Question 1

If the price level doubled and someone wanted to maintain the same level of purchasing power, the nominal quantity of money demanded must:

Accepted Answer

To maintain the same level of purchasing power, the individual would need to have double the nominal amount of money to account for the increase in price level. Therefore, the nominal quantity of money demanded must also double.

Question 2

What is the goal of expansionary monetary policy, and how does it work in the short run?

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Question 3

The money demand curve is shown in a graph with the interest rate on short-term assets on the vertical axis. Why use this short-term interest on the vertical axis and not the rate of return on other financial assets?

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Question 4

Firms and businesses hold some of their assets in the form of money because:

Accepted Answer

Holding assets in the form of money allows firms and businesses to make purchases directly, which is a convenient and efficient way to manage their transactions. Money is highly liquid and can be easily exchanged for goods and services.

B, C, and D are incorrect because: 
B) Money is not always classified as M2, which includes broader measures of money supply that include savings deposits, time deposits, and other similar types of assets.
C) Bonds may offer higher rates of return compared to money, but they are less liquid and cannot be easily used to make direct purchases. 
D) Interest rates on money may vary depending on market conditions and other factors, and may not always be lower than other types of assets.

Question 5

The higher the short-term interest rate, the:

Accepted Answer

When the short-term interest rate is high, individuals and firms are more likely to invest their money in interest-bearing accounts or investments rather than holding onto money that does not earn interest. This increases the opportunity cost of holding money, as individuals have to forgo potential interest earnings.

Question 6

The equilibrium interest rate in the loanable funds market is the same as the equilibrium interest rate in the money market.

Accepted Answer

In the loanable funds market, the interest rate is determined by the supply and demand for loanable funds from borrowers and lenders. In the money market, the interest rate is determined by the supply and demand for money. However, changes in the interest rate in one market will affect the other market, leading to an eventual equilibrium interest rate in both markets. Thus, the equilibrium interest rate in the loanable funds market will be the same as the equilibrium interest rate in the money market.

Question 7

What is the opportunity cost of holding money?

Accepted Answer

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Question 8

Suppose that the inflation rate is 2.5%. The unemployment gap is 2%. Use the Taylor rule to estimate the target Federal funds rate.

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Question 9

Suppose the annual inflation rate is at 7% and 3% of the labor force is unemployed. If you were on the Federal Open Market Committee, what action would you prescribe? How would this affect the economy, the inflation rate, and the unemployment rate?

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Question 10

How does an increase in the money supply affect interest rates if the economy is operating at potential output?

Accepted Answer

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Question 11

The difference between the interest rate on assets that are not money and the interest rate on assets that are money is:

Accepted Answer

The difference between the interest rate on assets that are not money and the interest rate on assets that are money is known as the opportunity cost of holding money. This is because if an individual or firm holds money, they are foregoing the opportunity to earn interest on other assets that could have been purchased instead.

Question 12

Explain what is meant by money neutrality. Use an example of expansionary monetary policy, both in the short run and the long run.

Accepted Answer

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Question 13

What is the goal of contractionary monetary policy, and how does it work in the short run?

Accepted Answer

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Question 14

In the long run, a change in monetary policy will affect only the aggregate price level.

Accepted Answer

A change in monetary policy can affect the aggregate price level by affecting the level of money supply in the economy, which in turn can affect the level of demand and inflation. However, it may also have other effects on the economy such as on output, employment, and interest rates in the short-run before the price level adjusts.

Question 15

Why does a recession, all else equal, decrease the demand for money?

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Question 16

If aggregate output decreases in an economy whose central bank is not changing its monetary policy, one would expect the:

Accepted Answer

When aggregate output decreases, economic activity slows down, leading to a decrease in transactions and thus a fall in the demand for money.

Question 17

Short-term interest rates:

Accepted Answer

Short-term interest rates tend to move together, as they are often influenced by the same economic factors and policies.

Question 18

If the economy is operating at potential output, how does a contractionary monetary policy affect short-run and long-run prices and real output?

Accepted Answer

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Question 19

How would a significant fall in the interest rate on short-term certificates of deposit (CDs) affect the money demand curve?

Accepted Answer

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Question 20

Suppose the annual inflation rate is at 2% and 8.5% of the labor force is unemployed. If you were on the Federal Open Market Committee, what action would you prescribe? How would this affect the economy, the inflation rate, and the unemployment rate?

Accepted Answer