Question: Which of the following actions by the

> Why should policymakers care about GDP?

> List the four components of expenditure. Which is the largest?

> If all quantities produced rise by 10 percent and all prices fall by 10 percent, which of the following occurs? a. Real GDP rises by 10 percent, while nominal GDP falls by 10 percent. b. Real GDP rises by 10 percent, while nominal GDP is unchanged. c. Re

> Which is the largest component of GDP? a. consumption b. investment c. government purchases d. net exports

> An American buys a pair of shoes manufactured in Italy. How do the U.S. national income accounts treat the transaction? a. Net exports and GDP both rise. b. Net exports and GDP both fall. c. Net exports fall, while GDP is unchanged. d. Net exports are un

> Matthew and Susan are both optimizing consumers in the markets for shirts and hats, where they pay $100 for a shirt and $50 for hat. Matthew buys 4 shirts and 16 hats, while Susan buys 6 shirts and 12 hats. From this information, we can infer that Matthe

> Which of the following does NOT add to U.S. GDP? a. Air France buys a plane from Boeing, the U.S. aircraft manufacturer. b. General Motors builds a new auto factory in North Carolina. c. The city of New York pays a salary to a policeman. d. The federal g

> Angus the sheep farmer sells wool to Barnaby the knitter for $20. Barnaby makes two sweaters, each of which has a market price of $40. Collette buys one of them, while the other remains on the shelf of Barnaby’s store to be sold later. What is GDP here?

> When the economy goes into a recession, real GDP _________ and unemployment _________. a. rises, rises b. rises, falls c. falls, rises d. falls, falls

> If the price of a hot dog is $2 and the price of a hamburger is $4, then 30 hot dogs contribute as much to GDP as _________ hamburgers. a. 5 b. 15 c. 30 d. 60

> Many years ago, Peggy paid $500 to put together a record collection. Today, she sold her albums at a garage sale for $100. How does this sale affect current GDP?

> A farmer sells wheat to a baker for $2. The baker uses the wheat to make bread, which is sold for $3. What is the total contribution of these transactions to GDP?

> Which contributes more to GDP—the production of an economy car or the production of a luxury car? Why?

> Explain why an economy’s income must equal its expenditure.

> Goods and services that are not sold in markets, such as food produced and consumed at home, are generally not included in GDP. Can you think of how this might cause the numbers in the second column of Table 3 to be misleading in a comparison of the econ

> The government purchases component of GDP does not include spending on transfer payments such as Social Security. Thinking about the definition of GDP, explain why transfer payments are excluded.

> Describe at least three ways in which human decision making differs from that of the rational individual of conventional economic theory.

> At any point on an indifference curve, the slope of the curve measures the consumer’s a. income. b. willingness to trade one good for the other. c. perception of the two goods as substitutes or complements. d. elasticity of demand.

> A public school district is deciding on the school budget and the resulting student–teacher ratio. A poll finds that 20 percent of the voters want a ratio of 9:1, 25 percent want a ratio of 10:1, 15 percent want a ratio of 11:1, and 40 percent want a rat

> The idea that economic downturns result from an inadequate aggregate demand for goods and services is derived from the work of which economist? a. Adam Smith b. David Hume c. David Ricardo d. John Maynard Keynes

> The experiment called the ultimatum game illustrates that people a. are overconfident in their own abilities. b. play the Nash equilibrium in strategic situations. c. care about fairness, even to their own detriment. d. make inconsistent decisions over t

> According to traditional Keynesian analysis, which has a larger impact on GDP—a dollar of tax cuts or a dollar of additional government spending? Why?

> Advocates of taxing consumption rather than income argue that a. a consumption tax is a better automatic stabilizer. b. taxing consumption does not cause any deadweight losses. c. the rich consume a higher fraction of income than the poor. d. the current

> Throughout U.S. history, what has been the most common cause of substantial increases in government debt? a. recessions b. wars c. financial crises d. tax cuts

> Which of the following is NOT an argument for maintaining a positive rate of inflation? a. It permits real interest rates to be negative. b. It allows real wages to fall without cuts in nominal wages. c. It increases the variability of relative prices. d

> Advocates for setting monetary policy by rule rather than discretion often argue that a. central bankers with discretion are tempted to renege on their announced commitments to low inflation. b. central bankers following a rule will be more responsive to

> According to traditional Keynesian analysis, which of the following will increase aggregate demand the most? a. $100 billion increase in taxation b. $100 billion decrease in taxation c. $100 billion increase in government spending d. $100 billion decreas

> Approximately how long does it take a change in monetary policy to influence aggregate demand? a. one month b. six months c. two years d. five years

> Some income from capital is taxed twice. Explain.

> Some economists say that the government can continue running a budget deficit forever. How is that possible?

> Stagflation is caused by a. a leftward shift in the aggregate-demand curve. b. a rightward shift in the aggregate-demand curve. c. a leftward shift in the aggregate-supply curve. d. a rightward shift in the aggregate-supply curve.

> Why are some economists against a target of zero inflation?

> Two political candidates are vying for town mayor, and the key issue is how much to spend on the annual Fourth of July fireworks. Among the 100 voters, 40 want to spend $30,000, 30 want to spend $10,000, and 30 want to spend nothing at all. What is the w

> What adverse effect might be caused by tax incentives to increase saving?

> Chapter 2 explains the difference between positive analysis and normative analysis. In the debate about whether the central bank should aim for zero inflation, which areas of disagreement involve positive statements and which involve normative judgments?

> Explain how each of the following policies redistributes income across generations. Is the redistribution from young to old or from old to young? a. an increase in the budget deficit b. more generous subsidies for education loans c. greater investments i

> The problem of time inconsistency applies to fiscal policy as well as to monetary policy. Suppose the government announced a reduction in taxes on income from capital investments, like new factories. a. If investors believed that capital taxes would rema

> The chapter suggests that the economy, like the human body, has “natural restorative powers.” a. Illustrate the short-run effect of a fall in aggregate demand using an aggregate-demand/aggregate supply diagram. What happens to total output, income, and e

> When the Federal Reserve increases the money supply, it __________ aggregate demand and moves the economy along the Phillips curve to a point with __________ inflation and __________ unemployment. a. expands, higher, higher b. expands, higher, lower c. e

> From one year to the next, inflation rises from 4 to 5 percent, while unemployment rises from 6 to 7 percent. Which of the following events could be responsible for this change? a. The central bank increases the growth rate of the money supply. b. The go

> From one year to the next, inflation falls from 5 to 4 percent, while unemployment rises from 6 to 7 percent. Which of the following events could be responsible for this change? a. The central bank increases the growth rate of the money supply. b. The go

> An increase in the aggregate demand for goods and services has a larger impact on output _________ and a larger impact on the price level _________. a. in the short run, in the long run b. in the long run, in the short run c. in the short run, also in th

> Advocates of the theory of rational expectations believe that a. the sacrifice ratio can be much smaller if policymakers make a credible commitment to low inflation. b. if disinflation catches people by surprise, it will have minimal impact on unemployme

> When an adverse supply shock shifts the short-run aggregate-supply curve to the left, it also a. moves the economy along the short-run Phillips curve to a point with higher inflation and lower unemployment. b. moves the economy along the short-run Philli

> The Condorcet paradox illustrates Arrow’s impossibility theorem by showing that pairwise majority voting a. is inconsistent with the principle of unanimity. b. leads to social preferences that are not transitive. c. violates the independence of irrelevan

> If the Federal Reserve increases the rate of money growth and maintains it at the new higher rate, eventually expected inflation will __________ and the short-run Phillips curve will shift __________. a. decrease, downward b. decrease, upward c. increase

> If the central bank wants to expand aggregate demand, it can ________ the money supply, which would ________ the interest rate. a. increase, increase b. increase, decrease c. decrease, increase d. decrease, decrease

> Which of the following is an example of an automatic stabilizer? When the economy goes into a recession, a. more people become eligible for unemployment insurance benefits. b. stock prices decline, particularly for firms in cyclical industries. c. Congre

> If the central bank in the preceding question instead holds the money supply constant and allows the interest rate to adjust, the change in aggregate demand resulting from the increase in government purchases will be a. larger. b. the same. c. smaller bu

> A bank has capital of $200 and a leverage ratio of 5. If the value of the bank’s assets decline by 10 percent, then its capital will be reduced to a. $100. b. $150. c. $180. d. $185.

> If the reserve ratio is ¼ and the central bank increases the quantity of reserves in the banking system by $120, the money supply increases by a. $90. b. $150. c. $160. d. $480.

> Chloe takes $100 of currency from her wallet and deposits it into her checking account. If the bank adds the entire $100 to reserves, the money supply _________, but if the bank lends out some of the $100, the money supply _________. a. increases, increa

> The money supply includes all of the following EXCEPT a. metal coins. b. paper currency. c. lines of credit accessible with credit cards. d. bank balances accessible with debit cards.

> What are reserve requirements? What happens to the money supply when the Fed raises reserve requirements?

> What is the discount rate? What happens to the money supply when the Fed raises the discount rate?

> If the Fed wants to increase the money supply with open-market operations, what does it do?

> What are demand deposits and why should they be included in the stock of money?

> With the economy in a recession because of inadequate aggregate demand, the government increases its purchases by $1,200. Suppose the central bank adjusts the money supply to hold the interest rate constant, investment spending is fixed, and the marginal

> What distinguishes money from other assets in the economy?

> Two ice-cream stands are deciding where to set up along a 1-mile beach. The people are uniformly located along the beach, and each person sitting on the beach buys exactly 1 ice-cream cone per day from the nearest stand. Each ice-cream seller wants the

> According to the theory of efficiency wages, a. firms may find it profitable to pay above equilibrium wages. b. an excess supply of labor puts downward pressure on wages. c. sectoral shifts are the main source of frictional unemployment. d. right-to-work

> Unionized workers are paid about _________ percent more than similar nonunion workers. a. 2 b. 5 c. 15 d. 40

> According to the most recent data, among workers who are paid at an hourly rate, about _________ percent have jobs that pay at or below the minimum wage. a. 2 b. 5 c. 15 d. 40

> The main policy goal of the unemployment insurance system is to reduce the a. search effort of the unemployed. b. income uncertainty that workers face. c. role of unions in wage setting. d. amount of frictional unemployment.

> Using the numbers in the preceding question, what is the size of Ectenia’s labor force? a. 50 b. 60 c. 70 d. 80

> The population of Ectenia is 100 people: 40 work fulltime, 20 work half-time but would prefer to work fulltime, 10 are looking for a job, 10 would like to work but are so discouraged they have given up looking, 10 are not interested in working because th

> Is unemployment typically short-term or long-term? Explain.

> Explain four ways in which a firm might increase its profits by raising the wages it pays.

> The Federal Reserve’s target rate for the federal funds rate a. is an extra policy tool for the central bank, in addition to and independent of the money supply. b. commits the Fed to set a particular money supply so that it hits the announced target. c.

> What claims do advocates of unions make to argue that unions are good for the economy?

> Are minimum-wage laws a better explanation for structural unemployment among teenagers or among college graduates? Why?

> What is adverse selection? Give an example of a market in which adverse selection might be a problem.

> Fortune magazine regularly publishes a list of the “most respected” companies. According to the efficient markets hypothesis, if you restrict your stock portfolio to these companies, will you earn a better-than-average return? Explain.

> Describe three ways that a risk-averse person might reduce the risk she faces.

> The interest rate is 7 percent. What is the present value of $150 to be received in 10 years?

> According to the efficient markets hypothesis, a. changes in stock prices are impossible to predict from public information. b. excessive diversification can reduce an investor’s expected portfolio returns. c. the stock market moves based on the changing

> The benefit of diversification when constructing a portfolio is that it can eliminate a. speculative bubbles. b. risk aversion. c. firm-specific risk. d. market risk.

> The ability of insurance to spread risk is limited by a. risk aversion and moral hazard. b. risk aversion and adverse selection. c. moral hazard and adverse selection. d. risk aversion only.

> If the interest rate is 10 percent, then the present value of $100 to be paid in 2 years is a. $80. b. $83. c. $120. d. $121.

> If the government wants to contract aggregate demand, it can ________ government purchases or ________ taxes. a. increase, increase b. increase, decrease c. decrease, increase d. decrease, decrease

> A change in the expected price level shifts a. the aggregate-demand curve. b. the short-run aggregate-supply curve, but not the long-run aggregate-supply curve. c. the long-run aggregate-supply curve, but not the short-run aggregate-supply curve. d. both

> Name two macroeconomic variables that decline when the economy goes into a recession. Name one macroeconomic variable that rises during a recession.

> Describe the sources of supply and demand in the market for loanable funds and the market for foreign-currency exchange.

> Suppose that Americans decided to spend a smaller fraction of their incomes. What would be the effect on saving, investment, interest rates, the real exchange rate, and the trade balance?

> In the model of the open economy just developed, two markets determine two relative prices. What are the markets? What are the two relative prices?

> George has a life insurance policy that pays his family $1 million if he dies. As a result, he does not hesitate to enjoy his favorite hobby of bungee jumping. This is an example of a. moral hazard. b. adverse selection. c. signaling. d. screening

> If business leaders in Great Britain become more confident in their economy, their optimism will induce them to increase investment, causing the British pound to __________ and pushing the British trade balance toward __________. a. appreciate, deficit b

> A civil war abroad causes foreign investors to seek a safe haven for their funds in the United States, leading to __________ U.S. interest rates and a __________ U.S. dollar. a. higher, weaker b. higher, stronger c. lower, weaker d. lower, stronger

> The nation of Ectenia has long banned the export of its highly prized puka shells. A newly elected president, however, removes the export ban. This change in policy will cause the nation’s currency to __________, making the goods Ectenia imports ________

> The government in an open economy cuts spending to reduce the budget deficit. As a result, the interest rate __________, leading to a capital __________ and a real exchange rate __________. a. falls, outflow, appreciation b. falls, outflow, depreciation

> Holding other things constant, an appreciation of a nation’s currency causes a. exports to rise and imports to fall. b. exports to fall and imports to rise. c. both exports and imports to rise. d. both exports and imports to fall.

> Holding other things constant, an increase in a nation’s interest rate reduces a. national saving and domestic investment. b. national saving and the net capital outflow. c. domestic investment and the net capital outflow. d. national saving only.

> What is capital flight? When a country experiences capital flight, what is the effect on its interest rate and exchange rate?

> Japan generally runs a significant trade surplus. Do you think this is most related to high foreign demand for Japanese goods, low Japanese demand for foreign goods, a high Japanese saving rate relative to Japanese investment, or structural barriers agai

> Suppose that Americans decide to increase their saving. a. If the elasticity of U.S. net capital outflow with respect to the real interest rate is very high, will this increase in private saving have a large or small effect on U.S. domestic investment? b

> Suppose that real interest rates increase across Europe. Explain how this development will affect U.S. net capital outflow. Then explain how it will affect U.S. net exports by using a formula from the chapter and by drawing a diagram. What will happen to

> Because Elaine has a family history of significant medical problems, she buys health insurance, whereas her friend Jerry, who has a healthier family, goes without. This is an example of a. moral hazard. b. adverse selection. c. signaling. d. screening.

> Suppose the United States decides to subsidize the export of U.S. agricultural products, but it does not increase taxes or decrease any other government spending to offset this expenditure. Using a three panel diagram, show what happens to national savin

> A senator renounces his past support for protectionism: “The U.S. trade deficit must be reduced, but import quotas only annoy our trading partners. If we subsidize U.S. exports instead, we can reduce the deficit by increasing our competitiveness.” Using

> Suppose the French suddenly develop a strong taste for California wines. Answer the following questions in words and with a diagram. a. What happens to the demand for dollars in the market for foreign-currency exchange? b. What happens to the value of do