Deck 19: The Conduct of Monetary Policy: Strategy and Tactics

Question 1

Explain the time-inconsistency problem.What is the likely outcome of discretionary policy? What are the solutions to the time-inconsistency problem?

Answer 1

With policy discretion,policymakers have an incentive to attempt to increase output by pursuing expansionary policies once expectations are set.The problem is that this policy results not in higher output,but in higher actual and expected inflation.The solution is to adopt a rule to constrain discretion.Nominal anchors can provide the necessary constraint on discretionary behavior.

Question 2

Supply-side economic policies seek to

A)raise interest rates through contractionary monetary policy.
B)increase federal government expenditures.
C)increase consumption expenditures by increasing taxes.
D)increase saving and investment using tax incentives.

Answer 2

increase saving and investment using tax incentives.

Question 3

Economists believe that countries recently suffering hyperinflation have experienced

A)reduced growth.
B)increased growth.
C)reduced prices.
D)lower interest rates.

Answer 3

reduced growth.

Question 4

The time-inconsistency problem with monetary policy tells us that,if policymakers use discretionary policy,there is a higher probability that the ________ will be higher,compared to policy makers following a behavior rule.

A)inflation rate
B)unemployment rate
C)interest rate
D)foreign exchange rate

Question 5

The Federal Reserve System was created to

A)make it easier to finance budget deficits.
B)promote financial market stability.
C)lower the unemployment rate.
D)promote rapid economic growth.

Question 6

Monetary policy is considered time-inconsistent because

A)of the lag times associated with the implementation of monetary policy and its effect on the economy.
B)policymakers are tempted to pursue discretionary policy that is more contractionary in the short run.
C)policymakers are tempted to pursue discretionary policy that is more expansionary in the short run.
D)of the lag times associated with the recognition of a potential economic problem and the implementation of monetary policy.

Question 7

A nominal anchor promotes price stability by

A)outlawing inflation.
B)stabilizing interest rates.
C)keeping inflation expectations low.
D)keeping economic growth low.

Question 8

Even if the Fed could completely control the money supply,monetary policy would have critics because

A)the Fed is asked to achieve many goals,some of which are incompatible with others.
B)the Fed's goals do not include high employment,making labor unions a critic of the Fed.
C)the Fed's primary goal is exchange rate stability,causing it to ignore domestic economic conditions.
D)it is required to keep Treasury security prices high.

Question 9

The time-inconsistency problem in monetary policy can occur when the central bank conducts policy

A)using a nominal anchor.
B)using a strict and inflexible rule.
C)on a discretionary,day-by-day basis.
D)using a flexible,discretionary rule.

Question 10

Unemployment resulting from a mismatch of workers' skills and job requirements is called

A)frictional unemployment.
B)structural unemployment.
C)seasonal unemployment.
D)cyclical unemployment.

Question 11

A central feature of monetary policy strategies in all countries is the use of a nominal variable that monetary policymakers use as an intermediate target to achieve an ultimate goal such as price stability.Such a variable is called a nominal

A)anchor.
B)benchmark.
C)tether.
D)guideline.

Question 12

When workers voluntarily leave work while they look for better jobs,the resulting unemployment is called

A)structural unemployment.
B)frictional unemployment.
C)cyclical unemployment.
D)underemployment.

Question 13

Inflation results in

A)ease of planning for the future.
B)ease of comparing prices over time.
C)lower nominal interest rates.
D)difficulty interpreting relative price movements.

Question 14

A nominal variable,such as the inflation rate or the money supply,which ties down the price level to achieve price stability is called ________ anchor.

A)a nominal
B)a real
C)an operating
D)an intermediate

Question 15

High unemployment is undesirable because it

A)results in a loss of output.
B)always increases inflation.
C)always increases interest rates.
D)reduces idle resources.

Question 16

The goal for high employment should be a level of unemployment at which the demand for labor equals the supply of labor.Economists call this level of unemployment the

A)frictional level of unemployment.
B)structural level of unemployment.
C)natural rate level of unemployment.
D)Keynesian rate level of unemployment.

Question 17

The ________ problem of discretionary policy arises because economic behavior is influenced by what firms and people expect the monetary authorities to do in the future.

A)moral hazard
B)time-inconsistency
C)nominal-anchor
D)rational-expectation

Question 18

The theory that monetary policy conducted on a discretionary,day-by-day basis leads to poor long-run outcomes is referred to as the

A)adverse selection problem.
B)moral hazard problem.
C)time-inconsistency problem.
D)nominal-anchor problem.

Question 19

If the central bank pursues a monetary policy that is more expansionary than what firms and people expect,then the central bank must be trying to

A)boost output in the short run.
B)constrain output in the short run.
C)constrain prices.
D)boost prices in the short run.

Question 20

The most common definition that monetary policymakers use for price stability is

A)low and stable deflation.
B)an inflation rate of zero percent.
C)high and stable inflation.
D)low and stable inflation.

Question 21

Which of the following is not a disadvantage of of the Fed's "just do it" approach to monetary policy?

A)There is low transparency of policy.
B)There is low accountability for central bankers.
C)This type of policy make the Fed more susceptible to the time-inconsistency problem.
D)It relies on a stable money-inflation relationship.

Question 22

The primary goal of the European Central Bank is

A)price stability.
B)exchange rate stability.
C)interest rate stability.
D)high employment.

Question 23

The mandate for the monetary policy goals that has been given to the Federal Reserve System is an example of a ________ mandate.

A)primary
B)dual
C)secondary
D)hierarchical

Question 24

Estimates from large macroeconometric models of the U.S.economy suggests that it takes over ________ for monetary policy to affect output and over ________ for monetary policy to affect the inflation rate.

A)1 year;2 years
B)2 years;1 year
C)1 year;6 months
D)6 months;1 year

Question 25

Which of the following is not an advantage of inflation targeting?

A)reduction of the time-inconsistency problem
B)increased monetary policy transparency
C)There is an immediate signal on the achievement of the target.
D)consistency with democratic principles

Question 26

Which set of goals can,at times,conflict in the short run?

A)high employment and economic growth
B)interest rate stability and financial market stability
C)high employment and price level stability
D)exchange rate stability and financial market stability

Question 27

The type of monetary policy regime that the Federal Reserve has followed From the 1980s up until the time Ben Bernanke became chair of the Federal Reserve in 2006 can best be described as

A)monetary targeting.
B)inflation targeting.
C)policy with an implicit nominal anchor.
D)exchange-rate targeting.

Question 28

Either a dual or hierarchial mandate is acceptable as long as ________ is the primary goal in the ________.

A)price stability;short run
B)price stability;long run
C)reducing business-cycle fluctuations;short run
D)reducing business-cycle fluctuations;long run

Question 29

Having interest rate stability

A)allows for less uncertainty about future planning.
B)leads to demands to curtail the Fed's power.
C)guarantees full employment.
D)leads to problems in financial markets.

Question 30

Suppose it takes roughly two years for monetary policy to have a significant impact on inflation.If inflation is currently low but policymakers believe inflation will rise over the next two years with an unchanged stance of monetary policy,when should they tighten monetary policy to prevent the inflationary surge?

A)now
B)wait until overt signs of inflation appear
C)next year
D)two years later

Question 31

The first country to adopt inflation targeting was

A)the United Kingdom.
B)Canada.
C)New Zealand.
D)Australia.

Question 32

Foreign exchange rate stability is important because a decline in the value of the domestic currency will ________ the inflation rate,and an increase in the value of the domestic currency makes domestic industries ________ competitive with competing foreign industries.

A)increase;more
B)increase;less
C)decrease;more
D)decrease;less

Question 33

Explain what inflation targeting is.What are the advantages and disadvantages of this type of monetary policy strategy?

Question 34

Inflation targets can increase the central bank's flexibility in responding to declines in aggregate spending.Declines in aggregate ________ that cause the inflation rate to fall below the floor of the target range will automatically stimulate the central bank to ________ monetary policy without fearing that this action will trigger a rise in inflation expectations.

A)demand: tighten
B)demand;loosen
C)supply;tighten
D)supply;loosen

Question 35

The type of monetary policy that is used in Canada,New Zealand,and the United Kingdom is

A)monetary targeting.
B)inflation targeting.
C)targeting with an implicit nominal anchor.
D)interest-rate targeting.

Question 36

Which of the following is not an element of inflation targeting?

A)a public announcement of medium-term numerical targets for inflation
B)an institutional commitment to price stability as the primary long-run goal
C)an information-inclusive approach in which only monetary aggregates are used in making decisions about monetary policy
D)increased accountability of the central bank for attaining its inflation objectives

Question 37

In both New Zealand and Canada,what has happened to the unemployment rate since the countries adopted inflation targeting?

A)The unemployment rate increased sharply.
B)The unemployment rate remained constant.
C)The unemployment rate has declined substantially after a sharp increase.
D)The unemployment rate declined sharply immediately after the inflation targets were adopted.

Question 38

The mandate for the monetary policy goals that has been given to the European Central Bank is an example of a ________ mandate.

A)primary
B)dual
C)secondary
D)hierarchical

Question 39

The decision by inflation targeters to choose inflation targets ________ zero reflects the concern of monetary policymakers that particularly ________ inflation can have substantial negative effects on real economic activity.

A)below;high
B)below;low
C)above;high
D)above;low

Question 40

Which of the following is not a disadvantage to inflation targeting?

A)There is a delayed signal about achievement of the target.
B)Inflation targets could impose a rigid rule on policymakers.
C)There is potential for larger output fluctuations.
D)There is a lack of transparency.

Question 41

Which of the following is NOT an operating instrument?

A)nonborrowed reserves
B)monetary base
C)federal funds interest rate
D)discount rate

Question 42

When asset prices increase above their fundamental values it is called an

A)asset-price bubble.
B)irrational bubble.
C)asset-price spike.
D)irrational spike.

Question 43

Everything else held constant,a credit-drive bubble is generally considered to have the potential to cause ________ damage to an economy compared to an irrational exuberance bubble.

A)less
B)about the same amount of
C)more
D)either more,less,or the same amount of

Question 44

A central bank has ________ chance to identify a credit-driven bubble compared to an irrational exuberance bubble.

A)a greater
B)less of a
C)about the same level of a
D)a greater,less or about the same level of a

Question 45

The FOMC "Statement on Long-Run Goals and Monetary Policy Strategy"made it clear that the Federal Reserve would be pursuing ________,consistent with its dual mandate.

A)a flexible form of inflation targeting
B)a strict form of inflation targeting
C)a zero inflation targeting
D)an implicit inflation targeting

Question 46

Which of the following is NOT an argument against using monetary policy to prick asset-price bubbles?

A)The effect of increasing interest rates on asset prices is uncertain.
B)A bubble may only exist in some asset-prices and monetary policy will affect all asset prices.
C)Using monetary policy to prick an asset-price bubble may have adverse effect on the aggregate economy.
D)Even though credit-drive bubbles are easier to identify,they are still relatively hard to identify.

Question 47

The problems of raising the level of the inflation target include

A)if the zero-lower-bound problem is rare,then the benefits of a higher inflation target are not very large.
B)the costs of higher inflation in terms of the distortions it produces in the economy are high.
C)it is more difficult to stabilize the inflation rate at a higher targeting level.
D)all of the above.

Question 48

Under Alan Greenspan and Ben Bernanke,the Federal Reserve was successful in pursuing a ________ policy.

A)preemptive
B)inflation targeting
C)exchange rate targeting
D)monetary targeting

Question 49

The "Greenspan doctrine"-central banks should not try to prick bubbles-was based on which of the following arguments?

A)Asset-price bubbles are nearly impossible to identify.
B)Monetary actions would be likely to affect asset prices in general,rather than the specific assets that are experiencing a bubble.
C)Raising interest rates has often been found to cause a bubble to burst more severely.
D)Monetary policy actions to prick bubbles can have harmful effects on the aggregate economy.
E)All of the above.

Question 50

Which of the following is a potential operating instrument for the central bank?

A)the monetary base
B)the M1 money supply
C)nominal GDP
D)the discount rate

Question 51

A credit-driven bubble arises when ________ in lending causes ________ in asset prices which can cause ________ in lending.

A)a decrease;a decrease;an increase
B)a decrease;an increase;an increase
C)an increase;an increase;a further increase
D)a decrease;a decrease;a further decrease

Question 52

________ bubble is driven entirely by unrealistic optimistic expectations.

A)An irrational exuberance
B)A credit-driven
C)A stock
D)A debt-driven

Question 53

Lessons that economists and policy makers have learned from the recent global financial crisis include

A)Developments in the financial sector have a far greater impact on economic activity than was earlier realized.
B)The zero lower bound on interest rates can be a serious problem.
C)The cost of cleaning up after a financial crisis is very high.
D)Price and output stability do not ensure financial stability.
E)All of the above.

Question 54

Suppose interest rates are kept very low for a long time such that there is a spike in the amount of lending.Everything else held constant,this could cause ________ bubble.

A)an irrational exuberance
B)a credit-driven
C)a stock
D)a debt-driven

Question 55

The FOMC finally moved to ________ on January 25,2012,when it issued its "Statement on Long-Run Goals and Monetary Policy Strategy."

A)inflation targeting
B)zero inflation policy
C)"just do it" policy
D)monetary targeting

Question 56

If the Fed pursues a strategy of targeting an interest rate when fluctuations in money demand are prevalent

A)fluctuations of nonborrowed reserves will be small.
B)fluctuations of nonborrowed reserves will be large.
C)the Fed will probably quickly abandon this policy,as it did in the 1960s.
D)the Fed will probably quickly abandon this policy,as it did in the 1950s.

Question 57

If the central bank targets a monetary aggregate,it is likely to lose control over the interest rate because

A)of fluctuations in the demand for reserves.
B)of fluctuations in the consumption function.
C)bond values will tend to remain stable.
D)of fluctuations in the business cycle.

Question 58

Due to the lack of timely data for the price level and economic growth,the Fed's strategy

A)targets the exchange rate,since the Fed can control this variable.
B)targets the price of gold,since it is closely related to economic activity.
C)uses an intermediate target,such as an interest rate.
D)stabilizes the consumer price index,since the Fed can control the CPI.

Question 59

In the FOMC's "Statement on Long-Run Goals and Monetary Policy Strategy,"the FOMC agreed to a single numerical value of the inflation objective,2% on the ________.

A)PCE deflator
B)GDP deflator
C)CPI
D)PPI

Question 60

After Ben Bernanke became chair of the Fed in 2006,he

A)increased Fed transparency.
B)abandoned inflation targeting.
C)used "just do it" policy.
D)increased the opacity of the policymaking.

Question 61

Fluctuations in the demand for reserves cause the Fed to lose control over a monetary aggregate if the Fed targets

A)a monetary aggregate.
B)the monetary base.
C)an interest rate.
D)nominal GDP.

Question 62

The European Central Bank (ECB)pursues a hybrid monetary policy strategy that has elements in common with the -targeting strategy previously used by the Bundesbank but also includes some elements of targeting.

A)monetary;inflation
B)inflation;monetary
C)monetary;exchange rate
D)monetary;nominal GDP

Question 63

Which of the following is NOT a requirement in selecting a policy instrument?

A)measurability
B)controllability
C)flexibility
D)predictability

Question 64

Which of the following criteria need NOT be satisfied for choosing a policy instrument?

A)The variable must be measurable.
B)The variable must be controllable.
C)The variable must be predictable.
D)The variable must be transportable.

Question 65

If the Taylor Principle is not followed and nominal interest rates are increased by less than the increase in the inflation rate,then real interest rates will ________ and monetary policy will be too ________.

A)rise;tight
B)rise;loose
C)fall;tight
D)fall;loose

Question 66

The rate of inflation increases when

A)the unemployment rate equals the NAIRU.
B)the unemployment rate exceeds the NAIRU.
C)the unemployment rate is less than the NAIRU.
D)the unemployment rate increases faster than the NAIRU increases.

Question 67

According to the Taylor Principle,when the inflation rate rises,the nominal interest rate should be ________ by ________ than the inflation rate increase.

A)increased;more
B)increased;less
C)decreased;more
D)decreased;less

Question 68

Explain and demonstrate graphically how targeting nonborrowed reserves can result in federal funds rate instability.

Question 69

Explain and demonstrate graphically how targeting the federal funds rate can result in fluctuations in nonborrowed reserves.

Question 70

During the years 1979 to 1982,the Federal Reserve's announced policy was monetary targeting.During this time period the Federal Reserve

A)hit all of their monetary targets.
B)did not hit any of their monetary targets because it is believed that controlling the money supply was not the intent of the Federal Reserve.
C)did not hit any of their monetary targets because they were unrealistic.
D)hit about half of their monetary targets.

Question 71

Using Taylor's rule,when the equilibrium real federal funds rate is 3 percent,the positive output gap is 2 percent,the target inflation rate is 1 percent,and the actual inflation rate is 2 percent,the nominal federal funds rate target should be

A)5 percent.
B)5.5 percent.
C)6 percent.
D)6.5 percent.

Question 72

When it comes to choosing an policy instrument,both the ________ rate and ________ aggregates are measured accurately and are available daily with almost no delay.

A)three-month T-bill;monetary
B)three-month T-bill;reserve
C)federal funds;monetary
D)federal funds;reserve

Question 73

Using Taylor's rule,when the equilibrium real federal funds rate is 2 percent,there is no output gap,the actual inflation rate is zero,and the target inflation rate is 2 percent,the nominal federal funds rate should be

A)0 percent.
B)1 percent.
C)2 percent.
D)3 percent.

Question 74

One of the factors that contributed to the success German policymakers had using a monetary targeting type policy starting in the mid-1970s and continuing through the next two decades was that

A)they used a rigid target for the money growth rate.
B)they implemented policy so their inflation rate goal was met in the short run.
C)the money target was flexible to allow the Bundesbank to concentrate on other goals as needed.
D)they rarely communicated the intentions of policy to the public in order to keep the public from panicking.

Question 75

The rate of inflation tends to remain constant when

A)the unemployment rate is above the NAIRU.
B)the unemployment rate equals the NAIRU.
C)the unemployment rate is below the NAIRU.
D)the unemployment rate increases faster than the NAIRU increases.

Question 76

In pursuing a strategy of monetary targeting,the central bank announces that it will achieve a certain value (the target)of the annual growth rate of a ________.

A)a monetary aggregate
B)a reserve aggregate
C)the monetary base
D)GDP

Question 77

Real interest rates are difficult to measure because

A)data on them are not available in a timely manner.
B)real interest rates depend on the hard-to-determine expected inflation rate.
C)they fluctuate too often to be accurate.
D)they cannot be controlled by the Fed.

Question 78

Explain the Taylor rule,including the formula for setting the federal funds rate target,and the components of the formula.If the Fed were to use this rule,how many goals would it use to set monetary policy?

Question 79

According to the Taylor rule,the Fed should raise the federal funds interest rate when inflation ________ the Fed's inflation target or when real GDP ________ the Fed's output target.

A)rises above;drops below
B)drops below;drops below
C)rises above;rises above
D)drops below;rises above

Question 80

Compared to the United States,Japan's experience with monetary targeting during the 1978--1987 period performed

A)better with regard to the inflation rate and output fluctuations.
B)worse with regard to the inflation rate and output fluctuations.
C)better with regard to the inflation rate,but worse with regard to output fluctuations.
D)worse with regard to the inflation rate,but better with regard to output fluctuations.