Deck 20: Policy Disputes Using the Self-Correcting Aggregate Demand and Supply Model

Question 1

Exhibit 20A-1  Policy Alternatives In Panel (a) of Exhibit 20A-1, the economy is initially in short-run equilibrium at real GDP level Y₁ and price level P₂. Classical theory argues:

A) the federal government must shift AD₁ to AD₂ as shown in Panel (b).
B) the federal government must shift SRAS₁ to SRAS₂.
C) that SRAS₁ will shift to SRAS₂ without government intervention.
D) that AD will shift rightward without government intervention.

Answer 1

C

Question 2

Exhibit 20A-2  Macro AD/AS Models In Panel (a) of Exhibit 20A-2, the economy is initially in short-run equilibrium at real GDP level Y₁ and price level P₂. If the federal government or Fed decides to intervene, it would most likely:

A) increase taxes.
B) decrease the money supply.
C) increase the level of government spending for goods and services.
D) decrease the level of government spending for goods and services.

Answer 2

C

Question 3

Assume the economy is operating at a real GDP above full-employment real GDP. Keynesian economists would prescribe which of the following policies?

A) Nonintervention
B) Fixed rule
C) Contractionary
D) Expansionary

Answer 3

C

Question 4

A policy to do nothing and allow the economy to self-correct or adjust without interference from the federal government is also called a(n) ____ policy:

A) nonintervention
B) active
C) stabilization
D) fixed rule

Question 5

Assume the economy is operating at a real GDP above full-employment real GDP. Classical economists would prescribe which of the following policies?

A) Nonintervention
B) Active monetary policy
C) Contractionary
D) Expansionary

Question 6

Classical theory advocates ____ policy and Keynesian theory advocates ____ policy.

A) nonintervention; intervention
B) active; nonstabilization
C) stabilization; fixed wage
D) fixed rule; passive

Question 7

Assume the economy is experiencing an inflationary gap, classical economists believe that:

A) flexible wages will restore full employment.
B) the federal government should decrease spending to shift the aggregate demand curve leftward.
C) the Federal Reserve should lower the interest rate.
D) the federal government should increase spending to shift the aggregate demand curve rightward.

Question 8

Assuming the economy is experiencing a recessionary gap, classical economists predict that:

A) wages will remain fixed.
B) monetary policy will sell government securities.
C) higher wages will shift the short-run aggregate supply curve leftward.
D) lower wages will shift the short-run aggregate supply curve rightward.
E) none of the above.

Question 9

Exhibit 20A-1  Policy Alternatives Assume that the economy depicted in Panel (b) of Exhibit 20A-1 is in short-run equilibrium where AD₁ equals SRAS₁. Keynesian theory argues:

A) nominal wages will fall as long as employment remains above the natural level of unemployment.
B) lower wages will result in a shift from SRAS₁ to SRAS₂.
C) long-run equilibrium will be established at Y_p and P₁.
D) government intervention must shift AD₁ rightward to AD₂.

Question 10

Exhibit 20A-2  Macro AD/AS Models As shown in Panel (a) of Exhibit 20A-2, assume the economy adopts a classical nonintervention policy. Which of the following would cause the economy to self-correct?

A) Competition among firms for workers increases the nominal wage and SRAS shifts rightward.
B) Long-run equilibrium will be established at Y₁ and P₂.
C) Long-run equilibrium will be established at Y₁ and P₃.
D) Competition among unemployed workers decreases nominal wages and SRAS shifts rightward.

Question 11

Exhibit 20A-2  Macro AD/AS Models In Panel (a) of Exhibit 20A-2, an expansionary Keynesian government stabilization policy designed to move the economy from Y₁ to Y_p would shift the:

A) aggregate demand curve (AD)to the left.
B) aggregate demand curve (AD) to the right.
C) SRAS rightward.
D) LRAS rightward.

Question 12

Exhibit 20A-1  Policy Alternatives Assume that the economy depicted in Panel (a) of Exhibit 20A-1 is in short-run equilibrium where AD equals SRAS₁. If the economy is left to correct itself according to classical theory:

A) wages will fall as long as real GDP is above Y_p.
B) lower wages will result in a shift from SRAS₁ to SRAS₂.
C) long-run equilibrium will be established at Y_p and P₃.
D) all of the above will take place.

Question 13

Exhibit 20A-2  Macro AD/AS Models In Panel (b) of Exhibit 20A-2, the economy is initially in short-run equilibrium at real GDP level Y₁ and price level P₂. If the federal government or Fed decides to intervene, it would most likely:

A) decrease taxes.
B) increase the money supply.
C) increase the level of government spending for goods and services.
D) decrease the level of government spending for goods and services.

Question 14

​ Assume the economy is experiencing an inflationary gap, Keynesian economists would believe that:

A) ​flexible wages will restore full employment.
B) ​the federal government should decrease spending to shift the aggregate demand   curve leftward.
C) ​the Federal Reserve should lower the interest rate.
D) ​the federal government should increase spending to shift the aggregate demand curve rightward.

Question 15

Exhibit 20A-2  Macro AD/AS Models In Panel (a) of Exhibit 20A-2, the economy is initially in short-run equilibrium at real GDP level Y₁ and price level P₂. Classical theory argues that:

A) SRAS will shift to leftward and establish full employment at P₃Y_p without government intervention.
B) higher wages will result in a leftward shift of SRAS.
C) long-run equilibrium will be established at Y_p and P₁.
D) all of the above will take place.

Question 16

Exhibit 20A-1  Policy Alternatives In Panel (b) of Exhibit 20A-1, the economy is initially in short-run equilibrium at real GDP level Y₁ and price level P₂. If the federal government decides to intervene, it would most likely:

A) increase taxes.
B) decrease the money supply.
C) increase the level of government spending for goods and services.
D) decrease the level of government spending for goods and services.

Question 17

Assuming the economy is in a recession, Keynesian economists predict that:

A) wages will remain fixed.
B) monetary policy will sell government securities.
C) higher wages will shift the short-run aggregate supply curve leftward.
D) lower wages will shift the short-run aggregate supply curve rightward.

Question 18

Assume the economy is in short-run equilibrium at a real GDP below its potential real GDP. According to Keynesian theory, which of the following policies should be followed?

A) The Federal Reserve should increase the money supply.
B) The federal government should increase spending.
C) The federal government should do nothing because the economy will self correct to potential real GDP.
D) All of the above.

Question 19

Assume the economy is experiencing a recessionary gap. Keynesian economists would support which of the following policies:

A) Nonstabilization
B) Expansionary
C) Nonintervention
D) Fixed wage

Question 20

Assume the economy is in short-run equilibrium at a real GDP above its potential real GDP. According to classical theory, which of the following policies should be followed?

A) The Federal Reserve should use open market operations and buy U.S. government securities.
B) The Federal Reserve should not follow a fixed rule.
C) The federal government should cut taxes.
D) Fiscal policy and monetary policy should not be activist.

Question 21

Keynes called money people hold to make routine day-to-day purchases the:

A) transactions demand for holding money.
B) precautionary demand for holding money.
C) speculative demand for holding money.
D) store of value demand for holding money.

Question 22

If the economy is not operating at full-employment real GDP, classical economists prescribe a government policy of nonintervention.

Question 23

Exhibit 20A-4  Macro AD/AS Model As shown in Exhibit 20A-4, assume the marginal propensity to consume MPC equals 0.80. Using discretionary fiscal policy, federal government spending should be ____ in order to restore the economy from E₁ to full employment.

A) increased by $1.6 trillion
B) decreased by $1.6 trillion
C) increased by $.20 trillion
D) increased by $.20 trillion
E) increased by $.80 trillion

Question 24

One reason that people hold money is to pay for unexpected car repairs and other unpredictable expenses. This motive for holding money is called:

A) transactions demand.
B) precautionary demand.
C) speculative demand.
D) noncyclical demand.

Question 25

Exhibit 20A-2  Macro AD/AS Models As shown in Panel (b) of Exhibit 20A-2, assume the economy adopts a classical nonintervention policy. Which of the following would cause the economy to self-correct?

A) Competition among firms for workers increases the nominal wage and SRAS shifts rightward.
B) Long-run equilibrium will be established at Y₁ and P₂.
C) Long-run equilibrium will be established at Y_p and P₃.
D) Competition among unemployed workers decreases nominal wages and SRAS shifts rightward.

Question 26

If the economy is experiencing an inflationary gap, Keynesian economists advocate allowing flexible wages to shift the short-run aggregate supply curve (SRAC) upward and restore full employment.

Question 27

If the economy is experiencing an inflationary gap, classical economists argue that the Federal Reserve should lower interest rates.

Question 28

Exhibit 20A-3  Macro AD/AS Model
As shown in Exhibit 20A-3, assume the marginal propensity to consume MPC equals 0.75. Using discretionary fiscal policy, federal government spending should be ____ in order to restore the economy from E₁ to full employment.

A) increased by $1 trillion
B) increased by $2 trillion
C) decreased by $2 trillion
D) increased by $.50 trillion
E) increased by $.80 trillion

Question 29

When people hold money to transact purchases they expect to make, this is known as the:

A) precautionary demand for money.
B) liquidity demand for money.
C) spending demand for money.
D) speculative demand for money.
E) transactions demand for money.

Question 30

Exhibit 20A-2  Macro AD/AS Models In Panel (b) of Exhibit 20A-2, a Keynesian expansionary stabilization policy designed to move the economy from Y₁ to Y_p would attempt to shift the:

A) aggregate demand curve (AD) leftward.
B) SRAS curve leftward.
C) aggregate demand curve (AD) rightward.
D) LRAS curve rightward.

Question 31

People learn to hold a specific quantity of money for the groceries, theater tickets, gasoline, clothes, film, and other items they habitually purchase. This behavior is representative of the:

A) precautionary demand.
B) speculative demand.
C) transactions demand.
D) volatility demand.
E) liquidity demand.

Question 32

Assuming the economy is in a recession, Keynesian economists predict that lower wages will shift the short-run aggregate supply curve rightward.

Question 33

Exhibit 20A-2  Macro AD/AS Models In Panel (b) of Exhibit 20A-2, the economy is initially in short-run equilibrium at real GDP level Y₁ and price level P₂. Classical theory argues that:

A) SRAS will shift to leftward and establish full employment at P₃Y_p without government intervention.
B) higher wages will result in a leftward shift of SRAS.
C) long-run equilibrium will be established at Y_p and P₃.
D) all of the above will take place.

Question 34

Assuming an inflationary gap exists, classical economists believe that flexible wages will restore full employment.

Question 35

The transactions demand for holding money is when people hold money:

A) instead of near money.
B) to transact purchases they expect to make.
C) as insurance against unexpected expenses.
D) to speculate in the stock market.
E) to take advantage of changes in interest rates.

Question 36

Exhibit 20A-4  Macro AD/AS Model As shown in Exhibit 20A-4, assume the marginal propensity to consume MPC equals 0.75. Using discretionary fiscal policy, federal government spending should be ____ in order to restore the economy from E₁ to full employment.

A) increased by $.25 trillion
B) decreased by $.25 trillion
C) decreased by $2 trillion
D) increased by $2 trillion
E) increased by $1 trillion

Question 37

The transactions demand for money is the demand for money by households for:

A) rainy day spending.
B) predictable spending purposes.
C) liquidity purposes.
D) investing purposes.

Question 38

Exhibit 20A-3  Macro AD/AS Model
As shown in Exhibit 20A-3, assume the marginal propensity to consume MPC equals 0.80. Using discretionary fiscal policy, federal government spending should be ____ in order to restore the economy from E₁ to full employment.

A) increased by $2 trillion
B) decreased by $2 trillion
C) decreased by $.40 trillion
D) increased by $.40 trillion
E) increased by $.80 trillion

Question 39

The stock of money people hold to pay everyday predictable expenses is the:

A) transactions demand for holding money.
B) precautionary demand for holding money.
C) speculative demand for holding money.
D) store of value demand for holding money.

Question 40

The quantity of money demanded to satisfy transactions needs:

A) is intended for unexpected expenditures.
B) increases with the level of real GDP.
C) decreases with the level of real GDP.
D) is unrelated to either national income or the interest rate.
E) varies inversely with the liquidity demand for money.

Question 41

Keynes called the money people hold in order to pay unforeseen or unexpected expenses the:

A) transactions demand for holding money.
B) precautionary demand for holding money.
C) speculative demand for holding money.
D) store of value demand for holding money.

Question 42

Speculative demand for money is a:

A) positive function of prices.
B) inverse function of prices.
C) positive function of interest rates.
D) inverse function of interest rates.
E) function of unexpected needs.

Question 43

The speculative demand for holding money is when people hold money:

A) instead of near money.
B) to transact purchases they expect to make.
C) as insurance against unexpected needs.
D) to speculate in the stock market.
E) to take advantage of changes in interest rates.

Question 44

Keynes called the money people hold in order to buy bonds, stocks, or other nonmoney financial assets the:

A) transactions demand for holding money.
B) precautionary demand for holding money.
C) speculative demand for holding money.
D) unit of account demand for holding money.

Question 45

The speculative demand for money:

A) varies inversely with income.
B) is only concerned with active money.
C) involves holding money for unexpected problems.
D) varies directly with the transactions demand for money.
E) varies inversely with the interest rate.

Question 46

The quantity of money held in response to interest rates is the:

A) transactions motive for holding money.
B) precautionary motive for holding money.
C) speculative motive for holding money.
D) unit-of-account motive for holding money.

Question 47

The stock of money people hold to take advantage of expected future changes in the price of bonds, stocks, or other nonmoney financial assets is the:

A) unit-of-account motive for holding money.
B) precautionary motive for holding money.
C) speculative motive for holding money.
D) transactions motive for holding money.

Question 48

When a household takes extra (unbudgeted) money on a trip, economists would classify this money as held for a(n):

A) speculative demand.
B) transactions demand.
C) emergency motive.
D) precautionary demand.
E) inflationary motive.

Question 49

Which type of demand for money causes the demand for money curve to slope downward?

A) Speculative demand.
B) Precautionary demand.
C) Transactions demand.
D) Foreign-exchange demand.

Question 50

The speculative demand for money shows the relationship between money demand and :

A) income levels.
B) interest rates.
C) prices
D) investment.
E) consumption.

Question 51

The precautionary demand for money is the demand for money:

A) for normal transactions purposes.
B) for normal investment purposes.
C) for special stock purchases.
D) to protect against inflation.
E) to cover unexpected events.

Question 52

The precautionary demand for holding money is when people hold money:

A) instead of near money.
B) to transact purchases they expect to make.
C) as insurance against unexpected needs.
D) to speculate in the stock market.
E) to take advantage of changes in interest rates.

Question 53

If you hold money in anticipation of household emergency expense, this represents the::

A) speculative demand for holding money.
B) transactions demand for holding money.
C) opportunity cost motive for holding money.
D) precautionary demand for holding money.
E) regressive cost of holding money.

Question 54

The precautionary demand for money:

A) varies inversely with the income level.
B) varies inversely with the price level.
C) is used as an insurance agent against unexpected needs.
D) states that nominal income must exceed real income.
E) is a classical concept in monetary theory.

Question 55

The demand for money that households keep for emergency purposes is known as the:

A) precautionary demand.
B) emergency demand.
C) speculative demand.
D) transactions demand.
E) temporary demand.

Question 56

The money that households might hold either as money or in interest-bearing assets, depending on the interest rate, is called the:

A) precautionary demand.
B) transactions demand.
C) speculative demand.
D) liquidity motive.
E) investment motive.

Question 57

The speculative demand for money is the stock of money that people hold to:

A) pay their predictable, everyday expenses.
B) pay for any unexpected expenses that may occur.
C) buy stocks, bonds, and other financial assets.
D) buy the foreign currencies needed to purchase imports.

Question 58

Which of the following statements is true ?

A) The speculative demand for money at possible interest rates gives the demand for money curve its upward slope.
B) There is an inverse relationship between the quantity of money demanded and the interest rate.
C) According to the quantity theory of money, any change in the money supply will have no effect on the price level.
D) All of the above are true.

Question 59

When interest rates rise, the quantity demanded of money held for the:

A) speculative motive rises.
B) precautionary motive rises.
C) transactions motive falls.
D) precautionary motive falls.
E) speculative motive falls.

Question 60

The speculative demand curve for money is:

A) downward sloping.
B) upward sloping.
C) vertical.
D) horizontal.
E) spiral.

Question 61

A graph illustrating the relationship between the quantity of money demanded and the interest rate would have a slope that is:

A) positive.
B) negative.
C) horizontal.
D) vertical.

Question 62

Which of the following explains why the demand for money curve has an inverse relationship between the interest rates and the quantity of money demanded?

A) As the interest rate rises, the opportunity cost of holding money rises, and people respond by converting cash or checking account balances into interest-bearing financial investments.
B) As the interest rate rises, people find it advantageous to borrow money, which increases the quantity of money demanded.
C) As the interest rate falls, the opportunity cost of holding money rises, and people respond by converting cash or checking account balances into interest-bearing financial investments.
D) As the interest rate rises, the demand for money curve shifts outward to the right.

Question 63

The three functions of money are medium of exchange,

A) measure of value, and standard of value.
B) measure of value, and store of value.
C) standard of value, and store of value
D) medium of value, and store of value.
E) measure of value, and deferred value.

Question 64

Keynesians identify three principal motives for demanding money. They are the:

A) transactions demand, precautionary demand, and liquidity motive.
B) transactions demand, precautionary demand, and convertibility motive.
C) transactions demand, speculative demand, and volatility motive.
D) transactions demand, speculative demand, and liquidity motive.
E) transactions demand, speculative demand, and precautionary demand.

Question 65

Why do people hold money (currency and checking account balances), and thereby forego earning interest or dividends from a financial investment?

A) Some money is demanded for everyday transactions like parking fees, lunch, and buying groceries.
B) Some money is demanded as a precaution against unexpected costs such as automobile repairs, speeding tickets, or temporary loss of a job.
C) Some money is demanded for speculative purchases of stocks, bonds, or collectibles in case they become available at a particularly low price.
D) All of the above are correct.

Question 66

The downward slope of the demand for money curve is created by the:

A) transactions demand for money.
B) precautionary demand for money.
C) speculative demand for money.
D) all of the above.

Question 67

In a two-asset economy with money and T-bills, the quantity of money that people will want to hold, other things being equal, can be expected to:

A) decrease as real GDP increases.
B) increase as the interest rate decreases.
C) increase as the interest rate increases.
D) all of the above.

Question 68

A decrease in the interest rate, other things being equal, causes a(n):

A) upward movement along the demand curve for money.
B) downward movement along the demand curve for money.
C) rightward shift of the demand curve for money.
D) leftward shift of the demand curve for money.

Question 69

In Keynes's view, an excess quantity of money demanded causes people to:

A) sell bonds and the interest rate rises.
B) buy bonds and the interest rate falls.
C) buy bonds and the interest rate rises.
D) increase speculative balances.

Question 70

Keynes argued that the downward slope of the demand for money curve depends on the:

A) equation of exchange.
B) rate of interest.
C) federal funds rate.
D) discount rate.

Question 71

As the interest rate decreases, the quantity of money people will hold:

A) decreases.
B) increases.
C) stays the same.
D) rises and then falls.
E) falls and then rises.

Question 72

Other things being equal, the quantity of money that people wish to hold in currency and their checking accounts can be expected to:

A) increase as the interest rate increases.
B) decrease as the interest rate increases.
C) decrease as real GDP increases.
D) none of the above.

Question 73

In a two-asset economy with money and T-bills, the quantity of money that people will want to hold, other things being equal, can be expected to:

A) increase as the real GDP interest rate increases.
B) decrease as the real GDP interest rate increases.
C) decrease as real GDP increases.
D) none of the above.

Question 74

If at the prevailing interest rate the quantity of money demanded is $2 trillion, and the supply of money is $1.5 trillion, then which of the following is true ?

A) There is a shortage of money, and consequently interest rates must fall in order to achieve an equilibrium in the money market.
B) There is a surplus of money, and consequently interest rates must fall in order to achieve an equilibrium in the money market.
C) There is shortage of money, and consequently interest rates must rise in order to achieve an equilibrium in the money market.
D) There is a surplus of money, and consequently interest rates must rise in order to achieve an equilibrium in the money market.

Question 75

People react to an excess supply of money by:

A) selling bonds, thus driving up the interest rate.
B) selling bonds, thus driving down the interest rate.
C) buying bonds, thus driving up the interest rate.
D) buying bonds, thus driving down the interest rate.

Question 76

The demand for money curve shows that there is an inverse relationship between the quantity of money demanded and the:

A) quantity of money supplied.
B) gross domestic product (GDP).
C) price level.
D) interest rate.

Question 77

Which of the following statements is true ?

A) The speculative demand for money at possible interest rates gives the demand for money curve its upward slope.
B) There is an inverse relationship between the quantity of money demanded and the interest rate.
C) According to the quantity theory of money, any change in the money supply will have no effect on the price level.
D) All of the above.

Question 78

The opportunity cost of holding money balances increases when:

A) the inflation rate decreases.
B) the interest rate increases.
C) the interest rate decreases.
D) GDP is far from full employment.

Question 79

Other things being equal, an increase in the rate of interest causes a(n):

A) upward movement along the demand for money curve.
B) downward movement along the demand for money curve.
C) rightward shift of the demand for money curve.
D) leftward shift of the demand for money curve.

Question 80

The demand curve for money:

A) shows the amount of money balances that individuals and businesses wish to hold at various levels of private investment.
B) reflects the open market operations policy of the Federal Reserve.
C) shows the amount of money that households and businesses wish to hold at various rates of interest.
D) indicates the amount that consumers wish to borrow at a given interest rate.