Question 1

Which of the following inflation costs matter even if actual inflation and expected inflation are the same?

Accepted Answer

Menu costs refer to the costs that firms incur when they have to constantly adjust their prices to keep up with inflation. Even if actual inflation and expected inflation are the same, menu costs will still be incurred, making option D the correct choice. Production costs may be affected by inflation, but if actual and expected inflation are the same, the impact on production costs may be minimal. Losses in real income and tax revenue are more directly linked to differences between actual and expected inflation.

Question 2

If the money supply growth rate permanently increased from 4 percent to 12 percent, which of the following would we expect to happen?

Accepted Answer

According to the Fisher effect, a permanent increase in the money supply growth rate leads to a proportional increase in the inflation rate, which in turn causes a proportional increase in the nominal interest rate.

Question 3

Which of the following can a country increase in the long run by increasing its money growth rate?

Accepted Answer

Increasing the money growth rate in the long run leads to an increase in the price level. This is because the quantity theory of money suggests that there is a direct relationship between the money supply and the price level. Therefore, an increase in the money growth rate will lead to an increase in the price level in the long run.

Question 4

If the nominal interest rate is 8 percent and the real interest rate is 3 percent, what is the inflation rate?

Accepted Answer

The inflation rate can be calculated by subtracting the real interest rate from the nominal interest rate:
Inflation rate = Nominal interest rate - Real interest rate
= 8% - 3%
= 5%
Therefore, the inflation rate is 5 percent.

Question 5

Inflation positively correlated with which of the following?

Accepted Answer

Inflation is positively correlated with nominal wage growth and nominal interest rates. When inflation increases, prices of goods and services increase, leading to an increase in wages and interest rates to keep up with the rising prices. Therefore, option A is the correct choice.

Question 6

Which of the following terms refers to the cost of changing price tags and price listings?

Accepted Answer

Menu costs refer to the expenses that businesses incur when changing the prices of goods and services they offer. These costs include the cost of updating price tags and labels, updating online price listings, and updating other marketing materials. Therefore, the term that refers to the cost of changing price tags and price listings is menu costs (choice D).

Question 7

Which of the following best defines menu costs?

Accepted Answer

Menu costs refer to the cost of more frequent price changes induced by higher inflation. This includes the cost of updating price lists, changing price tags, updating menus, and notifying customers of the new prices. As inflation increases, businesses may need to change their prices more frequently to maintain profitability, resulting in higher menu costs.

Question 8

Which of the following does the shoeleather cost of inflation refer to?

Accepted Answer

Shoeleather cost refers to the resources wasted when people reduce their money holdings to avoid the inflation tax, often leading to more frequent trips to the bank, metaphorically wearing out their shoes.

Question 9

When people use more resources to reduce their money holdings because of high inflation, this an example of which of the following?

Accepted Answer

The action of reducing money holdings due to high inflation, is a cost of inflation known as "shoeleather costs". It refers to the costs of time and effort spent to avoid holding money for too long when its purchasing power is rapidly declining.

Question 10

Which of the following does an increase in the money supply growth rate increase?

Accepted Answer

An increase in the money supply growth rate will lead to inflation as more money is available chasing the same amount of goods and services. This will also lead to an increase in nominal interest rates as lenders will demand higher interest rates to compensate for inflation. However, real interest rates (nominal rate adjusted for inflation) will not change as they are determined by the market forces of supply and demand for loanable funds, which are unaffected by changes in the money supply growth rate.

Question 11

Greta puts money in a savings account at her bank earning 6.5 percent. One year later she takes her money out and notes that while her money was earning interest, prices rose 3.5 percent. Which of the following does Greta now have?

Accepted Answer

Greta earned 6.5% interest on her money, but inflation was 3.5%, so her real purchasing power increased by 3% (6.5% - 3.5%).

Question 12

If a country had deflation, how would the nominal interest rate compare to the real interest rate?

Accepted Answer

In a situation of deflation where the general price level is decreasing, the real interest rate will be higher than the nominal interest rate because the inflation component of the nominal interest rate will be negative. Thus, the real interest rate, which is the nominal rate minus inflation, will be higher than the nominal rate.

Question 13

Suppose that velocity and output are constant, the quantity theory and Fisher effect are correct, the nominal interest rate is 7 percent, and money growth is 2 percent. Which of the following is consistent with these facts?

Accepted Answer

The Fisher effect states that the nominal interest rate is the sum of the real interest rate and the inflation rate. With a nominal interest rate of 7% and money growth (inflation) of 2%, the real interest rate is 5%.

Question 14

Which of the following do shoeleather costs refer to?

Accepted Answer

Shoeleather costs refer to the resources used to maintain lower money holdings when inflation is high. This includes costs such as increased bank transactions and trips to the ATM to withdraw smaller amounts of money more frequently.

Question 15

Suppose that velocity and output are constant and that the quantity theory and Fisher effect are both correct. If the nominal interest rate is 8 percent and inflation is 3 percent, what is the money supply growth rate or the real interest rate?

Accepted Answer

The answer of Suppose that velocity and output are constant...

Question 16

Which of the following does the Fisher effect imply?

Accepted Answer

The Fisher effect implies that the nominal interest rate adjusts one for one with the inflation rate, keeping the real interest rate constant.

Question 17

In the long run when money is neutral, which of the following increases when the money supply growth rate increases?

Accepted Answer

In the long run, when money is neutral, only nominal variables are affected by changes in the money supply growth rate, such as nominal interest rates. Real variables, such as real output growth and real interest rates, are determined by non-monetary factors such as productivity, technology, and preferences. The money supply divided by the price level is known as the quantity theory of money and does not increase when the money supply growth rate increases in the long run, as it is determined by the velocity of money and the real output level. Therefore, the only choice that increases when the money supply growth rate increases in the long run is nominal interest rates, which adjust to changes in inflation expectations.

Question 18

Arnold puts money into an account. One year later he sees that he has 7 percent more dollars and that his money will buy 3 percent more goods. Which of the following is consistent with these facts?

Accepted Answer

The nominal interest rate is the rate of interest before adjusting for inflation. The inflation rate is the rate at which prices for goods and services are rising. In this case, Arnold's money will buy 3 percent more goods, so the inflation rate is 3 percent. The nominal interest rate is 7 percent, which is 4 percent higher than the inflation rate. So the correct answer is A.

Question 19

If your salary increased by 7 percent and prices increased by 4 percent, by how much did your real wage rise?

Accepted Answer

Real wage = (1 + Salary increase %) / (1 + Price increase %) - 1= (1 + 0.07) / (1 + 0.04) - 1= 1.03 / 1.04 - 1= 0.03= 3%

Question 20

If the money supply growth rate permanently increased from 5 percent to 30 percent, which of the following would we expect to happen to inflation?

Accepted Answer

The quantity theory of money suggests that a permanent increase in the money supply growth rate will lead to a proportional increase in the inflation rate. In this case, the money supply growth rate increases from 5 percent to 30 percent, which is a 25 percentage point increase. Therefore, we would expect inflation to increase by 25 percentage points.

Quiz 11: Money Growth and Inflation