Macroeconomics 6th Edition Williamson Test Bank 1

Solution Manual for Macroeconomics 6th Edition
Williamson 013447211X 9780134472119

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Macroeconomics, 6e (Williamson)
Chapter 5 A Closed-Economy One-Period Macroeconomic Model
5.1 Multiple-Choice Questions
1) An economy that has no interaction with the rest of the world is called
A) an isolated economy.
B) a closed economy.
C) a parochial economy.
D) a rogue nation.
Answer: B
LO: 5.1: Define and construct a competitive equilibrium for the closed-economy one period
(CEOP) macroeconomic model.
Difficulty: moderate
Classification: concept
AACSB: application of knowledge
2) An economy that engages in international trade is called

A) a cooperative economy.
B) a modern economy.
C) an engaged economy.
D) an open economy.
Answer: D
3) In an economic model, an exogenous variable is

A) a stand-in for more complicated variables.
B) determined by the model itself.
C) determined outside the model.
D) a variable that has no effect on the workings of the model.
Answer: C
1
Copyright © 2018 Pearson Education, Inc.
2
4) In an economic model, an endogenous variable is
A) a stand-in for more complicated variables.
B) determined by the model itself.
C) determined outside the model.
D) a variable that has no effect on the workings of the model.
Answer: B
Difficulty: easy
5) In the one-period model,

A) government spending consists of transfers.
B) government spending is the construction of public infrastructure.
C) government spending is the acquisition of goods, which the government throws away.
D) government spending redistributes income.
Answer: C
Difficulty: difficult
Classification: application
6) Which of the following relationships does not hold in the one-period model?
A) G=T
B) Y=C+G
C) Y=zF(K,N)
D) π=Y-wN-C
Answer: D
7) Fiscal policy encompasses all of the following except

A) expenditures by the government.
B) monetary injection by the government.
C) taxation by the government.
D) borrowing by the government.
Answer: B
3
8) A competitive equilibrium is a state of affairs in which
A) markets clear, and output is maximized.
B) output is maximized, and all agents are equally well-off.
C) all agents are equally well-off and agents are price-takers.
D) economic agents are price takers and markets clear.
Answer: D
9) For a competitive equilibrium to occur, all of the following has to happen except
A) agents are price takers.
B) the government sets taxes at zero.
C) markets clear.
D) the actions of all agents are consistent.
Answer: B
AACSB: analytical thinking
10) In a competitive equilibrium all these relationships hold but one. Which one?
A) Nd=Ns
B) Y=G+C
C) G=T
D) w=z
Answer: D
Difficulty: easy
4
11) In the one-period competitive model we have been studying
A) both consumption and total factor productivity are exogenous.
B) consumption is exogenous and total factor productivity is endogenous.
C) consumption is endogenous and total factor productivity is exogenous.
D) both consumption and total factor productivity are endogenous.
Answer: C
12) The production possibilities frontier represents

A) all combinations of consumption and leisure for fixed output.
B) all equally affordable combinations of consumption and leisure for a given wage.
C) all technologically feasible combinations of consumption and leisure.
D) all equally liked combinations of consumption and leisure.
Answer: C
13) The PPF determines

A) all possible outcomes for a given wage.
B) the set of feasible outcomes.
C) given leisure, how much consumption a household wants.
D) the share of consumption in output.
Answer: B
14) PPF is the

A) price parity formula.
B) possible production function.
C) producer's preferred frontier.
D) production possibilities frontier.
Answer: D
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15) Points on the production possibilities frontier have the property that they
A) are inherently unattainable.
B) show the maximum amount of leisure that can be consumed for given amounts of goods
consumed.
C) show the maximum amount of goods that can be consumed for given amounts of government
spending.
D) show the maximum amount of leisure that can be consumed for given amounts of hours
worked.
Answer: B
Difficulty: easy
16) A competitive equilibrium has all of the following properties except

A) MPN = slope of PFF.
B) MRS1,C = MRT1,C.
C) MRT1,C = MPN.
D) MPN = w.
Answer: A
LO: 5.2: Show that the competitive equilibrium and the Pareto optimum for the CEOP model
are the same thing.
17) A Pareto optimum is a point that

A) a malevolent dictator would choose.
B) a cooperative coalition of some altruistic consumers would choose.
C) a cooperative coalition of some socially responsible firms would choose.
D) a social planner would choose.
Answer: D
are the same thing.
6
18) Much of the writings of Adam Smith are in close agreement with
A) the necessity of trade restrictions.
B) the first fundamental theorem of welfare economics.
C) the second theorem of welfare economics.
D) both B and C above.
Answer: B
are the same thing.
19) The first fundamental theorem of welfare economics states that

A) under certain conditions, a competitive equilibrium is Pareto optimal.
B) a competitive equilibrium is always Pareto optimal.
C) under certain conditions, a Pareto optimum is a competitive equilibrium.
D) a Pareto optimum is always a competitive equilibrium.
Answer: A
are the same thing.
20) The concept of Pareto optimality is a

A) utopian concept.
B) useful concept because it guarantees economic equality.
C) useful concept because it defines economic efficiency.
D) useful concept that carefully balances a society's desires for equality and efficiency.
Answer: C
are the same thing.
Difficulty: easy
21) A competitive equilibrium

A) is always economically efficient.
B) is efficient only if there is an externality.
C) is economically efficient only given some special conditions.
D) does not exist without government taxation.
Answer: C
are the same thing.
7
22) A competitive equilibrium may fail to be Pareto optimal due to all of the following except
A) inequality.
B) externalities.
C) distorting taxes.
D) non-price-taking firms.
Answer: A
are the same thing.
23) An externality is any activity for which an individual firm or consumer does not take into
account all
A) of the ramifications of its actions on others.
B) associated costs.
C) associated benefits.
D) associated costs and benefits.
Answer: D
are the same thing.
24) Which of the following causes the competitive equilibrium to fail to be Pareto optimal?
A) lump sum taxation
B) competitive firms
C) proportional taxes on wages
D) consumers care about the dividends they receive from firms
Answer: C
are the same thing.
8
25) The presence of a distorting tax on wage income can result in
A) MPN < MRT1,C.
B) MRT1,C < MRS1,C.
C) MPN < w.
D) MRS1,C < MPN
Answer: D
are the same thing.
Difficulty: easy
26) An increase in government spending shifts the PPF

A) upward, but does not change its slope.
B) upward, and also changes its slope.
C) downward, but does not change its slope.
D) downward, and also changes its slope.
Answer: C
LO: 5.3 Analyze and interpret the effects of changes in exogenous variables in the CEOP model.
27) An increase in government spending

A) increases consumption, increases hours worked, and increases the real wage.
B) reduces consumption, increases hours worked, and increases the real wage.
C) reduces consumption, increases hours worked, and reduces the real wage.
D) reduces consumption, reduces hours worked, and reduces the real wage.
Answer: C
9
28) Changes in government spending are not likely causes of business cycles because changes in
government spending predict
A) countercyclical real wages.
B) procyclical real wages.
C) countercyclical employment.
D) procyclical employment.
Answer: A
29) Changes in government spending are not likely causes of business cycles because changes in
government spending predict
A) countercyclical consumption.
B) procyclical consumption.
C) countercyclical employment.
D) procyclical employment.
Answer: A
30) An increase in total factor productivity shifts the PPF

A) upward, but does not change its slope.
B) upward, and also changes its slope.
C) downward, but does not change its slope.
D) downward, and also changes its slope.
Answer: B
Difficulty: easy
10
31) An increase in total factor productivity
A) increases consumption, increases output, and increases the real wage.
B) reduces consumption, increases output, and increases the real wage.
C) reduces consumption, increases output and reduces the real wage.
D) reduces consumption, reduces output, and reduces the real wage.
Answer: A
LO: 5.4: Decompose the effects of an increase in total factor productivity in the CEOP model
into income and substitution effects.
32) In response to an increase in total factor productivity

A) both the substitution effect and the income effect suggest that hours worked should increase.
B) the substitution effect suggests that hours worked should increase, while the income effect
suggests that hours worked should decrease.
C) the substitution effect suggests that hours worked should decrease, while the income effect
suggests that hours worked should increase.
D) both the substitution effect and the income effect suggest that hours worked should decrease.
Answer: B
33) Changes in total factor productivity are plausible causes of business cycles because
productivity-induced business cycles correctly predict
A) real wages and total hours must be procyclical.
B) real wages and consumption must be procyclical.
C) total hours worked and consumption must be procyclical.
D) consumption and government spending must be procyclical.
Answer: B
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34) Real business cycle theory argues that the primary cause of business cycles is fluctuations in
A) preferences.
B) government spending.
C) the importance of externalities.
D) total factor productivity.
Answer: D
35) The variable G considered in the model encompasses

A) government expenses on goods.
B) government expenses on goods and services.
C) government expenses on goods and services as well as transfers.
D) government expenses on goods and services as well as transfers and public debt service.
Answer: B
Difficulty: easy
36) If the government replaces a lump sum tax with a proportional labor income tax, then
A) employment and output increase.
B) employment increases and output decreases.
C) employment decreases and output increases.
D) employment and output decrease.
Answer: D
LO: 5.5: Analyze the effects of a distorting labor income tax in the simplified CEOP model.
37) Proportional income taxation is distorting because

A) people do all they can to avoid paying taxes.
B) the competitive equilibrium is not Pareto optimal.
C) firms do all they can to avoid paying taxes.
D) the government budget constraint does not hold.
Answer: B
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38) How does an increase in the proportional labor income tax modify the consumer's budget
constraint?
A) a parallel move up
B) a parallel move down
C) the slope decreases (constraint gets steeper)
D) the slope increases (constraint gets flatter)
Answer: D
39) At the competitive equilibrium with a positive proportional labor income tax
A) the real wage after tax exceeds the marginal product of labor.
B) the real wage after tax equals the marginal product of labor.
C) the real wage after tax is lower than the marginal product of labor.
D) We cannot say.
Answer: C
40) The tax base is

A) the average tax rate.
B) the tax rate for the base year.
C) the object being taxed.
D) the lowest tax rate.
Answer: C
Difficulty: easy
41) When the tax rate increases, the tax revenue

A) always increases.
B) does not change.
C) always decreases.
D) may increase or decrease.
Answer: D
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42) If, with proportional taxes on labor income, there is an equilibrium with a high tax rate, and
an equilibrium with a low tax rate,
A) the economy cannot function.
B) the government should always choose the lower tax rate, as this makes the consumer better
off.
C) the government should always choose the higher tax rate, as this makes the consumer better
off.
D) it is irrelevant what tax rate the government chooses.
Answer: D
43) In the model of public goods

A) government spending is pure waste.
B) private consumption and government spending are equal.
C) consumers benefit from private goods and public goods.
D) the government provides goods at no cost to the public.
Answer: C
LO: 5.6: Analyze the determinants of the size of government and private consumption.
44) In the model of public goods, when the government chooses public goods provision
optimally
A) there is no public goods production.
B) public goods are provided in an amount equal to private goods.
C) the marginal rate of substitution of private goods for public goods equals the marginal rate of
transformation.
D) GDP is maximized.
Answer: C
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45) If GDP increases in the model of public goods
A) people are richer, so they need less public goods.
B) there is substitution from private goods to public goods.
C) if the government provides public goods optimally, public and private goods production both
increase.
D) all of the increase in GDP goes into public goods.
Answer: C
Difficulty: easy
5.2 True/False Questions
1) True or False: In the one-period model, consumption is exogenous.

Answer: FALSE
2) True or False: In the one-period model, consumers and firms optimize given prices.
Answer: TRUE
3) True or False: In the one-period model, the income-expenditure identity does not hold in
equilibrium.
Answer: FALSE
4) True or False: In the one-period model, externalities imply that the competitive equilibrium is
not Pareto optimal.
Answer: FALSE
are the same thing.
15
5) True or False: In the one-period model, the marginal rate of substitution of leisure for
consumption is equal to the marginal product of labor at the Pareto optimum.
Answer: TRUE
are the same thing.
Difficulty: easy
6) True or False: If taxes distort, this can cause the first welfare theorem to fail.
Answer: TRUE
are the same thing.
7) True or False: In the one-period model, a decrease in government spending causes

consumption to fall.
Answer: FALSE
8) True or False: In the one-period model, an increase in government spending reduces the real
wage.
Answer: TRUE
9) True or False: In the one-period model, a decrease in government spending causes the
representative consumer to work harder.
Answer: FALSE
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10) True or False: In the one-period model, when total factor productivity declines, consumption
may increase or decrease, due to opposing income and substitution effects.
Answer: FALSE
Difficulty: easy
11) True or False: In the one-period model, to determine the income effect, we need to first
determine the substitution effect, which is a movement along an indifference curve in response to
a change in the slope of the production possibilities frontier.
Answer: TRUE
12) True or False: In the one-period model, if government spending falls, the substitution effect
is for the consumer to choose more consumption goods and less leisure.
Answer: FALSE
13) True or False: In the one-period model, if total factor productivity declines there is a positive
income effect on consumption and on leisure.
Answer: FALSE
14) True or False: In the simplified one period model with a distorting tax on wage income, there
is always only one equilibrium.
Answer: FALSE
17
15) True or False: In the simplified one period model with a distorting tax on wage income, the
Laffer curve describes how government tax revenue depends on the income tax rate.
Answer: TRUE
Difficulty: easy
16) True or False: In the simplified one period model with a distorting tax on wage income, an
equilibrium with a lower tax rate always implies higher welfare than a high-tax-rate equilibrium.
Answer: TRUE
17) True or False: In the simplified one period model with a distorting tax on wage income, the
competitive equilibrium is Pareto optimal.
Answer: FALSE
18) True or False: In the model of public goods, the government does not act in the interest of
private consumers.
Answer: FALSE
19) True or False: In the model of public goods, an increase in real GDP causes government
spending to increase.
Answer: TRUE
20) True or False: In the model of public goods, if the government becomes less efficient, private
consumption will certainly increase.
Answer: FALSE
Difficulty: easy
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5.3 Essay Questions
1) In the one period model, list the requirements for a competitive equilibrium, and explain why
each is important.
Answer: In a competitive equilibrium, the consumer consumption and leisure optimally given
the market real wage and dividend income, and the firm maximizes profits given the market
wage by choosing the quantity of labor input. In equilibrium, at the market real wage the
consumer is willing to supply the quantity of labor that the consumer demands. Optimization
assures that everyone in this economy is doing the best they can given their constraints, while
market-clearing assures that those decisions are consistent. In a competitive equilibrium all
economic agents are price-takers who treat market prices as given.
2) List three reasons why a competitive equilibrium could fail to be equilibrium, and briefly
explain why in each case.
Answer: First, a competitive equilibrium could fail to be Pareto optimal because of externalities.
For example, pollution is a negative externality which could result in too much production of
pollution-causing products in a competitive equilibrium relative to the Pareto optimum. Second,
distorting taxes can lead to a situation where, for example, the marginal rate of substitution of
two goods is not equal to their marginal rate of transformation, so Pareto optimality fails. Third,
there may be monopoly power, in which case a firm with monopoly power will tend to produce
to little compared to the Pareto optimum.
are the same thing.
Difficulty: easy
3) Explain how crowding out works, using the one-period model as an example.
Answer: In the one-period model, if government spending increases, this leads to a decrease in
consumption and leisure, and an increase in real GDP. The reduction in consumption, which
works through a negative income effect is crowding out. That is, government spending partially
crowds out private spending.
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4) Suppose, in the one period model, that there is a decrease in government spending, and that
government spending is also productive, so that this also works as a decline in total factor
productivity. Explain what the effect is on employment, and explain why we get this effect.
Answer: If there were only a decrease in government spending, without the effect on
productivity, then leisure would fall, due to the pure income effect, so employment would
increase. If there were only a decrease in total factor productivity, the effect on employment
would be ambiguous, due to opposing income and substitution effects. The negative income
effect makes employment go up, but the substitution effect makes employment go down. Thus,
on net the effect on employment is ambiguous.
5) Explain why, in the one-period model, a decrease in total factor productivity has income and
substitution effects.
Answer: In determining the effect of a decrease in TFP, we treat the production possibilities
frontier (PPF) like the budget constraint for an individual consumer, in solving the problem. A
decrease in TFP shifts the PPF in, which is a negative income effect for the consumer, which
reduces consumption and leisure for the consumer, since both are normal goods. But, the PPF
also becomes less steep, which is effectively like making leisure cheaper relative to consumption
goods. This causes substitution from consumption to leisure.
Difficulty: easy
6) If total factor productivity rises in the one-period model, explain what happens to the real
wage in equilibrium, and why.
Answer: The increase in TFP shifts the production possibilities frontier (PPF) out, and makes it
steeper. There is an income effect, that increases consumption and leisure, and the substitution
effect causes leisure to decrease and consumption to increase. So, consumption must rise, but
leisure may rise or fall. The substitution effect is a movement along an indifference curve from
the initial equilibrium point, up the indifference curve — the indifference curve becomes steeper.
The income effect results in a movement down the new PPF — the PPF gets steeper. Thus, the
indifference curve that is tangent to the PPF at the new equilibrium point must be steeper than
the indifference curve tangent to the initial PPF at the initial equilibrium point. Therefore the real
wage must increase.
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7) Explain what the Laffer curve is, and what its practical importance is.
Answer: The Laffer curve describes the revenue that can be collected as a function of the tax
rate. In the case of the simplified one period model with a distorting tax on wage income, the tax
is the labor income tax, and the Laffer curve shows the revenue collected as a function of the
labor income tax rate. The curve is increasing and then decreasing, so there can be two tax rates
that generated the same revenue for the government — a high tax rate and a low tax rate. In
principle, the government could be on the bad side of the Laffer curve — the side in which
revenue is a decreasing function of the tax rate. Therefore, if the economy is on the bad side of
the Laffer curve and the tax rate increases, government revenue actually falls.
8) In the simplified one period model with a distorting tax on wage income, explain what the
government would do if it is trying to set the income tax rate so as to make the consumer as well
off as possible.
Answer: In the simplified one period model with a distorting tax on wage income, there can be a
situation in which the government needs to collect a given quantity of revenue to finance
government spending. But there are two tax rates, a high one and a low one, which will both
finance government spending. However, if the government chooses the low tax rate, welfare is
higher for the consumer than if the government chooses the high tax rate. So, the government
always chooses the lower tax rate.
9) In the model of public goods, describe how the government determines public spending, and
explain what happens if the quantity of GDP goes up.
Answer: In the model of public goods, it is assumed that private consumption and public goods
are chosen jointly — effectively income is split between private consumption and public goods
through the political process, in a way that makes the consumer as well off as possible. The
nation then faces a linear production possibilities frontier (PPF). When GDP goes up, this shifts
out the PPF, implying a pure income effect. Private consumption and public goods both go up, so
a country with higher GDP will tend to have a larger government. Whether public goods increase
more or less than in proportion to the increase in income depends on whether or not public goods
are luxury goods.
21
10) In the model of public goods, explain what happens if public goods and private consumption
are perfect substitutes for the consumer, and if more than one unit of private consumption must
be sacrificed if one more unit of public goods is to be produced.
Answer: This implies that indifference curves are straight lines, and that the production
possibilities frontier is steeper than are the indifference curves. Therefore, in equilibrium private
consumption will equal income and no public goods will be produced, as this would be
inefficient.
22

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Solution Manual for Macroeconomics 6th Edition

Williamson 013447211X 9780134472119

Solution manual: https://testbankpack.com/p/solution-manual-for-macroeconomics-6th-

Test bank: https://testbankpack.com/p/test-bank-for-macroeconomics-6th-edition-williamson-

5.1 Multiple-Choice Questions

2) An economy that engages in international trade is called

3) In an economic model, an exogenous variable is

5) In the one-period model,

7) Fiscal policy encompasses all of the following except

12) The production possibilities frontier represents

13) The PPF determines

14) PPF is the

16) A competitive equilibrium has all of the following properties except

17) A Pareto optimum is a point that

19) The first fundamental theorem of welfare economics states that

20) The concept of Pareto optimality is a

21) A competitive equilibrium

26) An increase in government spending shifts the PPF

27) An increase in government spending

30) An increase in total factor productivity shifts the PPF

32) In response to an increase in total factor productivity

35) The variable G considered in the model encompasses

37) Proportional income taxation is distorting because

40) The tax base is

41) When the tax rate increases, the tax revenue

43) In the model of public goods

5.2 True/False Questions

1) True or False: In the one-period model, consumption is exogenous.

7) True or False: In the one-period model, a decrease in government spending causes

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