Question 1

Ultimately, what causes the short-run reduction in unemployment associated with an increase in inflation?
A) the shape of the long-run aggregate-supply curve
B) unanticipated inflation, not inflation per se
C) rational expectations
D) anticipated changes in the price level

Accepted Answer

According to the Phillips curve, there is an inverse relationship between unemployment and inflation in the short run. This relationship is based on the assumption that changes in the price level are not fully anticipated by workers and firms. However, in the long run, the curve becomes vertical as expectations adjust, and the unemployment rate returns to its natural rate. Therefore, an increase in inflation may reduce unemployment in the short run, but only if it is unanticipated. If workers and firms expect inflation, they will adjust their behavior accordingly, and the short-run tradeoff between unemployment and inflation will disappear.

Question 2

Which theory proposes that people optimally use all available information when forecasting the future?
A) rational expectations
B) perfect expectations
C) momentum expectations
D) policy expectations

Accepted Answer

The theory of rational expectations proposes that people use all available information (including past trends and current economic conditions) to make accurate predictions about the future state of the economy. This theory is based on the assumption that individuals are rational and will adjust their expectations in response to new information or changes in economic conditions.

Question 3

Which statement best defines disinflation?
A) It is a zero rate of inflation.
B) It is a constant rate of inflation.
C) It is a reduction in the rate of inflation.
D) It is a negative rate of inflation.

Accepted Answer

Disinflation is a decrease in the rate of inflation. It is not zero inflation (option A) and it is not a constant rate of inflation (option B). It is also not negative inflation (option D), which is deflation.

Question 4

Which statement best describes the sacrifice ratio for Canada?
A) It falls over a range of 1 to 3.
B) It falls over a range of 2 to 5.
C) It falls over a range of 3 to 6.
D) It falls over a range of 5 to 7.

Accepted Answer

The sacrifice ratio for Canada falls over a range of 2 to 5, according to a study by the Bank of Canada. The sacrifice ratio measures the cost of reducing inflation (typically through monetary policy) in terms of lost output or increased unemployment. A higher sacrifice ratio indicates that a larger cost had to be paid to reduce inflation.

Question 5

Proponents of rational expectations theory have argued that the sacrifice ratio could be as small as what?
A) 0
B) 2
C) 4
D) 6

Accepted Answer

Proponents of rational expectations theory argue that the sacrifice ratio - the short-run decrease in output that results from lowering inflation - may be minimal or even zero if agents have rational expectations and adjust their behavior accordingly.

Question 6

If the sacrifice ratio is 3, reducing the inflation rate from 10 percent to 6 percent would require sacrificing what percent of annual output?
A) 1 1/4 percent of annual output
B) 4 percent of annual output
C) 7 percent of annual output
D) 12 percent of annual output

Accepted Answer

The answer of If the sacrifice ratio is 3, reducing...

Question 7

Suppose a central bank reduced inflation by 4 percentage points and that made output fall by 4 percentage points for five years, and it made the unemployment rate rise from 3 percent to 7 percent for three years. What is the sacrifice ratio?
A) 1
B) 3
C) 4
D) 5

Accepted Answer

The sacrifice ratio is calculated as the cumulative loss in output divided by the reduction in inflation. Here, the output fell by 4 percentage points for five years, totaling a 20 percentage point loss. The inflation reduction was 4 percentage points. Thus, the sacrifice ratio is 20/4 = 5.

Question 8

If the sacrifice ratio is 2, reducing the inflation rate from 10 percent to 7 percent would require sacrificing how much annual output?
A) 2 percent of annual output
B) 3 percent of annual output
C) 5 percent of annual output
D) 6 percent of annual output

Accepted Answer

The sacrifice ratio is the amount of annual output that must be foregone to reduce inflation by 1 percentage point. With a sacrifice ratio of 2, reducing inflation from 10% to 7% (a 3 percentage point reduction) requires sacrificing 2% of annual output for each percentage point of inflation reduced, totaling 6% (2% * 3 = 6%).

Question 9

Suppose the Bank of Canada reduces inflation 3 percentage points, and this makes output fall 12 percentage points and unemployment rises 4 percentage points. What is the sacrifice ratio?
A) 1/4
B) 3
C) 4
D) 12

Accepted Answer

The sacrifice ratio is calculated as the percentage point increase in unemployment divided by the reduction in inflation. In this case, it's 4 percentage points increase in unemployment divided by 3 percentage points reduction in inflation, which equals a sacrifice ratio of 4/3 or approximately 1.33. However, given the options provided and the context of the question, it seems there might have been a misunderstanding in the interpretation. The correct approach to find the sacrifice ratio typically involves the loss in output relative to the reduction in inflation, which would indeed be 12 (the loss in output) divided by 3 (the reduction in inflation), giving a ratio of 4. This indicates a mistake in my initial explanation regarding the common definition of the sacrifice ratio, which more accurately relates to output loss per inflation reduction, hence the correct choice is C, reflecting a ratio of 4.

Question 10

Which statement best characterizes the theory of rational expectations?
A) It suggests that estimates of the sacrifice ratio should be used to guide policy.
B) It concerns how people use information to predict the future.
C) It explains why the long-run Phillips curve is vertical.
D) It explains how people act when there is unemployment and workers must be rationed.

Accepted Answer

The theory of rational expectations concerns how people use information to predict the future, based on the idea that individuals base their expectations on all available information, including their own experiences and knowledge. It is not related to estimating sacrifice ratios, explaining the long-run Phillips curve, or how people act during unemployment.

Question 11

Suppose the Bank of Canada decreased the growth rate of the money supply. What would permanently decrease?
A) the growth rate of GDP
B) the unemployment rate
C) the inflation rate
D) the price level

Accepted Answer

A decrease in the growth rate of the money supply would decrease the inflation rate permanently, as there is less money to be spent and therefore less upward pressure on prices. It would not necessarily affect the growth rate of GDP or the unemployment rate permanently, and it may also cause a temporary decrease in the price level due to reduced demand.

Question 12

Suppose an economy with high inflation decides to decrease the money supply growth rate. Which of the following best describes the results?
A) Initially unemployment rises. Eventually the short-run Phillips curve shifts right.
B) Initially unemployment rises. Eventually the short-run Phillips curve shifts left.
C) Initially unemployment falls. Eventually the short-run Phillips curve shifts right.
D) Initially unemployment falls. Eventually the short-run Phillips curve shifts left.

Accepted Answer

When an economy with high inflation decides to decrease the money supply growth rate, it typically leads to higher interest rates and reduced spending in the short term. This can cause an increase in unemployment as businesses adjust to the decreased demand. Over time, as inflation expectations adjust downward, the short-run Phillips curve, which illustrates the trade-off between inflation and unemployment, shifts to the left, indicating lower inflation at each level of unemployment.

Question 13

How much was the unemployment rate in Canada in 1983?
A) about 4 percent
B) about 6 percent
C) about 8 percent
D) more than 10 percent

Accepted Answer

According to Statistics Canada, the average annual unemployment rate in Canada in 1983 was 11.2 percent.

Question 14

What did proponents of rational expectations argue about the sacrifice ratio and why?
A) The sacrifice ratio would be high because it was rational for people not to immediately change their expectations.
B) The sacrifice ratio would be high because people might adjust their expectations quickly if they found anti-inflation policy credible.
C) The sacrifice ratio could be low because it was rational for people not to immediately change their expectations.
D) The sacrifice ratio could be low because people might adjust their expectations quickly if they found anti-inflation policy credible.

Accepted Answer

Proponents of rational expectations argued that the sacrifice ratio could be low because people might adjust their expectations quickly if they found anti-inflation policy credible. According to them, if people believed that the government was committed to reducing inflation, they would adjust their expectations accordingly, leading to lower sacrifice ratio.

Question 15

The long-run response to a decrease in the growth rate of the money supply is shown by shifting which of the Phillips curves and in what direction?
A) by shifting the short-run and long-run Phillips curves left
B) by shifting the short-run and long-run Phillips curves right
C) by shifting only the short-run Phillips curve left
D) by shifting only the short-run Phillips curve right

Accepted Answer

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

Question 16

Suppose the Bank of Canada reduces the rate of inflation by 4 percentage points. Suppose, as well, that the sacrifice ratio has a value of 2. Which of the following describes what happens to GDP?
A) GDP increases by 8 percentage points
B) GDP decreases by 8 percentage points
C) GDP increases by one-half of a percentage point
D) GDP decreases by one-half of a percentage point

Accepted Answer

The sacrifice ratio represents the percentage of GDP that must be forgone to reduce inflation by one percentage point. If the sacrifice ratio is 2, reducing inflation by 4 percentage points would result in a GDP decrease of 8 percentage points (2 * 4 = 8).

Question 17

Which of the following best defines the sacrifice ratio?
A) the sum of the inflation and unemployment rates
B) the inflation rate divided by the change in output
C) the number of percentage points annual output falls for each percentage point reduction in inflation
D) the number of percentage points unemployment rises for each percentage point reduction in inflation

Accepted Answer

The sacrifice ratio is the number of percentage points of annual output that must be forgone in order to reduce inflation by one percentage point. It represents the tradeoff between reducing inflation and sacrificing output. Choice A is incorrect because the sacrifice ratio only considers the effect on output, not the inflation rate itself. Choice B is incorrect because it involves dividing the inflation rate, which is not directly related to the sacrifice ratio. Choice D is incorrect because it refers to the Phillips curve, which shows the tradeoff between inflation and unemployment, but does not specifically relate to the sacrifice ratio.

Question 18

Suppose that reducing inflation 3 percentage points would cost a country 12 percent of annual output. What is this country's sacrifice ratio?
A) 3
B) 4
C) 9
D) 12

Accepted Answer

The sacrifice ratio measures the amount of output a country must sacrifice to reduce inflation by 1 percentage point. It is calculated as:

Sacrifice ratio = (percentage decrease in output)/(percentage point decrease in inflation)

In this case, we are told that reducing inflation by 3 percentage points would cost the country 12 percent of annual output. So we can calculate the sacrifice ratio as follows:

Sacrifice ratio = 12%/3 = 4

Therefore, the answer is B.

Question 19

Proponents of rational expectations theory have argued that, in the most extreme case, if policymakers are credibly committed to reducing inflation, and if rational people understand that commitment and quickly lower their inflation expectation, the sacrifice ratio could be as small as what?
A) 0
B) 1
C) 3
D) 5

Accepted Answer

Proponents of rational expectations theory argue that in the most extreme case, if policymakers are credibly committed to reducing inflation, and if rational people understand that commitment and quickly lower their inflation expectations, the sacrifice ratio could be zero. This is because there would be no need for a period of high unemployment to lower inflation expectations if it is expected to be lowered in the near future.

Question 20

If the Bank of Canada announced a policy to reduce inflation and people found it credible, what would happen to the short-run Phillips curve and the sacrifice ratio?
A) The short-run Phillips curve would shift right, and the sacrifice ratio would fall.
B) The short-run Phillips curve would shift right, and the sacrifice ratio would rise.
C) The short-run Phillips curve would shift left, and the sacrifice ratio would fall.
D) The short-run Phillips curve would shift left, and the sacrifice ratio would rise.

Accepted Answer

If the Bank of Canada's policy to reduce inflation is credible, people will adjust their inflation expectations downward. This leads to a leftward shift in the short-run Phillips curve, as lower inflation expectations reduce wage and price pressures. The sacrifice ratio, which measures the cost of reducing inflation in terms of lost output, would fall because the credible policy reduces the need for high unemployment to fight inflation.

Quiz 17: The Short-Run Tradeoff Between Inflation and Unemployment

Ultimately, what causes the short-run reduction in unemployment associated with an increase in inflation?

Which theory proposes that people optimally use all available information when forecasting the future?

Which statement best defines disinflation?

Which statement best describes the sacrifice ratio for Canada?

Proponents of rational expectations theory have argued that the sacrifice ratio could be as small as what?

If the sacrifice ratio is 3, reducing the inflation rate from 10 percent to 6 percent would require sacrificing what percent of annual output?

Suppose a central bank reduced inflation by 4 percentage points and that made output fall by 4 percentage points for five years, and it made the unemployment rate rise from 3 percent to 7 percent for three years. What is the sacrifice ratio?

If the sacrifice ratio is 2, reducing the inflation rate from 10 percent to 7 percent would require sacrificing how much annual output?

Suppose the Bank of Canada reduces inflation 3 percentage points, and this makes output fall 12 percentage points and unemployment rises 4 percentage points. What is the sacrifice ratio?

Which statement best characterizes the theory of rational expectations?

Suppose the Bank of Canada decreased the growth rate of the money supply. What would permanently decrease?

Suppose an economy with high inflation decides to decrease the money supply growth rate. Which of the following best describes the results?

How much was the unemployment rate in Canada in 1983?

What did proponents of rational expectations argue about the sacrifice ratio and why?

The long-run response to a decrease in the growth rate of the money supply is shown by shifting which of the Phillips curves and in what direction?

Suppose the Bank of Canada reduces the rate of inflation by 4 percentage points. Suppose, as well, that the sacrifice ratio has a value of 2. Which of the following describes what happens to GDP?

Which of the following best defines the sacrifice ratio?

Suppose that reducing inflation 3 percentage points would cost a country 12 percent of annual output. What is this country's sacrifice ratio?

Proponents of rational expectations theory have argued that, in the most extreme case, if policymakers are credibly committed to reducing inflation, and if rational people understand that commitment and quickly lower their inflation expectation, the sacrifice ratio could be as small as what?

If the Bank of Canada announced a policy to reduce inflation and people found it credible, what would happen to the short-run Phillips curve and the sacrifice ratio?