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Investment: Goods and Services, Interest, GDP,

1. According to classical economics:

a. markets will always be in equilibrium.
b. interest rates will fall whenever savings are greater than investment.
c. falling prices will lead to a reduction in unemployment.
d. price flexibility will bring about equilibrium in markets when interest rates do not fall enough to eliminate surplus savings.
e. both a and c.
f. both b and d.

2. The quantity of goods and services purchased declines as the price level increases because:

a. of the foreign purchases effect.
b. an increase in prices encourages individuals to reduce purchases.
c. higher prices lead to higher interest rates, reducing the purchases of interest-rate sensitive goods.
d. all of the above.

3. The interest-rate effect of aggregate demand:

a. is a GDP component that accounts for interest earned on foreign bonds.
b. describes a situation in which a rise in the price level increases interest rates, lowers consumption, and leads to lower investment in capital goods.
c. describes the effect of a decrease in value of liquid assets-- including cash, stocks and bonds-- that tends to reduce consumption.
d. is the rate at which investors will be willing to switch from investment capital to government and municipal bonds.

4. The long-run aggregate supply curve:

a. is based on the assumption that the economy will operate at full employment in the long run.
b. when combined with aggregate demand, determines the long-run price level and the equilibrium GDP.
c. illustrates the maximum possible output level that an economy can achieve at any point in time.
d. all of the above.

5. At equilibrium GDP:

a. savings equals investment and aggregate demand equals aggregate supply.
b. savings slightly exceed investment, raising long-run aggregate supply to meet aggregate demand.
c. aggregate demand equals aggregate supply and prices are rising.
d. savings equal investment and aggregate demand exceeds aggregate supply.

6. Under the Keynesian approach, the economy:

a. can operate at below full employment output, but only in the short run.
b. can operate above full employment output in the long run.
c. always tends toward full employment.
d. can operate at below full employment output for extended periods of time.
e. can function only when savings and investment are equal.

7. An increase in aggregate demand in the classical range of the long-run average supply curve will:

a. increase real domestic output and reduce the price level.
b. decrease aggregate supply and increase the price level.
c. increase the price level, leaving real domestic output unchanged.
d. increase the price level and increase real domestic output.

8. The Keynesian model of economic equilibrium:

a. stresses changes in aggregate demand as the primary factor responsible for recessions and depressions.
b. ignores the role played by the government sector.
c. highlights the role of supply in determining output and employment.
d. uses investment level to illustrate the variability of both output and employment in the economy.

9. According to Keynes, when an economy is in disequilibrium, aggregate demand will always adjust to move the economy back towards equilibrium.

a. True
b. False

10. Fiscal policy:

a. has been used to moderate economic fluctuations since the beginning of the industrial revolution.
b. uses increases in the money supply to stimulate the economy.
c. is the manipulation of the federal budget to attain price stability, relatively full employment, and a satisfactory rate of economic growth.
d. uses increased government spending and taxes to eliminate deflationary gaps.
e. both a and b.
f. both b and c.

11. A deflationary gap:

a. exists when equilibrium GDP is smaller than full- employment GDP.
b. occurs when equilibrium GDP exceeds full- employment GDP.
c. means the economy is temporarily operating outside of its production possibilities curve.
d. is controlled through increased government spending and/or a cut in taxes.
e. both a and d.
f. all of the above.

12. The economy of Country X is operating at full employment; its government decides to cut spending and consumption drops. This indicates that the economy:

a. is on its production possibilities curve.
b. has an inflationary gap between actual and equilibrium GDP.
c. has a deflationary gap between actual and equilibrium GDP.
d. has a level of aggregate supply that exceeds aggregate demand.

13. The multiplier effect:

a. holds that any change in spending results in a multiplied change in GDP.
b. increases as the marginal propensity to consume decreases.
c. decreases as the marginal propensity to save increases.
d. both b and c.
e. both a and c.
f. all of the above.

14. GDP of a nation is $2,000, and the multiplier is 2.5. If consumption rises by 50, the new level of GDP is:

a. $2,002.5.
b. $2,050.
c. $2,125.
d. $2,150.

15. GDP in Country X for 2002 was $500 billion; consumption rose by $50 billion in 2003, and the MPC is 0.70. GDP for 2003 is:

a. $267 billion.
b. $550 billion.
c. $617 billion.
d. $667 billion.

16. If equilibrium GDP is $200 billion greater than full - employment GDP, and the multiplier is 2, then there is a(n) :

a. deflationary gap of $100 billion.
b. deflationary gap of $400 billion.
c. inflationary gap of $100 billion.
d. inflationary gap of $400 billion.

17. A reduction in taxes is likely to have a larger expansionary effect than an equal increase in government spending.

a. True
b. False

18. Automatic stabilizers:

a. include government transfer payments, unemployment compensation and personal savings and income taxes.
b. are intended to protect the economy from the extremes of the business cycle.
c. help to provide a floor under consumer spending so that economic downturns will not worsen.
d. both a and b.
e. all of the above.

19. Which of the following is an example of a discretionary fiscal policy?

a. The level of Social Security taxes collected by the government falls as incomes are reduced by a recession.
b. Government income from corporate taxes rises sharply as profits in industry soar during a boom.
c. Six months of unemployment benefits are given to workers displaced by a recession.
d. Tax rates are increased to reduce inflationary pressure within the economy.

20. The government's budget deficit:

a. reduces the amount of money available for corporations to purchase new capital stock.
b. lowers interest rates that discourage foreign investment.
c. can be reduced through a reduction in taxes to stimulate private consumption.
d. is most likely to be reduced by a series of reductions in government expenditures over the next decade.

21. The national debt is:

a. the sum of all money owed by the U.S. government to foreign interests.
b. the cumulative total of all federal budget deficits less any surpluses.
c. a result of recent government policy to dampen economic growth and reduce aggregate demand in the wake of rapidly rising inflation.
d. a debt that must be paid off to induce any kind of sustained economic growth period.

22. Country A runs the following series of budget deficits:
Year Deficit ($billions)
1994 200
1995 150
1996 80

During these three years, its national debt will:

a. be reduced.
b. increase at a decreasing rate.
c. increase at an increasing rate.
d. decline at an increasing rate.

23. The government reduces the federal budget deficit in year 1 from $300b to $200b, and in year 2 from $200b to $100b. During these two years the national debt will:

a. fall by $300 billion.
b. fall by $200 billion.
c. fall by $200 billion.
d. rise by $300 billion.

24. Running a budget surplus:

a. will reduce the national debt.
b. will increase the national debt.
c. may either increase or decrease the national debt.
d. none of the above.

25. Future generations will suffer as a result of continued growth of the national debt if:

a. the proportion owed to foreign investors continues to rise.
b. a series of years with budget surpluses touches off a downward spiral in economic activity.
c. the Treasury's ability to roll over debt is reduced by lack of investor confidence.
d. interest rates rise and choke off private investment in capital accumulation.
e. both a and c.
f. all of the above.

26. The most important function of money is as a:

a. medium of exchange.
b. standard of value.
c. store of value.
d. standard of deferred payment.

27. M2 consists of:

a. currency, demand deposits, checkable deposits, NOW accounts and traveler's checks.
b. currency, demand deposits, checkable deposits, NOW accounts, traveler's checks, savings and money market funds.
c. currency, demand deposits, checkable deposits, NOW accounts, traveler's checks, savings, small-denomination time deposits, and money market funds.
d. currency, demand deposits, checkable deposits, NOW accounts, traveler's checks, savings, all time deposits, and money market funds.

28. The _________ motive for holding money is our desire to maintain cash balances to pay for unexpected transactions.

a. transactions
b. precautionary
c. speculative

29. A rise in interest rates:

a. decreases the opportunity cost of holding money.
b. increases the opportunity cost of holding money.
c. leads to a reduction in the quantity of money demanded.
d. leads to an increase in the quantity of money demanded.
e. both a and d.
f. both b and c.

30. People will tend to hold less money as:

a. interest rates fall.
d. income levels rise.
c. credit availability is reduced.
d. the rate of inflation decreases.

31. People will hold large quantities of money during periods of very low interest rates. This is:

a. known as the liquidity trap.
b. illustrated by the vertical transactions demand curve for money.
c. reflected by the almost vertical precautionary demand curve for money.
d. illustrated by the almost horizontal portion of the speculative demand curve for money.
e. both a and d.
f. both a and c.

32. In determining the level of interest rates,:

a. it is evident that there are a number of different interest rates moving in different directions at any given time.
b. we notice that the rate is determined by the decree of the Federal Reserve chairman.
c. the interest rate offered on deposits is always less than the rate offered on funds available for loans.
d. it appears that individual banking institutions sets most rates arbitrarily.
e. both a and d.

33. The Federal Deposit Insurance Corporation:

a. will cover only the deposits of individual household savers in the event of a bank failure.
b. was instituted to raise money to run the Federal Reserve.
c. is designed to avert bank failures by guaranteeing the deposits at its member institutions.
d. is in danger of being eliminated because it lacks the support of the Treasury Department.

34. A bank's primary reserves are the total dollar amount of treasury bills, bonds, notes and certificates that it holds.

a. True
b. False

35. A bank with $940.4 million in demand deposits holds $102 million in actual reserves. At the current reserve requirement:

a. it holds no excess reserves.
b. it holds reserves below the legal minimum requirement.
c. it holds excess reserves of approximately $7 million.
d. it holds excess reserves of approximately $11 million.
e. none of the above.

36. In order to buy securities the Fed offers:

a. a low price and drives up interest rates.
b. a low price and drives down interest rates.
c. a high price and drives up interest rates.
d. a high price and drives down interest rates.

37. The Fed regulates the money supply through:

a. fiscal policy.
b. open- market operations.
c. the raising or lowering of the federal funds rate.
d. manipulation of the deposit expansion multiplier.

38. To reduce the money supply the Federal Reserve would:

a. buy securities on the open market and bid down interest rates, reducing demand for cash holdings.
b. place a freeze on treasury money production and new bond issues.
c. sell securities through open -market operations, thereby bidding down the price of treasury bonds and forcing the interest rate up.
d. both a and b.

39. By buying securities on the open market the Fed:

a. slows the economy's inflation rate.
b. increases demand for securities and pushes up interest rates.
c. increases the level of reserves of depository institutions.
d. increases the deposit expansion multiplier of depository institutions.

40. A change in the reserve requirements of depository institutions is the policy tool most frequently used by the Federal Reserve to influence economic activity.

a. True
b. False

Solution Preview

1. According to classical economics:
f. both b and d.
Price flexibility will bring about equilibrium in markets when interest rates do not fall enough to eliminate surplus savings and interest rates will fall whenever savings are greater than investment

2. The quantity of goods and services purchased declines as the price level increases because:
d. all of the above.
An increase in prices encourages individuals to reduce purchases, of the foreign purchases effect and higher prices lead to higher interest rates, reducing the purchases of interest-rate sensitive goods

3. The interest-rate effect of aggregate demand:
c. describes the effect of a decrease in value of liquid assets-- including cash, stocks and bonds-- that tends to reduce consumption.

4. The long-run aggregate supply curve:
d. all of the above.
Is based on the assumption that the economy will operate at full employment in the long run, when combined with aggregate demand, determines the long-run price level and the equilibrium GDP and illustrates the maximum possible output level that an economy can achieve at any point in time

5. At equilibrium GDP:
a. savings equals investment and aggregate demand equals aggregate supply

6. Under the Keynesian approach, the economy:
a. can operate at below full employment output, but only in the short run

7. An increase in aggregate demand in the classical range of the long-run average supply curve will:
d. increase the price level and increase real domestic output.

8. The Keynesian model of economic equilibrium:
a. Stresses changes in aggregate demand as the primary factor responsible for recessions and depressions

9. According to Keynes, when an economy is in disequilibrium, aggregate demand will always adjust to move the economy back towards equilibrium.
b. False

10. Fiscal policy:
c. is the manipulation of the federal budget to attain price stability, relatively full employment, and a satisfactory rate of economic growth.

11. A deflationary gap:
d. is controlled through increased government spending and/or a cut in taxes

12. The economy of Country X is operating at full employment; its government decides to cut spending and consumption drops. This indicates that the economy:
b. has an inflationary gap between actual and equilibrium GDP

13. The multiplier effect:
f. all of the above.
Holds that any change in spending results in a multiplied change in GDP. And increases as the marginal propensity to consume decreases. And decreases as the marginal propensity to save increases.

14. GDP of a nation is $2,000, and the multiplier is 2.5. If consumption rises by 50, the new level of GDP is:
c. $2,125

15. GDP in Country X for 2002 was $500 billion; consumption rose by $50 billion in 2003, and the MPC is 0.70. GDP for 2003 is:
c. $617 billion

16. If equilibrium GDP is $200 billion greater than full - employment GDP, and the multiplier is 2, then there is a(n) :
b. deflationary gap of $400 billion

17. A reduction in taxes is likely to have a larger expansionary effect than an equal increase in government spending.
b. False

18. Automatic stabilizers:
d. both a and b.
Include government transfer payments, unemployment compensation and personal savings and income taxes and are intended to protect the economy from the extremes of the business cycle

19. Which of ...

Solution Summary

Economic Equilibrium is one of merely numerous concepts explored through these questions and answers.

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