Question 1

If the central bank targets the interest rate,it
A)must decrease interest rates in response to an increase in money demand.
B)can lead to runaway inflation if maintained too rigidly.
C)rules out the possibility of runaway inflation.
D)Both a and c
E)Both b and c

Accepted Answer

Targeting the interest rate and keeping it artificially low can lead to an excess supply of money, which, if not carefully managed, can cause inflation to accelerate. This approach does not inherently prevent runaway inflation; instead, it can contribute to it if the policy is too rigid and not responsive to changing economic conditions.

Question 2

The FOMC meets approximately eight times per year and at these meetings they
A)set a target federal funds interest rate.
B)set a target money supply.
C)set a target employment target.
D)All of the above
E)None of the above

Accepted Answer

The Federal Open Market Committee (FOMC) sets a target federal funds interest rate at their meetings. This interest rate influences the money supply, which in turn affects employment levels. Therefore, while the FOMC does indirectly impact employment levels, their main focus is on the federal funds rate.

Question 3

According the principle of time inconsistency,the most important element of policy making is
A)predictability.
B)transparency.
C)credibility.
D)judgment

Accepted Answer

The principle of time inconsistency refers to the tendency of policymakers to change their policies over time in response to changing circumstances, causing their credibility to be undermined. Therefore, the most important element of policy making is credibility, or the ability of policymakers to stick to their commitments and maintain the trust of the public and market participants. This is essential for ensuring that policy actions are effective in achieving their intended objectives. Predictability and transparency are also important for building credibility, but they are not sufficient on their own. Judgment is a necessary skill for policymakers, but it is not the most important element for addressing the problem of time inconsistency.

Question 4

Briefly discuss an argument for Central Bank Independence.When looking across countries,has Central Bank independence been successful? Explain.

Accepted Answer

The answer of Briefly discuss an argument for Central Bank...

Question 5

Assuming the central bank follows a money supply target,then an increase in the demand for money
A)will shift the position of the LM schedule away from the predicted level even if the target level of the money supply is achieved.
B)will shift the position of the LM schedule toward the predicted level as long as the target level of the money supply is achieved.
C)may or may not shift the position of the LM schedule away from the predicted level even if the target level of the money supply is achieved.
D)None of the above

Accepted Answer

An increase in the demand for money, even if the central bank achieves its target level of the money supply, will shift the LM schedule away from the predicted level. This is because the LM curve represents combinations of interest rates and levels of income at which the money market is in equilibrium. An increase in the demand for money, if not matched by an increase in supply, will lead to higher interest rates for any given level of income, thus shifting the LM curve.

Question 6

If velocity is highly unstable,then targeting the money supply
A)will be effective in stabilizing the LM curve and interest rates.
B)has the same effects as targeting interest rates.
C)will be ineffective in stabilizing aggregate demand.
D)none of the above.

Accepted Answer

If velocity is highly unstable, targeting the money supply would be ineffective in stabilizing aggregate demand because changes in the money supply will not have a predictable effect on spending. In this case, other tools such as fiscal policy may be more effective in stabilizing the economy.

Question 7

Does targeting the money supply become more or less effective if money demand is highly interest rate elastic? Use a graph to explain your intuition.

Accepted Answer

The answer of Does targeting the money supply become more...

Question 8

Intermediate targeting the money supply is preferable if there is a(n)
A)increase in the severity of supply shocks.
B)unstable money demand function.
C)low interest elasticity of money demand.
D)difficulty in the measurement of money demand.
E)none of the above.

Accepted Answer

When the interest elasticity of money demand is low, changes in interest rates have little effect on the demand for money, making money supply targeting more effective.

Question 9

Under what conditions is a money-stock target considered superior to an interest-rate target? Under what conditions is an interest-rate target preferred to a money-stock target?

Accepted Answer

The answer of Under what conditions is a money-stock target...

Question 10

If the financial innovations such as ATM machines make money demand less elastic than it was before,then
A)the LM curve will become steeper.
B)the LM curve will become flatter.
C)both the IS and LM curves will become flatter.
D)the LM curve will shift to the left.

Accepted Answer

When the demand for money becomes less elastic due to financial innovations like ATM machines, it means that people's demand for money becomes less sensitive to changes in interest rates. As a result, the LM curve, which represents the relationship between the interest rate and the level of income in the market for money, will become steeper. This is because a given change in the interest rate will now result in a smaller change in the quantity of money demanded than before.

Question 11

According to the Taylor rule,how should monetary policy and interest rates change in response to a situation in which actual output exceeds the natural rate of output? In what sense is the Taylor rule consistent with Keynesian stabilization policy? Explain.

Accepted Answer

The answer of According to the Taylor rule,how should monetary...

Question 12

What is the FOMC? Who votes on the FOMC? How often does it meet? What is the outcome of their meetings?

Accepted Answer

The answer of What is the FOMC? Who votes on...

Question 13

"The independence of the Fed leaves it unaccountable for its actions." Do you agree or disagree with this statement?

Accepted Answer

The answer of "The independence of the Fed leaves it...

Question 14

After two decades with inflationary rates that exceeded the Organization for Economic Co-operation and Development average and with output growth rates that fell short of that average,the New Zealand government adopted a very strict form of inflation targeting in 1990.Explain the New Zealand experiment and its strict form of inflation targeting.

Accepted Answer

The answer of After two decades with inflationary rates that...

Question 15

If the great majority of shocks to our system arise from unpredictable shocks to money demand,the preferred tactic of monetary policy is targeting
A)reserves.
B)interest rates.
C)M2.
D)reserves plus currency.

Accepted Answer

If the great majority of shocks to our system arise from unpredictable shocks to money demand, targeting interest rates is likely the most effective tactic for monetary policy. This is because changes in interest rates can impact the demand for money, and in turn, affect the overall economy. Targeting reserves or M2 may not address the underlying issue of unpredictable money demand shocks.

Question 16

The best case for intermediate targeting on monetary aggregates is where the
A)LM schedule is flat and the money demand function is stable.
B)IS schedule is flat and the level of investment is stable.
C)LM schedule is steep and the money demand function is stable.
D)IS schedule is steep and the money demand function is stable.

Accepted Answer

A steep LM schedule means that changes in the money supply have a bigger impact on interest rates and output. This makes intermediate targeting on monetary aggregates more effective. If the money demand function is also stable, it means that changes in money supply will lead to predictable changes in the target variable (such as nominal GDP or inflation), allowing for better control by the central bank.

Question 17

According to the theory of time inconsistency,why are rules preferable to discretion? Does it make a difference if you are talking about this in a model with rational expectations or not?

Accepted Answer

The answer of According to the theory of time inconsistency,why...

Question 18

Which of the following statements is (are)correct? Regardless of whether the LM curve is vertical or upward sloping,
A)a money stock target is superior to an interest rate target when the uncertainty facing the policymaker concerns the IS schedule.
B)an interest rate target is always superior to a money stock target when the uncertainty facing the policymaker concerns the IS schedule.
C)both a money stock target or interest rate target provide the same results when the uncertainty facing the policymaker concerns the IS schedule.
D)a money stock target is never superior to an interest rate target when the uncertainty facing the policymaker concerns the IS schedule.

Accepted Answer

When the LM curve is vertical or upward sloping, changes in the money supply have no effect on the interest rate. In this case, a money stock target cannot affect the economy, and an interest rate target would be necessary to influence investment and consumption decisions through changes in the cost of borrowing. Therefore, statement A is correct, and statements B, C, and D are incorrect.

Question 19

According to the Taylor rule,if actual output is greater than the natural rate of output,then the Fed should
A)decrease inflation.
B)increase interest rates.
C)conduct open market sales.
D)decrease interest rates.
E)Both a and b

Accepted Answer

The answer of According to the Taylor rule,if actual output...

Question 20

Discuss the merits of a money growth rule versus an inflation target rule.Which was preferred by Monetarists? Which is the most widely used today,and why?

Accepted Answer

The answer of Discuss the merits of a money growth...

Quiz 17: Optimal Monetary Policy

If the central bank targets the interest rate,it

The FOMC meets approximately eight times per year and at these meetings they

According the principle of time inconsistency,the most important element of policy making is

Briefly discuss an argument for Central Bank Independence.When looking across countries,has Central Bank independence been successful? Explain.

Assuming the central bank follows a money supply target,then an increase in the demand for money

If velocity is highly unstable,then targeting the money supply

Does targeting the money supply become more or less effective if money demand is highly interest rate elastic? Use a graph to explain your intuition.

Intermediate targeting the money supply is preferable if there is a(n)

Under what conditions is a money-stock target considered superior to an interest-rate target? Under what conditions is an interest-rate target preferred to a money-stock target?

If the financial innovations such as ATM machines make money demand less elastic than it was before,then

According to the Taylor rule,how should monetary policy and interest rates change in response to a situation in which actual output exceeds the natural rate of output? In what sense is the Taylor rule consistent with Keynesian stabilization policy? Explain.

What is the FOMC? Who votes on the FOMC? How often does it meet? What is the outcome of their meetings?

"The independence of the Fed leaves it unaccountable for its actions." Do you agree or disagree with this statement?

If the great majority of shocks to our system arise from unpredictable shocks to money demand,the preferred tactic of monetary policy is targeting

The best case for intermediate targeting on monetary aggregates is where the

According to the theory of time inconsistency,why are rules preferable to discretion? Does it make a difference if you are talking about this in a model with rational expectations or not?

Which of the following statements is (are) correct? Regardless of whether the LM curve is vertical or upward sloping,

According to the Taylor rule,if actual output is greater than the natural rate of output,then the Fed should

Discuss the merits of a money growth rule versus an inflation target rule.Which was preferred by Monetarists? Which is the most widely used today,and why?