Deck 30: 2: Sec 302 Mc the Costs of Inflation

Question 1

When inflation rises,people will desire to hold

A)less money and will go to the bank less frequently.
B)less money and will go to the bank more frequently.
C)more money and will go to the bank less frequently.
D)more money and will go to the bank more frequently.

Answer 1

A

Question 2

Shoeleather costs arise when higher inflation rates induce people to

A)spend more time looking for bargains.
B)spend less time looking for bargains.
C)hold more money.
D)hold less money.

Answer 2

B

Question 3

The idea that inflation by itself reduces people's purchasing power is called

A)the inflation tax.
B)menu costs.
C)the inflation fallacy.
D)shoeleather costs.

Answer 3

C

Question 4

Shoeleather cost refers to

A)the cost of more frequent price changes induced by higher inflation.
B)the distortion in resource allocation created by distortions in relative prices due to inflation.
C)resources used to maintain lower money holdings when inflation is high.
D)the tendency to expend more effort searching for the lowest price when inflation is high.

Question 5

The inflation tax

A)transfers wealth from the government to households.
B)is the increase in real income taxes due to lack of indexation in income tax rules.
C)is a tax on everyone who holds money.
D)All of the above are correct.

Question 6

Studies have found which of the following economic terms mentioned most often in U.S.newspapers?

A)Unemployment
B)Productivity
C)Inflation
D)Monetary policy

Question 7

In the 1970s,the U.S.inflation rate reached about

A)7 percent per year.
B)10 percent per year.
C)14 percent per year.
D)20 percent per year.

Question 8

People can reduce the inflation tax by

A)reducing savings.
B)increasing deductions on their income tax.
C)reducing cash holdings.
D)None of the above is correct.

Question 9

When inflation rises,people tend to go to the bank

A)more often,giving rise to menu costs.
B)more often,giving rise to shoeleather costs.
C)less often,giving rise to redistribution costs.
D)less often,thereby lessening the severity of the inflation tax.

Question 10

Which of the following helps to explain why the inflation fallacy is a fallacy?

A)Increases in the price level can be created by increases in money demand.
B)Nominal incomes tend to rise at the same time that the price level is rising.
C)As the price level rises,the value of a dollar falls.
D)Inflation only changes nominal variables.

Question 11

When inflation rises,the nominal interest rate

A)rises,and people desire to hold more money.
B)rises,and people desire to hold less money.
C)falls,and people desire to hold more money.
D)falls,and people desire to hold less money

Question 12

Norma complains that she is not receiving the full benefit of her six percent raise,because inflation is two percent.You tell her that nominal incomes tend to rise with inflation,therefore

A)she really is worse off.
B)her real income increased eight percent.
C)menu costs have reduced her purchasing power.
D)she is committing the inflation fallacy.

Question 13

Which of the following statements about inflation is correct?

A)Evidence from studies indicates that,in U.S.newspapers,inflation is mentioned less frequently than other economic terms,such as unemployment and productivity.
B)People believe the inflation fallacy because they tend to believe too strongly in the principle of monetary neutrality.
C)Nominal incomes are determined by nominal factors;they are not affected by real factors.
D)Inflation does not in itself reduce people's real purchasing power.

Question 14

The costs of changing price tags and price listings are known as

A)inflation-induced tax distortions.
B)relative-price variability costs.
C)shoeleather costs.
D)menu costs.

Question 15

When Haley states that inflation by itself always reduces the real return on her saving,she

A)has expressed the idea of the inflation tax.
B)has expressed the idea behind menu costs.
C)has committed the inflation fallacy.
D)has expressed the idea behind shoeleather costs.

Question 16

Which of the following is an example of menu costs?

A)deciding on new prices
B)printing new price lists
C)advertising new prices
D)All of the above are examples of menu costs.

Question 17

People go to the bank more frequently to reduce currency holdings when inflation is high.The sacrifice of time and convenience that is involved in doing that is referred to as

A)inflation-induced tax distortion.
B)relative-price-variability cost.
C)shoeleather cost.
D)menu cost.

Question 18

The shoeleather cost of inflation refers to

A)the redistributional effects of unexpected inflation.
B)the time spent searching for low prices when inflation rises.
C)the waste of resources used to maintain lower money holdings.
D)the increased cost to the government of printing more money.

Question 19

When inflation rises,firms make

A)more frequent price changes.This raises their menu costs.
B)more frequent price changes.This reduces their menu costs.
C)less frequent price changes.This raises their menu costs.
D)less frequent price changes.This reduces their menu costs.

Question 20

Norma receives an increase in her nominal income.She complains that the current inflation rate of six percent erodes the real purchasing power of her additional nominal income.This is true

A)only if the increase in her nominal income is less than six percent.
B)only if the increase in her nominal income is more than six percent.
C)since inflation always reduces purchasing power.
D)only if her real income increases.

Question 21

Menu costs refers to

A)resources used by people to maintain lower money holdings when inflation is high.
B)resources used to price shop during times of high inflation.
C)the distortion in incentives created by inflation when taxes do not adjust for inflation.
D)the cost of more frequent price changes induced by higher inflation.

Question 22

In the U.S. ,taxes on capital gains are computed using

A)nominal gains.This is one way by which higher inflation discourages saving.
B)nominal gains.This is one way by which higher inflation encourages saving.
C)real gains.This is one way by which higher inflation discourages saving.
D)real gains.This is one way by which higher inflation encourages saving.

Question 23

Relative-price variability

A)rises with inflation,leading to an improved allocation of resources.
B)rises with inflation,leading to a misallocation of resources.
C)falls with inflation,leading to an improved allocation of resources.
D)falls with inflation,leading to a misallocation of resources.

Question 24

Higher inflation

A)causes firms to change prices less frequently and makes relative prices less variable.
B)causes firms to change prices less frequently and makes relative prices more variable.
C)causes firms to change prices more frequently and makes relative prices less variable.
D)causes firms to change prices more frequently and makes relative prices more variable.

Question 25

Inflation is problematic if

A)it is less than the percentage increase in nominal income.
B)it is less than the nominal return on saving.
C)it equals the growth rate of real GDP in the long run.
D)it distorts relative prices,causing a misallocation of resources.

Question 26

In the U.S. ,people are required to pay taxes on

A)nominal interest earnings,irrespective of their real interest earnings.
B)real interest earnings,irrespective of their nominal interest earnings.
C)real capital gains,irrespective of their nominal capital gains.
D)All of the above are correct.

Question 27

U.S.tax laws allow taxpayers,in computing the amount of tax they owe,to use the real value,as opposed to the nominal value,of

A)both interest income and capital gains.
B)interest income but not capital gains.
C)capital gains but not interest income.
D)neither interest income nor capital gains.

Question 28

You bought some shares of stock and,over the next year,the price per share increased by 5 percent,as did the price level.Before taxes,you experienced

A)both a nominal gain and a real gain,and you paid taxes on the nominal gain.
B)both a nominal gain and a real gain,and you paid taxes only on the real gain.
C)a nominal gain,but no real gain,and you paid taxes on the nominal gain.
D)a nominal gain,but no real gain,and you paid no taxes on the transaction.

Question 29

When inflation causes relative-price variability,

A)consumer decisions are distorted and the ability of markets to efficiently allocate factors of production is impaired.
B)consumer decisions are distorted,but markets are still able to efficiently allocate factors of production.
C)consumer decisions are not distorted,but the ability of markets to efficiently allocate factors of production is impaired.
D)consumer decisions are not distorted and markets are still able to efficiently allocate factors of production.

Question 30

You observe people going to the bank more frequently.Other things the same,this could result from

A)an increase in inflation which increases money demand.
B)an increase in inflation which reduces money demand.
C)a decrease in inflation which increases money demand.
D)a decrease in inflation which reduces money demand.

Question 31

The idea of menu costs suggests that

A)firms alter prices less frequently as inflation increases.
B)firms alter prices more frequently as inflation increases.
C)firms always alter prices when costs increase.
D)firms alter prices as interest rates rise.

Question 32

A reduction in the inflation rate would make relative prices

A)less variable,making it more likely that resources will be allocated to their best use.
B)less variable,making it less likely that resources will be allocated to their best use.
C)more variable,making it more likely that resources will be allocated to their best use.
D)more variable,making it less likely that resources will be allocated to their best use.

Question 33

When inflation rises,people

A)make less frequent trips to the bank and firms make less frequent price changes.
B)make less frequent trips to the bank while firms make more frequent price changes.
C)make more frequent trips to the bank while firms make less frequent price changes.
D)make more frequent trips to the bank and firms make more frequent price changes.

Question 34

Higher inflation makes relative prices

A)more variable,making it more likely that resources will be allocated to their best use.
B)more variable,making it less likely that resources will be allocated to their best use.
C)less variable,making it more likely that resources will be allocated to their best use.
D)less variable,making it less likely that resources will be allocated to their best use.

Question 35

Which of the following are U.S.taxpayers allowed to adjust for inflation for the purpose of income taxes?

A)both interest income and capital gains.
B)interest income but not capital gains.
C)capital gains but not interest income.
D)neither interest income nor capital gains.

Question 36

Which of the following are costs incurred by people trying to protect themselves from the effects of inflation?

A)menu costs and shoeleather costs
B)menu costs but not shoeleather costs
C)shoeleather costs but not menu costs
D)menu costs but not shoeleather costs

Question 37

If there is inflation,then a firm that has kept its price fixed for some time will have a

A)high relative price.Relative-price variability rises as the inflation rate rises.
B)high relative price.Relative-price variability falls as the inflation rate rises.
C)low relative price.Relative-price variability rises as the inflation rate rises.
D)low relative price.Relative-price variability falls as the inflation rate rises.

Question 38

When inflation falls,people

A)make less frequent trips to the bank and firms make less frequent price changes.
B)make less frequent trips to the bank while firms make more frequent price changes.
C)make more frequent trips to the bank while firms make less frequent price changes.
D)make more frequent trips to the bank and firms make more frequent price changes.

Question 39

Market economies rely on which of the following to allocate scarce resources?

A)government
B)consumers
C)relative prices
D)real interest rates

Question 40

Relative-price variability is "automatic" when

A)firms change prices only once in a while.
B)firms change prices often.
C)people increase the frequency of their trips to the bank.
D)people decrease the frequency of their trips to the bank.

Question 41

You put money into an account and earn a real interest rate of 6 percent.Inflation is 3 percent,and your marginal tax rate is 20 percent.What is your after-tax real rate of interest?

A)4.8 percent
B)5.4 percent
C)7.2 percent
D)4.2 percent.

Question 42

Given a nominal interest rate of 8 percent,in which of the following cases would you earn the highest after-tax real interest rate?

A)Inflation is 5 percent;the tax rate is 40 percent.
B)Inflation is 4 percent;the tax rate is 30 percent.
C)Inflation is 3 percent;the tax rate is 45 percent.
D)Inflation is 2 percent;the tax rate is 50 percent.

Question 43

Given a nominal interest rate of 5 percent,in which of the following cases would you earn the highest after-tax real rate of interest?

A)Inflation is 3 percent;the tax rate is 15 percent.
B)Inflation is 2 percent;the tax rate is 40 percent.
C)Inflation is 1 percent;the tax rate is 50 percent.
D)The after-tax real interest rate is the same for all of the above.

Question 44

The nominal interest rate is 4%,the inflation rate is 1% and the tax rate is 20%.Given U.S.tax laws,how is after-tax real return computed?

A).03(1-.20)
B).04(1 -.20)
C).04(1 - .20)- .01
D)None of the above is correct.

Question 45

For a given real interest rate,an increase in inflation makes the after-tax real interest rate

A)decrease,which encourages savings.
B)decrease,which discourages savings.
C)increase,which encourages savings.
D)increase,which discourages savings.

Question 46

You put money into an account that earns an 8 percent nominal interest rate.The inflation rate is 5 percent,and your marginal tax rate is 10 percent.What is your after-tax real rate of interest?

A)2.2 percent
B)2.7 percent
C)11.7 percent
D)7.7 percent

Question 47

For a given real interest rate,a decrease in the inflation rate would

A)decrease the after-tax real interest rate and so decrease saving.
B)decrease the after-tax real interest rate and so increase saving.
C)increase the after-tax real interest rate and so decrease saving.
D)increase the after-tax real interest rate and so increase saving.

Question 48

Given a nominal interest rate of 6 percent,in which of the following cases would you earn the lowest after-tax real rate of interest?

A)Inflation is 4 percent;the tax rate is 5 percent.
B)Inflation is 3 percent;the tax rate is 20 percent.
C)Inflation is 2 percent;the tax rate is 30 percent.
D)The after-tax real interest rate is the same for all of the above.

Question 49

You put money into an account that earns a 5 percent nominal interest rate.The inflation rate is 2 percent,and your marginal tax rate is 20 percent.What is your after-tax real rate of interest?

A)3.6 percent.
B)2.4 percent.
C)2.0 percent.
D)4.4 percent.

Question 50

You put money into an account and earn a real interest rate of 5 percent.Inflation is 2 percent,and your marginal tax rate is 35 percent.What is your after-tax real rate of interest?

A)5.25 percent
B)3.05 percent
C)2.55 percent
D)1.25 percent

Question 51

You put money into an account and earn a real interest rate of 4 percent.Inflation is 2 percent,and your marginal tax rate is 25 percent.What is your after-tax real rate of interest?

A)1.5 percent.
B)2.5 percent.
C)5.0 percent.
D)4.5 percent.

Question 52

When deciding how much to save,people care most about

A)after-tax nominal interest rates.
B)after-tax real interest rates.
C)before-tax real interest rates.
D)before-tax nominal interest rates.

Question 53

Assuming the Fisher Effect holds,and given U.S.tax laws,an increase in inflation

A)increases the real interest rate and the after-tax real rate of interest.
B)increases the real interest rate and the after-tax real rate of interest.
C)does not change the real interest rate but raises the after tax real rate of interest.
D)does not change the real interest rate but reduces the after-tax real rate of interest.

Question 54

Suppose that in some tax year you earned a nominal interest rate of 6 percent.During the time you held these funds inflation was 1 percent.You compute that you made a real after-tax interest rate of 3 percent.What was your tax rate?

A)40 percent.
B)33.3 percent.
C)25 percent.
D)50 percent.

Question 55

In which of the following cases is the after-tax real interest rate highest?

A)inflation is 6%,the pre-tax real interest rate is 3%,and the tax rate is 20%.
B)inflation is 6%,the pre-tax real interest rate is 3%,and the tax rate is 25%.
C)inflation is 4%,the pre-tax real interest rate is 2%,and the tax rate is 20%.
D)inflation is 4%,the pre-tax real interest rate is 2%,and the tax rate is 25%.

Question 56

Given a nominal interest rate of 6 percent,in which of the following cases would you earn the highest after-tax real rate of interest?

A)Inflation is 2.5 percent;the tax rate is 25 percent.
B)Inflation is 3 percent;the tax rate is 20 percent.
C)Inflation is 2 percent;the tax rate is 30 percent.
D)The after-tax real interest rate is the same for all of the above.

Question 57

You bought some shares of stock and sell them one year later.At the end of the year,the price per share was 5 percent higher and the price level was 3 percent higher.Before taxes,you experienced

A)both a nominal gain and a real gain,and you paid taxes on the nominal gain.
B)both a nominal gain and a real gain,and you paid taxes only on the real gain.
C)a nominal gain and a real loss,and you paid taxes on the nominal gain.
D)a nominal gain and a real loss,and you paid no taxes on the transaction.

Question 58

Harvey,a U.S.taxpayer,purchased 10 shares of MVC stock for $100 per share;one year later he sold the 10 shares for $130 a share.Over the year,the price level increased from 140.0 to 147.0.What is Harvey's before-tax real capital gain?

A)$1,300 - $1,000(1.05)and this is the gain he is to report on his income tax
B)$1,300 - $1,000(1.05)but he is to report a $300 gain on his income tax
C)$1,300 - $1,000(1.07)and this is the gain he is to report on his income tax
D)$1,300 - $1,000(1.07)but he is to report a $300 gain on his income tax

Question 59

Given a nominal interest rate of 6 percent,in which of the following cases would you earn the highest after-tax real rate of interest?

A)Inflation is 3 percent;the tax rate is 25 percent.
B)Inflation is 1 percent;the tax rate is 50 percent.
C)Inflation is 1 percent;the tax rate is 55 percent.
D)Inflation is 4 percent;the tax rate is 10 percent.

Question 60

You put money into an account and earn an after-tax real interest rate of 2.5 percent.If the nominal interest rate on the account is 8 percent and the inflation rate is 2 percent,then what is the tax rate?

A)28.00 percent
B)36.25 percent
C)43.75 percent
D)67.50 percent

Question 61

Kaitlyn purchased one share of Northwest Energy stock for $200;one year later she sold that share for $400.The inflation rate over the year was 50 percent.The tax rate on nominal capital gains is 50 percent.What was the tax on Kaitlyn's capital gain?

A)$50
B)$75
C)$100
D)$200

Question 62

Serena purchased 10 shares of GLC,Inc.stock for $200 per share;one year later she sold the 10 shares for $220 a share.Over the year,the price level increased from 135.0 to 143.1.The tax rate on capital gains is 50 percent.If the capital gains tax is on nominal gains,how much tax does Serena pay on her gain?

A)$90
B)$95
C)$100
D)None of the above is correct.

Question 63

Wealth is redistributed from creditors to debtors when inflation was expected to be

A)high and it turns out to be high.
B)low and it turns out to be low.
C)low and it turns out to be high.
D)high and it turns out to be low.

Question 64

James took out a fixed-interest-rate loan when the CPI was 200.He expected the CPI to increase to 206 but it actually increased to 204.The real interest rate he paid is

A)higher than he had expected,and the real value of the loan is higher than he had expected.
B)higher than he had expected,and the real value of the loan is lower than he had expected.
C)lower than he had expected,and the real value of the loan is higher than he had expected.
D)lower then he had expected,and the real value of the loan is lower than he had expected.

Question 65

During the last tax year you lent money at a nominal rate of 6 percent.Actual inflation was 1 percent,but people had been expecting 1.5 percent .This difference between actual and expected inflation

A)transferred wealth from the borrower to you and caused your after-tax real interest rate to be 0.5 percentage points higher than what you had expected.
B)transferred wealth from the borrower to you and caused your after-tax real interest rate to be more than 0.5 percentage points higher than what you had expected.
C)transferred wealth from you to the borrower and caused your after-tax real interest rate to be 0.5 percentage points lower than what you had expected.
D)transferred wealth from you to the borrower and caused your after-tax real interest rate to be more than 0.5 percentage points lower than what you had expected.

Question 66

The country of Lessidinia has a tax system identical to that of the United States.Suppose someone in Lessidinia bought a parcel of land for 20,000 foci (the local currency)in 1960 when the price index equaled 100.In 2002,the person sold the land for 100,000 foci,and the price index equaled 600.The tax rate on nominal gains was 20 percent.Compute the taxes on the nominal gain and the change in the real value of the land in terms of 2002 prices to find the after-tax real rate of capital gain.

A)-60 percent
B)-30 percent
C)30 percent
D)60 percent

Question 67

Suppose one year ago the price index was 120 and Maria purchased $20,000 worth of bonds.One year later the price index is 126.Maria redeems her bonds for $22,700 and is in a 40 percent tax bracket.What is Maria's real after-tax rate of interest to the nearest tenth of a percent?

A)5.1 percent
B)3.1 percent
C)2.1 percent
D)2.4 percent

Question 68

If the economy unexpectedly went from inflation to deflation,

A)both debtors and creditors would have reduced real wealth.
B)both debtors and creditors would have increased real wealth.
C)debtors would gain at the expense of creditors.
D)creditors would gain at the expense of debtors.

Question 69

Jennifer took out a fixed-interest-rate loan when the CPI was 100.She expected the CPI to increase to 103 but it actually increased to 105.The real interest rate she paid is

A)higher than she had expected,and the real value of the loan is higher than she had expected.
B)higher than she had expected,and the real value of the loan is lower than she had expected.
C)lower than she had expected,and the real value of the loan is higher than she had expected.
D)lower then she had expected,and the real value of the loan is lower than she had expected.

Question 70

If inflation is lower than what was expected,

A)creditors receive a lower real interest rate than they had anticipated.
B)creditors pay a lower real interest rate than they had anticipated.
C)debtors receive a higher real interest rate than they had anticipated.
D)debtors pay a higher real interest rate than they had anticipated.

Question 71

The country of Robinya has a tax system identical to that of the United States.Suppose someone in Robinya bought a parcel of land for 10,000 deera (the local currency)in 1970 when the price index equaled 100.In 2010,the person sold the land for 100,000 deera,and the price index equaled 500.The tax rate on nominal capital gains was 20 percent.Compute the taxes the person paid on the nominal gain and the change in the real value of the land in terms of 2010 prices to find the after-tax real rate of capital gain.

A)-20 percent
B)20 percent
C)42 percent
D)64 percent

Question 72

Which of the following is correct? Inflation

A)impedes financial markets in their role of allocating resources.
B)reduces the purchasing power of the average consumer.
C)generally increases after-tax real interest rates.
D)is most costly when anticipated.

Question 73

Wealth is redistributed from creditors to debtors when inflation is

A)high,whether it is expected or not.
B)low,whether it is expected or not.
C)unexpectedly high.
D)unexpectedly low.

Question 74

If inflation is higher than what was expected,

A)creditors receive a lower real interest rate than they had anticipated.
B)creditors pay a lower real interest rate than they had anticipated.
C)debtors receive a higher real interest rate than they had anticipated.
D)debtors pay a higher real interest rate than they had anticipated.

Question 75

Which of the following costs of inflation can be significant even if actual inflation and expected inflation are the same?

A)menu costs
B)inflation tax
C)shoeleather costs
D)All of the above are correct.

Question 76

Wealth is redistributed from debtors to creditors when inflation is

A)high,whether it is expected or not.
B)low,whether it is expected or not.
C)unexpectedly high.
D)unexpectedly low.

Question 77

During the last tax year you lent money at a nominal rate of 6 percent.Actual inflation was 1.5 percent,but people had been expecting 1 percent .This difference between actual and expected inflation

A)transferred wealth from the borrower to you and caused your after-tax real interest rate to be 0.5 percentage points higher than what you had expected.
B)transferred wealth from the borrower to you and caused your after-tax real interest rate to be more than 0.5 percentage points higher than what you had expected.
C)transferred wealth from you to the borrower and caused your after-tax real interest rate to be 0.5 percentage points lower than what you had expected.
D)transferred wealth from you to the borrower and caused your after-tax real interest rate to be more than 0.5 percentage points lower than what you had expected.

Question 78

Indexing the tax system to take into account the effects of inflation would by itself

A)mean that only real interest earnings are taxed.
B)mean an end to taxing capital gains.
C)mean an increase in average tax rates.
D)All of the above are correct.

Question 79

Steve purchases some land for $30,000.He maintains it,but makes no improvements to it.One year later he sells it for $32,000.Stephanie puts $30,000 in a savings account that pays 6% interest.Steve has to pay the 50% capital gains tax,Stephanie is in the 35% tax bracket.The inflation rate was 2%.Who had the higher before-tax real gain and who had the higher after-tax real gain?

A)Steve had both the higher before-tax real gain and the higher after-tax real gain.
B)Steve had the higher before-tax real gain but Stephanie had the higher after-tax real gain.
C)Stephanie had the higher before-tax real gain but Steve had the higher after-tax real gain.
D)Stephanie had both the higher before-tax real gain and the higher after-tax real gain.

Question 80

Wealth is redistributed from debtors to creditors when inflation was expected to be

A)high and it turns out to be high.
B)low and it turns out to be low.
C)low and it turns out to be high.
D)high and it turns out to be low.