Question 1

The equation of exchange states:
A) MV = PQ.
B) MP = VQ.
C) MP = V/Q.
D) V = M/PQ.

Accepted Answer

The answer of The equation of exchange states:
A) MV =...

Question 2

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, a shift in aggregate demand from AD₁ to AD₂: A) cannot raise real GDP because the economy is at full employment. B) cannot raise real GDP because the aggregate supply curve is upward sloping at GDP₂. C) will raise real GDP because the economy is operating below the full-employment level. D) will cause the interest rate to increase from i₂ to i₁. E) will raise real GDP but will also significantly raise the price level.

Accepted Answer

A shift in aggregate demand from AD₁ to AD₂ indicates an increase in aggregate demand for goods and services. Since the economy is operating below the full-employment level at GDP₂, this increase in demand will result in an increase in real GDP. Option A and B are incorrect as they suggest that real GDP cannot increase due to full employment and an upward sloping aggregate supply curve, respectively. Option D is incorrect as the interest rate is not mentioned in the exhibit. Option E is incorrect as it suggests that prices will increase significantly, which is not necessarily implied by the shift in aggregate demand.

Question 3

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, a move from MS₁ to MS₂: A) increases the money supply, causing the interest rate to rise from i₂ to i₁. B) increases the money supply, causing the interest rate to fall from i₁ to i₂. C) decreases the money supply, causing the interest rate to rise from i₂ to i₁. D) decreases the money supply, causing the interest rate to fall from i₁ to i₂. E) has no effect on the money supply or the interest rate.

Accepted Answer

Moving from MS₁ to MS₂ implies an increase in the money supply. This increase in the money supply would cause the interest rate to fall, from i₁ to i₂. Therefore, option B is the correct answer.

Question 4

Which of the following correctly gives us the equation of exchange?
A) TR = PQ.
B) MV = VM.
C) MV = PQ.
D) TR = VM.

Accepted Answer

The equation of exchange is MV = PQ, where M is the money supply, V is the velocity of money, P is the price level, and Q is the real output. This equation states that the total spending in an economy (MV) must be equal to the total value of goods and services produced (PQ).

Question 5

The Monetarist transmission mechanism through which monetary policy affects the price level, real GDP, and employment depends on the:
A) indirect impact of changes on the interest rate.
B) indirect impact of changes on profit expectations.
C) direct impact of changes in fiscal policy on aggregate demand.
D) direct impact of changes in the money supply on aggregate demand.

Accepted Answer

The Monetarist transmission mechanism posits that changes in the money supply have a direct impact on aggregate demand, which then affects the price level, real GDP, and employment. This is because an increase in the money supply lowers interest rates and encourages more spending and investment, which increases aggregate demand. Conversely, a decrease in the money supply raises interest rates and reduces spending and investment, which decreases aggregate demand. Indirect impacts on interest rates or profit expectations are not central to the Monetarist transmission mechanism. Fiscal policy, although it can affect aggregate demand, is not part of the Monetarist approach, which focuses on monetary policy.

Question 6

The equation of exchange states that:
A) money supply multiplied by real output equals velocity.
B) velocity multiplied by money supply equals the selling price times the quantity of actual output.
C) money supply divided by velocity equals nominal GDP.
D) money supply divided by velocity equals real GDP.

Accepted Answer

The equation of exchange is represented as MV = PQ, where M is the money supply, V is the velocity of money, P is the price level, and Q is the quantity of goods and services produced (real output). This equation states that the product of the money supply and its velocity equals the product of the price level and the quantity of actual output, which aligns with choice B.

Question 7

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, a shift in aggregate demand from AD₂ to AD₃: A) increases real GDP, and lowers the price level. B) decreases real GDP, and lowers the price level. C) increases real GDP, and raises the price level. D) decreases real GDP, and raises the price level. E) has no effect on real GDP and the price level because the economy can never reach full employment.

Accepted Answer

A shift in aggregate demand from AD₂ to AD₃ would increase demand for goods and services, which would lead to an increase in real GDP. However, as demand increases, prices will also increase, leading to a higher price level. Therefore, the correct answer is C (increases real GDP, and raises the price level).

Question 8

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, if the Fed believes the economy is at AD₃, how might it engineer a decline in the price level? A) By decreasing the money supply, the interest rate falls, investment rises, and aggregate demand falls, causing the price level to fall. B) By decreasing the money supply, the interest rate rises, investment rises, and aggregate demand rises, causing the price level to fall. C) By decreasing the money supply, the interest rate rises, investment falls, and aggregate demand falls, causing the price level to fall. D) By increasing the money supply, the interest rate rises, investment rises, and aggregate demand falls, causing the price level to fall. E) By increasing the money supply, the interest rate rises, investment falls, and aggregate demand rises, causing the price level to fall.

Accepted Answer

According to the exhibit, at AD₃, the economy is suffering from inflation, meaning the price level is too high. To engineer a decline in the price level, the Fed would need to decrease the money supply. This would lead to a rise in the interest rate, which would discourage investment, leading to a fall in aggregate demand and ultimately a fall in the price level. Option C describes this process accurately.

Question 9

If the velocity of the M1 money supply is 4 and nominal GDP is $200 billion, the stock of money in circulation must be:
A) $25 billion.
B) $50 billion.
C) $100 billion.
D) $800 billion.

Accepted Answer

The answer of If the velocity of the M1 money...

Question 10

According to monetarists, which of the following would be most important for the control of inflation?
A) a steady increase in federal expenditures
B) the imposition of price controls
C) keeping the growth rate of the money supply low and steady
D) a steady increase in the size of the budget deficit

Accepted Answer

According to monetarists, the most important factor in controlling inflation is keeping the growth rate of the money supply low and steady. This is because they believe that inflation is primarily caused by an increase in the money supply, and therefore controlling the growth rate of the money supply is crucial for controlling inflation. A steady increase in federal expenditures or a steady increase in the size of the budget deficit could potentially lead to an increase in the money supply and exacerbate inflation, while the imposition of price controls may distort market signals and lead to shortages or surpluses of goods. Therefore, C is the most important factor for controlling inflation according to monetarists.

Question 11

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, if the interest rate falls from i₁ to i₂, then: A) the quantity demanded of investment increases from I₁ to I₂ and investment spending shifts the aggregate demand curve from AD₂ to AD₁, decreasing the level of real GDP. B) the quantity demanded of investment increases from I₁ to I₂ and investment spending shifts the aggregate demand curve from AD₁ to AD₂, increasing the level of real GDP. C) the quantity demanded of investment decreases from I₂ to I₁ and investment spending shifts the aggregate demand curve from AD₁ to AD₂, decreasing the level of real GDP. D) the quantity demanded of investment decreases from I₂ to I₁ and investment spending shifts the aggregate demand curve from AD₂ to AD₁, increasing the level of real GDP. E) the quantity demanded of investment stays the same causing the aggregate demand curve to shift from AD₂ to AD₁ decreasing the level of real GDP.

Accepted Answer

When the interest rate falls, the cost of borrowing decreases, leading to an increase in investment demand from I₁ to I₂. This increase in investment spending shifts the aggregate demand (AD) curve to the right from AD₁ to AD₂, increasing the level of real GDP.

Question 12

"Monetary instability has been the major cause of economic instability in this country. Expansion in the money supply has been the source of every major inflation. Every major recession has been either caused or perpetuated by monetary contraction." Who among the following would most likely adhere to this view?
A) Monetarists.
B) Keynesians.
C) Demand-side economists.
D) Quantity theorists.

Accepted Answer

Monetarists, such as Milton Friedman, emphasize the importance of the money supply in determining economic outcomes. They argue that monetary instability, such as expansions or contractions in the money supply, is a major cause of economic instability, including inflation and recession.

Question 13

According to the equation of exchange, if M = 200, P = 100, and Q = 10, the V is:
A) 20.
B) 2.
C) 10.
D) 5.
E) 2,000.

Accepted Answer

The answer of According to the equation of exchange, if...

Question 14

According to the equation of exchange, if V = 5, P = 100, and Q = 10, the M is:
A) 20.
B) 10.
C) 500.
D) 1,000.
E) 200.

Accepted Answer

The equation of exchange is MV = PQ. Plugging in the values, M * 5 = 100 * 10, which simplifies to M * 5 = 1,000. Solving for M gives M = 1,000 / 5 = 200.

Question 15

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, if the interest rate falls from i₁ to i₂, investment spending will: A) increase, and aggregate demand will shift from AD₁ to AD₂. B) decrease, and aggregate demand will shift from AD₂ to AD₁. C) remain the same, and aggregate demand will shift from AD₂ to AD₃. D) increase, and aggregate demand will shift from AD₂ to AD₁. E) decrease, and aggregate demand will shift from AD₁ to AD₂.

Accepted Answer

The answer of Exhibit 20-5  Money, Investment and product markets ...

Question 16

If M stands for the money supply, V for the velocity of money, P for the average selling price, and Q for the output of goods and services, the equation of exchange is:
A) MP = VQ.
B) MV = PQ.
C) MQ = VP.
D) MP = PQ.

Accepted Answer

This equation, known as the Quantity Theory of Money, states that the product of the money supply (M) and the velocity of money (V) must equal the product of the average price level (P) and the quantity of output (Q). Therefore, the correct equation of exchange is MV = PQ.

Question 17

According to the monetarists, which of the following is true?
A) Instability in the money supply is the primary cause of economic instability.
B) A reduction in the money supply will cause consumers to increase spending.
C) A reduction in the money supply will cause a proportional reduction in wages and prices, leaving output unchanged.
D) A rapid growth rate of the money supply will lead to a rapid growth rate of real GDP.

Accepted Answer

According to the monetarists, instability in the money supply is the primary cause of economic instability. They believe that the growth rate of the money supply should be kept stable to avoid excessive inflation or recession. Thus, Option A is the correct answer. Option B is incorrect as a reduction in the money supply is likely to lead to reduced spending. Option C is also incorrect as a reduction in the money supply may lead to a reduction in output. Option D is also incorrect as the relationship between the growth rate of the money supply and real GDP growth rate may not be straightforward, especially in the short run.

Question 18

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, an increase in the money supply from MS₁ to MS₂ causes: A) interest rates to fall from i₁ to i₂ and the quantity demanded of investment to decrease from I₂ to I₁. B) interest rates to fall from i₁ to i₂ and aggregate demand to shift from AD₂ to AD₁. C) interest rates to fall from i₁ to i₂ and the quantity demanded of investment to increase from I₁ to I₂. D) interest rates to rise from i₂ to i₁ and the quantity demanded of investment to remain the same. E) interest rates to rise from i₂ to i₁ and aggregate demand to shift from AD₁ to AD₂.

Accepted Answer

An increase in the money supply causes a decrease in interest rates, which in turn leads to an increase in the quantity demanded of investment. This is shown by the movement from I₁ to I₂ in the investment demand graph. There is no effect on aggregate demand, as that is determined by factors such as consumption, government spending, and net exports. Therefore, options B and E are incorrect. Option D is also incorrect, as it suggests that an increase in interest rates would not affect the quantity demanded of investment, which is contrary to economic theory.

Question 19

Monetarists reject using discretionary monetary policy as an effective stabilization tool because they believe:
A) if the money supply grows at a rate equal to the economy's long-run rate of economic growth, then the economy will be unstable.
B) that changes in the money stock do not affect output or prices.
C) the Fed will miss its money supply targets and make the economy worse.
D) monetary policy can stimulate aggregate demand, but it cannot affect inflation.

Accepted Answer

Monetarists, such as Milton Friedman, argue that the Federal Reserve (or any central bank) often makes timing and magnitude errors when trying to control the money supply through discretionary monetary policy. They believe these errors can exacerbate economic fluctuations rather than stabilize them, hence their preference for a rule-based approach to monetary policy, such as keeping the money supply growth rate constant.

Question 20

Monetarists believe that an increase in the money supply will lead to:
A) both c and d.
B) all of the following.
C) an increase in the price level.
D) an increase in nominal GDP
E) an increase in real GDP.

Accepted Answer

Monetarists believe that an increase in the money supply primarily leads to an increase in the price level (C) and nominal GDP (D), as they emphasize the long-term neutrality of money, meaning real GDP (E) is not affected in the long run.

Quiz 20: Policy Disputes Using the Self-Correcting Aggregate Demand and Supply Model

The equation of exchange states:

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, a shift in aggregate demand from AD1 to AD2:

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, a move from MS1 to MS2:

Which of the following correctly gives us the equation of exchange?

The Monetarist transmission mechanism through which monetary policy affects the price level, real GDP, and employment depends on the:

The equation of exchange states that:

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, a shift in aggregate demand from AD2 to AD3:

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, if the Fed believes the economy is at AD3, how might it engineer a decline in the price level?

If the velocity of the M1 money supply is 4 and nominal GDP is $200 billion, the stock of money in circulation must be:

According to monetarists, which of the following would be most important for the control of inflation?

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, if the interest rate falls from i1 to i2, then:

According to the equation of exchange, if M = 200, P = 100, and Q = 10, the V is:

According to the equation of exchange, if V = 5, P = 100, and Q = 10, the M is:

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, if the interest rate falls from i1 to i2, investment spending will:

If M stands for the money supply, V for the velocity of money, P for the average selling price, and Q for the output of goods and services, the equation of exchange is:

According to the monetarists, which of the following is true?

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, an increase in the money supply from MS1 to MS2 causes:

Monetarists reject using discretionary monetary policy as an effective stabilization tool because they believe:

Monetarists believe that an increase in the money supply will lead to:

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, a shift in aggregate demand from AD₁ to AD₂:

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, a move from MS₁ to MS₂:

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, a shift in aggregate demand from AD₂ to AD₃:

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, if the Fed believes the economy is at AD₃, how might it engineer a decline in the price level?

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, if the interest rate falls from i₁ to i₂, then:

Exhibit 20-5 Money, Investment and product markets In Exhibit 20-5, if the interest rate falls from i₁ to i₂, investment spending will:

Exhibit 20-6 Money, investment and product markets In Exhibit 20-6, an increase in the money supply from MS₁ to MS₂ causes: