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					ECONOMIC FLUCTUATIONS—THE HISTORICAL RECORD
11.   The year-to-year changes in real GDP
      a. tend to be regular and predictable.
      b. have become more severe since the end of the Second World War.
      c. have never been more than a percentage point or two in magnitude.
*     d. vary in magnitude and are difficult to forecast.
12.   Which of the following is true regarding economic fluctuations in the United States?
      a. Prior to World War II, economic ups and downs were more moderate than after the war.
      b. Prior to World War II, annual increases in real GDP of more than 5 percent were unheard of.
      c. Real GDP grew rapidly during the 1930s.
*     d. The 1930s was a period of prolonged economic stagnation and high unemployment.
13.   During the 1900–1950 period,
      a. the growth of real GDP was more stable than has been the case since 1950.
      b. unemployment seldom exceeded 4 percent of the labor force.
*     c. double-digit swings in real GDP during a single year were not uncommon.
      d. the money supply was increased at a constant annual rate of between 4 percent and 6 percent
          throughout the period.
14.   Prior to World War II,
      a. the growth of real GDP was more stable than has been the case since the war.
*     b. the growth of real GDP was less stable than has been the case since the war.
      c. unemployment seldom exceeded 4 percent of the labor force.
      d. double-digit swings in real GDP during a single year were unheard of.

CAN DISCRETIONARY POLICY PROMOTE ECONOMIC STABILITY?
15.   Activists and nonactivists both believe that
      a. the self-corrective mechanism of a market economy works quite well.
*     b. macro-policy should seek to minimize economic fluctuations, keep the inflation rate low, and
          establish an environment consistent with strong economic growth.
      c. discretionary monetary and fiscal policy can be used successfully to speed the adjustment
          process and reduce the swings of the business cycle.
      d. policies that stimulate aggregate demand can reduce the long-term rate of unemployment.
16.   Activists believe that
      a. the M1 money supply should be increased at a steady rate annually.
      b. taxes should be increased during a recession in order to balance the federal budget.
      c. the economy’s self-correcting mechanism, if not stifled by perverse policies, will prevent
          prolonged periods of high unemployment.
*     d. discretionary changes in macroeconomic policy can help smooth the business cycle of a market
          economy.




556
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17.   Which one of the following accurately states the view of activists who favor discretionary
      stabilization policy?
      a. Neither monetary nor fiscal policy will exert an impact on the real level of economic activity.
      b. Since we have only limited ability to forecast the future direction of the economy, the best
           policy is to do nothing.
      c. Our ability to forecast the future direction of economic activity is quite good, and therefore,
           discretionary macroeconomic policy is now capable of eliminating fluctuations in the business
           cycle if policy makers would follow the advice of leading economists.
*     d. The index of leading indicators and other forecasting tools provide policy makers with valuable
           information that permits them to institute stabilizing changes in macroeconomic policy.
18.   Which of the following best reflects the nonactivist view of stabilization policy?
      a. Monetary and fiscal policies exert little impact on the economy.
*     b. Discretionary policy changes often make matters worse.
      c. Fiscal policy should be used to help stabilize the economy; monetary policy should not.
      d. Expansionary monetary policy is the primary source of rapid economic growth.
19.   Regarding the issue of economic stability, nonactivists believe that
      a. consumption is highly unstable over the business cycle.
      b. the highest possible level of investment must be maintained over all phases of the business
          cycle.
      c. minor economic disturbances often feed on themselves, leading to severe swings in the
          business cycle.
*     d. the self-correcting properties of a market economy work reasonably well.
20.   (I) Because policy changes exert an impact on the economy only after a period of time and
      forecasting is an imprecise science, trying to stabilize the economy with macroeconomic policy is
      likely to do more harm than good.
      (II) Demand stimulus policies can reduce the rate of unemployment below the natural rate for a
      long time.
      a. Nonactivists would agree with both I and II.
      b. Nonactivists would disagree with both I and II.
*     c. Nonactivists would agree with I but disagree with II.
      d. Nonactivists would disagree with I but agree with II.
21.   Which of the following is a major area of disagreement between activists and nonactivists?
*     a. Activists believe discretionary macroeconomic policy can be applied in a manner that will
          enhance economic stability. Nonactivists disagree.
      b. Activists believe monetary policy is more potent than fiscal policy. Nonactivists disagree.
      c. Activists believe changes in monetary and fiscal policy exert their effects instantaneously.
          Nonactivists think they work only with a substantial lag.
      d. Nonactivists think macroeconomic policy is sometimes motivated by the pursuit of political
          gain. Activists disagree.
22.   (I) Shifts in monetary policy can be used effectively to reduce the ups and downs of the business
      cycle.
      (II) Because shifts in macroeconomic policy create uncertainty, discretionary macroeconomic policy
      often exerts a destabilizing influence on the economy.
*     a. I represents the views of activists; II represents the views of nonactivists.
      b. I represents the views of nonactivists; II represents the views of activists.
      c. Both activists and nonactivists would agree with the statements.
      d. Neither activists nor nonactivists would agree with the statements.
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23.   (I) If policy makers are going to time policy changes properly, they need to know where the
      economy is going to be six to twelve months from now.
      (II) Macro-policy changes that are improperly timed will increase the magnitude of economic
      fluctuations.
      a. I is true; II is false.
      b. I is false; II is true.
*     c. Both I and I are true.
      d. Both I and II are false.
24.   The time period between when economic conditions change and when policy makers are aware of
      the change is called the
      a. index of leading indicators.
      b. administrative lag.
*     c. recognition lag.
      d. impact lag.
25.   The time between implementation of a macro-policy change and when the change exerts its primary
      influence is called the
*     a. impact lag.
      b. recognition lag.
      c. administrative lag.
      d. tax reform lag.
26.   The index of leading indicators is a statistic that is designed to
      a. measure the output rate of an economy.
*     b. forecast the future direction of the economy.
      c. forecast the future direction of the stock market.
      d. measure the leading factors that are causing the consumer price index to rise.
27.   The index of leading indicators was developed to provide more reliable information on
*     a. the expected future direction of the economy.
      b. the future profitability of the leading companies in various industries.
      c. where the economy has been in the recent past.
      d. the extent to which the economy’s existing plant and equipment capacity is being used.
28.   Which of the following variables are included in the index of leading indicators?
      a. index of consumer expectations
      b. contracts and orders for new plants and equipment
      c. length of the average workweek in hours
*     d. all of the above
29.   The variables in the index of leading indicators are included in the index because
      a. they are good indicators of the current rate of inflation.
      b. they generally lag behind turns in the business cycle.
*     c. of their tendency to lead (or predict) turns in the business cycle.
      d. they are good indicators of the current state of the economy.
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30.   Which of the following is true?
      a. A decline for three consecutive months in the index of leading indicators provides a warning
          signal that a recession is coming.
      b. The index of leading indicators has turned down prior to each of the recessions of the last
          several decades.
      c. The time lag between when the index of leading indicators turns down and when the economy
          goes into a recession has varied substantially.
*     d. All of the above are true.
      e. None of the above are true.
31.   If the index of leading indicators and other forecasting devices suggested that the economy is
      moving into an inflationary boom, activists’ economic policy would call for a(n)
*     a. decrease in money supply growth and a tax increase.
      b. increase in money supply growth and a shift toward a budget deficit.
      c. increase in money supply growth and a tax decrease.
      d. continuation of the policies already in place.
32.   Computer forecasting models are most accurate at predicting the economy when
      a. inflation is accelerating.
      b. there is a turn in the business cycle.
*     c. economic conditions are relatively stable.
      d. supply shocks impact the economy.
33.   Computer forecasting models have
      a. been able to forecast changes in the growth rate of real GDP with considerable accuracy.
*     b. had only limited success predicting turns in key economic variables such as real GDP.
      c. been able to accurately forecast the future direction of inflation but not real GDP.
      d. been able to accurately forecast the future direction of real GDP but not inflation.
34.   Which of the following would suggest that monetary policy is restrictive?
*     a. falling commodity prices
      b. depreciation of the foreign exchange value of the dollar
      c. a rising M1 money supply
      d. an increase in the rate of inflation
35.   A decrease in a broad index of commodity prices suggests to the Fed that
      a. money is plentiful, and the Fed should conduct restrictive policy.
      b. money is plentiful, and the Fed should conduct expansionary policy.
*     c. deflation is a potential future danger, and the Fed should conduct expansionary policy.
      d. future prices will likely increase, and the Fed should conduct expansionary policy.
36.   If indicators like weak demand and falling commodity prices caused concern about deflation (falling
      prices), what could the Fed do to head off the deflationary threat?
      a. increase the reserve requirements imposed on banks
*     b. buy bonds in order to expand the money supply
      c. increase the discount rate
      d. increase the national debt
37.   Which combination of signals is indicative that Fed policy is restrictive and that a shift to a more
      expansionary policy is in order?
*     a. Commodity prices are falling, and the dollar is appreciating.
      b. Commodity prices are rising, and the dollar is appreciating.
      c. Commodity prices are rising, and the dollar is depreciating.
      d. Commodity prices are falling, and the dollar is depreciating.
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38.   Which of the following factors substantially reduces the effectiveness of discretionary changes in
      tax rates or government expenditures as a stabilization tool?
      a. Even though computer models have enhanced our forecasting ability, policy makers at the
           Federal Reserve have been reluctant to utilize information supplied by the models.
      b. When fiscal policy is altered, the Fed generally shifts monetary policy in a manner that offsets
           the impact of the fiscal action.
      c. Changes in government expenditures and taxes are always offset by equal changes in private
           spending.
*     d. Since it takes time for fiscal policy to work and since the future is difficult to forecast, it is
           difficult to time fiscal policy changes correctly.
39.   Which one of the following reduces the likelihood that real-world fiscal policy will promote
      economic stability?
      a. Policy planners do not know whether a tax cut is expansionary or restrictive.
*     b. Policy makers need to know what economic conditions will be like 6 to 18 months into the
          future, and this is extremely difficult to forecast accurately.
      c. Policy planners are reluctant to implement expansionary fiscal policy even during a serious
          recession.
      d. Public choice theory suggests that elected political officials will generally favor restrictive
          fiscal policy.
40.   If restrictive macroeconomic policy will reduce inflation emanating from excess demand, ideally the
      policy should be undertaken
      a. when the rate of inflation is at its maximum.
      b. when inflation begins to increase.
*     c. before inflation begins to increase.
      d. about six months after inflation peaks.
41.   (I) Because forecasting is an imprecise science, and the time-lags accompanying policy changes are
      variable, the discretionary use of monetary and fiscal policy to stabilize the economy is difficult.
      (II) Demand stimulus policies can reduce the rate of unemployment below the natural rate for long
      periods of time.
      a. Most economists would agree with both I and II.
      b. Most economists would disagree with I but agree with II.
*     c. Most economists would agree with I but disagree with II.
      d. Most economists would disagree with both I and II.

HOW ARE EXPECTATIONS FORMED?
42.   The view that decision-maker expectations are based on actual outcomes observed during the recent
      past is called the
      a. rational expectations hypothesis.
*     b. adaptive expectations hypothesis.
      c. permanent income theory.
      d. recognition lag.
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43.   According to the adaptive expectations hypothesis,
      a. inflation will cause the long-run unemployment rate to decline.
*     b. the economic record during the current period strongly influences decision-maker expectations
          about the future.
      c. decision makers will consider the expected impact of policy changes when forming their
          expectations about the future rate of inflation.
      d. future inflation will adapt to conform with the expectations of decision makers.

44.   Use the table below to choose the correct answer.
                  Time period Actual inflation
                        1          2 percent
                        2          2 percent
                        3          5 percent
                        4          8 percent
      According to the adaptive expectations hypothesis, at the beginning of period 3, decision makers
      would expect inflation during period 3 to be
*     a. 2 percent.
      b. 5 percent.
      c. 7 percent.
      d. 8 percent.
45.   Suppose the inflation rate of a country falls from 8 percent during 2002–2004 to 6 percent in 2005–
      2007, under the adaptive expectations hypothesis what will the expected rate of inflation at the
      beginning of 2008?
      a. 2 percent
      b. 4 percent
*     c. 6 percent
      d. 8 percent
46.   Use the table below to choose the correct answer.
                  Time period      Observed rate of inflation
                        1                   5 percent
                        2                   5 percent
                        3                   8 percent
                        4                  10 percent
      According to the adaptive expectations hypothesis, at the beginning of period 3, decision makers
      would expect inflation during period 3 to be
      a. 2.5 percent.
*     b. 5 percent.
      c. 7.5 percent.
      d. 8 percent.
47.   The view that individuals weigh all available evidence when they formulate their expectations about
      economic events (including information concerning the probable effects of current and future
      economic policy) is called
      a. the adaptive expectations hypothesis.
      b. the permanent income hypothesis.
*     c. the rational expectations hypothesis.
      d. the Phillips curve.
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48.   The rational expectations hypothesis indicates that people
      a. pay little attention to policy when forming their expectations about the future.
      b. expect the next period to be pretty much like the recent past, regardless of policy changes.
      c. will always be able to forecast the future accurately.
*     d. change their expectations about the future if policy changes.
49.   The rational expectations hypothesis assumes that individuals will
      a. never make forecasting errors.
*     b. be as likely to overestimate as to underestimate inflation.
      c. continually make systematic forecasting errors.
      d. ignore past forecasting errors when formulating predictions.
50.   (I) The rational expectations hypothesis assumes the forecasts of decision makers will always be
      correct.
      (II) The rational expectations hypothesis states that decision makers weigh all available evidence
      when forming expectations about future economic events.
      a. I is true; II is false.
*     b. I is false; II is true.
      c. Both I and II are true.
      d. Both I and II are false.
51.   (I) The rational expectations hypothesis implies that people expect the next period to be pretty much
      like the recent past, regardless of policy changes.
      (II) The forecast errors of decision makers will tend to be random if the rational expectations
      hypothesis is correct.
      a. I is true; II is false.
*     b. I is false; II is true.
      c. Both I and II are true.
      d. Both I and II are false.
52.   If the bargaining committee of a union forms its expectations about future inflation by examining
      the rate of inflation, monetary policy, and other factors that may influence the inflation rate, the
      committee
      a. will generally underestimate future inflation.
      b. will make systematic forecasting errors.
*     c. is forming expectations rationally.
      d. will not be able to adjust quickly to changes in policy.
53.   Suppose that during the last five years the rate of inflation was 3 percent each year and the money
      supply had grown 6 percent annually during the period. However, during the last nine months, the
      Fed has expanded bank reserves more rapidly and the money supply has been growing at a 12
      percent annual rate. As a result, the expected inflation rate for the next period will be
      a. higher than 3 percent under the rational expectations hypothesis.
      b. 3 percent under the adaptive expectations hypothesis.
      c. higher than 3 percent under both the adaptive and rational expectations hypotheses.
*     d. both a and b.
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54.   Assume that during the last several years, the annual rate of inflation was 4 percent and the annual
      growth rate of the money supply was 5 percent. During the last 12 months, however, the monetary
      authorities have increased the money supply at a 12 percent annual rate. The expected inflation rate
      for the next period will be
      a. higher than 4 percent under the rational expectations hypothesis.
      b. 4 percent under the adaptive expectations hypothesis.
      c. higher than 4 percent under both the adaptive and rational expectations hypotheses.
*     d. both a and b.
55.   Assume that during the last several years, the annual rate of inflation was 2 percent and the annual
      growth rate of the money supply was 6 percent. During the last 12 months, however, the monetary
      authorities have held the supply of money constant. The expected inflation rate for the next period
      will be
      a. higher than 2 percent under the rational expectations hypothesis.
*     b. 2 percent under the adaptive expectations hypothesis.
      c. lower than 2 percent under both the adaptive and rational expectations hypotheses.
      d. higher than 2 percent under both the adaptive and rational expectations hypotheses.
56.   Systematic overestimation or underestimation of inflation will
      a. occur under rational expectations but not under adaptive expectations.
*     b. occur under adaptive expectations but not under rational expectations.
      c. occur under both rational and adaptive expectations.
      d. not occur under either rational or adaptive expectations.
57.   (I) Rational expectations adherents believe that decision makers base their future expectations on
      actual outcomes observed during recent periods.
      (II) The adaptive expectations hypothesis states that decision makers weigh all available evidence
      when forming expectations about future economic events.
      a. I is true; II is false.
      b. I is false; II is true.
      c. Both I and II are true.
*     d. Both and II are false.

MACRO-POLICY IMPLICATIONS OF ADAPTIVE AND RATIONAL
EXPECTATIONS
58.   The proponents of adaptive expectations believe that
      a. there will be a substantial time lag before people anticipate the effects of a shift to a more
          expansionary macro-policy.
      b. macro-policies that stimulate demand and place upward pressure on the general level of prices
          will temporarily increase output and employment.
      c. discretionary changes in macro-policy can be made in a manner that will reduce the economic
          ups and downs of a market economy.
*     d. all of the above are true.
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59.   Under the adaptive expectations hypothesis, which of the following is the effect of a shift to a more
      expansionary monetary policy?
      a. In the short run, the real rate of output will be unaffected, but in the long run, it will increase.
*     b. In the short run, the real rate of output will increase, but in the long run, it will be unchanged.
      c. There will be a permanent increase in the real rate of output, but the inflation rate will also be a
          little higher.
      d. In the short run, the impact on the real rate of output is uncertain, but in the long run, output
          will increase.
60.   Under adaptive expectations, the short-term effect of an unanticipated shift to a more expansionary
      macroeconomic policy will be a
*     a. temporary reduction in the unemployment rate.
      b. permanent reduction in the unemployment rate.
      c. temporary reduction in the inflation rate.
      d. permanent reduction in the inflation rate.
61.   Starting from an initial long-run equilibrium, under the adaptive expectations hypothesis, a shift to a
      more expansionary policy will increase
      a. prices and unemployment in the long run.
*     b. real output in the short run but not in the long run.
      c. real output in the long run but not in the short run.
      d. real output in both the long run and the short run.
62.   The proponents of rational expectations believe that
      a. there will be a substantial time lag before people anticipate the eventual effects of a shift to a
          more expansionary macro-policy.
      b. macro-policies that stimulate demand and place upward pressure on the general level of prices
          will temporarily increase output and employment.
*     c. the inflationary side effects of expansionary policies will be anticipated quickly, and therefore,
          even their short-run effects on real output and employment will be minimal.
      d. discretionary changes in macro-policy can be made in a manner that will reduce the economic
          ups and downs of a market economy.
63.   Under the rational expectations hypothesis, which of the following is the most likely effect of a shift
      to a more expansionary monetary policy?
      a. In the short run, the real rate of output will be unaffected, but in the long run, it will increase.
      b. In the short run, the real rate of output will increase, but in the long run, it will be unchanged.
      c. There will be a permanent increase in the real rate of output, but the inflation rate will also be a
           little higher.
*     d. In the short run, the impact on the real rate of output is uncertain; in the long run, it will remain
           unchanged.
64.   Starting from an initial long-run equilibrium, under the rational expectations hypothesis, an
      anticipated shift to a more expansionary policy will increase
*     a. prices but not real output in the short run.
      b. real output but not prices in the short run.
      c. real output in the long run but not in the short run.
      d. real output in both the long run and the short run.
65.   The rational expectations hypothesis implies that discretionary macro-policy will
*     a. be ineffective, even in the short run.
      b. be effective in the short run but ineffective in the long run.
      c. be effective both in the short run and long run.
      d. make it possible to trade-off a higher rate of inflation for a lower rate of unemployment.
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66.   If the government accelerates money supply growth and enlarges the budget deficit to stimulate
      aggregate demand, the rational expectations hypothesis indicates that decision makers will
      a. ignore the policy until it exerts an observable impact on prices, output, and employment.
*     b. quickly take steps to adjust their decision making in light of the more expansionary policies.
      c. be fooled at the outset but eventually adjust their decision making in accordance with the
            change in policy.
      d. be unaware that this policy change has been implemented until a higher rate of inflation is
            observed.
67.   The rational expectations theory indicates that expansionary policy will
      a. stimulate real output in the long run but not in the short run.
      b. expand real output and employment if the public quickly anticipates the effects of the
          expansionary policy.
      c. equalize real and nominal interest rates during lengthy periods of inflation.
*     d. fail to increase employment because individuals will anticipate it and take actions that will
          offset its impact.
68.   Suppose Congress raises taxes and the monetary authorities slow the annual money supply growth
      from 10 percent to 5 percent. If decision makers accurately anticipate the impact of these policy
      changes on prices,
      a. unemployment will rise.
      b. unemployment will fall.
*     c. there will be no effect on unemployment.
      d. unemployment will fall if the change in monetary policy dominates, but unemployment will
          rise if the change in fiscal policy dominates.
69.   When the effects of a more expansionary macroeconomic policy are quickly and accurately
      anticipated, the policy will
*     a. increase inflation without reducing unemployment.
      b. increase unemployment while exerting little impact on inflation.
      c. decrease unemployment while exerting little impact on inflation.
      d. fail to exert a significant impact on either unemployment or inflation.
70.   (I) The short-run predicted effects of a shift to a more expansionary macro-policy are the same
      under adaptive and rational expectations.
      (II) The long-run predicted effects of a shift to a more expansionary macro-policy are the same
      under adaptive and rational expectations.
      a. I is true; II is false.
*     b. I is false; II is true.
      c. Both I and II are true.
      d. Both I and II are false.
71.   Under the adaptive expectations hypothesis, which of the following is the most likely short-run
      effect of a move to expansionary monetary policy?
      a. higher prices and no change in real output
*     b. higher prices and expansion in real output
      c. no change in prices but an expansion in real output
      d. no change in either prices or real output
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72.   Under the rational expectations hypothesis, which of the following is the most likely short-run effect
      of a move to expansionary monetary policy?
*     a. higher prices and no change in real output
      b. higher prices and expansion in real output
      c. no change in prices but an expansion in real output
      d. no change in either prices or real output
73.   Under the adaptive expectations hypothesis, which of the following is the most likely long-run
      effect of a move to expansionary monetary policy?
*     a. higher prices and no change in real output
      b. higher prices and expansion in real output
      c. no change in prices but an expansion in real output
      d. no change in either prices or real output
74.   Under the rational expectations hypothesis, which of the following is the most likely long-run effect
      of a move to expansionary monetary policy?
*     a. higher prices and no change in real output
      b. higher prices and expansion in real output
      c. no change in prices but an expansion in real output
      d. no change in either prices or real output

PHILLIPS CURVE: THE VIEW OF THE 1960S VERSUS TODAY
75.   The Phillips curve illustrates the relationship between
      a. change in the money supply and change in unemployment.
      b. tax rates and tax revenues.
      c. the equilibrium level of income and the employment rate.
*     d. inflation and unemployment.
76.   During the 1960s, most economists believed that expansionary macro-policy
*     a. that caused inflation would permanently reduce unemployment.
      b. that caused inflation would permanently increase unemployment.
      c. could not be utilized to reduce unemployment.
      d. did not affect inflation.
77.   ―To achieve the nonperfectionist’s goal of high enough output to give us no more than 3 percent
      unemployment, the price index might have to rise by as much as 4 or 5 percent per year.‖ This
      statement made by two Nobel Prize-winning economists is
      a. false; if we were willing to accept annual inflation of 5 percent, an unemployment rate of less
           than 3 percent could be achieved.
      b. false; while a reduction in unemployment to 3 percent is attainable, it would require annual
           inflation of 8 percent to 10 percent to be sustained in the long run.
*     c. false; the statement fails to recognize that inflation does not stimulate output and employment
           when it is widely anticipated.
      d. essentially true.
78.   Incorporation of expectations into economic decision making and the economic experience of recent
      decades indicate that in the long run
      a. inflation relates directly to unemployment.
      b. inflation is inversely related to unemployment.
*     c. there is no trade-off between inflation and unemployment.
      d. high unemployment is a primary cause of inflation.
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79.   An unanticipated shift to a more expansionary macro-policy that causes inflation to be greater than
      was anticipated will
      a. place downward pressure on prices.
*     b. temporarily reduce unemployment.
      c. temporarily reduce output.
      d. temporarily reduce the natural rate of unemployment.
80.   According to the modern view of the Phillips curve, expansionary macroeconomic policy that leads
      to inflation will reduce unemployment
*     a. only if people underestimate the inflationary side effects of the policy.
      b. only if people overestimate the inflationary side effects of the policy.
      c. if people accurately anticipate the inflationary side effects of the policy.
      d. only if monetary policy provides the macroeconomic stimulus.
81.   To the extent that people eventually adjust to demand stimulus policies, persistent expansionary
      macro-policy will lead to
*     a. inflation with no lasting reductions in unemployment.
      b. a permanent reduction in unemployment.
      c. lower interest rates.
      d. more rapid economic growth.
82.   An unanticipated shift to a more expansionary monetary policy that permanently increases the rate
      of inflation from 2 to 6 percent will
*     a. reduce unemployment in the short run, but unemployment will return to the natural rate in the
           long run.
      b. reduce unemployment in the short run, but unemployment will exceed the natural rate in the
           long run.
      c. increase unemployment in the short run, but unemployment will return to the natural rate in the
           long run.
      d. exert an unpredictable impact on unemployment in the short run, but unemployment will return
           to the natural rate in the long run.
83.   The modern view of the Phillips curve suggests that
*     a. when inflation is less than anticipated, unemployment will rise above the natural rate.
      b. monetary policy will be unable to affect inflation.
      c. when people accurately anticipate inflation, expansionary monetary policy will reduce
          unemployment.
      d. when inflation exceeds what was anticipated, the natural rate of unemployment will rise.
84.   Modern Phillips curve analysis indicates that if people
*     a. underestimate inflation, actual unemployment will be below the natural rate.
      b. overestimate inflation, actual unemployment will be below the natural rate.
      c. accurately estimate inflation, actual unemployment will be less than the natural rate.
      d. accurately estimate inflation, actual unemployment will be below the natural rate.
85.   According to the modern expectational Phillips curve, unemployment will temporarily rise above
      the natural rate of unemployment when
      a. any inflation is present.
*     b. inflation turns out to be lower than what people expected.
      c. inflation turns out to be higher than what people expected.
      d. inflation turns out to be equal to what people expected.
568    Chapter 15/Stabilization Policy, Output, and Employment


86.   According to the modern expectational Phillips curve, unemployment will temporarily fall below
      the natural rate of unemployment when
      a. any inflation is present.
      b. inflation turns out to be lower than what people expected.
*     c. inflation turns out to be higher than what people expected.
      d. inflation turns out to be equal to what people expected.
87.   According to the modern expectational Phillips curve, unemployment will equal the natural rate of
      unemployment when
      a. any inflation is present.
      b. inflation turns out to be lower than what people expected.
      c. inflation turns out to be higher than what people expected.
*     d. inflation turns out to be equal to what people expected.
88.   When persons underestimate inflation (when actual inflation exceeds the expected rate), actual
      unemployment will
      a. exceed the natural rate of unemployment.
      b. equal the natural rate of unemployment.
*     c. fall below the natural rate of unemployment.
      d. increase if the government is running a budget deficit and decrease if a budget surplus is
          present.
89.   Under which of the following conditions is actual unemployment likely to be more than the natural
      rate of unemployment?
      a. Prices are stable and have been for the last four years.
      b. Inflation is 3 percent and was widely anticipated more than a year ago.
      c. Expansionary monetary policies led to an unexpected increase in inflation from 3 percent to 7
           percent.
*     d. Restrictive monetary policies led to an unexpected reduction in inflation from 6 percent to 2
           percent.
90.   The modern view of the Phillips curve suggests that
      a. when inflation is less than anticipated, unemployment will fall below the natural rate.
*     b. when inflation is steady, actual unemployment will equal the natural rate of unemployment.
      c. systematic demand stimulus policies will be unable to affect prices in the long run.
      d. there will be a trade-off between inflation and unemployment in the long run.
91.   In terms of the Phillips curve, the experience of the 1970s indicates that macro-policy
      a. can permanently reduce unemployment if we are willing to tolerate higher inflation.
      b. can reduce unemployment in the long run if we are willing to tolerate higher inflation.
      c. may be able to reduce unemployment but cannot retard inflation.
*     d. may be able to reduce unemployment in the short run, but there is little evidence that
           expansionary policies can reduce unemployment permanently.
92.   (I) In the 1960s and 1970s, most economists believed that there was a permanent trade-off between
      inflation and unemployment.
      (II) Today, most economists believe there is no permanent trade-off between inflation and
      unemployment.
*     a. Both I and II are true.
      b. Both I and II are false.
      c. I is true; II is false.
      d. I is false; II is true.
                                      Chapter 15/Stabilization Policy, Output, and Employment              569


93.   After an extended period of steady inflation at a constant rate,
      a. people will anticipate inflation.
      b. actual unemployment will approximate the natural rate of unemployment.
      c. actual unemployment will be less than the natural rate of unemployment.
*     d. both a and b are true.

PERVERSE MACROECONOMIC POLICY AND THE GREAT DEPRESSION
94.   Which of the following most directly contributed to the severity of the Great Depression in the
      1930s?
*     a. large increases in taxes designed to balance the budget in the early 1930s
      b. large increases in the money supply during the early 1930s
      c. a reduction in tariffs protecting many U.S. industries
      d. a substantial tax rate reduction, which led to large deficits and high interest rates during the
          early 1930s
95.   Most economists believe the severity and duration of the Great Depression was primarily the result
      of
*     a. a sharp contraction in the money supply.
      b. large budget deficits of the federal government.
      c. the reduction in tariffs and the influx of foreign imports during the early 1930s.
      d. the excessive use of credit cards.
96.   During the Great Depression of 1929–1933,
*     a. the Fed allowed the money supply to contract substantially.
      b. the Fed increased the money supply sharply.
      c. Congress lowered taxes sharply.
      d. Congress cut tariffs substantially.
97.   Which of the following about the Great Depression is correct?
      a. The 1929 stock market crash explains the lengthy duration of the Great Depression.
*     b. The severity of the economic downturn, if not its onset, was the result of perverse monetary
          and fiscal policies.
      c. The sharp decreases in tariff rates and tax rates cushioned the downturn and limited it to three
          years.
      d. The Great Depression indicates that monetary policy affects prices but exerts little impact on
          output.
98.   Which one of the following factors contributed to the decline in real output during the Great
      Depression?
*     a. deflation, which changed the terms of long-term contracts and discouraged long-term exchange
      b. inflation, which reduced the value of the dollar and eroded the savings of the elderly
      c. stable monetary policy, which caused business decision makers to lose confidence in the Fed’s
          ability to fine-tune the economy
      d. establishment of the Federal Deposit Insurance Corporation
99.   The Great Depression illustrates that monetary policy is
      a. effective against inflation but incapable of dealing with a decline in output.
*     b. a source of economic instability if utilized inappropriately.
      c. incapable of reversing an economic downturn when the money supply is increasing at a
          constant rate.
      d. incapable of reversing a major downturn unless the recession stems from inflation.
570    Chapter 15/Stabilization Policy, Output, and Employment


100. Which of the following factors contributed to a breakdown of the economy during the Great
     Depression?
     a. a sharp increase in tax rates in 1932
     b. a sharp decline in the money supply during 1929 through 1933
     c. a sharp increase in tariff rates during 1930
*    d. all of the above
101. Which one of the following was a secondary effect of the stock market crash of 1929?
     a. an increase in the money supply in the early 1930s
*    b. a decline in consumption expenditures because of the reduction in the wealth of stockholders
     c. an increase in the supply of loanable funds as people transferred funds from the stock market
         into savings accounts
     d. an increase in tax revenues as the sellers of stocks paid the capital gains tax on stocks that had
         appreciated during the 1920s
102. When the money supply declined by nearly 25 percent during the 1929 through 1933 period,
     a. real output increased.
     b. prices increased.
     c. the velocity of money increased by a proportional amount.
*    d. unemployment increased.
103. As unemployment rose during 1930 through 1931 and the economy plunged into the Great
     Depression, policy makers
     a. reduced tax rates and increased the money supply.
*    b. increased tax rates and reduced the money supply.
     c. increased both tax rates and the money supply.
     d. reduced both the tax rates and the money supply.
104. Analysis of the Great Depression indicates that
     a. even though monetary and fiscal policies were highly expansionary, they were unable to offset
         the economic plunge.
     b. even though monetary policy was expansionary, restrictive fiscal policy dominated during the
         1930s.
     c. a reduction in tax rates could not prevent the economic downturn from spiraling into a
         depression.
*    d. the severity of the economic decline, if not its onset, was the result of perverse monetary and
         fiscal policies.

MODERN CONSENSUS VIEW OF STABILIZATION POLICY
105. Most economists believe that
*    a. a monetary policy that achieves price stability will reduce uncertainty and provide the
         framework for strong economic growth.
     b. demand stimulus policies will reduce the long-term average rate of unemployment.
     c. expansionary monetary policy, if persistently followed, will reduce nominal interest rates.
     d. inflation is primarily the result of large budget deficits and other elements of expansionary
         fiscal policy.
                                     Chapter 15/Stabilization Policy, Output, and Employment         571


106. Which of the following is most important for the achievement of long-term prosperity and strong
     economic growth?
     a. expansionary monetary policy
     b. expansionary fiscal policy
*    c. price stability
     d. a balanced federal budget
107. (I) When monetary policymakers consistently achieve price stability, they are providing a
     foundation for both economic stability and the efficient operation of markets.
     (II) Erratic swings in economic policy have contributed to economic instability.
*    a. Most economists would agree with both I and II.
     b. Most economists would disagree with I but agree with II.
     c. Most economists would agree with I but disagree with II.
     d. Most economists would disagree with both I and II.
108. (I) Most economists agree monetary policy should focus on price stability.
     (II) Most economists believe that expansionary monetary policy can keep unemployment below the
     natural rate.
*    a. I is true; II is false.
     b. I is false; II is true.
     c. Both I and II are true.
     d. Both I and II are false.
109. The integration of expectations into macroeconomic analysis indicates that
     a. fiscal policy is more potent than monetary policy.
     b. monetary policy is more potent than fiscal policy.
*    c. once people come to expect a given rate of inflation, the inflation will neither stimulate real
          output nor reduce unemployment.
     d. higher rates of inflation will lead to lower rates of unemployment in the long run but not in the
          short run.
110. Most economists agree that
     a. fiscal policy is a more potent macro-policy tool than monetary policy.
*    b. demand stimulus cannot reduce the unemployment rate below the natural level, at least not for
         long.
     c. monetary policy should focus on reducing unemployment.
     d. discretionary macro-policy could easily be instituted in a manner that would stabilize the
         economy.
111. The U.S. experience during the 1980s and 1990s illustrates that
     a. fiscal policy is substantially more potent than monetary policy.
     b. a balanced budget is essential for the achievement of price stability.
*    c. a monetary policy that keeps the inflation rate low and steady will help promote economic
         stability.
     d. there is a trade-off between inflation and unemployment—the unemployment rate can be
         reduced if we are willing to tolerate higher rates of inflation.
112. Which of the following contributed the most to the economic stability and strong growth of real
     GDP during the 1983–2004 period?
     a. the rapid growth of government expenditures throughout most of the period
     b. congressional policies that persistently balance the budget
     c. modifications in fiscal policy that stimulated aggregate demand during economic slowdowns
         and restrained it during periods of economic boom
*    d. Federal Reserve policies that kept the inflation rate low and relatively stable
572    Chapter 15/Stabilization Policy, Output, and Employment


113. Which of the following contributed the most to the greater stability of the U.S. economy during the
     last two decades?
     a. countercyclical fiscal policy instituted by Congress
     b. an increase in the size of government as a share of the economy
*    c. more stable monetary policy
     d. a decline in the national debt
114. During the last century, the percent of time the U.S. economy has been in recession has
     a. risen substantially.
     b. stayed about the same.
     c. risen slightly.
*    d. fallen.
115. Between 1983 and 2004, the U.S. economy was in recession approximately
*    a. 6 percent of the time.
     b. 20 percent of the time
     c. 30 percent of the time
     d. This is a trick question; the U.S. economy has not experienced a recession for more than two
         decades.
116. (I) The U.S. economy spent a smaller percentage of time in recession during the latter part of the
     twentieth century than during the 1910–1959 period.
     (II) A monetary policy that resulted in greater price stability was a major contributing factor to the
     stability of output and employment during the last two decades.
     a. I is true; II is false.
     b. I is false; II is true.
*    c. Both I and II are true.
     d. Both I and II are false.
117. Which of the following would most economists credit for the relative stability of the U.S. economy
     during the last two decades?
     a. Congress
     b. the president
*    c. the Federal Reserve
     d. the balanced budget policies of the period
                                     Chapter 15/Stabilization Policy, Output, and Employment          573


GRAPHIC QUESTIONS
Use the figure below to answer the following questions.

Figure 1




118. In Figure 1, AD1 and SRAS1 indicate initial conditions in the goods and services market. In the short
     run, which of the following will most likely result from a shift to a more expansionary monetary
     policy under the adaptive expectations hypothesis?
     a. price level P1 and output Y1
*    b. price level P2 and output Y2
     c. price level P3 and output Y1
     d. price level P1 and output Y2
119. In Figure 1, AD1 and SRAS1 indicate initial conditions in the goods and services market. In the short
     run, which of the following will most likely result from a shift to a more expansionary monetary
     policy under the rational expectations hypothesis?
*    a. price level P1 and output Y1
     b. price level P2 and output Y2
     c. price level P3 and output Y1
     d. price level P1 and output Y2
574    Chapter 15/Stabilization Policy, Output, and Employment



Use the figure below to answer the following questions.

Figure 2




120. According to the modern expectational Phillips curve illustrated in Figure 2, unemployment will
     temporarily rise above the natural rate of unemployment when
*    a. inflation turns out to be lower than what people expected.
     b. inflation turns out to be higher than what people expected.
     c. inflation turns out to be equal to what people expected.
     d. all of the above are true.
121. According to the modern expectational Phillips curve illustrated in Figure 2, unemployment will
     temporarily fall below the natural rate of unemployment when
     a. inflation turns out to be lower than what people expected.
*    b. inflation turns out to be higher than what people expected.
     c. inflation turns out to be equal to what people expected.
     d. all of the above are true.
122. According to the modern expectational Phillips curve illustrated in Figure 2, unemployment will
     equal the natural rate of unemployment when
     a. inflation turns out to be lower than what people expected.
     b. inflation turns out to be higher than what people expected.
*    c. inflation turns out to be equal to what people expected.
     d. all of the above are true.

COURSEBOOK: MULTIPLE CHOICE QUESTIONS
123. The strategy of using discretionary monetary and fiscal policy to counteract economic fluctuations
     is called a(n)
     a. nonactivist strategy.
     b. monetarist strategy.
*    c. activist strategy.
     d. rational expectations strategy.
                                      Chapter 15/Stabilization Policy, Output, and Employment           575


124. A typical activist policy during a recession would be to
     a. increase the rate of growth of the money supply.
     b. decrease tax rates.
     c. increase government spending.
*    d. do all of the above.
125. A typical nonactivist policy during a recession would be to
     a. increase the rate of growth of the money supply.
     b. decrease tax rates.
     c. increase government spending.
*    d. do none of the above.
126. The index of leading indicators is a(n)
     a. alphabetical listing of all the most popular indicators in the economy for a given month.
*    b. composite index of indicators that provides information on the future direction of the economy.
     c. alphabetical listing of the most important indicators of the current economic well-being of the
          U.S. economy.
     d. composite index of the most important indicators of the current economic well-being of the
          U.S. economy.
127. Which of the following did not contribute to the severity of the Great Depression?
     a. a sharp reduction in the money supply during the early 1930s
     b. a large tax increase (to balance the budget) in the early 1930s
     c. substantial increases in the tariff rates on imported goods
*    d. All of the above were contributing factors to the severity of the Great Depression.
128. The Phillips curve depicts the relationship between
     a. the federal debt and unemployment.
     b. wage rates and aggregate demand.
     c. the equilibrium level of income and the employment rate.
*    d. inflation and unemployment.
129. Which of the following is not one of the modern consensus views about economic policy?
     a. The primary focus of monetary policy in the long run should be price stability.
     b. Wide swings in both monetary and fiscal policy should be avoided.
*    c. Discretionary fiscal policy is an effective stabilization tool, particularly in countries like the
         United States.
     d. Policy is unable to permanently reduce unemployment below the natural rate or to stimulate
         real GDP beyond the full-employment level in the long run.
130. Analysis of the Great Depression indicates that
     a. even though monetary and fiscal policies were highly expansionary, they were unable to offset
         the economic plunge.
     b. even though monetary policy was expansionary, restrictive fiscal policy dominated during the
         1930s.
     c. a reduction in tax rates could not prevent the economic downturn from spiraling into a
         depression.
*    d. the depth of the economic plunge, if not its onset, was the result of perverse monetary and
         fiscal policies.
576    Chapter 15/Stabilization Policy, Output, and Employment


131. During the 1960s, most economists believed macro-policy
*    a. that caused inflation would permanently reduce unemployment.
     b. that caused inflation would permanently increase unemployment.
     c. could not be utilized to reduce unemployment.
     d. did not affect inflation.
132. The modern view of the Phillips curve indicates that expansionary macroeconomic policy
     a. will reduce the unemployment rate if policy makers are willing to accept the required rate of
         inflation.
*    b. will reduce the unemployment rate only when people underestimate the inflationary effects of
         the expansionary policy.
     c. will reduce the unemployment rate only when people overestimate the inflationary effects of
         the expansionary policy.
     d. will reduce the unemployment rate if people accurately anticipate the inflationary effects of the
         expansionary policy.
133. The interval between the recognition of a need for a policy change and when the policy change is
     instituted is called the
     a. recognition lag.
     b. impact lag.
     c. policy lag.
*    d. administrative lag.
134. Which of the following is true?
     a. When the inflation rate is steady—when it is neither rising nor falling—the actual rate of
         unemployment will equal the economy’s natural rate of unemployment.
     b. When the inflation rate is higher than was anticipated, unemployment will exceed the natural
         rate.
     c. Demand stimulus policies will lead to inflation without permanently reducing the
         unemployment rate.
*    d. Both a and c are true; b is false.
135. Use the table below to choose the correct answer.




      According to the adaptive expectations hypothesis, at the beginning of period 3, decision makers
      would expect inflation during period 3 to be
*     a. 4 percent.
      b. 5 percent.
      c. 6 percent.
      d. 8 percent.
                                      Chapter 15/Stabilization Policy, Output, and Employment        577


136. The theory according to which individuals weigh all available evidence when they formulate their
     expectations about economic events (including information concerning the probable effects of
     current and future economic policy) is called
     a. the adaptive expectations hypothesis.
     b. the permanent income theory.
*    c. the rational expectations hypothesis.
     d. Laffer curve analysis.
137. The rational expectations hypothesis implies that discretionary macro-policy may be
*    a. relatively ineffective, even in the short run.
     b. relatively effective in the short run but ineffective in the long run.
     c. effective both in the short run and long run.
     d. effective in the long run since decision makers will continually make systematic, predictable
          errors.
138. Under adaptive expectations, which of the following will likely be an initial effect of an
     unanticipated shift to a more restrictive macroeconomic policy?
*    a. a short-run decrease in output and a long-run decrease in inflation
     b. no change in output even in the short run, only a permanent decrease in inflation
     c. a short-run decrease in inflation and a long-run decrease in output
     d. lower inflation and lower output in the long run
139. Under rational expectations, which of the following will likely be an initial effect of an
     unanticipated shift to a more restrictive macroeconomic policy?
     a. a short-run decrease in output and a long-run decrease in inflation
*    b. no change in output even in the short run, only a permanent decrease in inflation
     c. a short-run decrease in inflation and a long-run decrease in output
     d. lower inflation and lower output in the long run
140. When persons overestimate inflation (when actual inflation is lower than was expected), actual
     unemployment will
*    a. exceed the natural rate of unemployment.
     b. equal the natural rate of unemployment.
     c. fall below the natural rate of unemployment.
     d. decrease if the government is running a budget deficit and increase if a budget surplus is
         present.

Use the figure below to answer the following questions.
578    Chapter 15/Stabilization Policy, Output, and Employment


Figure 3




141. According to the modern expectational Phillips curve in Figure 3, unemployment will temporarily
     be above the natural rate of unemployment when
     a. any inflation is present.
*    b. people expected inflation to be higher than what actually occurred.
     c. people expected inflation to be lower than what actually occurred.
     d. people correctly anticipated the inflation rate.
142. According to the modern expectational Phillips curve in Figure 3, actual unemployment will
     generally fall below the natural rate of unemployment if
     a. inflation falls to zero.
*    b. inflation exceeds what was anticipated by decision makers.
     c. inflation is less than anticipated by decision makers.
     d. people fully anticipate the inflationary side effects of expansionary macroeconomic policies.
143. According to the adaptive expectations hypothesis,
     a. people will adapt to whatever income they are earning.
     b. the more people save, the less total savings will be available to the economy.
*    c. the anticipated rate of inflation is based on the actual rates of inflation experienced during the
         recent past.
     d. the expected rate of inflation is adapted to macro-policy changes.
144. An individual who had rational expectations would be most likely to
     a. ignore information about all current policies of both the government and the Fed.
     b. always disagree with the expectations of someone who believed in adaptive expectations.
*    c. use all pertinent information when formulating views about the future.
     d. never anticipate stable prices because monetary authorities continually expand the supply of
         money rapidly.
                                   Chapter 15/Stabilization Policy, Output, and Employment         579


Figure 4




145. If the economy were currently operating at point A in Figure 4, and expansionary policy were
     enacted that would shift AD1 to AD2,
     a. if people have adaptive expectations, the economy would move to point B in the short run.
     b. if people have rational expectations, the economy would move to point C in the short run.
     c. in the long run, the economy would move to point C regardless of how expectations are
           formed.
*    d. all of the above are true.

				
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