Economics 4H Spring 1996
Name ____________________________ David Shapiro
Part I. (30 %) Multiple choice. Choose the best answer to each of the following questions. Each correct answer is worth two points.
1. All of the following will shift the LAS curve EXCEPT
a. changes in the capital stock.
b. increases in wages and factor prices.
c. changes in the stock of human capital.
d. technological progress.
2. In Figure 10.2, if the economy is at point a, wages rise by 10 percent, and the price level is constant, output supplied will be
a. $3.5 billion (point b).
b. $7.5 billion (point d).
c. $4.0 billion (point f).
d. $6.0 billion (point e).
3. In Figure 10.8, when the economy is in a long-run equilibrium, the price level will be
a. 90.
b. 110.
c. 120.
d. 130.
4. The marginal propensity to consume equals 1 minus the
a. marginal propensity to invest.
b. marginal propensity to save.
c. average propensity to consume.
d. average propensity to invest.
5. In Figure 11.3, if real GDP is greater than 400, inventories will be
a. below planned levels, causing firms to raise production.
b. above planned levels, causing firms to reduce production.
c. above planned levels, causing firms to raise production.
d. below planned levels, causing firms to reduce production.
6. Crowding out is the tendency for
a. the per capita benefits of government purchases to decline as a result of population growth.
b. the benefits of government transfer payments to reduce the amount of public capital investment.
c. government debt to drive productive capital from investment markets.
d. the return on private capital investment to exceed that on potential public capital investment.
7. Suppose that the required reserve ratio is 25 percent. If banks hold no excess reserves and the money supply increases by $20 million, reserves in the economy must have
a. fallen by $5 million.
b. risen by $80 million.
c. risen by $5 million.
d. risen by $1 million.
8. In Figure 13.1, the graph that best depicts the short-run and long-run effects of an increase in the money supply is
a. (a).
b. (b).
c. (c).
d. (d).
9. If the Fed carries out an open market operation to sell U.S. Treasury bonds, interest rates
a. fall and the money supply increases.
b. rise and the money supply increases.
c. fall and the money supply decreases.
d. rise and the money supply decreases.
10. A demand-pull inflation may be described as
a. simultaneous shifts in the SAS and AD curves.
b. lagged shifts in the AD curve following shifts in SAS.
c. lagged shifts in the SAS curve following shifts in AD.
d. shifts in the SAS curve caused by rising wage rates.
11. An increase in the natural rate of unemployment shifts
a. both the short-run and the long-run Phillips curves rightward.
b. the short-run but not the long-run Phillips curve rightward.
c. the long-run but not the short-run Phillips curve rightward.
d. Neither the short-run nor the long-run Phillips curve.
12. Since 1920, the average length of a recession has been about
a. 1 month.
b. 6 months.
c. 1 year.
d. 2 years.
13. An assumption of the new Keynesian rational expectations theory of the business cycle is that money wages are
a. rigid upward and downward for one time period.
b. rigid for more than one time period.
c. Rigidly set at all times.
d. flexible upward and downward at all times.
14. The government deficit tends to ______ immediately after an election and to ______ immediately before an election.
a. rise; fall.
b. fall; fall.
c. fall; rise.
d. rise; rise.
15. In Figure 17.3, suppose that the economy is at point a and inflation and money growth are fully anticipated by the public to be 10 percent per year. If the Fed announces and carries out a 5 percent growth of the money supply and if the Fed has complete credibility with the public, the economy will move to point
a. b.
b. c.
c. d.
d. e.
Part II. (70%) Instructions: Please read each question in its entirety before you begin your answer. You should try to allocate your time according to the value of the questions.
1. (25%) In its recently-issued semiannual survey of the world economy, the International Monetary Fund (IMF) projected that growth in the Japanese economy for 1996 would be nearly 3 percent, up from less than 1 percent in 1995. In addition, projected growth in Germany for 1996 was only 1 percent. Contending that high interest rates had sapped growth in Germany, the IMF urged the Bundesbank (Germany's central bank) to ease interest rates to counteract the economic slowdown.
a. (10%) Suppose that the IMF's prediction that Japan will emerge from its recent recession turns out to be correct, and that Germany decided to implement the IMF's recommendation and this resulted in stronger growth there than predicted. All other things being equal, what are the implications for the U.S. economy of these two outcomes taken together? Why? How does this affect the current policy challenges facing the Fed?
b. (15%) Assuming that the Bundesbank uses the same policy tools as the Fed, describe what the Bundesbank would do in the way of monetary policy if it decided to implement the IMF's recommendation. How would this policy serve to lower interest rates? Trace out the expected impact of this policy on real GDP growth and inflation, both verbally (i.e., describing the changes in the economy that would result from a decline in interest rates) and graphically (using the aggregate supply-aggregate demand model).
2. (20%) How does recent growth in real per capita GDP compare to the long-term trend? There is presently a debate going on concerning the level of economic growth over the long haul that policy-makers should strive to attain. Write an essay in which you summarize the different positions in this debate, noting the strong and weak points on each side. Further, discuss the policies that might be pursued if the government made a firm commitment to increasing rates of long-term growth. Note impediments to pursuit of such policies.
3. (25%) Suppose that rational expectations models of the business cycle are accurate, and further, suppose that in this election year the Fed allows the money supply to grow more rapidly than anticipated. Describe the initial consequences of this scenario for inflation and the business cycle, using both the aggregate supply-aggregate demand model and the Phillips curve. What would be the subsequent consequences of this outcome for monetary policy and for wage changes (i.e., what would be the second-order consequences of the scenario)?
As we saw on the first exam, data on inflation and unemployment in the U.S. over the past 30-35 years show a relatively weak (and if anything, a slight positive) correlation. At the same time, however, the short-run Phillips curve indicates that these two variables should definitely be inversely related. Explain clearly the source of this apparent contradiction (a relatively brief answer will suffice here, particularly if accompanied by a pertinent diagram).
Answer key for multiple choice questions:
1. B
2. A
3. C
4. B
5. B
6. C
7. C
8. C
9. D
10. C
11. A
12. C
13. B
14. C
15. D