Deck 17: Money Growth and Inflation

Question 1

Economists based their prediction that secular stagnation would occur as economies prospered on the conjecture that:

A)the marginal propensity to consume is greater than zero.
B)the marginal propensity to consume is less than one.
C)the average propensity to consume falls as income rises.
D)income is the primary determinant of consumption.

Answer 1

C

Question 2

John Maynard Keynes believed that the average propensity to consume:

A)was constant.
B)increased as income increased.
C)decreased as income increased.
D)was less than the marginal propensity to consume.

Answer 2

C

Question 3

Empirical evidence finds that the average propensity to consume is constant:

A)for only the short-run consumption function.
B)for only the long-run consumption function.
C)for both the short-run and the long-run consumption functions.
D)for neither the short-run nor the long-run consumption functions.

Answer 3

B

Question 4

Simon Kuznets found that, over long periods of time in the United States, as income rose, the average propensity to consume:

A)rose.
B)fell.
C)remained constant.
D)rose and then fell.

Question 5

The marginal propensity to consume is the:

A)ratio of consumption to income.
B)amount consumed out of an additional dollar of income.
C)amount available for consumption after precautionary saving.
D) ratio of consumption to wealth.

Question 6

In Irving Fisher's two-period consumption model, if Y
1
= 20,000, Y
2
= 15,000, and the interest rate r is 0.50 (50
Percent), then the maximum possible consumption in period one is:

A)20,000.
B)25,000.
C)30,000.
D)35,000.

Question 7

Which of the following conjectures that underlie the Keynesian consumption function is not consistent with aggregate
U)S. data in the period after World War II?

A)The marginal propensity to consume is between zero and one.
B)The average propensity to consume decreases as income increases.
C)There is a high correlation between income and consumption.
D)Current income is a determinant of consumption.

Question 8

The marginal rate of substitution between first-period consumption and second-period consumption:

A)is the inverse of the slope of an indifference curve, in which first-period consumption is graphed along the horizontal axis.
B)is generally high when first-period consumption is high.
C)indicates by how much first-period consumption changes for a one-unit change in first-period income.
D)reveals the rate at which the consumer is willing to substitute second-period consumption for first-period

Question 9

Empirical evidence finds that the average propensity to consume is falling:

A)for only the short-run consumption function.
B)for only the long-run
C)consumption function.
D)for neither the short-run nor the long-run consumption functions.

Question 10

John Maynard Keynes believed that:

A)consumers would save more if the interest rate was high.
B)consumers would consume more if the interest rate was high.
C)if consumers consume less, the interest rate will be high.
D)the interest rate is relatively unimportant to the consumption decision.

Question 11

The consumer's budget constraint reflects the fact that because interest is earned on savings:

A)future income is worth less than current income.
B)future income is worth more than current income.
C)future consumption costs more than current consumption.
D)future consumption is worth more than future income.

Question 12

The average propensity to consume is the:

A)ratio of consumption to income.
B)amount consumed out of an additional dollar of income.
C)amount available for consumption after precautionary saving.
D)ratio of consumption to wealth.

Question 13

In Irving Fisher's two-period consumption model, if Y
1
= 20,000, Y
2
= 15,000, and the interest rate r is 0.50 (50
Percent), then the maximum possible consumption in period two is:

A)15,000.
B)25,000.
C)35,000.
D)45,000.

Question 14

The Keynesian consumption function exhibits all of the following properties except that:

A)the marginal propensity to consume is between zero and one.
B)the average propensity to consume decreases as income increases.
C)only unexpected policy changes influence consumption.
D)current income is the primary determinant of consumption.

Question 15

Kuznets' data showed a short-run consumption function with a APC and a long-run consumption function with a APC.

A)constant; constant
B)constant; falling
C)falling; constant
D)falling; falling

Question 16

During World War II, economists using John Maynard Keynes's theory predicted that the rate of saving after the war would be very:

A)high, and that is what happened.
B)low, and that is what happened.
C) low, but that did not happen.
D)high, but that did not happen.

Question 17

John Maynard Keynes believed that the marginal propensity to consume:

A)was zero.
B)was between zero and one.
C)was one.
D)increased as income increased.

Question 18

Examination of data from households shows that households with high current income than do households with low current income.

A)consume less
B)save less
C)save a smaller fraction of current income
D)save a larger fraction of current income

Question 19

Every indifference curve shows combinations of first-period and second-period consumption that:

A)are tangent to the intertemporal budget constraint.
B)have equal income and substitution effects.
C)are available to the consumer.
D)make the consumer equally happy.

Question 20

If an example of a Keynesian consumption function is C = 2,000 + 0.8Y, and Y is 30,000, then the average propensity to consume is about:

A)0.8.
B)0.82.
C)0.85.
D)0.87.

Question 21

In Irving Fisher's two-period model, the substitution effect of an increase in the interest rate in the first period for a saver is the:

A)decrease in the relative price of second-period consumption.
B)additional income earned on first-period saving.
C)decrease in the relative price of first-period consumption.
D)additional income earned on second-period saving.

Question 22

The pull of instant gratification may lead consumers to save they would like to save.

A)more than
B)less than
C)approximately the amount
D)precisely the amount

Question 23

In Irving Fisher's two-period model, if consumption in both periods is a normal good, then an increase in income in period two:

A)increases consumption in period one only.
B)increases consumption in period two only.
C)increases consumption in both periods.
D)does not increase consumption in either period.

Question 24

Economic data suggest that when income is expected to fall by $1, consumption falls by:

A)$1.
B)$0.50.
C)the marginal propensity to consume.
D)the ratio of years until retirement to the years remaining of life.

Question 25

An increase in income in period one in Irving Fisher's two-period consumption model increases consumption in:

A)period one, but decreases consumption in period two.
B)period one, but does not change consumption in period two.
C)both periods one and two, as long as consumption in period one and consumption in period two are both normal goods.
D)period two, but does not change consumption in period one.

Question 26

If consumers correctly anticipate their future incomes:

A)the saving rate will be high when consumers anticipate a boom.
B)the saving rate will be low when consumers anticipate a boom.
C)the saving rate will be low when consumers anticipate a recession.
D)they will be disappointed because future income can never be correctly forecasted.

Question 27

A consumer spending excessively today, intending to start saving for retirement tomorrow, but deciding to continue spending when tomorrow arrives is an example of:

A)an income effect offsetting a substitution effect.
B)time-inconsistent preferences.
C)spending out of permanent income, but not out of transitory income.
D)an intertemporal budget constraint.

Question 28

In Irving Fisher's two-period model, if the consumer is initially a saver and the interest rate and first-period consumption increase, then we can conclude that the income effect:

A)was greater than the substitution effect.
B)was less than the substitution effect.
C)exactly offset the substitution effect.
D)and the substitution both increased consumption.

Question 29

The behavior of consumers spreading increases in income earned in one period into increases in consumption over several periods is known as:

A)random-walk consumption.
B)transitory consumption.
C)consumption smoothing.
D)the income effect.

Question 30

In the Fisher two-period model, the consumer achieves his or her optimum combination of current and future consumption by selecting:

A)any combination on his or her highest indifference curve.
B)the combination on his or her highest indifference curve that is tangent to his or her budget constraint.
C)any combination on his or her budget constraint.
D)the combination on his or her budget constraint where period-one consumption equals period-one income and period-two consumption equals period-two income.

Question 31

In Irving Fisher's two-period model, the income effect of an increase in the interest rate in the first period for a saver is the:

A)decrease in the relative price of second-period
B)consumption. additional income earned on first-period saving.
C)decrease in the relative price of first-period consumption.
D)additional income earned on second-period saving.

Question 32

Recent research by Laibson and other economists recognizes the importance of incorporating effects into the study of consumer behavior.

A)technological
B)meteorological
C)environmental
D)psychological

Question 33

In John Maynard Keynes's model, the most important determinant of current consumption is current income. In Irving
Fisher's model, the most important determinant of current consumption is:

A)also current income.
B)the interest rate.
C)lifetime resources.
D)future income.

Question 34

A normal good is a good that:

A)provides pleasure.
B)would generally be owned by an average
C)household. has a value greater than zero.
D)is desired in larger quantities by a consumer when his or her income rises.

Question 35

Consumers with time-inconsistent preferences:

A)base consumption decisions on transitory rather than permanent income.
B)seek to consume more in retirement than during their working years.
C)may alter decisions simply because time passes.
D)face borrowing constraints that prevent rational behavior.

Question 36

In Irving Fisher's two-period model, if the consumer is initially a saver and the interest rate increases, and first-period consumption decreases, then we can conclude that the income effect:

A)was greater than the substitution
B)effect. was less than the substitution effect.
C)exactly offset the substitution effect.
D)and the substitution effect both decreased consumption.

Question 37

Whether workers must "opt in to" or "opt out of" a retirement savings plan make a difference if workers are rational optimizers and make a difference if workers' behavior exhibits inertia.

A)would; would
B)would not; would not
C)would; would not
D)would not; would

Question 38

When the consumer has chosen his or her optimal values of first-period and second-period consumption, the marginal rate of substitution equals:

A)1 plus the interest rate r.
B)1 minus the interest rate r.
C)1 divided by the interest rate
D)r. the interest rate r.

Question 39

The Fisher two-period model shows that current consumption depends on:

A)only current income.
B)only future income.
C)current income, future income, and the interest rate.
D)current income, future income, the interest rate, and the rate of inflation.

Question 40

Economist David Laibson suggests that people end up saving less than they wish because of:

A)an increasing marginal propensity to consume over time.
B)the pull of instant gratification.
C)rarely receiving transitory income.
D)unpredictable changes in consumption.

Question 41

What variables, in addition to current income, are hypothesized to influence consumption in the:
a. Fisher two-period model?
b. life-cycle model?
c. permanent-income hypothesis?
d. random-walk hypothesis?

Question 42

Suppose that the Federal Reserve raises the interest rate at which the average household can borrow and lend. Assume that the typical household behaves according to Irving Fisher's two-period model, that consumption in both periods is a normal good, and that households are initially borrowers. Illustrate graphically how the increase in the
interest rate in period one affects consumption in both periods.

Question 43

The success of the "Save More Tomorrow" program is based on the assumption that consumers:

A)smooth consumption over their life cycles.
B)save a constant fraction of their permanent incomes.
C)require help controlling their desires for instant gratification.
D)save only their transitory incomes.

Question 44

If consumers want consumption to be as constant as possible over their life cycles and income rises gradually over their periods of employment, then if borrowing constraints prevent their wealth from falling below zero:

A)they can achieve constant consumption by borrowing.
B)their consumption in retirement will be higher than it was in earlier parts of the life cycle.
C)their consumption during their younger years will be lower than it will be in later parts of the life cycle.
D)their consumption during their later working years will be higher than it was or will be in other parts of

Question 45

Recent work on the consumption function suggests that consumption depends on:

A)current income alone.
B)current income and expected future income.
C)current income, expected future income, and interest rates.
D)current income, expected future income, interest rates, and wealth.

Question 46

The life-cycle model predicts that if the proportion of the population that is elderly increases over the next 20 years, then the national saving rate over the next 20 years.

A)will increase
B)will remain unchanged
C)will decrease
D)may first increase and then decrease

Question 47

What is the impact on current consumption of a temporary tax cut according to:
a. the Keynesian consumption function?
b. the permanent-income hypothesis?

Question 48

Assume that the typical household behaves according to Irving Fisher's two-period model, that consumption in both periods is a normal good, and that households are initially savers. Illustrate graphically how a tax cut in period one affects consumption in both periods. Assume that the average consumer does not believe that he or she or anyone in the family will ever have to pay higher taxes in the future to offset the current cuts.

Question 49

Assume that Andrew Marcus is 25 years old and expects to live to age 75.
a. If he wins $20 million in cash (after taxes) in the lottery and retires, how much will he consume each year if he wants to have constant consumption and use up all his wealth by the time he dies? Assume the real interest rate is zero.
b. If his total income in the year he wins the lottery is his lottery winnings, what will his average propensity to consume (APC) be for that year?
c. If he has no other earnings in later years but continues his constant consumption, what will his average propensity to consume be for those later years?
d. What is Andrew's "permanent income" in the year he wins the lottery? What is his "transitory income"?

Question 50

The life-cycle hypothesis and the permanent-income hypothesis both assume that consumers seek to:

A)increase consumption during expansions.
B)minimize consumption during recessions.
C)increase consumption during retirement.
D)smooth consumption over their lifetimes.

Question 51

Suppose that Congress passes a law to permanently cut taxes starting the next year. Assuming that consumers are not Ricardian, when would consumers adjust their consumption spending according to:
a. the Keynesian consumption function?
b. the Fisher two-period model with binding borrowing constraints?
c. the random-walk hypothesis (the permanent-income hypothesis with rational expectations) with no binding borrowing constraint?

Question 52

If a consumer is a borrower in period one and the interest rate rises, the:

A)income and substitution effects both tend to make consumption higher in the first period.
B)income and substitution effects both tend to make consumption lower in the first period.
C)income effect tends to make consumption higher in the first period and the substitution effect tends to make it lower.
D)substitution effect tends to make consumption higher in the first period and the income effect tends to make it lower.

Question 53

Ken Downing behaves according to Irving Fisher's two-period model. Consumption in both periods is a normal good for Ken. Ken is initially a saver in period one. Ken loses his job in period one. His first-period income becomes his unemployment benefits, which are much lower than his period-one income had been. His expected income in period two is unchanged. Illustrate graphically how this job loss affects Ken's consumption in periods one and two.

Question 54

Reference: Ref 17-2

(Exhibit: Consumption, Income, and Wealth Over the Life Cycle) Consider the stylized pattern of lifetime income, consumption, saving, dissaving, and wealth shown in the above graph. Assume that consumption is constant over the entire lifetime, income is constant over working lifetime, the real interest rate is zero, and there is no uncertainty about life span.
a. If there is no population growth, the ratio of wealth to income will be constant for the nation. If all individuals live T years and work R years, the amount of wealth accumulated at the time of retirement must be enough for T - R years of consumption (C per year). What is the formula for the ratio of average wealth over the whole life cycle W to consumption per year, as a function of T and R? That is, what is
W/C expressed in terms of T and R?
b. If T = 50 and R = 40, what is the numerical value of W/C?