Question 1

If potential output equals 3,000 and short-run equilibrium output equals 3,500, there is a(n) ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

Accepted Answer

When short-run equilibrium output exceeds potential output there is an expansionary gap. To close this gap, the Federal Reserve must raise real interest rates, which will reduce investment and consumption expenditures.

Question 2

In the short-run, if the Federal Reserve decreases interest rates, then consumption and investment ______, aggregate expenditure ______, and short-run equilibrium output _______.

Accepted Answer

In the short run, decreased interest rates drive up consumption, investment, and aggregate expenditures. This, in turn, increases short-run equilibrium output.

Question 3

If potential output equals 4,000 and short-run equilibrium output equals 3,500, there is a ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

Accepted Answer

When potential output exceeds short-run equilibrium output there is a "recessionary gap." The Federal Reserve must reduce interest rates to close the gap because lower rates will inspire investment and consumption spending.

Question 4

To close a recessionary gap, the Fed ______ interest rates which ______ aggregate spending and ______ short-run equilibrium output.

Accepted Answer

When a "recessionary gap" exists, the Fed reduces interest rates, which increases aggregate spending, thus increasing short-run equilibrium output.

Question 5

In a certain economy, the components of aggregate spending are given by: C = 100 + 0.9(Y - T) - 500r
I = 150 - 1,000r
G = 200
NX = 50
T = 100
Given the information about the economy above, what would be the impact on short-run equilibrium output of a one-percentage-point decrease in the real interest rate from 6 percent to 5 percent?

Accepted Answer

Recall that Y = C + I + G + NX. Substituting into the equation gives Y = 100 + 0.9(Y - 100) - 500r + 150 - 1,000r + 200 + 50. Collecting terms yields Y= [410 -1,500r] + 0.9Y. At a real interest rate of 6 percent, we get Y = [410 -1,500(.06)] + 0.9Y or Y = 320 + 0.9Y. Solving for Y, we get Y - .9Y = 320 or 0.1Y = 320 or Y = 3,200. At a real interest rate of 5 percent, we get Y = [410 -1,500(.05)] + 0.9Y or Y = 335 + 0.9Y. Solving for Y, we get Y - .9Y = 335 or 0.1Y = 335 or Y = 3,350. So the short-run equilibrium changes from 3,200 to 3,350, an increase by 150 units.

Question 6

In a certain economy, the components of aggregate spending are given by: C = 100 + 0.9(Y - T) - 500r
I = 150 - 1,000r
G = 200
NX = 50
T = 100
Given the information about the economy above, what is the short-run equilibrium output if the real interest rate is 6 percent?

Accepted Answer

Recall that Y = C + I + G + NX. Substituting into the equation gives Y = 100 + 0.9(Y - 100) - 500r + 150 - 1,000r + 200 + 50. Collecting terms yields Y= [410 -1,500r] + 0.9Y. At a real interest rate of 6 percent, we get Y = [410 -1,500(.06)] + 0.9Y or Y = 320 + 0.9Y. Solving for Y, we get Y - .9Y = 320 or 0.1Y = 320 or Y = 3,200.

Question 7

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 36,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

Accepted Answer

If Y = 15,000 + 0.6Y - 20,000r, and Y = 36,000 at full employment, then 20,000r = 15,000 + 0.6(36,000) - 36,000. Solving for the real interest rate, r = 600/20,000 = 0.03.

Question 8

To close an expansionary gap, the Fed ______ interest rates which ______ aggregate spending and ______ short-run equilibrium output.

Accepted Answer

To close and expansionary gap, the Fed raises interest rates which decreases aggregate spending. As spending falls, short-run equilibrium output decreases.

Question 9

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 34,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

Accepted Answer

If Y = 15,000 + 0.6Y - 20,000r, and Y = 34,000 at full employment, then 20,000r = 15,000 + 0.6(34,000) - 34,000. Solving for the real interest rate, r = 1,400 ÷ 20,000 = 0.07.

Question 10

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 2 percent (0.02). If potential output equals 8,000, the central bank must ______ the interest rate to close the ______ gap.

Accepted Answer

If potential output is 8,000, this economy has an expansionary gap. Y = 5,500 + 0.6(Y) - 20,000(0.02), so 0.4Y = 5,100 and Y = 12,750. This is an expansionary gap of 4,750 and interest rates must be raised to close the gap.

Question 11

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 35,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

Accepted Answer

If Y = 15,000 + 0.6Y - 20,000r, and Y = 35,000 at full employment, then 20,000r = 15,000 + 0.6(35,000) - 35,000. Solving for the real interest rate, r = 1,000 ÷ 20,000 = 0.05.

Question 12

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 5 percent (0.05). If potential output equals 11,750, the central bank must ______ the interest rate to close the ____________ gap.

Accepted Answer

If potential output is 11,750, this economy has a recessionary gap. Y= 5,500 + 0.6(Y) - 20,000(0.05), so 0.4Y = 4,500 and Y = 11,250. This is a recessionary gap of 500 and interest rates must be reduced to close the gap.

Question 13

If potential output equals 8,000 and short-run equilibrium output equals 8,500, there is a(n) ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

Accepted Answer

When short-run equilibrium output exceeds potential output there is an expansionary gap. To close this gap, the Federal Reserve must raise real interest rates, which will reduce investment and consumption expenditures.

Question 14

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.06 (6 percent). If potential output equals 9,500, the central bank must ____ the interest rate to close the __________ gap.

Accepted Answer

If potential output is 9,500, this economy has an expansionary gap. Y = 3,000 + 0.75(Y) - 10,000(0.06), so 0.25Y = 2,400 and Y = 9,600. This is an expansionary gap of 100 and interest rates must be raised slightly to close the gap.

Question 15

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.05 (5 percent). If potential output equals 10,800, the central bank must ____ the interest rate to close the _________ gap.

Accepted Answer

If potential output is 10,800, this economy has a recessionary gap. Y = 3,000 + 0.75 (Y) - 10,000(0.05), so 0.25Y = 2,500 and Y = 10,000. This is a recessionary gap of 800 and interest rates must be lowered to close the gap.

Question 16

If the income-expenditure multiplier equals 4, and a 1 percent increase in the real interest rate reduces autonomous spending by 100 units, then a 1,000 unit recessionary gap can be eliminated by ______ the real interest rate by ______ percent.

Accepted Answer

To eliminate a 1,000 unit recessionary gap when the income-expenditure multiplier is 4, a stimulus of 250 units is needed. If each percent rise in real interest rates increases autonomous spending by 100 units, then a 2.5 percent decrease is needed.

Question 17

In the short-run, if the Federal Reserve increases interest rates, then consumption and investment ______, aggregate expenditure ______, and short-run equilibrium output _______.

Accepted Answer

In the short run, increased interest rates drive down consumption, investment, and aggregate expenditures. This, in turn, reduces short-run equilibrium output.

Question 18

In a certain economy, the components of aggregate spending are given by: C = 100 + 0.9(Y - T) - 500r
I = 150 - 1,000r
G = 200
NX = 50
T = 100
Given the information about the economy above, the immediate impact on aggregate expenditures of a one-percentage-point increase in the real interest rate (r) from 5 percent to 4 percent is ___, and the eventual impact on short-run equilibrium output is ______.

Accepted Answer

Recall that Y = C + I + G + NX. Substituting into the equation gives Y = 100 + 0.9(Y - 100) - 500r + 150 - 1,000r + 200 + 50. Collecting terms yields Y= [410 -1,500r] + 0.9Y. Thus, a one-percentage-point decrease in r would immediately increase aggregate expenditure by 1,500 × (0.01) = 15. At a real interest rate of 5 percent, we get Y = [410 -1,500(.05)] + 0.9Y or Y = 335 + 0.9Y. Solving for Y, we get Y - .9Y = 335 or 0.1Y = 335 or Y = 3,350. At a real interest rate of 4 percent, we get Y = [410 -1,500(.04)] + 0.9Y or Y = 350 + 0.9Y. Solving for Y, we get Y - .9Y = 350 or 0.1Y = 350 or Y = 3,500. So the short-run equilibrium changes from 3,350 to 3,500, an increase by 150 units. In other words, the multiplier in this economy is 10 (150/15).

Question 19

Federal Reserve actions that increase nominal interest rates and decrease the money supply:

Accepted Answer

To close an expansionary gap, the Federal Reserve slows the economy. It does this by increasing nominal interest rates through a decrease in the money supply.

Question 20

To close a recessionary gap, the Federal Reserve must ______ real interest rates by ______ the money supply.

Accepted Answer

When a "recessionary gap" exists, the Federal Reserve must decrease real interest rates by increasing the money supply. Lower rates will inspire investment and consumption spending.

Quiz 11: Stabilizing the Economy: The Role of the Fed

If potential output equals 3,000 and short-run equilibrium output equals 3,500, there is a(n) gap and the Federal Reserve must real interest rates in order to close the gap.

In the short-run, if the Federal Reserve decreases interest rates, then consumption and investment , aggregate expenditure , and short-run equilibrium output ___.

If potential output equals 4,000 and short-run equilibrium output equals 3,500, there is a gap and the Federal Reserve must real interest rates in order to close the gap.

To close a recessionary gap, the Fed interest rates which aggregate spending and __ short-run equilibrium output.

In a certain economy, the components of aggregate spending are given by: C = 100 + 0.9(Y - T) - 500r I = 150 - 1,000r G = 200 NX = 50 T = 100 Given the information about the economy above, what is the short-run equilibrium output if the real interest rate is 6 percent?

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 36,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

To close an expansionary gap, the Fed interest rates which aggregate spending and __ short-run equilibrium output.

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 34,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 2 percent (0.02) . If potential output equals 8,000, the central bank must the interest rate to close the gap.

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 35,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 5 percent (0.05) . If potential output equals 11,750, the central bank must the interest rate to close the ______ gap.

If potential output equals 8,000 and short-run equilibrium output equals 8,500, there is a(n) gap and the Federal Reserve must real interest rates in order to close the gap.

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.06 (6 percent) . If potential output equals 9,500, the central bank must the interest rate to close the ______ gap.

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.05 (5 percent) . If potential output equals 10,800, the central bank must the interest rate to close the _____ gap.

If the income-expenditure multiplier equals 4, and a 1 percent increase in the real interest rate reduces autonomous spending by 100 units, then a 1,000 unit recessionary gap can be eliminated by the real interest rate by percent.

In the short-run, if the Federal Reserve increases interest rates, then consumption and investment , aggregate expenditure , and short-run equilibrium output ___.

Federal Reserve actions that increase nominal interest rates and decrease the money supply:

To close a recessionary gap, the Federal Reserve must real interest rates by the money supply.

Quiz 11: Stabilizing the Economy: The Role of the Fed

If potential output equals 3,000 and short-run equilibrium output equals 3,500, there is a(n) ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

In the short-run, if the Federal Reserve decreases interest rates, then consumption and investment ______, aggregate expenditure ______, and short-run equilibrium output _______.

If potential output equals 4,000 and short-run equilibrium output equals 3,500, there is a ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

To close a recessionary gap, the Fed ______ interest rates which ______ aggregate spending and ______ short-run equilibrium output.

In a certain economy, the components of aggregate spending are given by: C = 100 + 0.9(Y - T) - 500r I = 150 - 1,000r G = 200 NX = 50 T = 100 Given the information about the economy above, what is the short-run equilibrium output if the real interest rate is 6 percent?

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 36,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

To close an expansionary gap, the Fed ______ interest rates which ______ aggregate spending and ______ short-run equilibrium output.

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 34,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 2 percent (0.02) . If potential output equals 8,000, the central bank must ______ the interest rate to close the ______ gap.

If aggregate spending in an economy can be written as Y = 15,000 + 0.6Y - 20,000r, and potential output equals 35,000, what real interest rate must the Federal Reserve set to bring the economy to full employment?

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 5 percent (0.05) . If potential output equals 11,750, the central bank must ______ the interest rate to close the ____________ gap.

If potential output equals 8,000 and short-run equilibrium output equals 8,500, there is a(n) ______ gap and the Federal Reserve must ______ real interest rates in order to close the gap.

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.06 (6 percent) . If potential output equals 9,500, the central bank must ____ the interest rate to close the __________ gap.

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.05 (5 percent) . If potential output equals 10,800, the central bank must ____ the interest rate to close the _________ gap.

If the income-expenditure multiplier equals 4, and a 1 percent increase in the real interest rate reduces autonomous spending by 100 units, then a 1,000 unit recessionary gap can be eliminated by ______ the real interest rate by ______ percent.

In the short-run, if the Federal Reserve increases interest rates, then consumption and investment ______, aggregate expenditure ______, and short-run equilibrium output _______.

Federal Reserve actions that increase nominal interest rates and decrease the money supply:

To close a recessionary gap, the Federal Reserve must ______ real interest rates by ______ the money supply.

If potential output equals 3,000 and short-run equilibrium output equals 3,500, there is a(n) gap and the Federal Reserve must real interest rates in order to close the gap.

In the short-run, if the Federal Reserve decreases interest rates, then consumption and investment , aggregate expenditure , and short-run equilibrium output ___.

If potential output equals 4,000 and short-run equilibrium output equals 3,500, there is a gap and the Federal Reserve must real interest rates in order to close the gap.

To close a recessionary gap, the Fed interest rates which aggregate spending and __ short-run equilibrium output.

To close an expansionary gap, the Fed interest rates which aggregate spending and __ short-run equilibrium output.

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 2 percent (0.02) . If potential output equals 8,000, the central bank must the interest rate to close the gap.

In an economy where aggregate spending is given by Y = 5,500 + 0.6Y - 20,000r, the interest rate is currently 5 percent (0.05) . If potential output equals 11,750, the central bank must the interest rate to close the ______ gap.

If potential output equals 8,000 and short-run equilibrium output equals 8,500, there is a(n) gap and the Federal Reserve must real interest rates in order to close the gap.

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.06 (6 percent) . If potential output equals 9,500, the central bank must the interest rate to close the ______ gap.

In an economy where aggregate spending is given by Y = 3,000 + .75Y - 10,000 r, the central bank is currently setting the interest rate at 0.05 (5 percent) . If potential output equals 10,800, the central bank must the interest rate to close the _____ gap.

If the income-expenditure multiplier equals 4, and a 1 percent increase in the real interest rate reduces autonomous spending by 100 units, then a 1,000 unit recessionary gap can be eliminated by the real interest rate by percent.

In the short-run, if the Federal Reserve increases interest rates, then consumption and investment , aggregate expenditure , and short-run equilibrium output ___.

To close a recessionary gap, the Federal Reserve must real interest rates by the money supply.