Deck 24: Advanced topics

Question 1

The rational expectations equilibrium approach

A)is supported by the insider-outsider model
B)believes that markets clear very rapidly
C)implies that deviations from full employment can be long in duration
D)implies that unanticipated money supply changes have no real effect on output
E)all of the above

Answer 1

believes that markets clear very rapidly

Question 2

The rational expectations equilibrium approach

A)attempts to build macroeconomic theory on microeconomic foundations
B)was first proposed by Gregory Mankiw
C)implies that policy changes always significantly affect output since people understand how it works
D)assumes that disturbances caused by real shocks are long in duration since they have to work their way through different markets
E)was developed in the 1960s, but was given little attention since most economists rejected the idea of rational expectations

Answer 2

attempts to build macroeconomic theory on microeconomic foundations

Question 3

The real business cycle theory asserts that even slight changes in wages may have a significant impact on output since

A)labor supply is highly sensitive to temporary changes in wage rates
B)even a small wage rate change will induce people to work harder if it is assumed to be permanent
C)wages adjust only slowly, so even a small wage rate change will leave the labor market out of equilibrium for a long time
D)smaller wage rate changes are harder to detect and therefore workers are more likely to make forecasting errors
E)none of the above

Answer 3

labor supply is highly sensitive to temporary changes in wage rates

Question 4

The rational expectations equilibrium approach claims that the price level can be reduced through restrictive monetary policy without causing a lengthy and deep recession

A)if the monetary policy change is announced in advance
B)since workers will increase their work effort as soon as they discover that actual prices are below expected prices
C)since even unanticipated money supply changes have only a short-lived influence on economic activity and are soon fully reflected in price changes
D)since people will revise their forecasts of wages and prices as soon as they find out how much money supply has changed
E)all of the above

Question 5

The rational expectations approach

A) insists that all available information is efficiently used to form expectations
B) concludes that rational people never react to an unexpected change in monetary policy
C) concludes that price predictions are based solely on the behavior of nominal wages
D) agrees with the frictionless neoclassical model that there is never any deviation from the full-employment level of output
E) assumes that all markets immediately clear except for the labor market since wages tend to adjust slowly

Question 6

The rational expectations approach assumes that

A)people never make any mistakes in forming inflationary expectations
B)people do make mistakes in their forecasts from time to time, but they do not make any systematic mistakes
C)people change their inflationary expectations only long after it has become clear that they were wrong
D)unannounced policy changes have little effect on output since people change their inflationary expectations only very slowly
E)none of the above

Question 7

The rational expectations equilibrium approach emphasizes

A)the microeconomic foundations of macroeconomics
B)the idea that after disturbances output will not return to trend
C)the idea that even small menu costs involved in making price changes cause big problems
D)that fiscal and monetary policies are always successful in changing real output
E)that even rational decisions in an imperfectly competitive world often lead to socially undesirable outcomes

Question 8

According to the Lucas' rational expectations approach,

A)people may not always forecast accurately, but they do not make systematic errors
B)anticipated changes in money supply have no real effect on output
C)unanticipated changes in money supply have only a short-lived effect on output and are soon reflected in a proportional price change
D)nominal wages are set on the basis of expected prices, and if expectations are wrong, output and employment will be affected
E)all of the above

Question 9

When individuals form expectations using information efficiently and without systematic errors, then they

A)can never be wrong with any of their price expectations
B)are never surprised by unannounced money supply changes
C)never supply more labor even if their nominal wage rate increases
D)have adaptive expectations
E)have rational expectations

Question 10

According to the rational expectations equilibrium approach

A)announced changes in money supply have no effect on nominal GDP
B)announced changes in money supply have no effect on prices
C)unannounced changes in money supply temporarily affect the level of output and prices
D)announced changes in fiscal policy have no effect on prices
E)none of the above

Question 11

The Lucas rational expectations model and the frictionless classical model

A)both allow for transitory deviation from full employment
B)both predict that neither fiscal nor monetary policy can affect the equilibrium level of output in the long run
C)both predict that the short-run outcome will be different depending on whether a policy is anticipated or unanticipated
D)disagree in one aspect: the classical model assumes that people do not make systematic errors, but Lucas assumes they do
E)disagree on the long-run outcome of fiscal policy changes

Question 12

Even if people have rational expectations,

A)unannounced changes in monetary policy can never affect output
B)unemployment can never go below its natural rate
C)income tax cuts will have a permanent effect on output
D)supply shocks will not affect output or pries as long as the central bank accommodates them
E)money supply changes can affect real output if individuals mistake movements in absolute prices for relative price changes

Question 13

In the Lucas model, monetary policy is neutral even in the short run

A)since nominal wages are completely rigid
B)as long as monetary changes are fully anticipated
C)since people never make forecast errors
D)as long as real wages can adjust in proportion to money supply
E)since the short-run AS-curve is assumed to be vertical

Question 14

The rational expectations model asserts that the monetary policy multiplier

A)is larger than the fiscal policy multiplier but only in the long run
B)can be large in the short run but is zero in the long run
C) is zero in the short run and large in the long run
D)can be zero if the Fed has no credibility
E)is always zero for any unannounced policy changes

Question 15

According to Lucas' rational expectations approach, what will happen if the Fed announces and implements a 4% decrease in money supply?

A)output will remain unchanged but the price level will decrease by 4% in the long run
B)both output and the price level will decrease by more than 4% in the short run and by 4% in the long run
C)output and the price level will both decrease in the short run, but only output will change by 4% in the long run
D)output will decrease by 4% and the price level will initially remain the same but will decrease by 4% as people change their expectations
E)output and the price level will both immediately decrease by 4%

Question 16

The rational expectations equilibrium approach has influenced modern macroeconomic thinking since

A)most economists now admit that wages are completely flexible and that markets always clear rapidly
B)evidence has shown that recessions have never been policy-induced
C)empirical studies have proven without a doubt that monetary policy is incapable of changing real output
D)many modern economists agree that macroeconomic models need to be developed from basic microeconomic foundations
E)none of the above

Question 17

If we compare the frictionless neoclassical theory with the rational expectations approach, we can conclude that in both cases

A)wages and prices are assumed to be rigid
B)there is little or no room for stabilization policy since markets are assumed to clear rapidly
C)the AS-curve is upward sloping in the short run but vertical in the long run
D)the effects of fiscal policy on output are permanent
E)all of the above

Question 18

The rational expectations equilibrium approach to macroeconomics

A)stresses the importance of market imperfections in determining the outcome of macroeconomic policies
B)asserts that monetary policy can do little to affect output or unemployment unless it is unanticipated
C)implies that macroeconomic policy works only when the public completely understands it
D)ignores the microeconomic decision making process of households and firms
E)was first developed in the 1960s but was soon discarded since most economists believed that it is unimportant to incorporate microeconomic foundations into macroeconomics

Question 19

If the central bank announces a decrease in money supply but actually leaves money supply unchanged, what will happen in the short run according to the Lucas aggregate supply model?

A)output and prices will both remain unchanged
B)output will increase and prices will decrease
C)output will decrease and prices will increase
D)output and prices will both decrease
E)output will remain unchanged but prices will decrease

Question 20

The rational expectations approach differs from the perfect foresight approach, since it assumes that

A)markets do not clear rapidly
B) people make systematic errors in their forecasts
C)the monetary policy multiplier is always zero
D)people may not always be right but their best guess of the forecast error is zero
E)none of the above

Question 21

The rational expectations approach differs from the perfect foresight approach, since the rational expectations approach assumes that

A)the monetary policy multiplier is non-zero in the long run, but only if monetary policy is anticipated
B)the monetary policy multiplier is non-zero in the long run if monetary policy is unanticipated
C)the monetary policy multiplier is non-zero in the short run if monetary policy is unanticipated
D)people make systematic errors
E)after a disturbance, GDP never returns to trend

Question 22

According to the random walk of GDP model, when trying to investigate business cycles, it is very important to

A)know whether people's expectations are rational or adaptive
B)assume that markets do not clear rapidly
C)realize that markets are imperfectly competitive
D)use the right trend model when trying to identify shocks
E)know the impact of changes in stock values on the level of consumption

Question 23

Assume that people have rational expectations and wages are fixed by long-term contracts.If prices of goods can change fairly quickly, we should still expect that

A)random shocks will not significantly affect the level of output
B) labor markets will be in equilibrium longer than goods markets
C)firms will not supply more output after a price increase
D)unanticipated monetary policy changes will affect the level of real output in the short run
E)none of the above

Question 24

If we compare the models of Lucas and Mankiw we realize that

A)Mankiw does not assume that people have rational expectations
B)Lucas assumes firms are price setters while Mankiw assumes that firms are price takers
C)Lucas assumes that prices are sticky because firms are reluctant to change them
D)both models permit a demand-based explanation of the business cycle
E)none of the above

Question 25

The random walk of GDP model asserts that

A)aggregate demand fluctuations are fairly short-lived
B)aggregate supply shocks tend to have a long-lasting impact
C)there are frequent transitory demand side shocks but infrequent permanent supply shocks
D)after a severe supply shock the economy has no tendency to return to the growth trend
E)all of the above

Question 26

The imperfect-information model of the Lucas aggregate supply curve assumes that

A)firms cannot be sure whether higher prices are caused by higher demand or simply reflect an increase in the overall price level
B)outsiders have imperfect information and only insiders can take part in wage negotiations
C)in an imperfectly competitive environment even small menu costs will deter firms from changing their prices
D)even under imperfect information, firms make optimal decisions, so the full-employment level of output is always maintained
E)all of the above

Question 27

If all economic agents have rational expectations,

A)wages and prices must be perfectly flexible
B)imperfect competition will not lead to an undesirable outcome
C)involuntary unemployment cannot exist
D)some small menu cost of changing prices may still exist, preventing markets from clearing rapidly
E)none of the above

Question 28

If we compare the classical model with the imperfect-information model of the aggregate supply curve by Lucas, we can conclude that

A)deviations from the full-employment level of output are possible in both models
B)there is never any deviation from full employment in either of the models since both assume flexible wages
C)in both cases nominal wages and prices always change proportionally, even in the short run, and therefore markets always clear immediately
D)only the Lucas model explains why wages tend to be rigid even over an extended time period
E)none of the above

Question 29

The theory of the intertemporal substitution of leisure

A)explains why people work more at some times than at others
B)explains why unemployment is higher in a recession than in a boom
C)states that the elasticity of labor supply in response to temporary wage rate changes is high
D)maintains that people will substitute leisure for work when they are offered lower wages
E)all of the above

Question 30

According to the real business cycle theory, which of the following will NOT cause real output to change?

A)an expected change in money supply
B)an increase in material prices
C)a change in labor productivity
D)a technological advance
E)new and more efficient methods of production

Question 31

The real business cycle theory states that

A)changes in money supply result in output fluctuations
B)labor supply is highly elastic in response to permanent changes in the real wage rate
C)the most important economic disturbances arise from supply shocks or unanticipated changes in productivity
D)firms are reluctant to change prices due to the menu costs involved
E)a change in labor productivity will not have a long-lasting effect on real output

Question 32

Which of the following is a key assumption in Mankiw's model of price stickiness?

A)people have adaptive expectations
B)the private benefits from changing prices are smaller than the social benefits
C)GDP will never return to trend after a disturbance
D)firms do not have enough market power to set their own prices
E)markets always clear immediately

Question 33

The random walk of GDP model assumes that

A)output follows a trend which can be explained by capital improvements
B)output generally follows a steady trend but there are always some transitory business fluctuations
C)there is no tendency for GDP to return to trend after a supply-side disturbance
D)permanent changes in output are infrequent, so changes in aggregate demand always dominate
E)all output fluctuations are transitory

Question 34

Assume people expect money supply to rise by 10% but the Fed allows money supply to rise only by 5%.What will be the short-run effect under the Lucas model of rational expectations?

A)output will decline and prices will increase by less than 10%
B)output and prices will increase by more than 5%
C)output will remain unchanged and prices will rise by 5%
D)output will remain unchanged and prices will rise by 10%
E)output and prices will both rise by 5%

Question 35

The random walk of GDP theory argues that if the effect of a shock to the economy is permanent, it must come from

A)an unanticipated monetary policy change
B)a misguided fiscal policy change
C)irrational expectations
D)the supply side and not the demand side
E)the demand side and not the supply side

Question 36

An important feature of the inflation-expectations augmented aggregate supply curve is that

A)unemployment cannot increase as long as inflationary expectations remain constant
B) output will be above the full-employment level if actual prices are below expected prices
C)if actual prices are above expected prices, the real wage rate is too high to achieve full employment
D)the full-employment level of output is supplied if expected prices are equal to actual prices
E)all of the above

Question 37

In a case where price expectations are rational but wages nonetheless adjust very slowly

A)only unanticipated monetary policy changes can affect output
B)anticipated fiscal policy changes cannot affect output
C)even anticipated monetary policy changes can affect output
D)neither fiscal nor monetary policy can reduce unemployment
E)even misguided government policy will not change real output

Question 38

The random walk of GDP model asserts that

A)demand-side disturbances are not very important
B)most important fluctuations occur randomly on the demand side
C)there is a high elasticity of labor supply in response to temporary changes in wage rates
D)there are many transitory and random fluctuations over the business cycle, but the economy always returns to its growth trend
E)the performance of the economy is closely connected to stock market performance, which follows a random walk

Question 39

According to the real business cycle theory, a decrease in labor productivity will

A)increase both prices and output
B) decrease both prices and output
C) increase prices and decrease output
D)decrease prices and increase output
E)have no effect on prices or output

Question 40

The real business cycle theory asserts that output can vary significantly over a business cycle even if real wage rate changes are relatively small because

A)labor supply is very responsive to permanent wage rate changes
B)people are willing to substitute leisure intertemporarily
C)firms will adjust their output immediately by laying people off
D)even small changes add up after a while
E)workers spend their wage increases right away

Question 41

Which of the following is FALSE regarding the dynamic stochastic general equilibrium models?

A)in each quarter, shocks will occur that will affect the individual equations used in the model to describe the economy
B)decisions made by economic agents are assumed to depend on the agents' expectation about the future
C)most equations in the models are based on linear specifications
D)the models assume intertemporal optimization on everyone's part
E)some central banks use these models to better understand how the economy responds to policy changes

Question 42

The dynamic stochastic general equilibrium (DSGE) models assume

A)perfectly competitive markets
B)that prices respond quickly to changes in economic conditions
C)that economic agents' current decisions are influenced only by current policy changes
D)a limited ability of firms to adjust prices
E)that markets tend to clear very slowly

Question 43

The propagation mechanism

A)explains why shocks to the economy have long-lasting effects
B)says that changes in money supply affect individual markets but have only limited effects on the economy since markets clear rapidly
C)supports the notion that anticipated money supply changes have no real effect on output
D)says that unemployment is a result of firms paying workers higher than market-clearing wages to get them to work harder
E)none of the above

Question 44

The new Keynesian theories which are based on microeconomic foundations assert that

A)unanticipated fiscal policy changes cannot affect the output level in the short run
B)anticipated monetary policy changes have no real short-run effect on output
C)under imperfect competition individual actions of consumers or firms can lead to socially undesirable outcomes
D)markets tend to be perfectly competitive, so firms are price takers
E)most firms have considerable monopoly power, so they change their prices immediately after a disturbance has occurred

Question 45

The real business cycle theory

A)refutes the notion that macroeconomics should be built on microeconomic foundations
B)asserts that even though markets may clear rapidly, output can still fluctuate greatly if, for example, labor productivity changes
C)supports the notion that changes in money supply are primarily responsible for changes in real output
D)asserts that economic fluctuations are caused by the banking system which fails to adequately expand money supply to accommodate a boom
E)none of the above

Question 46

The real business cycle theory asserts that

A)markets clear fairly rapidly but fluctuations in output occur because of a variety of real shocks that can hit the economy
B)misguided monetary policy is the main contributor to business cycles
C)markets cannot clear easily since wages and prices are not very flexible
D)business cycles occur because firms have incomplete information about relative and absolute prices
E)firms tend to pay higher than market-clearing wages even at times of high unemployment

Question 47

Critics of the so-called DSGE models point out that these models

A)do not incorporate rational expectations
B)assume that wages and prices adjust slowly so markets take a long time to clear
C)ignore the fact that the economy can be hit by random shocks
D)make the unrealistic assumption that people have a well-designed, long?term plan and can therefore adapt to unexpected shocks in a rational, consistent way
E)all of the above

Question 48

If we compare the model by Gregory Mankiw with that of Robert Lucas, we realize that

A)both assume rational expectations
B)Mankiw assumes that firms are price takers, while Lucas assumes that firms are price setters
C)Lucas assumes that firms are reluctant to change prices, while Mankiw assumes that firms have imperfect information about prices
D)Lucas assumes that people have good information but make systematic forecast errors, while Mankiw assumes that people have imperfect information and therefore cannot make accurate forecasts
E)all of the above

Question 49

The so-called DSGE models assume that

A)what happens in the future depends to a large degree on the decisions that economic agents make in the present
B)people have rationally designed long?term plans and adapt fairly easily to unexpected shocks to the economy
C)markets tend to clear even though they are not always all perfectly competitive
D)the forward?looking behavior of economic agents is the result of their rational expectations
E)all of the above

Question 50

Dynamic stochastic general equilibrium (DSGE) models

A)are based on nonlinear specifications
B)combine traditional models with real business cycle models and price stickiness models
C)have to be solved by computers using simulation techniques
D)are used by some central banks as a forecasting tool
E)all of the above