Question 1

If firms and workers have rational expectations,including knowledge of the policy being used by the Federal Reserve,the short-run Phillips curve will be

Accepted Answer

If firms and workers have rational expectations, they will anticipate the effects of the monetary policy implemented by the Federal Reserve. As a result, they will adjust their behavior accordingly, and the short-run Phillips curve will become vertical. In other words, any attempt by the Fed to reduce unemployment below its natural rate through expansionary monetary policy will only cause inflation. This is consistent with the idea of the natural rate of unemployment, which denotes the level of unemployment that corresponds to a non-accelerating inflation rate of unemployment (NAIRU) or the long-run Phillips curve.

Question 2

Lucas and Sargent argue that the short-run trade-off between unemployment and inflation is caused by

Accepted Answer

Lucas and Sargent, proponents of the rational expectations theory, argue that the short-run trade-off between unemployment and inflation, often represented by the Phillips curve, is primarily due to workers and firms being fooled by unexpected changes in monetary policy. They suggest that when the central bank changes monetary policy in an unanticipated way, it temporarily affects real variables like unemployment because people's expectations of inflation have not yet adjusted. This is a key insight of the New Classical economics.

Question 3

Some economists argue that the short-run Phillips curve is not vertical,and that monetary policy can be effective in the short run.Which one of the following is not one of the reasons for this skepticism?

Accepted Answer

Empirical evidence showing workers and firms have rational expectations supports the vertical short-run Phillips curve, as they would already incorporate expected inflation into their behavior and decision-making.

Question 4

Which of the following would be the source of a "real" business cycle?

Accepted Answer

Changes in technology can cause fluctuations in productivity and output levels, leading to a real business cycle. While monetary policies may have an impact on the economy, they are not considered to be sources of real business cycles.

Question 5

If people assume that future rates of inflation will follow the pattern of inflation rates in the past,they are said to have

Accepted Answer

If people assume that future rates of inflation will follow the pattern of inflation rates in the past, they are said to have adaptive expectations. This means that their expectations are based on past experiences and they adjust their expectations as new information becomes available. Rational expectations, on the other hand, assume that people are fully informed and always make the best possible economic decision. Unstable and accommodative expectations are not commonly used economic terms.

Question 6

According to economists Robert Lucas and Thomas Sargent,when are the gains to accurately forecasting inflation highest?

Accepted Answer

The gains to accurately forecasting inflation are highest when inflation is high and unstable because in such environments, the ability to predict inflation accurately can significantly impact investment decisions, savings, and consumption patterns, helping individuals and businesses to better protect their purchasing power and make more informed financial decisions.

Question 7

Figure 17-6 
-Refer to Figure 17-6.If firms and workers have rational expectations,an expansionary monetary policy will cause the short-run equilibrium to move from

Accepted Answer

If firms and workers have rational expectations, they will anticipate the effects of the expansionary monetary policy. This anticipation means that the economy moves directly to the long-run equilibrium without going through the short-run phases of higher output at lower prices. Therefore, the equilibrium moves from point A to point C, where the economy is at a new equilibrium with a higher price level but the same level of output as before the policy was implemented.

Question 8

In which of the following situations might you expect expansionary monetary policy to reduce the unemployment rate?

Accepted Answer

Expansionary monetary policy can reduce unemployment if actual inflation is higher than expected because it can lead to lower real interest rates, stimulating spending and investment, which can increase demand for labor.

Question 9

If workers and firms know that the Federal Reserve is following an expansionary monetary policy,workers and firms will expect inflation to ________ and will adjust wages so that the real wage ________.

Accepted Answer

When workers and firms expect inflation to increase due to an expansionary monetary policy, they will likely adjust nominal wages upwards to maintain the purchasing power of their wages, meaning the real wage remains unchanged.

Question 10

The major criticism of real business cycle models is

Accepted Answer

The major criticism of real business cycle models is that negative technology shocks are uncommon and can't explain all business cycle fluctuations. This means that the model relies too heavily on technology shocks as the driving force of business cycles and doesn't adequately account for other factors that may affect the economy.

Question 11

When individuals use all available information about an economic variable to make a decision,expectations are

Accepted Answer

When individuals use all available information about an economic variable to make a decision, their expectations are considered rational as they are making informed decisions based on current information.

Question 12

When inflation is very low,how do workers and firms adjust their expectations of inflation?

Accepted Answer

When inflation is very low, workers and firms often tend to ignore inflation in their economic planning and expectations, as its impact on wages and prices is minimal.

Question 13

Models that focus on factors such as technology shocks rather than "monetary" explanations of fluctuations in real GDP are called

Accepted Answer

Real business cycle models focus on technological shocks and other factors that influence changes in production and employment, rather than on monetary policy or other nominal factors.

Question 14

If workers and firms have rational expectations,they understand that ________ monetary policy will raise the inflation rate,so actual inflation ________ expected inflation.

Accepted Answer

With rational expectations, workers and firms anticipate the effects of expansionary monetary policy, so they adjust their expectations accordingly, making actual inflation equal to expected inflation.

Question 15

According to real business cycle models

Accepted Answer

Real business cycle models posit that the economy is normally operating at potential GDP, which means that the economy is producing its maximum level of output given its resources and technology. Therefore, choice D is the correct answer. Choices A, B, and C are incorrect because real business cycle models do not typically support them. For example, real business cycle models do not typically focus on the Phillips curve, as it is more commonly associated with traditional Keynesian economics. Additionally, real business cycle models often emphasize the importance of productivity shocks and other real factors, rather than monetary policy, as the primary drivers of fluctuations in real GDP.

Question 16

If firms and workers have rational expectations,including knowledge of the policy being used by the Federal Reserve

Accepted Answer

If firms and workers have rational expectations and knowledge of the policy being used by the Federal Reserve, they will adjust their behavior accordingly, mitigating the effectiveness of expansionary monetary policy. This is known as the "rational expectations trap," which suggests that active stabilization policy may not be effective in the long run. Therefore, choice B is the best answer.

Question 17

Figure 17-6 
-Refer to Figure 17-6.If firms and workers have adaptive expectations,an expansionary monetary policy will cause the short-run equilibrium to move from

Accepted Answer

With adaptive expectations, when the central bank implements an expansionary monetary policy, firms and workers adjust their expectations based on past inflation rates. Initially, they may not fully anticipate the inflationary impact of the policy. As a result, real wages may temporarily fall, leading firms to increase hiring and production. This scenario corresponds to a movement along the short-run Phillips curve from a higher unemployment, lower inflation point (A) to a lower unemployment, higher inflation point (B), reflecting the short-term trade-off between inflation and unemployment before expectations adjust.

Question 18

If actual inflation is greater than expected inflation,what is the relationship between the actual real wage and the expected real wage?

Accepted Answer

If actual inflation is greater than expected inflation, the purchasing power of nominal wages will be lower than expected. This means that the actual real wage (purchasing power of nominal wage) will be lower than expected real wage. Therefore, choice A is the correct answer.

Question 19

If wages and prices adjust slowly,we would expect expansionary monetary policy to be

Accepted Answer

When wages and prices adjust slowly, expansionary monetary policy is more likely to affect the unemployment rate because it takes time for prices and wages to adjust to the increased money supply, leading to a temporary decrease in unemployment as firms increase production and hiring.

Question 20

Proponents of the new classical macroeconomics do not believe which of the following?

Accepted Answer

Proponents of the new classical macroeconomics argue that monetary policy is not effective, and instead, they believe that changes in aggregate demand only cause temporary changes in output and employment. Therefore, using expansionary monetary policy to try to stimulate economic growth is seen as futile.

Quiz 17: Inflation, Unemployment, and Federal Reserve Policy