen/$ exchange rate = 90. The basket costs $100 in the United States and ¥9,000 in Japan. The relative price is:

A) 0.9, which means the U.S. basket costs more.
B) 1.1010, which means the Japanese basket costs more.
C) 0.9, which means the Japanese basket costs more.
D) 1.0, which means they both cost the same.

Question 33

If a basket of goods costs $100 in the United States and 300 pesos in Mexico, and if the exchange rate is $1 = 5 pesos, then the dollar price of the basket of goods in Mexico is:

A) $250.
B) $56.
C) $60.
D) $75.

Question 34

When analyzing the impact of government consumption and taxes in an open economy, we exclude transfer payments because:

A) they are not paid for by taxes.
B) in the aggregate, they do not generate a change in total spending on goods and services.
C) the sums are so large as to be incalculable.
D) the sums are so small as to be insignificant.

Question 35

The functional relationship between the trade balance and the real exchange rate is:

A) a negative, or decreasing, function.
B) a positive, or increasing, function.
C) a parabolic function.
D) impossible to quantify because there are so many unknown variables.

Question 36

When income levels in the home nation increase, what is the effect on the home TB?

A) It decreases because of expenditure switching.
B) It decreases because of an increase in imports.
C) It increases because of an increase in exports.
D) It increases because of expenditure switching.

Question 37

What is the real exchange rate?

A) It is the ratio of the domestic cost of a foreign basket of products compared with the cost of the same domestic basket of products.
B) It is the exchange rate minus the rate of domestic inflation.
C) It is the exchange rate plus the rate of domestic inflation.
D) It is the original exchange rate that was in effect when the nations were on a gold standard.

Question 38

If the dollar appreciates against the Mexican peso, consumers in Mexico are likely to buy more local products, and consumers in the United States are likely to buy more Mexican products. This phenomenon is known as:

A) forward exchange rates.
B) currency pass through.
C) expenditure switching.
D) depreciation of the dollar.

Question 39

A result of an exchange rate depreciation, _____ would occur as the spending patterns change in response to a change in the exchange rate.

A) expenditure switching from domestic to foreign products
B) expenditure switching from foreign to domestic products
C) expenditure switching from rural to urban producers
D) terms-of-trade deterioration

Question 40

When analyzing the impact of government consumption and taxes in an open economy, we assume that:

A) the reasons for changing fiscal policy are not important.
B) government deficits are a problem for the domestic and international economy.
C) governments always have a balanced budget.
D) governments often do not coordinate their tax and spending policies with those of other nations.

Question 41

When we measure the impact of exchange rate changes on a nation's trade balance, the bilateral exchange rates explain only part of the change. To assess the overall change, we need to calculate:

A) the home multilateral exchange rate, or real effective exchange rate.
B) a nation's income versus income changes in the rest of the world.
C) a nation's marginal propensity to consume imports.
D) the movement over time of the trade balance along with long-run expectations of the exchange rate.

Question 42

If we assume sticky prices in both foreign and domestic trading nations, the rate of pass-through from the nominal to the real exchange rate falls as:

A) the percentage of traded goods priced in foreign currencies rises.
B) the percentage of traded goods priced in the domestic currency rises.
C) the percentage change in the exchange rate exceeds the percentage increase in inflation.
D) traders find new markets and are able to avoid nations with currency depreciations.

Question 43

Data on the relationship between the U.S. multilateral real exchange rate and the U.S. trade balance show:

A) a surprising result that the decrease in the trade balance is correlated with an increase (depreciation) of the U.S. dollar multilateral real exchange rate.
B) a predictable result that the increase in the trade balance is correlated with an increase (depreciation) of the U.S. dollar multilateral real exchange rate.
C) a correlation that is so weak it cannot be used to support the theory that the trade balance is related to the real effective exchange rate of the U.S. dollar.
D) a surprising result that the increase in the U.S. trade balance occurs with a decrease (appreciation) in the real effective exchange rate of the dollar.

Question 44

Suppose that the dollar real exchange rate falls by 10% against the euro, 20% against the pound, and 25% against the yen. If the United States trades equally with each country, what is the percentage decline in the real effective exchange rate?

A) 22.5%
B) 18.3%
C) 15.1%
D) 20.3%

Question 45

Full pass-through means that a 10% rise in the overseas price of an imported good leads to:

A) a 100% rise in the domestic price.
B) a greater than 10% rise in the domestic price.
C) a 10% rise in the domestic price.
D) a less than 10% rise in the domestic price.

Question 46

Sometimes a change in the real effective multilateral exchange rate has the opposite result from what one would expect. One explanation may be that:

A) buying habits are very strong and firms and consumers continue their behavior despite large changes in prices of imports.
B) price changes do not bring about immediate responses in import or export volume because of contracts, or firms' difficulty in changing suppliers quickly.
C) the theory is fundamentally flawed and does not predict well.
D) there are other factors we are not considering that affect the trade balance.

Question 47

In order to assess the relationship between the real exchange rate and total exports for any nation, one must construct a real effective exchange rate that measures:

A) a composite of each trading partner's real exchange rate change weighted by the share of trade.
B) the exchange rate that would exist with no inflation and balanced trade.
C) the average of all nominal exchange rates since we assume no inflation.
D) nominal trade adjusted for inflation.

Question 48

The J curve effect in reference to the trade balance may persist:

A) for up to one year after the depreciation.
B) permanently.
C) for a few weeks only.
D) for up to 10 years after the depreciation.

Question 49

Suppose the MPC is 0.8 in Canada and the MPC_h is 0.55. If income increases by $100 million in Canada, then the increase in consumption of foreign goods will be:

A) $35 million.
B) $25 million.
C) $80 million.
D) $100 million.

Question 50

In 2009, there was an unlikely boom in British cross-Channel grocery deliveries to France because of:

A) an increase in French income.
B) an increase in French preferences for British food items.
C) crop failures in France due to a year-long drought.
D) a dramatic weakening of the British pound against the euro over the previous 18 months.

Question 51

In 2004, retailers and exporters in the United States were happy, as were their customers from abroad, because of:

A) a reduction in import tariffs by the EU.
B) the lifting of an embargo on U.S. exports to Germany.
C) the high value of the U.S. dollar compared with other currencies.
D) the low value of the U.S. dollar compared with other currencies.

Question 52

The J curve effect means that import prices are higher, thus revenues paid out increase while export prices are lower and incoming revenues decrease. Therefore, after a currency depreciation:

A) the trade balance will improve, then decline, then improve, and then decline, appearing to be a series of J shapes.
B) the trade balance will increase, then decrease, then jump higher, which economists call the J curve effect.
C) the nation will cut back on imports immediately causing the trade balance to improve, which gives the curve an inverted J shape.
D) the trade balance decreases and then increases over time giving the curve a J shape.

Question 53

Suppose that the United States does of its trade with Canada, with the United Kingdom, and with Mexico. If the dollar real exchange rate rises by 10% with Canada, rises by 20% for the United Kingdom, and falls by 10% for Mexico, what is the percentage change in the real effective exchange rate?

A) 11.5%
B) 10%
C) 7.5%
D) -2.5%

Question 54

The devaluation of a currency results in a(n):

A) initial increase in trade balance, but an eventual decline in the trade balance.
B) permanent decline in the trade balance.
C) permanent increase in the trade balance.
D) initial decrease in trade balance, but an eventual increase in the trade balance.

Question 55

When a depreciation in the nation's real effective exchange rate initially lowers the trade balance and then increases it, economists refer to the phenomenon as:

A) the K curve effect.
B) the J curve effect.
C) the real balances effect.
D) the marginal propensity to import.

Question 56

The final market price of imports may not reflect 100% of changes in the real effective exchange rate because:

A) exchange rates in many nations are fixed.
B) there are restrictions on capital inflows.
C) domestic price distortions, such as markups or taxes, reduce the impact of the exchange rate change.
D) the government has instituted price controls.

Question 57

Consider the following information on Mexico's trade. Thirty percent of the trade is conducted with country A, 55% of trade with country B, and 15% of trade with country C. If the peso appreciates 10% against country A, depreciates 30% against country B, and depreciates 10% against country C, then the effective trade-weighted real exchange rate experiences a:

A) 15% appreciation.
B) 15% depreciation.
C) 25% depreciation.
D) 20% appreciation.

Question 58

If a nation trades with another nation in a foreign currency (such as some commodities sold that are priced in U.S. dollars), then, when nominal exchange rates change, the real effective exchange rate will:

A) change by more.
B) change by less.
C) change in exactly the same proportion.
D) not change at all.

Question 59

Suppose the MPC is 0.8 in Canada and the MPC is 0.55 at Home. If income increases by $100 million in Canada, then the increase in consumption of domestic goods will be:

A) $25 million.
B) $80 million.
C) $55 million.
D) $35 million.

Question 60

Trade dollarization refers to:

A) the practice of insisting on trade in U.S. dollars.
B) the fact that many international commodities are traded in U.S. dollars only.
C) the fact that many dollars have flowed out of the U.S. and are used in other nations as their national currency.
D) the falling dollar combined with a rising trade balance.

Question 61

Because of international time lags between ordering and the receipt of goods, a depreciation of a currency:

A) will not change import or export volumes for a time, since prices on orders already placed cannot be renegotiated.
B) will immediately change import and export volumes, because buyers and sellers always include an opt-out clause.
C) will affect import and export volumes in third countries not party to the particular transaction.
D) will never change import or export volumes.

Question 62

If taxes fall and foreign income falls, what will happen to output, ceteris paribus?

A) It will rise.
B) It will stay the same.
C) It will fall.
D) It is uncertain what will happen.

Question 63

The trade balance component of aggregate demand is a function of all the following, EXCEPT:

A) foreign disposable income.
B) domestic disposable income.
C) the real exchange rate.
D) consumer spending.

Question 64

In the Keynesian model, when is the economy in short-run equilibrium?

A) when there is no inflation
B) when there is full employment
C) when there is a balanced federal budget
D) when total spending (demand) is equal to production (supply)

Question 65

Aggregate supply is the same thing as:

A) total national spending.
B) total domestic production.
C) aggregate demand.
D) a supply shock.

Question 66

If the interest rate rises and government spending falls, what will happen to output, ceteris paribus?

A) It will rise.
B) It will stay the same.
C) It will fall.
D) It is uncertain what will happen.

Question 67

Because a change in consumer spending is positively related to a change in income, the slope of the aggregate demand function is:

A)

Question 68

The total demand line will shift whenever:

A) the MPC increases.
B) output changes.
C) there is an exogenous change in one of its components (C, I, G, or X).
D) aggregate supply increases.

Question 69

In addition to government purchases or changes in taxes, demand shocks in the economy can increase or decrease GDP, leading to a fall or rise in the trade balance. Which of the following would NOT represent a demand shock?

A) a change in household wealth leading to a rise in consumption expenditures
B) a rise in inflation
C) a change in the marginal propensity to import, causing imports to rise
D) an increase in technology, causing investment spending to rise

Question 70

The goods market adjusts to an equilibrium right at the point of the Keynesian cross. Why?

A) At that point, the Keynesian theory of sticky prices is correct.
B) At only that point, total spending is equal to total production.
C) At only that point, consumers are fully satisfied and firms have maximized profits.
D) At only that point, the unemployment rate is zero and workers need not seek higher wages.

Question 71

The larger the percentage of U.S. imports already priced in dollars, the less likely depreciation in the U.S. dollar will be to:

A) decrease prices of imports.
B) increase prices of imports.
C) limit trade imbalances.
D) increase trade with third-party nations.

Question 72

Unlike in the long-run model, in the short-run Keynesian model, we make two critical assumptions: that firms adjust production depending on _______, and that _______.

A) total demand; prices are fixed
B) resource limitations; prices are flexible
C) the market rate of interest; consumers maximize utility
D) consumer spending; there is full employment

Question 73

A fall in the real exchange rate (appreciation) will decrease the trade balance in the short run and cause a(n) ________ of the total demand curve.

A) downward shift
B) increase in the slope
C) upward shift
D) decrease in the slope

Question 74

If output falls, which of the following could be an explanation?

A) a fall in the interest rate
B) a fall in foreign income or a rise in investments
C) a decline in government spending
D) a rise in the interest rate, a fall in foreign income, or a decline in government spending

Question 75

An increase in income in an open economy nation will cause a change in consumer spending on home production, and a(n):

A) increase in taxes.
B) decrease in savings.
C) increase in foreign production.
D) increase in imports if MPC_F (marginal propensity to consume foreign goods) is greater than zero.

Question 76

A belief that high-tech companies would be highly profitable led to the boom in Internet companies in the 1990s, which is known as a(n):

A) investment shock.
B) investment boom.
C) technology surge.
D) technology reversal.

Question 77

The greater the MPC is, the ______ the slope of the demand curve.

A) greater
B) smaller
C) It depends on the trade balance.
D) The slope of the demand curve does not depend on this.

Question 78

The Keynesian model of aggregate demand includes: I. government purchases and taxes.
II) consumer spending and investment spending.
III) exports plus imports.

A) I only
B) I and II only
C) II and III only
D) I, II, and III

Question 79

The MPC shows the relationship between:

A) interest rates and investment.
B) disposable income and consumer spending.
C) saving and investing.
D) inflation and unemployment.

Question 80

If a proportion of traded goods (such as oil) are priced in a foreign currency, the real exchange rate becomes:

A) lower.
B) higher.
C) less responsive to changes in the nominal exchange rate.
D) more responsive to changes in the nominal exchange rate.