Economics Honors by 6GRR8e58


									Economics Honors
Monetary & Fiscal Policy Quiz
Name: _______________________________________________ Date: ______ Period: _____

Tools of monetary & fiscal policy Both monetary and fiscal policy can be used to influence the
inflation rate and real output. Indicate (using arrows up or down, or minus a [-] to denote no
change or impact) what affect each specific policy has on inflation and real output in the short
run (9-18 months).

Monetary Policy                                        Inflation                     Real

1.      (A) Buy government Securities                                               

        (B) Sell government Securities                                              

2.      (A) Decrease the discount rate                                              

        (B) Increase the discount rate                                              

3.      (A) Decrease the reserve requirement                                        

        (B) Increase the reserve requirement                                        
Fiscal Policy

4.      (A) Increase government spending                                            

        (B) Decrease government spending                                            

5.      (A) Increase taxes                                                          

        (B) Decrease taxes                                                          

1b919266-4acb-43a0-8654-6f3c5082d778.doc         1 of 2                                          9/13/2012
From Goodman, Rae Jean B., US Naval Academy, Advanced Placement Macroeconomics,239, Student Activities, NCEE, New
York, NY
Lags in Policy Making
As an economic situation changes, policymakers must decide when and what policy action to
take; the policy must be implemented and then the economy will respond to the policy action.
Inside lag: the time it takes policy makers to recognize a problem and take action
Outside lag: the time it takes the economy to respond to the policy action.

    1. Why might the inside lag for monetary policy be short, but the outside lag be long?

    The FED can change the money supply on a daily basis through open-market operations.
    Once the Open-market committee decides on a particular policy move—it can be
    implemented immediately. But, monetary policy works through changes in interest rates and
    the response of interest sensitive components of aggregate demand to the interest rate
    changes. The response of investment and consumption take time.

    2. Why is the inside lag for fiscal policy long, but the outside lag for fiscal policy short?

    The inside lag is long because debate in Congress and dialog in the media takes time, but
    once a fiscal path is chosen, such as the passage of a tax or spending bill, people can respond
    immediately. Tax changes are felt within a year’s time, spending is felt almost immediately.

    3. Why is the concept of “lag” important for a discussion of stabilization?

    Policy lags imply that actions may be out of sequence with the economy. For example, many
    say that FED policy recently maintained an increase in rates for too long, well after inflation
    was under control, but the increasing interest rates led to contractionary pressure and came
    close to forcing the economy back into recession. Also, policy is often like using a sledge
    hammer—its useful for tackling large problems, but ineffective for fine tuning.

1b919266-4acb-43a0-8654-6f3c5082d778.doc         2 of 2                                          9/13/2012
From Goodman, Rae Jean B., US Naval Academy, Advanced Placement Macroeconomics,239, Student Activities, NCEE, New
York, NY

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