Exam 16: Expectations Theory and the Economy

Expectations theory tells us that what people think can impact the economy.

The economist who won the Nobel Prize in Economics in 1995,and whose name is closely connected with rational expectations theory,is

An unanticipated decrease in aggregate demand will cause an upward shift in the short-run Phillips curve.

Exhibit 16-9 -Refer to Exhibit 16-9. Assume that the starting point is point 1. Suppose that the government implements expansionary fiscal policy that raises aggregate demand. Which of the following best goes with the diagram shown?

The short-run Phillips curve holds that

Explain the difference between how adaptive expectations are formed and how rational expectations are formed.How does this difference affect the speed at which economic variables are expected to change?

Exhibit 16-2 -Refer to Exhibit 16-2.Suppose the economy starts at point B.Fed monetary policy shifts the AD curve to AD₁.If policy is correctly anticipated and people hold rational expectations,according to new classical theory the economy in the short run will

Milton Friedman argued that as long as

Describe the sequence of events that real business cycle theorists would use to explain how an adverse supply shock would impact the economy.Use your answer to explain why it is easy to confuse cause and effect between changes originating on the supply side and those that begin on the demand side.

New classical economists believe that if policy is correctly anticipated and if rational expectations hold,when the Fed increases the money supply the result will be a(n)______________ in the price level and ____________________________.

Suppose that the government implements expansionary fiscal policy that raises aggregate demand,but individuals incorrectly anticipate the policy measure (bias upward). According to new classical theory,in the short run the price level would ____________ and Real GDP would ______________. In the long run,new classical theory would predict that the price level would ______________ compared to its original long-run equilibrium level and that Real GDP would _____________.

Exhibit 16-3 -Refer to Exhibit 16-3.The economy is at point A.According to the Friedman natural rate theory,in the long run after a rise in the money supply,the economy will be at point

New Keynesian theory differs from new classical theory in that New Keynesian theory assumes that wages and prices are not completely flexible in the short-run,while fully flexible wages and prices are an assumption of new classical theory.

Milton Friedman argued that the economy is not in long-run equilibrium if the expected inflation rate __________ the actual inflation rate.

Rational expectations are based on the past alone,while adaptive expectations are based on the past,the present,and the future.

Which of the following assumptions is held by both the classical view and the new classical view?

New classical economists believe that monetary and fiscal policies are never effective.

Exhibit 16-8 -Refer to Exhibit 16-8. Assume that the starting point is point 1. Suppose that the Fed implements expansionary monetary policy that raises aggregate demand. Which of the following best goes with the diagram shown?

Although the possibility exists for an economy to experience stagflation,it has never actually happened in the United States.

According to new classical economists,if a decrease in aggregate demand is correctly anticipated,the short-run aggregate supply curve will shift __________ at the same time the AD curve shifts _________ so that there will be no change in Real GDP .