Question 1

According to the theory of liquidity preference, how is the money supply affected by the interest rate?
A)positively
B)negatively
C)not affected
D)directly

Accepted Answer

C

Question 2

According to the liquidity preference theory, equilibrium in the money market is achieved by adjustments in which of the following?
A)the price level
B)the interest rate
C)the exchange rate
D)real wealth

Accepted Answer

According to the liquidity preference theory, equilibrium in the money market is achieved by adjustments in the interest rate. The theory suggests that individuals have a preference for holding money in liquid form rather than in the form of other assets such as bonds or stocks. The interest rate is determined in the money market, where the demand for money and the supply of money intersect. An increase in the demand for money relative to its supply leads to an increase in the interest rate, while a decrease in the demand for money relative to its supply leads to a decrease in the interest rate. Therefore, changes in the interest rate are the key adjustment mechanism in achieving equilibrium in the money market.

Question 3

Which of the following is the most liquid asset?
A)capital goods
B)stocks and bonds with a low risk
C)stocks and bonds with a high risk
D)funds in a chequing account

Accepted Answer

Funds in a chequing account are the most liquid asset as they can be easily accessed and used for transactions or withdrawals. Capital goods and stocks/bonds with high or low risk are not as easily convertible to cash without incurring significant losses in value or transactions costs.

Question 4

For the Canadian economy, which of the following is the LEAST important reason for the downward slope of the aggregate-demand curve?
A)the wealth effect
B)the interest-rate effect
C)the exchange-rate effect
D)the real-wage effect

Accepted Answer

The answer of For the Canadian economy, which of the...

Question 5

According to liquidity preference theory, what action taken by the Bank of Canada would shift the money supply curve?
A)if the Bank of Canada engaged in arbitrage
B)if the Bank of Canada changed the inflation rate
C)if the Bank of Canada changed the exchange rate
D)if the Bank of Canada engaged in open-market transactions

Accepted Answer

According to the liquidity preference theory, the money supply curve can be shifted by changes in the monetary policy of the central bank that influence the supply of money in the economy. Open-market transactions by the Bank of Canada, such as buying or selling government bonds, can directly affect the money supply by injecting or withdrawing liquidity from the financial system. Other options like arbitrage, inflation rate or exchange rate may indirectly influence the demand for money but not directly shift the money supply curve.

Question 6

Which of the following is NOT a reason the aggregate demand curve slopes downward?
A)As the price level increases, real wages decline.
B)As the price level increases, real wealth declines.
C)As the price level increases, the interest rate increases.
D)As the price level increases, the exchange rate increases.

Accepted Answer

The aggregate demand curve slopes downward primarily due to the wealth effect, interest rate effect, and exchange rate effect. Real wages declining as the price level increases is not a reason for the downward slope of the aggregate demand curve.

Question 7

Which of Keynes's theories does liquidity preference refer to?
A)the effects of changes in money demand and supply on interest rates
B)the effects of changes in money demand and supply on exchange rates
C)the effects of wealth on expenditures
D)the difference between temporary and permanent changes in income

Accepted Answer

Liquidity preference refers to Keynes's theory regarding the effect of changes in the demand and supply of money on interest rates. Keynes argued that people would prefer to hold liquid assets such as cash or short-term government bonds instead of non-liquid assets such as long-term government bonds when there is uncertainty about future events. This preference for liquidity can lead to changes in the demand for money and thus affect interest rates.

Question 8

Over what period of time is the liquidity preference theory most relevant, and what does it suppose?
A)short run; it supposes that the price level adjusts to bring money supply and money demand into balance
B)short run; it supposes that the interest rate adjusts to bring money supply and money demand into balance
C)long run; it supposes that the price level adjusts to bring money supply and money demand into balance
D)long run; it supposes that the interest rate adjusts to bring money supply and money demand into balance

Accepted Answer

The liquidity preference theory is most relevant in the short run and it supposes that the interest rate adjusts to bring money supply and money demand into balance. This theory was proposed by John Maynard Keynes and suggests that in the short run, the demand for money is determined by the desire to hold liquid assets, and the interest rate adjusts to ensure that the money supply meets this demand. In the long run, however, the theory is less relevant as the price level is assumed to adjust to bring money supply and money demand into balance.

Question 9

Which of the following is characteristic of aggregate demand in Canada?
A)The exchange-rate effect is relatively small because exports and imports are a small part of real GDP.
B)The interest-rate effect is relatively small because investment spending is not very responsive to interest rate changes.
C)The wealth effect is relatively large because money holdings are a significant portion of most households' wealth.
D)The interest rate effect is relatively large.

Accepted Answer

The interest rate effect refers to the impact changes in the interest rate have on borrowing and consumption. In Canada, investment spending is more responsive to interest rate changes, making the interest rate effect relatively large.

Question 10

If expected inflation is constant and the nominal interest rate increases, how does the real interest rate change?
A)It increases by more than the change in the nominal interest rate.
B)It increases by the change in the nominal interest rate.
C)It decreases by the change in the nominal interest rate.
D)It decreases by more than the change in the nominal interest rate.

Accepted Answer

When expected inflation is constant and nominal interest rates increase, the real interest rate increases by the same amount as the change in the nominal interest rate. This is because the real interest rate represents the purchasing power of the interest earned on an investment, and an increase in nominal interest rates is matched by an equal increase in inflation expectations, leaving the real rate unchanged.

Question 11

The wealth effect helps explain the downward slope of the aggregate demand curve. How important is this effect and why?
A)relatively important in Canada because expenditures on consumer durables is very responsive to changes in wealth
B)relatively important in Canada because consumption spending is a large part of GDP
C)relatively unimportant in Canada because money holdings are a small part of consumer wealth
D)relatively unimportant in Canada because it takes a large change in wealth to make a significant change in interest rates

Accepted Answer

In Canada, money holdings are a small part of consumer wealth, making the wealth effect relatively unimportant in influencing aggregate demand.

Question 12

When the Bank of Canada buys government bonds, how do the reserves of the banking system change and what happens to the money supply?
A)The reserves increase, so the money supply increases.
B)The reserves increase, so the money supply decreases.
C)The reserves decrease, so the money supply increases.
D)The reserves decrease, so the money supply decreases.

Accepted Answer

When the Bank of Canada buys government bonds, it pays for them by crediting the seller's bank account, thereby increasing the bank's reserves. As a result, the overall reserves of the banking system increase, allowing banks to make more loans and effectively increasing the money supply.

Question 13

According to liquidity preference theory, when would the money supply curve shift right?
A)if the money demand curve shifted right
B)only if the Bank of Canada chose to increase the money supply
C)if the interest rate increased
D)if the price level fell or the interest rate decreased

Accepted Answer

According to the liquidity preference theory, the money supply curve is vertical in the short run and determined by the Bank of Canada's policy. Therefore, the money supply curve can only shift right if the Bank of Canada chooses to increase the money supply. Changes in the money demand curve or interest rate may affect the equilibrium quantity of money but would not shift the money supply curve. A fall in the price level may lead to a shift in the money demand curve but would not affect the money supply curve.

Question 14

What does liquidity refer to?
A)the relation between the price and interest rate of an asset
B)the risk of an asset relative to its selling price
C)the ease with which an asset is converted into a medium of exchange
D)the sensitivity of investment spending to changes in the interest rate

Accepted Answer

Liquidity refers to the ease with which an asset can be converted into cash or a medium of exchange. It is a measure of how quickly an asset can be bought or sold without significantly impacting its price. A highly liquid asset can be easily and quickly converted into cash without any loss of value.

Question 15

The theory of liquidity preference assumes that the nominal supply of money is determined by which of the following?
A)the level of real GDP
B)the rate of inflation
C)the interest rate
D)the central bank

Accepted Answer

The theory of liquidity preference, proposed by John Maynard Keynes, assumes that the nominal supply of money is determined by the central bank.

Question 16

How long does fiscal policy affect the economy?
A)only in the short run
B)only in the long run
C)in both the short and long run
D)in neither the short nor long run

Accepted Answer

Fiscal policy can affect the economy in both the short and long run. In the short run, changes in government spending and taxation can have an immediate impact on aggregate demand and can help stabilize the economy during a recession or inflationary period. In the long run, fiscal policy can influence factors like productivity, labor supply, and overall economic growth. However, the effectiveness of fiscal policy can vary depending on factors like the strength of the economy and the responsiveness of consumers and businesses to changes in policy.

Question 17

Which of the following is NOT a response that would result from a decrease in the price level and so help to explain the slope of the aggregate demand curve?
A)When interest rates fall, Sleepwell Hotels decides to build some new hotels.
B)The exchange rate falls, so French restaurants in Paris buy more Canadian beef.
C)Janet feels wealthier because of the price drop, and so she decides to remodel her bathroom.
D)With prices down and wages fixed by contract, Gatekeeper Computers decides to lay off workers.

Accepted Answer

A decrease in the price level would lead to a decrease in the cost of production, which would allow firms to increase their output without the need for additional workers. Therefore, laying off workers would not be a normal response to a decrease in the price level, which is why option D is the correct answer. Options A, B, and C all describe situations where the decrease in the price level leads to increased spending, which is a typical response that helps to explain the downward slope of the aggregate demand curve.

Question 18

If expected inflation is constant and the nominal interest rate increased 5 percentage points, what would happen to the real interest rate?
A)It would increase 5 percentage points.
B)It would increase, but by less than 5 percentage points.
C)It would decrease, but by less than 5 percentage points.
D)It would decrease by 5 percentage points.

Accepted Answer

If expected inflation is constant, any change in the nominal interest rate directly translates to the same change in the real interest rate. Therefore, a 5 percentage point increase in the nominal interest rate would result in a 5 percentage point increase in the real interest rate.

Question 19

Which of the following reasons for the downward slope of the aggregate demand curve would likely be more important for a small closed economy?
A)the wealth effect
B)the interest-rate effect
C)the exchange-rate effect
D)the real-wage effect

Accepted Answer

The answer of Which of the following reasons for the...

Question 20

According to liquidity preference theory, what shape is the money supply curve?
A)upward sloping
B)downward sloping
C)vertical
D)horizontal

Accepted Answer

According to liquidity preference theory, the money supply curve is vertical because it is determined by the central bank and is not affected by the interest rate.

Quiz 15: The Influence of Monetary and Fiscal Policy on Aggregate Demand

According to the theory of liquidity preference, how is the money supply affected by the interest rate?

According to the liquidity preference theory, equilibrium in the money market is achieved by adjustments in which of the following?

Which of the following is the most liquid asset?

For the Canadian economy, which of the following is the LEAST important reason for the downward slope of the aggregate-demand curve?

According to liquidity preference theory, what action taken by the Bank of Canada would shift the money supply curve?

Which of the following is NOT a reason the aggregate demand curve slopes downward?

Which of Keynes's theories does liquidity preference refer to?

Over what period of time is the liquidity preference theory most relevant, and what does it suppose?

Which of the following is characteristic of aggregate demand in Canada?

If expected inflation is constant and the nominal interest rate increases, how does the real interest rate change?

The wealth effect helps explain the downward slope of the aggregate demand curve. How important is this effect and why?

When the Bank of Canada buys government bonds, how do the reserves of the banking system change and what happens to the money supply?

According to liquidity preference theory, when would the money supply curve shift right?

What does liquidity refer to?

The theory of liquidity preference assumes that the nominal supply of money is determined by which of the following?

How long does fiscal policy affect the economy?

Which of the following is NOT a response that would result from a decrease in the price level and so help to explain the slope of the aggregate demand curve?

If expected inflation is constant and the nominal interest rate increased 5 percentage points, what would happen to the real interest rate?

Which of the following reasons for the downward slope of the aggregate demand curve would likely be more important for a small closed economy?

According to liquidity preference theory, what shape is the money supply curve?