Deck 14: New Keynesian Economics: Sticky Prices

Question 1

The output gap is the difference between

A) the market-clearing level of output and the actual level of output, Ym - Y*.
B) output demand and output supply.
C) nominal output and real output.
D) the Bank of Canada's output target and the market-clearing level of output.
E) current and future total factor productivity.

Answer 1

A

Question 2

In the New Keynesian model, the output demand curve represents combinations of

A) the price level and the level of output at which the goods market and the labour market are in equilibrium.
B) the price level and the level of output at which the goods market is in equilibrium.
C) the real interest rate and the level of output at which the goods market and the labour market are in equilibrium.
D) the real interest rate and the level of output at which the goods market is in equilibrium.
E) the real interest rate and the price level at which the goods market is in equilibrium.

Answer 2

D

Question 3

The Y?(IS)curve is downward sloping to reflect the

A) positive relationship between aggregate output and total factor productivity.
B) positive relationship between aggregate output and employment.
C) positive relationship between aggregate output and the real wage rate.
D) negative relationship between aggregate output and the real interest rate.
E) negative relationship between aggregate output and the real wage rate.

Answer 3

D

Question 4

The main difference between the New Keynesian model and the basic monetary intertemporal model is that in the New Keynesian model,

A) the price level is sticky in the short run.
B) wages are sticky in the short run.
C) menu costs are insignificant.
D) firms are backward-looking.
E) prices adjust quickly to equate the supply and demand for goods.

Question 5

In 1936, Keynes described his views on the economy in

A) Mr. Keynes and the Classics; A Suggested Interpretation.
B) Some Evidence on the Importance of Sticky Prices.
C) Essays in Positive Economics.
D) The General Theory of Employment, Interest, and Money.
E) Macroeconomic Stabilization Policy in Canada.

Question 6

In the long run, most Keynesians believe

A) government policy is neutral.
B) the Bank of Canada is neutral.
C) total factor productivity is neutral.
D) money is neutral.
E) money is not neutral.

Question 7

The New Keynesian model has the property that in the short run,

A) government policy is neutral.
B) the Bank of Canada is neutral.
C) total factor productivity is neutral.
D) money is neutral.
E) money is not neutral.

Question 8

An important feature of the New Keynesian model is that

A) the money market may not clear.
B) the goods market always clears.
C) the labour market may not clear.
D) the labour market always clears.
E) all markets clear.

Question 9

Most central banks, including the Bank of Canada,

A) target the price level.
B) target the real interest rate.
C) target the money supply.
D) refrain from stabilization policy.
E) target a particular monetary aggregate.

Question 10

New Keynesian economics refers to

A) the monetarist approach.
B) models of real business cycles with sticky prices.
C) the IS-LM model.
D) models that do not support a role for fiscal or monetary policy.
E) the work of Milton Friedman.

Question 11

The key difference between Keynesian and Classical economists is

A) Keynesians favour a role for government in managing the economy.
B) Classical economists favour a role for government in managing the economy.
C) Keynesians believe wages and prices are perfectly flexible.
D) Classical economists propose a "menu cost" model.
E) Keynesians believe that monetary and fiscal policies are detrimental to the economy.

Question 12

The Y?(IS)curve in the New Keynesian model represents output demand at different levels of

A) the price level.
B) the real interest rate.
C) the nominal wage rate.
D) total factor productivity.
E) real wage rate.

Question 13

The New Keynesian model and the monetary intertemporal model is essentially identical except that

A) nominal and real interest rates are permitted to fluctuate.
B) Bank of Canada policy is restricted.
C) total factor productivity is neutral.
D) money is neutral.
E) the price level is not sufficiently flexible for the goods market to clear in the short run.

Question 14

In the New Keynesian model, the central bank's policy target is

A) the interest rate.
B) the money supply.
C) unemployment.
D) aggregate output.
E) money demand.

Question 15

Keynesian sticky price models are typically called

A) administered cost models.
B) faulty pricing models.
C) menu cost models.
D) classical models.
E) inflation forecasting models.

Question 16

In the New Keynesian model, an increase in the money supply

A) has no effect on the price level.
B) causes a less than proportional increase in the price level.
C) causes an equiproportional increase in the price level.
D) causes a more than proportional increase in the price level.
E) causes a reduction in the price level.

Question 17

The Y?(IS)curve in the New Keynesian model is identical to which of the following in the intertemporal monetary model?

A) the output supply curve
B) the output demand curve
C) the labour demand curve
D) the labour supply curve
E) the total factor productivity curve

Question 18

The natural rate of interest is

A) the nominal rate of interest.
B) the market-clearing interest rate.
C) the real interest rate when wages and prices are fixed.
D) the real interest rate minus the expected inflation rate.
E) the Bank of Canada's target interest rate.

Question 19

When the central bank targets the interest rate

A) it does so by adjusting the money supply.
B) the money supply is fixed.
C) the target interest rate must be changed eight times a year.
D) the money supply is reduced.
E) the money supply is sticky.

Question 20

Prices may be sticky in the short run because

A) consumers are irrational and do not react fast enough.
B) firms are set in their ways of conducting business.
C) its too costly for firms to change prices.
D) government regulated money prices.
E) there is no upward pressure on prices in the market.

Question 21

In the New Keynesian model, an increase in the money supply

A) increases output and increases the real interest rate.
B) increases output and decreases the real interest rate.
C) decreases output and increases the real interest rate.
D) decreases output and decreases the real interest rate.
E) decreases output and increases the real wage rate.

Question 22

In the New Keynesian sticky wage model, an increase in the money supply

A) shifts the output supply curve to the right.
B) shifts the output supply curve to the left.
C) shifts the output demand curve to the right.
D) shifts the output demand curve to the left.
E) immediately closes the output gap.

Question 23

An increase in future total factor productivity shifts the

A) Y? curve to the right.
B) Y? curve to the left.
C) N? curve to the right.
D) Y? curve to the left.
E) M curve to the right.

Question 24

The New Keynesian model predicts that

A) money is neutral.
B) monetary policy causes business cycles.
C) monetary policy is not as effective as fiscal policy.
D) monetary policy is unobservable and unpredictable.
E) Keynesian transmission mechanism for monetary policy is initially through the private sector.

Question 25

Changes in the money supply in the New Keynesian model are not a likely explanation of the typical business cycle, because the model counterfactually predicts that

A) consumption is procyclical.
B) the real wage is countercyclical.
C) the real wage is procyclical.
D) employment is procyclical.
E) investment is procyclical.

Question 26

Stabilization policy refers to using government policy

A) to promote technology development.
B) to alter commodity prices.
C) to promote competition among firms and industries.
D) to set up a legal system.
E) to smooth out business cycles.

Question 27

In the New Keynesian model, an increase in the money supply

A) decreases the real interest rate, increases real aggregate output, decreases the real wage rate, and increases employment.
B) increases the real interest rate, decreases real aggregate output, decreases the real wage rate, and increases employment.
C) decreases the real interest rate, increases real aggregate output, increases the real wage rate, and decreases employment.
D) decreases the real interest rate, increases real aggregate output, increases the real wage rate, and increases employment.
E) decreases the real interest rate, decreases real aggregate output, decreases the real wage rate, and increases employment.

Question 28

The advantage of government intervention when a shock hits an economy is

A) the real interest rate rises.
B) the price level rises.
C) the real interest rate remains unchanged.
D) an efficient outcome is achieved faster.
E) the composition of output changes.

Question 29

In the New Keynesian model, an increase in current government spending

A) increases output and leaves the real interest rate unchanged.
B) increases output and decreases the real interest rate.
C) decreases output and increases the real interest rate.
D) decreases output and decreases the real interest rate.
E) decreases output and increases the real wage rate.

Question 30

In comparing the outcomes of increasing government spending to reduce Keynesian unemployment as opposed to increasing the money supply, the increase in government spending results in

A) higher consumption and higher output.
B) higher consumption and lower output.
C) lower consumption and higher output.
D) lower consumption and lower output.
E) lowers consumption and the real wage rate.

Question 31

When there is Keynesian unemployment in the New Keynesian model, a Pareto optimum can be reached by

A) increasing the money supply or by increasing current government spending.
B) increasing the money supply or by decreasing current government spending.
C) decreasing the money supply or by increasing current government spending.
D) decreasing the money supply or by decreasing current government spending.
E) increasing nominal wages and increasing the money supply.

Question 32

According to the New Keynesian model, after a negative shock to output,

A) the government increases expenditures and the central bank decreases its target rate.
B) the government increases expenditures and the central bank increases its target rate.
C) the government decreases expenditures and the central bank increases its target rate.
D) the government decreases expenditures and the central bank decreases its target rate.
E) the government leaves expenditures unchanged and the central bank increases its target rate.

Question 33

In the New Keynesian model, an increase in future total factor productivity

A) shifts the output supply curve to the right.
B) shifts the output supply curve to the left.
C) shifts the output demand curve to the right.
D) shifts the output demand curve to the left.
E) does not impact current output.

Question 34

An increase in the demand for investment goods causes

A) a decrease in real interest rates.
B) a decrease in the real wage.
C) a rightward shift of the output demand curve.
D) an increase in real interest rates.
E) a leftward shift of the output demand curve.

Question 35

The Keynesian transmission mechanism for monetary policy asserts that changes in the money supply

A) affect real interest rates, which affect the level of aggregate demand.
B) affect real interest rates, which affect the level of aggregate supply.
C) affect the price level, which affects the level of aggregate demand.
D) affect the price level, which affects the level of aggregate supply.
E) affect the price level, which affects the IS curve.

Question 36

Compared to monetary policy, fiscal policy leads to

A) more stable prices.
B) larger changes in output.
C) more efficient outcomes.
D) the price level fluctuates more in the short run.
E) more private spending relative to public.

Question 37

Crowding out of private expenditure occurs when

A) the money supply is increased.
B) the money supply is decreased.
C) increases in the price level lowers the real wage.
D) government spending increases.
E) government spending decreases.

Question 38

In the New Keynesian model, an increase in current government spending shifts

A) the output supply curve to the right.
B) the output supply curve to the left.
C) the output demand curve to the right.
D) the output demand curve to the left.
E) the production function up.

Question 39

If a shock results in a positive output gap and the government's policy choice is to do nothing,

A) the central bank will immediately increase the money supply and close the output gap.
B) the price level will fall, the interest rate will fall, and output will rise, closing the gap.
C) the government will immediately implement expansionary fiscal policy.
D) the economy will be prevented from returning to equilibrium.
E) it will be detrimental to the economy.

Question 40

Changes in the money supply in the New Keynesian model is not a likely explanation of the typical business cycle, because the model counterfactually predicts that

A) consumption is procyclical and the price level is procyclical.
B) the price level is procyclical and the real wage is countercyclical.
C) the real wage is countercyclical and the real money supply is procyclical.
D) the real money supply is procyclical and consumption is procyclical.
E) consumption is procyclical and the real wage is countercyclical.

Question 41

In the New Keynesian model, if there are shocks to government spending, and the central bank always reduces the output gap to zero,

A) the model replicates the key business cycle facts.
B) consumption is countercyclical.
C) employment is countercyclical.
D) investment is procyclical.
E) the money supply is constant.

Question 42

In the New Keynesian model, an increase in current total factor productivity shifts the

A) production function up.
B) production function to the right.
C) output demand curve to the right.
D) output demand curve to the left.
E) output demand curve and production function to the left.

Question 43

Negative nominal interest rates work because

A) they cause consumption to go down.
B) they are good for banks.
C) they act to reduce the output gap.
D) they reduce investment.
E) nominal interest rates cannot go above zero.

Question 44

In the New Keynesian model, an increase in current total factor productivity

A) increases output and increases the real interest rate.
B) does not affect output and decreases employment.
C) increases output and increases employment.
D) decreases output and decreases employment.
E) decreases output and increases the real interest rate.

Question 45

If the central bank in a New Keynesian model can always reduce the output gap to zero,

A) the price level will be countercyclical.
B) the price level will be procyclical.
C) investment will be procyclical if there are total factor productivity shocks.
D) consumption will be countercyclical if there are total factor productivity shocks.
E) this would be inefficient.

Question 46

A traditional liquidity trap is problematic for a New Keynesian policy maker because there is a

A) strong incentive to create inflation in the long run.
B) positive output gap but the interest rate cannot go below zero.
C) strong incentive to create deflation in the long run.
D) negative output gap but the interest rate cannot go below zero.
E) negative output gap but the interest rate target remains too low.

Question 47

A negative nominal interest rate may not be good policy because

A) it makes the output gap go up.
B) it makes investment go down.
C) could produce inefficiencies in the banking system.
D) could produce inefficiencies at Federal Reserve Banks.
E) it makes consumers too optimistic, and the economy overheats.

Question 48

If there are total factor productivity shocks in the New Keynesian model, and the central bank always reduces the output gap to zero,

A) the New Keynesian model will produce the same data as the real business cycle model.
B) the New Keynesian model will produce the same data as the real business cycle model only if the central bank pegs the price level in the real business cycle model.
C) average labour productivity is countercyclical.
D) employment is countercyclical.
E) employment is constant.

Question 49

The argument that the nominal wage is fixed because of long-term labour contracts

A) explains sticky price models.
B) closely fits the real world.
C) does not take into account why such a contract would be written.
D) explains equilibrium business cycle models.
E) means that productivity shocks are an important cause of business cycles.

Question 50

According to the New Keynesian model, in a liquidity trap,

A) fiscal policy is more effective than monetary policy.
B) fiscal and monetary policy are equally effective.
C) fiscal policy has little role.
D) monetary policy is more effective than fiscal policy.
E) neither monetary or fiscal policy is effective.

Question 51

A key criticism of New Keynesian models is

A) monetary policy is irrelevant.
B) they don't explain why prices are sticky.
C) they are never used in practice.
D) they do not fit the data as well as real business cycle models.
E) old Keynesian models are better.

Question 52

A classical objection to Keynesian sticky price models is that

A) it is easier for firms to change prices rather than change output.
B) it is cheaper for firms to change output rather than change prices.
C) sticky price models are internally inconsistent.
D) real shocks are more important than nominal shocks.
E) nominal wages are always fixed.

Question 53

Menu cost models

A) explain the cost of menus.
B) are models in which prices can be changed at a cost.
C) are identical to real business cycle models.
D) are models of the restaurant industry.
E) were constructed by John Maynard Keynes.

Question 54

If there is a liquidity trap in the New Keynesian model then

A) fiscal policy is irrelevant.
B) conventional monetary easing works well.
C) prices cease to be sticky.
D) the nominal interest rate is at its lower bound.
E) government spending is trapped.

Question 55

In the New Keynesian model, suppose that the output gap is initially zero, there is an increase in money demand, and the central bank wants to keep the output gap at zero. What happens?

A) Output goes up.
B) Investment goes down.
C) Consumption goes up.
D) Money supply goes up.
E) Employment goes down.

Question 56

In the New Keynesian model, an increase in current total factor productivity

A) shifts output supply right and opens a negative output gap.
B) shifts output demand right and opens a positive output gap.
C) shifts output demand left and opens a negative output gap.
D) shifts output supply left and opens a negative output gap.
E) shifts output supply right and opens a positive output gap.

Question 57

Different business cycle models

A) have similar implications for monetary and fiscal policy.
B) all justify active government stabilization policy.
C) have contradictory implications for monetary and fiscal policy.
D) all imply that active government intervention is detrimental.
E) support monetary policy but not fiscal policy.

Question 58

In the New Keynesian model, an increase in current total factor productivity

A) decreases employment.
B) decreases output.
C) increases employment.
D) leaves employment unchanged.
E) decreases unemployment.

Question 59

To support the argument for an active role for government in stabilizing the economy, it must be true that

A) consumers are not rational and that not all wages and prices are flexible.
B) not all wages and prices are flexible and that government must be able to react quickly enough.
C) government must be able to react quickly enough and that shocks to the economy be primarily due to aggregate supply shocks.
D) shocks to the economy be primarily due to aggregate supply shocks and that consumers are not rational.
E) consumers are not rational and shocks to the economy are primarily due to aggregate demand.

Question 60

In analyzing the fit of the New Keynesian model to the data, it is important to

A) recognize that policy is responding to events in the economy.
B) recognize the important contribution of the real business cycle theorists.
C) understand that consumption is countercyclical.
D) assume that monetary policy is irrelevant.
E) understand the role of international trade.

Question 61

Using the New Keynesian model, determine the effects on output, the real interest rate, investment, employment, the price level, and the real wage of an increase in total factor productivity.