Deck 8: Inflation: Its Causes and Cures

Question 1

The short-run SAS curve is positively sloped because as

A) AD increases, mark-ups are increased, indicating variable mark-up pricing.
B) SAS increases, mark-ups are increased, indicating variable mark-up pricing.
C) AD increases, raw materials prices set by auction tend to rise.
D) A and C are both correct.

Answer 1

A and C are both correct.

Question 2

The flatter the SP curve

A) the greater will be the shift in the SP.
B) the greater will be the change in inflation and the smaller will be the change in real GDP for any given change in nominal GDP growth.
C) the greater will be the change in real GDP and the smaller will be the change in inflation for any given change in nominal GDP growth.
D) the greater will be the growth of nominal GDP.

Answer 2

the greater will be the change in real GDP and the smaller will be the change in inflation for any given change in nominal GDP growth.

Question 3

Each SP curve is drawn assuming

A) Pe as embodied in wage contracts is "fixed."
B) Pe and prices are rigid.
C) Pe and real wages are rigid.
D) None of the above.

Answer 3

Pe as embodied in wage contracts is "fixed."

Question 4

After a period of sustained unexpected inflation, it is likely that the renegotiation of nominal wages will

A) shift the SAS curve downward thereby increasing output.
B) shift the SAS curve upward thereby increasing output.
C) shift the SAS curve upward thereby decreasing output.
D) shift the AD curve downward thereby increasing output.

Question 5

Continuous inflation in the long run requires repeated ________ shifts of the AD curve caused by a continuous increase in the ________.

A) leftward; government expenditures
B) rightward; nominal money supply
C) inward; nominal money supply
D) None of the above, inflation is primarily a supply side phenomenon.

Question 6

If expectations are adaptive it means that the expected rate of inflation

A) depends on the observed rate of inflation.
B) depends on one's previously expected rate of inflation.
C) will be rising when inflation is rising.
D) All of the above are accurate statements about adaptive expectations.

Question 7

If actual real GDP (Q) is permanently greater than natural real GDP (YN)

A) the economy is off its short-run Phillips Curve.
B) the actual rate of inflation must be less than the expected rate.
C) the economy is on its long-run Phillips Curve.
D) there must be a continuous acceleration of inflation.

Question 8

When the actual inflation rate is equal to the expected inflation rate the economy will be ________ and the SP curve will ________.

A) in long-run equilibrium; shift upward
B) in disequilibrium, at an output level less than the natural rate of output; shift upward
C) in short-run equilibrium; shift upward
D) in short- and long-run equilibrium; be stable

Question 9

The slope of the SP curve is determined in large part by the

A) rate of increase in mark-ups.
B) the slope of the LP curve.
C) the level of Pe.
D) the level of fixed real wage.

Question 10

Continuous inflation requires repeated ________ shifts of the SAS curve, accompanied by continuous ________ of price expectations.

A) leftward; upward adjustments
B) rightward; downward adjustments
C) inward; downward adjustments
D) None of the above, inflation is primarily a demand side phenomenon.

Question 11

The slope of the SP curve depends on

A) how business changes its markups when output varies.
B) whether the expansionary force in the economy is coming through monetary policy or fiscal policy.
C) the percentage of GDP that is sold on auction markets.
D) Both A and C.

Question 12

The variable p(e) represents

A) the inflation rate that workers expect during the current period.
B) the price level that workers believe will exist during the next year.
C) the inflation rate that both workers and firms expected at the time of the last contract negotiation.
D) the difference between the inflation rate expected this year and the actual rate of inflation.

Question 13

When the expected rate of inflation falls, the short-run Phillips Curve

A) shifts upward.
B) shifts downward.
C) remains unaffected.
D) becomes vertical.

Question 14

The short-run Phillips Curve gives

A) the actual short-run level of real GDP and inflation.
B) all possible combinations of real GDP and inflation, for a given set of expectations.
C) all possible combinations of real GDP and inflation, for fully adjusted expectations.
D) the response of real GDP and inflation to supply shocks.

Question 15

In constructing the short-run Phillips Curve, SP,

A) real wages are fixed.
B) nominal wages are renegotiated.
C) nominal wages are fixed.
D) raw materials prices are fixed.

Question 16

All points on the SP curve (but not on the LP line) share the characteristic that the economy is not in the long-run equilibrium because

A) price level is constantly increasing faster than nominal wage rate.
B) wage contracts failed to anticipate inflation correctly.
C) wage contracts failed to specify in advance the wage increases necessary to keep up with inflation.
D) All of the above.

Question 17

The rate of inflation will be permanently reduced provided

A) the rate of monetary growth is permanently reduced.
B) the government balances the budget.
C) people behave rationally.
D) there is a Pigou effect.

Question 18

Suppose that members of Congress and the President believe that the natural rate of unemployment is 2% but in fact it is 6%, and employing fiscal policy they increase AD each time unemployment rises above 2%. The underestimation of the natural rate combined with adaptive expectations will

A) lead to continuous inflation by shifts in both AD and SAS.
B) lead to a continuous inflation by a shift in only AD.
C) lead to a continuous inflation by a shift in only SAS.
D) lead to continuous increases in output and unemployment.

Question 19

Suppose that the government enforced a law which required employers to adjust nominal wages monthly by the previous month's CPI. The short-run SAS curve would shift ________ and the SP curve would be ________.

A) gradually; stable
B) rapidly; unstable
C) continuously; flat
D) slowly; steep

Question 20

An acceleration of nominal GDP growth from, say 4% to 6% will

A) permanently raise the rate of inflation.
B) temporarily lower the rate of inflation.
C) leave real GDP unaffected in the long run.
D) Both A and C.

Question 21

The long-run Phillips Curve is

A) horizontal at the level of expected inflation p(e).
B) vertical at the natural level of Y/Y(n) = 100.
C) dependent on price expectations.
D) dependent on the rate of inflation.

Question 22

Which of the following are reasons why rational workers and firms may form their expectations by looking backward rather than forward?

A) the existence of long-term wage and price agreements would prevent actual inflation from responding immediately to an acceleration in nominal GDP
B) if in the past acceleration in nominal GDP has caused inflation, then a current acceleration might be expected to increase inflation
C) people may have no reason to believe that the acceleration in GDP growth will be permanent
D) Both A and B.

Question 23

If the inflation rate is 10% and nominal GDP growth is 8% then real GDP must have

A) increased by 2%.
B) decreased by 18%.
C) decreased by 2%.
D) increased by 18%.

Question 24

In response to a rapid deceleration in the growth rate of nominal GDP in the early 1980s,

A) inflation declined slowly, thus giving empirical support to the proponents of the adaptive expectations approach.
B) inflation declined slower than the deceleration in nominal GDP and real output actually declined.
C) inflation declined slower than the deceleration in nominal GDP and the output ratio actually declined.
D) All of the above are correct.

Question 25

Which of the following "theories" of the formation of expectations are discussed by Gordon?

A) menu costs, markup, and wage efficiency theories
B) forward and backward-looking theories
C) economic, sociological, and political science theories
D) None of the above.

Question 26

The short-run equilibrium of inflation and real GDP

A) depends only on the rate of growth of the money supply.
B) occurs where expected inflation equals actual inflation.
C) depends only on the rate of growth of nominal GDP.
D) None of these.

Question 27

If firms have only a weak tendency to raise markups during cyclical expansions, or if there are only a few auction markets in raw materials, then

A) the SP curve will be relatively flat and a "cold-turkey" cure for inflation will be relatively quick.
B) the SP curve will be relatively flat and a "cold-turkey" cure for inflation will be long lasting.
C) the SP curve will be relatively steep and a "cold-turkey" cure for inflation will be relatively quick.
D) the SP curve will be relatively steep and a "cold-turkey" cure for inflation will be long lasting.

Question 28

Everywhere to the right of the long-run Phillips Curve

A) actual inflation is less than expected inflation and the expected inflation rate will be reduced.
B) actual inflation is less than expected inflation and the expected inflation rate will be raised.
C) actual inflation is greater than expected inflation and the expected inflation rate will be raised.
D) actual inflation is greater than expected inflation and the expected inflation rate will be reduced.

Question 29

Which of the following does NOT affect nominal GDP?

A) tax rate
B) foreign exchange rate
C) nominal money supply
D) expected inflation rate

Question 30

Backward-looking expectations could be classified as a ________ theory.

A) proactive
B) reactive
C) first proactive then a reactive
D) None of the above.

Question 31

Backward-looking expectations may reasonably describe actual behavior because

A) changes in inflation rates or price levels are often temporary.
B) changes in inflation rates or price levels are often permanent.
C) the speed of adjustment of prices and wages is difficult to estimate since contract negotiators have perfect information about negotiations in other industries.
D) Both A and C.

Question 32

Lucas's idea of information barriers as applied to the formation of inflation expectations is an example of

A) forward-looking expectations.
B) backward-looking expectations.
C) adaptive expectations.
D) irrational expectations.

Question 33

In the figure above, suppose that the economy traces the path E0 to E1 to E1'. We might conclude that ________ fiscal or monetary policy shifted the AD curve with price expectation first ________ then ________.

A) expansionary; constant; revised upward
B) expansionary; revised upward; constant
C) contractionary; revised upward; constant
D) contractionary; constant; revised downward

Question 34

If people completely adjust for any error in their estimation of this period's inflation rate

A) the expected rate of inflation must be higher next period.
B) the expected rate of inflation must be lower next period.
C) the actual rate of inflation will be higher next period.
D) next period's expected inflation will be the same as this period's actual inflation.

Question 35

If nominal GDP growth has accelerated permanently (assuming Y(N), is constant)

A) real GDP must keep growing until the growth rate of nominal GDP equals the inflation rate.
B) real GDP will increase by the same percentage that nominal GDP increased.
C) real GDP must keep growing until the rate of growth of real GDP equals the inflation rate.
D) the level of real GDP will be permanently increased.

Question 36

Stagflation may be explained by

A) an upward shift in the SP curve.
B) a downward shift in the SP curve.
C) a stagnating level of AD.
D) a stagnating level of SAS.

Question 37

In order for the economy to be in long-run equilibrium

A) price expectations must be accurate.
B) the economy is on an SP curve.
C) y = p.
D) All of the above.

Question 38

Figure 8-1
Everywhere to the left of the long-run Phillips Curve as in the figure above

A) actual inflation is less than expected inflation and the expected inflation rate will be reduced.
B) actual inflation is less than expected inflation and the expected inflation rate will be raised.
C) actual inflation is greater than expected inflation and the expected inflation rate will be raised.
D) actual inflation is greater than expected inflation and the expected inflation rate will be reduced.

Question 39

The growth of nominal GDP

A) can be broken down into the growth of the price level times the growth of real GDP.
B) is equal to the index of prices times the level of real GDP.
C) can be broken down into the growth of money supply plus the growth of velocity.
D) is the same as the growth of aggregate supply.

Question 40

An increase in the rate of growth of nominal GNP

A) will cause a greater increase in real GNP the lower the rate of inflation.
B) will cause a smaller increase in real GNP the lower the rate of inflation.
C) will shift the SP curve upward.
D) will shift the SP curve downward.

Question 41

"Supply inflation" is caused by

A) exogenous disturbances such as fiscal policy.
B) changes in business costs unrelated to prior changes in nominal GDP.
C) changes in business costs related to prior changes in nominal GDP.
D) shocks such as labor negotiations.

Question 42

An adverse supply shock will shift the short-run Phillips Curve

A) outward to the right.
B) downward to the right.
C) upward to the left.
D) upward to the right.

Question 43

As the output ratio falls below 100%, unemployment

A) falls and inflation rises.
B) rises and inflation falls.
C) and inflation rise.
D) and inflation fall.

Question 44

If the SP curve is steep then monetary and fiscal policy will have a ________ effect on inflation and a ________ effect on unemployment.

A) large; large
B) large; small
C) small; large
D) small; small

Question 45

The effect of a supply shock on inflation and real GDP

A) depends on the initial expected rate of inflation.
B) depends on the response in the growth of nominal GDP.
C) depends on the level of natural real GDP.
D) both A and B are correct

Question 46

In the short-run, the impact of an adverse supply shock is to

A) reduce real GDP and leave the inflation rate unchanged if the growth of nominal GDP remains the same.
B) reduce real GDP and leave the inflation rate unchanged if the growth of nominal GDP is reduced enough.
C) maintain the same level of real GDP and reduce the inflation rate if the growth of nominal GDP is increase enough.
D) All of the above

Question 47

In the short-run, the impact of an adverse supply shock is to

A) reduce real GDP and increase the inflation rate if the growth of nominal GDP remains the same.
B) reduce real GDP and leave the inflation rate unchanged if the growth of nominal GDP is reduced enough.
C) maintain the same level of real GDP and increase the inflation rate if the growth of nominal GDP is increase enough.
D) All of the above

Question 48

As the output rises above 100%, unemployment

A) falls and inflation rises.
B) rises and inflation falls.
C) and inflation rise.
D) and inflation fall.

Question 49

The imposition of price controls can be expected to

A) raise the natural rate of output and reduce unemployment.
B) raise unemployment in the short-run but decrease it in the long-run.
C) raise employment in the long-run, but reduce unemployment in the short-run.
D) raise employment in the short-run, but create market dislocations in other sectors.

Question 50

If the government raises the growth of nominal GDP in response to a supply shock

A) inflation will decelerate and unemployment will fall.
B) inflation will accelerate and unemployment will worsen.
C) employment can be maintained so long as expectations are unaffected by the supply shock.
D) none of these results follow an increase in the growth of nominal GDP

Question 51

A beneficial supply shock will shift the short-run Phillips Curve

A) inward to the left.
B) downward to the right.
C) upward to the left.
D) downward to the left.

Question 52

Confronted with an adverse supply shock, an economy with rigid wages but flexible prices would suffer

A) an increase in output and inflation.
B) a decrease in output and increase in inflation.
C) an increase in output and decrease in inflation.
D) a decrease in output only.

Question 53

Assuming adaptive expectations, a "cold turkey" reduction in AD by policymakers will initially reduce

A) output but not inflation.
B) inflation but not output.
C) output less than inflation.
D) both output and inflation.

Question 54

Confronted with an adverse supply shock, an economy with rigid wages and prices would suffer

A) an increase in output and inflation.
B) a decrease in output and increase in inflation.
C) an increase in output and decrease in inflation.
D) a decrease in output only.

Question 55

The success or failure of economic policy with regard to the twin goals may be measured by the

A) stagflation rate.
B) unemployment rate.
C) change in the output ratio.
D) inflation rate.

Question 56

Which of the following will shift the short-run Phillips Curve?

A) supply shocks
B) price controls
C) removal of price controls
D) All of the above are correct.

Question 57

If price controls are initiated, we would expect that

A) unemployment will rise in the short-run.
B) the short-run rate of inflation will be unchanged.
C) the rate of inflation will accelerate in the short-run.
D) the rate of inflation will fall in the short-run.

Question 58

According to Gordon an upward shift in the SAS curve caused by a renegotiation of nominal wages is

A) supply inflation since the SAS curve shifted.
B) not supply inflation since the required change in nominal wages is the result of past change in AD and pe.
C) natural since the SAS curve shifted.
D) a permanent acceleration of inflation.

Question 59

The effects of a supply shock on employment can be moderated in the short-run by

A) an appropriate acceleration in nominal GDP growth.
B) an appropriate deceleration of nominal GDP growth.
C) price controls.
D) both A and C would moderate the effects of a supply shock

Question 60

A once-and-for-all increase in the price of a raw material, such as crude oil, will

A) not be inflationary, because this is, simply, "high prices".
B) have a short-run inflationary effect and reduces employment.
C) have no effect on inflation because this is the price of a raw material, not a final good.
D) both A and C are correct

Question 61

Can monetary policy maintain a constant price level when confronted with the effects of an adverse supply shock?

A) Yes, if the economy is characterized by real and/or nominal wage rigidity
B) No, if the economy is characterized by real and/or nominal wage rigidity
C) Yes, if the economy is characterized by continuous renegotiation
D) No, if the economy is characterized by overlapping contracts

Question 62

Given an adverse supply shock, a "neutral policy" will

A) maintain the inflation rate and the output ratio.
B) lower the inflation rate and the output ratio.
C) raise the inflation rate and the output ratio.
D) maintain the inflation rate but lower the output ratio.

Question 63

Figure 8-4
If there is a supply shock and there are full protection COLAs

A) the Fed must reduce the money supply and follow an extinguishing policy to prevent an inflationary spiral.
B) the Fed must increase the money supply and follow an extinguishing policy to prevent an inflationary spiral.
C) the Fed must reduce the money supply and follow an accommodating policy to prevent an inflationary spiral.
D) the Fed must increase the money supply and follow an accommodating policy to prevent an inflationary spiral.

Question 64

Figure 8-4
The aggravation of inflation and unemployment as a result of a supply shock

A) is unavoidable and is referred to as the direct effect of an adverse supply shock.
B) is called the indirect effect of an adverse supply shock.
C) is a subsequent result of following an accommodating policy.
D) can be avoided if expansionary fiscal policy is initiated when the shock occurs.

Question 65

Figure 8-3
Suppose that a country's workers are universally protected by COLA's and an adverse SAS shock, occurs. After wage and price adjustments, ceteris paribus, we find

A) output falls dramatically and unemployment rises.
B) real wages decline and unemployment rises.
C) real wages rise and unemployment falls.
D) none of the above

Question 66

Figure 8-2
If there is a permanent adverse supply shock

A) the rate of inflation can be held constant if real wages are kept from falling.
B) an extinguishing policy will produce an acceleration of inflation.
C) the level of employment at the natural level of real GDP will remain constant only if the labor supply curve is upward sloping to the right.
D) a policy of accommodation at the original natural level of real GDP is not possible without an acceleration of inflation.

Question 67

The existence of COLA's in an economy will introduce

A) real wage rigidity and shift the LP curve.
B) real wage rigidity and shift the SP curve.
C) nominal wage rigidity and shift the SP curves.
D) nominal wage rigidity and shift the LP curve.

Question 68

Figure 8-3
Employing Figure above and assuming the nominal money supply is not altered, a permanent adverse supply side shock puts ________ pressure on nominal wages during renegotiation provided ________.

A) no; the reduction in the natural real GDP YN to Y1 is exactly offset by the fall in goods demanded due to the rise in the price level
B) downward; the reduction in the real GDP YN to Y2 is exactly offset by the fall in goods demanded due to the rise in the price level
C) upward; the reduction in the natural real GDP is exactly offset by the fall in goods demanded due to the rise in the price level
D) no; since the natural real GDP does not change

Question 69

Figure 8-2
If there is a permanent adverse supply shock

A) the rate of inflation can be held constant if real wages are kept from falling.
B) an extinguishing policy will produce an acceleration of inflation.
C) the level of employment at the natural level of real GDP will remain constant only if the labor supply curve is vertical.
D) the natural level of real GDP will remain the same if the supply curve of labor is vertical.

Question 70

Figure 8-4
Employing Figure above in the time periods t0 to t1, and t4 to t5 real GNP is ________; from t1 to t2, t3 to t4, and beyond t5 real GNP is ________.

A) decreasing; decreasing
B) increasing; decreasing
C) increasing; increasing
D) decreasing; increasing

Question 71

Figure 8-2
In the figure above, a policy that maintains the level of real GDP in the advent of an adverse supply shock is a(n)

A) extinguishing policy; M.
B) neutral policy; L.
C) price-control policy; N.
D) accommodating policy; N.

Question 72

An accommodating policy response to a supply shock

A) reduces the expected inflation rate.
B) maintains a fixed growth rate of nominal GDP.
C) eliminates the additional inflation caused by the supply shock.
D) none of these

Question 73

Given an adverse supply shock, an "accommodating policy" will

A) maintain the inflation rate and the output ratio.
B) lower the inflation rate and the output ratio.
C) raise the inflation rate and the output ratio.
D) maintain the output ratio but allow inflation to increase.

Question 74

Figure 8-4
In Chapter 8, the SAS curve is upward-sloping. One assumption that justifies this is that

A) that natural real GDP never exceeds actual real GDP.
B) that wage rates adjust instantaneously.
C) the use of long-term wage agreements.
D) All of the above.

Question 75

An extinguishing policy response to a supply shock

A) attempts to keep real GDP from changing.
B) is one that maintains a fixed growth of real GDP.
C) changes the expected inflation rate.
D) causes a downward shift in the SP curve.

Question 76

Given an adverse supply shock, an "extinguishing policy response" will

A) maintain the inflation rate and the output ratio.
B) lower the inflation rate and the output ratio.
C) raise the inflation rate and the output ratio.
D) maintain the inflation rate but lower the output ratio.

Question 77

The statement, "With a permanent adverse supply shock, the government should engage in extinguishing policy changes," is true only if

A) the social costs of higher inflation are small and less than the social cost of less output.
B) the social costs of lost output are less than the social cost of permanently.
C) accommodating policy is impossible to conduct.
D) neutral policy is impossible to conduct.

Question 78

Figure 8-3
Suppose that an adverse supply shock causes downward pressure on nominal wages and unemployment to increase. If the Fed increases the money supply to stimulate AD and restore output to its previous level (assuming no change in the labor supply) a(n)

A) one time increase in prices will result.
B) inflationary spiral will begin if the real GDP has been reduced.
C) increase in the real GDP will follow.
D) All of the above

Question 79

Figure 8-4
Inflation is a ________ increase in the price level and it can be produced if the AD curve shifts up ________.

A) continuous, continuously
B) continuous, either once or continuously
C) one-shot, once but only once
D) one-shot, either once or continuously

Question 80

Figure 8-2
In the figure above, a policy that maintains nominal GDP growth in the advent of an adverse supply shock is a(n)

A) extinguishing policy; M.
B) neutral policy; L.
C) accommodating policy; N.
D) incomes policy; N.