Chapter 33

True/False
Indicate whether the statement is true or false.

____ 1. An increase in inflation shifts the AD curve to the right.

____ 2. For a given level of inflation, if a stock market crash makes consumers less willing to spend (the wealth
effect), then the aggregate demand curve shifts left.

____ 3. In the long run, the quantity of goods and services supplied depends on the economy’s labour, capital,
technology and overall level of prices.

____ 4. The short-run aggregate curve’s shape is affected by the economy’s position in regards to full employment.

____ 5. The position of the long-run aggregate-supply curve shows the quality of goods and services predicted by
classical macroeconomic theory.

Multiple Choice
Identify the choice that best completes the statement or answers the question.

____ 1. For a given level of inflation, if there is a greater willingness by foreigners to purchase domestic goods, then
the ____ shifts ____.
a. aggregate demand curve; right
b. aggregate demand curve; left
c. short-run aggregate supply line; upward
d. short-run aggregate supply line; downward
____ 2. Most economists believe that classical economic theory is a good description of the world:
a. in the short run, but not in the long run
b. in the long run, but not in the short run
c. in the short run and in the long run
d. in the nineteenth century, but not in the twentieth century
____ 3. The behaviour by the Reserve Bank is a key factor underlying the link between ____ and ____, and is
summarised by the aggregate demand curve.
a. inflation; input
b. inflation; output
c. inflation; income
d. inflation; taxes
____ 4. When the price level falls:
a. households try to increase their holdings of money
b. households try to reduce their holdings of money
c. households don’t change their holdings of money
d. none of the above
____ 5. The downward slope of the aggregate-demand curve shows that:
a. a fall in the price level reduces the overall quantity of goods and services demanded
b. a rise in the price level increases the overall quantity of goods and services demanded
 c. a fall in the price level has no effect on the overall quantity of goods and services
demanded
d. a fall in the price level increases the overall quantity of goods and services demanded
____ 6. The aggregate-supply curve is vertical in the long run because:
a. of the classical dichotomy and money neutrality
b. aggregate demand is downward-sloping
c. overall output goes up when prices go up
d. overall output goes down when prices go up
____ 7. According to the new classical misperceptions theory, the upward slope of the short-run aggregate-supply
curve results from:
a. misperceptions about the quantity of goods and services demanded
b. misperceptions about the ability of production
c. misperceptions about relative prices
d. none of the above
____ 8. When production costs rise, in the short run:
a. the aggregate-supply curve shifts down to the right
b. the aggregate-demand curve shifts down to the left
c. the aggregate-demand curve shifts up to the right
d. the aggregate-supply curve shifts up to the left
e. both the aggregate-demand curve and the aggregate-supply curve shift to the left
____ 9. Which of the following statements about aggregate supply is correct?
a. Shifts in aggregate supply can cause stagflation
b. Shifts in aggregate supply can cause a fall in output and a rise in prices
c. Shifts in aggregate supply can cause a recession
d. All of the above
____ 10. The Pigou effect implies that:
a. when the price level decreases, consumer purchasing power goes up, and therefore
consumers spend more
b. when consumers spend more, the price level increases
c. when consumer income increases, consumers spend more
d. when the price level decreases, consumers save more, and therefore become wealthier
____ 11. The long-run aggregate supply is called:
a. potential output
b. full-employment output
c. natural rate of output
d. all of the above
____ 12. The aggregate supply curve shows the relationship between:
a. the general level of prices and real domestic output purchased
b. real domestic output produced and the general level of prices
c. the price level at which the producers are willing to provide output
d. real domestic output purchased and real domestic output produced
____ 13. If there is an increase in both the price level and employment, which of the following could possibly explain
this?
a. Price level fall
b. Interest rate fall
 c. Productivity increase
d. All of the above
____ 14. In the long-run persistent increases in aggregate demand will:
a. result in stagflation
b. eliminate structural unemployment
c. result in inflation with no changes in real GDP
d. result in shifts of the long-run aggregate supply curve to the right
____ 15. The short-run equilibrium level of real GDP and inflation is given by the intersection of:
a. the aggregate demand curve and the long-run aggregate supply
b. the aggregate demand curve and the short-run aggregate supply
c. the aggregate demand curve, the short-run aggregate supply and the long-run aggregate
supply
d. the aggregate demand curve and the zero inflation line
Chapter 34

True/False
Indicate whether the statement is true or false.

____ 1. At a higher price level, the demand for money increases, the interest rate increases, and the demand for
business and residential investment falls. Hence the aggregate-demand curve slopes downward.

____ 2. Monetary policy affects the aggregate demand via the Reserve Bank changing its inflation target.

____ 3. The multiplier effect suggests that the increase in aggregate demand could be smaller than the increase in
government purchases, while the crowding-out effect suggests that the increase in aggregate demand could be
larger than the increase in government purchases.

____ 4. Any change in government spending has a multiplier effect on the level of economic activity.

____ 5. In order to fight recession, the RBA has to raise its inflation target in order to reduce the real interest rate
needed to stimulate the aggregate demand.

Multiple Choice
Identify the choice that best completes the statement or answers the question.

____ 1. Keynes’s theory that the interest rate adjusts to bring money supply and money demand into balance is called:
a. the theory of sticky wages
b. the theory of sticky prices
c. the classical dichotomy theory
d. the theory of liquidity preference
____ 2. The quantity of money demanded is ____ the interest rate.
a. the opportunity cost of
b. independent of
c. positively related to
d. inversely related to
____ 3. The RBA can stimulate the economy by ____, all of which shifts the aggregate demand to the ____.
a. increasing the money supply; right
b. increasing the money supply; left
c. decreasing the interest rate; left
d. increasing the interest rate; right
____ 4. The government-purchases multiplier is defined as:
a. 1 – (1/MPC)
b. 1/(MPC – 1)
c. 1 – (MPC – 1)
d. 1/(1 – MPC)
____ 5. An increase in government purchases of $100 billion will shift the aggregate-demand curve to the:
a. left by more than $100 billion
b. left by more or less than $100 billion
c. right by more than $100 billion
 d. right by more or less than $100 billion
____ 6. The notion that when the government increases its purchases of aeroplanes, the owners and employees of the
aeroplane manufacturing companies will also purchase more as their incomes rise, and hence total purchases
will increase by more than the initial change in government purchases, is known as the:
a. crowding-out effect
b. Keynesian effect
c. multiplier effect
d. acceleration effect
____ 7. Assuming that the crowding-out effect is $100 billion and the multiplier effect of an increase in government
purchases is $120 billion, then the total effect on aggregate demand will be:
a. an $80 billion increase
b. an $80 billion decrease
c. a $20 billion increase
d. a $20 billion decrease
____ 8. Most economists believe that a cut in tax rates:
a. will give people the incentive to work less hours
b. will increase government tax revenue
c. will have only a small effect on the aggregate-supply curve
d. all of the above
____ 9. The lag problem associated with monetary policy is due to:
a. the fact that firms make investment plans far in advance
b. the political process
c. the time it takes for monetary policy to affect the interest rate
d. none of the above
____ 10. According to classical macroeconomic theory, an increase in aggregate demand will ____ in the long run.
a. only raise the inflation rate
b. increase both output and the inflation rate
c. only reduce the inflation rate
d. decrease both output and the inflation
____ 11. The aggregate supply curve is ____ in the short run, but ____ in the long run.
a. upward sloping; vertical
b. upward sloping; horizontal
c. downward sloping; vertical
d. downward sloping; horizontal
____ 12. If MPC = 0.6, then the government purchases multiplier is:
a. 0.4
b. 4
c. 2.5
d. 25
____ 13. Assume there is no crowding-out effect. If an increase in government spending of $10 billion raises the total
aggregate demand by $50 billion, then the marginal propensity is:
a. 0.2
b. 0.5
c. 5
d. 0.8
____ 14. A reduction in direct taxes will result in:
a. an increase in output and a little inflation if the economy is near full employment
b. a decrease in inflation and a small increase in output if the economy is near full
employment
c. a leftward shift in the AD curve
d. no shift in the AD curve of these
____ 15. If an increase in interest rates reduces investment spending by $25m:
a. real GDP will decrease by $25 million
b. GDP will decrease by $25 million
c. GDP will decrease by more than $25 million
d. GDP will decrease by less than $25 million
Chapter 35

True/False
Indicate whether the statement is true or false.

____ 1. Samuelson and Solow reasoned that the trade-off between inflation and unemployment arose because low
unemployment was associated with high aggregate demand, and because high demand puts upward pressure
on wages and prices throughout the economy.

____ 2. Contractionary monetary policy contracts aggregate demand, reduces employment and inflation, and
eventually reduces expected inflation, causing the short-run Phillips curve to shift downwards.

____ 3. A typical estimate of the sacrifice ratio is five. According to Sargent, the sacrifice ratio could be much smaller
than suggested by previous estimates.

____ 4. The Phillips curve is the short-run relationship between inflation and unemployment.

____ 5. NAIRU (non-accelerating inflation rate of unemployment) refers to the level of unemployment that does not
result in increases in the inflation rate.

Multiple Choice
Identify the choice that best completes the statement or answers the question.

____ 1. If the long-run Phillips curve shifts to the right, the economy will have ____ for any given rate of money
growth and inflation.
a. lower unemployment and lower output
b. lower unemployment and higher output
c. higher unemployment and lower output
d. higher unemployment and higher output
____ 2. If the sacrifice ratio is five, it means that in order to reduce inflation by one percentage point, the economy
will experience ____.
a. a reduction of annual output by five percentage points
b. a rise of annual output by five percentage points
c. a reduction of annual output by 0.20 percentage points
d. a rise of annual output by 0.20 percentage points
____ 3. An increase in expected inflation:
a. shifts the short-run Phillips curve to the left
b. increases the unemployment rate along the Phillips curve
c. decreases the unemployment rate along the Phillips curve
d. shifts the short-run Phillips curve to the right
____ 4. Faced with an adverse supply shock, the economy experiences an aggregate-supply curve shift to the:
a. left, and this shift is associated with a shift in the short-run Phillips curve to the left
b. left, and this shift is associated with a shift in the short-run Phillips curve to the right
c. right, and this shift is associated with a shift in the short-run Phillips curve to the right
d. right, and this shift is associated with a shift in the short-run Phillips curve to the left
____ 5. The sacrifice ratio is:
 a. the sum of the inflation and unemployment rates
b. the percentage by which actual output falls below full employment output for every one
percentage point that actual unemployment is above the natural rate of unemployment
c. the inflation rate divided by the unemployment rate
d. the number of percentage points of annual output that are lost in the process of reducing
inflation by one percentage point
____ 6. Disinflation is defined as:
a. a zero rate of inflation
b. a constant rate of inflation
c. a reduction in the rate of inflation
d. deflation
____ 7. The ____ Phillips curve is downward sloping and the ____ Phillips curve is vertical.
a. short-run; long-run
b. long-run; short-run
c. short-run; medium-run
d. long-run; medium-run
____ 8. The equation by Friedman and Phelps of a relationship between the unemployment rate and its natural rate
can be summarised as:
a. Unemployment rate = Natural rate of unemployment /(Actual inflation – Expected
inflation)
b. Unemployment rate = Natural rate of unemployment – a(Actual inflation – Expected
inflation)
c. Unemployment rate = Natural rate of unemployment – Actual inflation
d. Unemployment rate = Natural rate of unemployment – Expected inflation
____ 9. A group of economists offer the theory that the economy will reduce inflation without the cost of ____ if
people are rational.
a. high unemployment and low output
b. low unemployment and high output
c. high unemployment and high output
d. low unemployment and low output
____ 10. If the sacrifice ratio is 6 per cent, then reducing the inflation rate from 10 per cent to 4 per cent would require
sacrificing ____ per cent of annual output.
a. 6
b. 36
c. 13
d. 40
Chapter 33
Answer Section

TRUE/FALSE

1. ANS: F PTS: 1 DIF: Moderate

TOP: Why the short-run aggregate-supply curve might shift
2. ANS: T PTS: 1 DIF: Moderate TOP: The aggregate-supply curve
3. ANS: F PTS: 1 DIF: Moderate
TOP: The effects of a shift in aggregate supply
4. ANS: T PTS: 1 DIF: Moderate
TOP: Why the aggregate-supply curve is upward-sloping in the short run
5. ANS: F PTS: 1 DIF: Moderate
TOP: Why the long-run aggregate-supply curve might shift

MULTIPLE CHOICE

1. ANS: A PTS: 1 DIF: Moderate

TOP: Why the aggregate-demand curve might shift
2. ANS: B PTS: 1 DIF: Moderate
TOP: How the short run differs from the long run
3. ANS: B PTS: 1 DIF: Moderate
TOP: Why the aggregate-demand curve is downward-sloping
4. ANS: B PTS: 1 DIF: Moderate TOP: The wealth effect
5. ANS: D PTS: 1 DIF: Easy
TOP: Why the aggregate-demand curve is downward-sloping
6. ANS: A PTS: 1 DIF: Easy TOP: The aggregate-supply curve
7. ANS: C PTS: 1 DIF: Moderate
TOP: The new classical misperceptions theory
8. ANS: D PTS: 1 DIF: Difficult
TOP: Why the short-run aggregate-supply curve might shift
9. ANS: D PTS: 1 DIF: Moderate
TOP: The effects of a shift in aggregate supply
10. ANS: A PTS: 1 DIF: Moderate TOP: The wealth effect
11. ANS: D PTS: 1 DIF: Moderate
TOP: Why the aggregate-supply curve is vertical in the long run
12. ANS: B PTS: 1 DIF: Moderate
TOP: Why the aggregate-supply curve is upward-sloping in the short run
13. ANS: D PTS: 1 DIF: Moderate
TOP: The effects of a shift in aggregate supply
14. ANS: C PTS: 1 DIF: Difficult
TOP: Why the aggregate-supply curve is vertical in the long run
15. ANS: B PTS: 1 DIF: Moderate
TOP: The basic model of economic fluctuations
Chapter 34
Answer Section

TRUE/FALSE

1. ANS: T PTS: 1 DIF: Moderate

TOP: The downward slope of the aggregate-demand curve
2. ANS: T PTS: 1 DIF: Moderate
TOP: How monetary policy influences aggregate demand
3. ANS: F PTS: 1 DIF: Difficult TOP: The multiplier effect
4. ANS: T PTS: 1 DIF: Easy TOP: The crowding-out effect
5. ANS: T PTS: 1 DIF: Moderate
TOP: How monetary policy influences aggregate demand

MULTIPLE CHOICE

1. ANS: D PTS: 1 DIF: Easy TOP: The theory of liquidity preference

2. ANS: D PTS: 1 DIF: Easy TOP: Money demand
3. ANS: A PTS: 1 DIF: Difficult
TOP: How monetary policy influences aggregate demand
4. ANS: D PTS: 1 DIF: Easy
TOP: FYI: A formula for the government-purchases multiplier
5. ANS: D PTS: 1 DIF: Moderate
TOP: FYI: A formula for the government-purchases multiplier
6. ANS: C PTS: 1 DIF: Difficult TOP: The multiplier effect
7. ANS: C PTS: 1 DIF: Difficult
TOP: FYI: A formula for the government-purchases multiplier
8. ANS: C PTS: 1 DIF: Difficult TOP: Changes in taxes
9. ANS: A PTS: 1 DIF: Difficult
TOP: The case against active stabilisation policy
10. ANS: A PTS: 1 DIF: Moderate
TOP: The economy in the long run and the short run
11. ANS: A PTS: 1 DIF: Moderate
TOP: The economy in the long run and the short run
12. ANS: C PTS: 1 DIF: Moderate
TOP: FYI: A formula for the government-purchases multiplier
13. ANS: D PTS: 1 DIF: Difficult
TOP: FYI: A formula for the government-purchases multiplier
14. ANS: B PTS: 1 DIF: Moderate TOP: Changes in taxes
15. ANS: C PTS: 1 DIF: Moderate
TOP: FYI: The long run and the short run: An algebraic explanation
Chapter 35
Answer Section

TRUE/FALSE

1. ANS: T PTS: 1 DIF: Easy TOP: Origins of the Phillips curve

2. ANS: T PTS: 1 DIF: Difficult TOP: The sacrifice ratio
3. ANS: T PTS: 1 DIF: Moderate
TOP: Rational expectations and the possibility of costless disinflation
4. ANS: T PTS: 1 DIF: Moderate TOP: The Phillips curve
5. ANS: T PTS: 1 DIF: Easy TOP: The long-run Phillips curve

MULTIPLE CHOICE

1. ANS: C PTS: 1 DIF: Moderate TOP: The long-run Phillips curve

2. ANS: A PTS: 1 DIF: Moderate TOP: The long-run Phillips curve
3. ANS: D PTS: 1 DIF: Moderate
TOP: Expectations and the short-run Phillips curve
4. ANS: B PTS: 1 DIF: Moderate
TOP: Shifts in the Phillips curve: The role of supply shocks
5. ANS: D PTS: 1 DIF: Difficult TOP: The sacrifice ratio
6. ANS: C PTS: 1 DIF: Moderate
TOP: Rational expectations and the possibility of costless disinflation
7. ANS: A PTS: 1 DIF: Easy TOP: The Phillips curve
8. ANS: B PTS: 1 DIF: Moderate
TOP: Expectations and the short-run Phillips curve
9. ANS: A PTS: 1 DIF: Easy
TOP: Rational expectations and the possibility of costless disinflation
10. ANS: B PTS: 1 DIF: Difficult TOP: The sacrifice ratio