Principles of Macroeconomics 6th Edition Frank Test Bank 1

Test Bank for Principles of Macroeconomics 6th Edition
Frank Bernanke Antonovics Heffetz 0073518999

9780073518992
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Chapter 05 TestBank - new

Student: ___________________________________________________________________________
1. The measure of the cost of a standard basket of goods and services in any period relative to the cost of the same
basket of goods and services in the base year is called the:
A. consumption cost calculator.
B. consumption production index.
C. consumer production index.
D. consumer price index.
2. The consumer price index for the current year measures the cost of a standard basket in the ______ year relative
to the cost of the same basket in the ______ year.
A. current; base
B. current; current
C. base; index
D. base; current
3. The CPI is a measure of the:

A. real wage.
B. price of a specific good or service.
C. rate of inflation.
D. average level of prices relative to prices in the base year.
4. Suppose that the total expenditures for a typical household in 2010equaled $2,500 per month, while the cost of
purchasing exactly the same items in 2015 was $3,000. If 2010 is the base year, the CPI for 2010 equals:
A. 0.83
B. 1.00
C. 1.20
D. 1.25
5. Suppose that the total expenditures for a typical household in 2010 equaled $5,500 per month, while the cost
of purchasing exactly the same items in 2015 was $6,875. If 2010 is the base year, the CPI for the year 2015
equals:
A. 0.80
B. 1.00
C. 1.20
D. 1.25
6. If the total expenditures of a typical family equaled $35,000 per year in 2010 and the exact same basket of goods
and services cost $40,000 in the year 2015, the family's cost of living:
A. increased by 14 percent.
B. decreased by 12.5 percent.
C. decreased by 14 percent.
D. increased by 12.5 percent.
7. The consumer price index for Planet Econ consists of only two items: books and hamburgers. In 2010, the base
year, the typical consumer purchased 10 books for $25 each and 25 hamburgers for $2 each. In 2015, the typical
consumer purchased 15 books for $30 each and 30 hamburgers for $3 each. The consumer price index for 2015
on Planet Econ equals:
A. 1.00
B. 1.15
C. 1.25
D. 1.45
8. The typical family on the Planet Econ consumes 10 pizzas, 7 pairs of jeans, and 20 gallons of milk. In 2008, pizzas
cost $10 each, jeans cost $40 per pair, and milk cost $3 per gallon. In 2009, the price of pizzas went down to $8
each, while the prices of jeans and milk remained the same. Between 2008 and 2009, a typical family's cost of
living:
A. increased by 4.5 percent.
C. remained the same.
D. decreased by 20 percent.
9. The typical family on the Planet Econ consumes 10 pizzas, 7 pairs of jeans, and 20 gallons of milk. In 2008, pizzas
cost $10 each, jeans cost $40 per pair, and milk cost $3 per gallon. In 2009, the price of pizzas increased to $14
each, while the price of jeans and milk remained the same. Between 2008 and 2009, a typical family's cost of
living:
B. decreased by 9 percent.
D. increased by 40 percent.
10. If the consumer price index increased from 1.52 to 1.65, then it must be the case that ______ relative to prices in
the base year.
A. all prices rose
B. the weighted average level of prices rose
C. all prices fell
D. some prices rose and some prices fell
11. The consumer price index measures the cost of:

A. a fixed basket of goods and services.
B. a changing basket of goods and services.
C. all goods and services purchased by consumers.
D. goods and services required to live above the poverty level.
12.
A consumer expenditure survey reports the following information on consumer protein spending:
Using 2005 as the base year, by how much does a "cost of protein" index increase between 2005 and 2006?
A. 5.2 percent
B. 8.6 percent
C. 13.4 percent
D. 14.3 percent
13.
A consumer expenditure survey reports the following information on entertainment spending:
2008 2009
Price Quantity Price Quantity
Movies $7 5 $8 7
Concerts $30 2 $35 2
CDs $16 7 $15 10
Using 2008 as the base year, by how much does a "cost of entertainment" index increase between 2008
and 2009?
A. 3.9 percent
B. 8.6 percent
C. 13.4 percent
D. 29.4 percent
14. A CPI that equals 1.34 in 2008 (when 2000 is the base year) means that:
A. prices in 2008 are 34 percent higher than in 2007.
B. the CPI equals $1.34 in 2008.
C. the inflation rate in 2008 is 134 percent.
D. the average level of prices is 34 percent higher in 2008 than in the base year.
15. A measure of the average price of a given class of goods or services relative to the price of the same goods and
services in a base year is called a:
A. real price.
B. real quantity.
D. price index.
16. A price index measures:

A. the price of specific good or service.
B. the change in the price of a specific good or service.
C. only the prices that change.
D. the average price of a given class of goods or services relative to the price of the same goods and services in a
base year.
17. The annual percentage rate of change in the price level is the:
A. relative price.
B. Fisher effect.
C. cost of living.
D. inflation rate.
18. The inflation rate can be calculated as the percentage change in:
A. real GDP.
B. nominal GDP.
C. the CPI.
D. the exchange rate.
19. The CPI in year one equaled 1.45. The CPI in year two equaled 1.51. The rate of inflation between years one and
two was ______ percent.
A. 4.0
B. 4.1
C. 4.5
D. 6.0
20. The CPI in 1974 equaled 0.49. The CPI in 1975 equaled 0.54. The rate of inflation between 1974 and 1975 was
______ percent.
A. 5.0
B. 5.4
C. 9.3
D. 10.2
21. Inflation is a measure of the ______ of prices; the CPI is a measure of the ______ of prices.
A. current level; rate of change in the level
B. rate of change in the level; current level
C. index; base year’s level
D. base year’s level; index
22. The ______ is the rate of change of the _______.

A. base year price index; current year price index
B. current year price index; base year price index
C. CPI; rate of inflation
D. rate of inflation; CPI
23. In 1929, the CPI equaled 0.171 and in 1930, the CPI equaled 0.167. These data provide evidence of a period
of:
A. inflation.
B. deflation.
C. trade deficit.
D. expansion.
24. If the CPI equaled 1.43 in 2008and 1.56 in 2009, then between 2008 and 2009 there was:
A. inflation.
B. deflation
C. a recession
D. an expansion
______ percent.
A. -13.3
B. -11.8
C. 1.5
D. 11.8
______ percent.
A. -7.1
B. -6.7
C. 1.4
D. 6.7
27. Deflation is a situation in which the:

A. quantity of goods and services produced is increasing over time.
B. quantity of goods and services produced is decreasing over time.
C. prices of most goods and services are falling over time.
D. prices of most goods and services are rising over time.
28. The situation when the price of most goods and services are falling over time is called:
A. inflation.
B. disinflation.
C. a boom.
D. deflation.
29. The ______ is the rate of increase of all prices except ______.
A. real rate of inflation; energy and food
B. core rate of inflation; energy and food
C. nominal rate of inflation; labor
D. core rate of inflation; interest rates
30. The core rate of inflation excludes food and energy prices because:
A. these prices don’t change very frequently.
B. these prices are most frequently responsible for short-run fluctuations in the inflation rate.
C. consumers do not directly face these prices.
D. these prices do not matter to policymakers.
31. Over time, the core rate of inflation should be ______ than the general rate of inflation.
A. more stable
B. less stable
C. higher
D. less meaningful
32. A nominal value is measured:

A. in physical terms.
B. in terms of current dollar value.
C. using the consumer price index.
D. by indexing.
33. A measurement in terms of current dollar value is called a(n) ______ quantity.
A. nominal
B. real
C. deflated
D. indexed
34. Which of the following is a nominal quantity?

A. The number of people unemployed
B. The current price of a barrel of oil
C. The number of cars produced in 2005
D. The amount of coal mined in one month
35. Which of the following is a real quantity?

A. The current wages paid to factory workers
B. The cost of a new car
C. The number of tons of steel produced in 2005
D. The current price of a barrel of oil
36. A real quantity is a quantity measured:

C. by the average quantity.
D. using real prices.
37. All of the following are real quantities except the:

A. number of new cars produced in one year.
B. tons of steel shipped to South America.
C. millions of computer chips shipped to computer makers.
D. billions of dollars invested in stocks.
38. To correct a nominal quantity for changes in the price level, one should:
A. add a price index to it.
B. subtract a price index from it.
C. divide it by a price index.
D. multiply it by a price index.
39. To compare the purchasing power of nominal wages in two different years, one must:
A. compare the nominal values.
B. deflate both quantities by a common price index.
C. increase both quantities by the same percentage increase in a price index.
D. adjust both quantities by the real interest rate.
40. The price of a gallon of gasoline at the pump increased by 10 percent at the same time that the inflation rate was 5
percent. The nominal price of gasoline _____, and the real price of gasoline _____.
A. increased; also increased
B. increased; decreased
C. increased; did not change
D. decreased; increased
41. The price of a gallon of gasoline at the pump increased by 10 percent at the same time that the inflation rate was
15 percent. The nominal price of gasoline _____, and the real price of gasoline _____.
also 5 percent. The nominal price of gasoline _____, and the real price of gasoline _____.
A. did not change; increased
B. did not change; did not change
D. increased; decreased
43. If the CPI equaled 1.00 in 1995 and 1.65 in 2005 and a typical household's income equaled $35,000 in 1995 and
$40,000 in 2005, then between 1995 and 2005, real household income:
A. increased.
B. decreased.
C. was constant.
D. may have either increased or decreased.
44. A college graduate in 1972 found a job paying $7,200. The CPI was 0.418 in 1972. A college graduate in 2005
found a job paying $30,000. The CPI was 1.68 in 2005. The 1972 graduate's job paid ______ in nominal terms and
______ in real terms than the 2005 graduate's job.
A. more; less
B. more; more
C. less; more
D. less, less
found a job paying $28,000. The CPI was 1.68 in 2005. The 1972 graduate's job paid ______ in nominal terms and
______ in real terms than the 2005 graduate's job.
A. more; less
B. more; more
C. less; more
D. less, less
46. One family earned an income of $28,000 in 1990. Over the next five years, their income increased by 15%, while the
CPI increased by 12%. After five years, this family's nominal income ______, and their real income ______.
A. decreased; also decreased
B. decreased; increased
D. increased; also increased
47. One family earned an income of $28,000 in 1990. Over the next five years, their income increased by 15%, while the
CPI increased by 15%. After five years, this family's nominal income ______, and their real income ______.
48. A year's tuition at a state university cost $250 in 1972 when the CPI equaled 0.418. The cost of a year's tuition at
the same state university cost $3,000 in 2005 when the CPI equaled 1.68. The real cost of tuition between 1972
and 2005:
A. increased.
B. decreased.
C. remained constant.
49. The price of a gallon of gasoline was $0.35 in 1972 when the CPI equaled 0.418. The cost of a gallon of gasoline
was $2.25 in 2005 when the CPI equaled 1.68. The real cost of a gallon of gasoline between 1972 and 2005:
A. increased.
B. decreased.
50. The wage paid to workers measured in terms of real purchasing power is called the:
A. nominal wage.
B. cost of living.
C. minimum wage.
D. real wage.
51. The real wage is the wage:

A. measured in current dollars.
B. required to maintain a minimum standard of living.
C. employers are required to pay workers.
D. measured in terms of purchasing power.
52. If workers received a 5 percent wage increase and the rate of inflation was 10 percent, then their real wage:
A. increased.
B. decreased.
D. equaled the nominal wage.
A. increased.
B. decreased.
54. A report indicated that the average real wage in manufacturing declined by 2% between 1990 and 2000. If the
CPI equaled 1.30 in 1990, 1.69 in 2000, and the average nominal wage in manufacturing was $35 in 2000, what
was the average nominal wage in manufacturing in 1990?
A. $21.13
B. $26.40
C. $26.92
D. $27.47
55. A factory worker earned $10 an hour in 1980. The CPI was 0.82 in 1980. The same factory worker was earning
$15 an hour in 1990 when the CPI was 1.31. From 1980 to 1990, the factory worker's hourly real wage:
A. increased from $7.63 to $18.29.
B. decreased from $12.20 to $11.45.
D. increased from $10 to $15
56. The practice of increasing a nominal quantity each period by an amount equal to the percentage increase in a
specified price index is called:
A. a substitution bias.
B. the Fisher effect.
C. deflating.
D. indexing.
57. Indexing is the process of:

A. dividing a real quantity by a price index.
B. dividing a nominal quantity by a price index.
C. increasing a nominal quantity by an amount equal to the percentage change in a price index.
D. increasing a real quantity by an amount equal to the percentage change in a price index.
58. To ensure that your salary maintains its real purchasing power from year to year, your nominal salary must be:
A. deflated.
B. indexed.
C. aggregated.
D. hyperinflated.
59. If you wish to maintain a constant purchasing power when you retire, you should choose retirement income options
that are:
A. deflated.
B. nominal.
C. indexed.
D. inflated.
60. Because the minimum wage is not indexed to inflation, when there is inflation the nominal minimum wage _____,
and the real minimum wage _____.
A. remains constant; decreases
B. remains constant; remains constant
C. decreases; remains constant
D. increases; decreases
61. The CPI equals 1.00 in year one and 1.15 in year two. If the nominal wage is $15 in year one and a contract calls
for the wage to be indexed to the CPI, what will be the nominal wage in year two?
A. $15.00
B. $16.15
C. $17.25
D. $22.50
62. A labor contract provides for a first-year wage of $10 per hour, and specifies that the real wage will rise by 3
percent in the second year of the contract. The CPI is 1.00 in the first year and 1.07 in the second year. What
dollar wage must be paid in the second year?
A. $10.30
B. $10.70
C. $10.90
D. $11.02
A. $15.30
B. $16.09
C. $16.45
D. $16.68
percent in the second year of the contract and by another 3 percent in the third year. The CPI is 1.00 in the
first year, 1.07 in the second year, and 1.15 in the third year. What dollar wage must be paid in the third year?
A. $10.61
B. $11.15
C. $12.20
D. $12.31
65. To ensure that a nominal payment represents a constant level of purchasing power over time, one should:
A.
add the price index to it.
B.
subtract the price index from it.
C. divide it by the price index.

D. increase it by a percentage equal to the rate of inflation for that year.
66. Two methods used to adjust nominal values for inflation are:
A. substituting and complementing.
B. indexing and deflating.
C. aggregating and disaggregating.
D. real and nominal.
67. The Boskin Commission found that the CPI ______ the true inflation rate.
A. is independent of
B. understates
C. precisely measures
D. overstates
68. If the Boskin Commission's conclusion is correct, then the CPI ______ the "true" inflation rate and indexing Social
Security benefits to the CPI is ______ the federal government billions of dollars.
A. understates; costing
B. overstates; costing
C. understates; saving
D. measures; saving
69. If the Boskin Commission's conclusion is correct, then the CPI ______ the "true" inflation and improvements in
living standards over time has been _____.
A. understates; overestimated
B. understates; underestimated
C. overstates; underestimated
D. measures; overestimated
70. If the official CPI inflation rate is 4%, the "true" rate of inflation may be closer to ______ according to the findings of
the Boskin Commission.
A. -4%
B. 0%
C. 2%
D. 6%
71. Suppose the CPI does indeed overstate the inflation rate. When the CPI increases by 5% and household incomes
increase by 5%, we should conclude that real incomes of households have:
A. increased.
B. stayed constant.
C. decreased.
D. increased more slowly than has inflation.
72. When statisticians fail to take into account improvements in the quality of goods and services, the CPI will tend to
______ the rate of inflation.
A. understate
B. precisely measure
C. be unrelated to
D. overstate
73. Suppose manufacturers introduce a new model car to replace a car currently included in the CPI basket. The price
of the new car is 10 percent higher than the discontinued model, but the new car has additional safety features and
amenities. In this situation the CPI will tend to ______ inflation as a result of ______ bias.
A. overstate; substitution
B. understate; quality adjustment
C. accurately measure; substitution
D. overstate; quality adjustment
74. The quality adjustment bias of the CPI refers to the failure of statisticians to:
A. allow for the possibility that consumers switch from products whose prices are rising.
B. allow for the possibility that consumers switch stores at which they shop.
C. take into account improvements in goods and services.
D. take into account price changes in goods and services.
75. Product improvements make it difficult for the statisticians who construct the CPI to distinguish between ______
changes and ______ changes.
A. price; quality
B. quantity; price
C. quantity; quality
D. income; price
76. The substitution bias in the CPI refers to the failure of statisticians to:
D. take into account new products purchased by consumers.
77. When statisticians fail to allow for the possibility that consumers switch from products with rising prices to those
whose prices are stable or falling, the CPI will tend to ______ the rate of inflation.
A. understate
C. be unrelated to
D. overstate
78. Suppose that the price of chicken rises sharply compared to the price of turkey. In response, consumers buy more
turkey and less chicken than they did in the CPI base year. In this situation the CPI will tend to ______ inflation as
a result of ______ bias.
B. understate; substitution
79. Two types of bias that tend to cause the CPI to overstate the "true" rate of inflation are the ______ bias and the
______ bias.
A. substitution; quality adjustment
B. price; quantity
C. aggregation; price
D. quality adjustment; price adjustment
80. The substitution bias in the CPI arises because the CPI:
A. is based on a fixed basket of goods and services.
B. does not adequately allow for improvements in products.
C. measures prices at two different times.
D. understates the "true" rate of inflation.
81. When consumers substitute a cheaper good for a more expensive one, the CPI will ______ the change in the cost
of living.
A. equal
B. understate
C. precisely measure
D. overstate
82. The price level is:

A. the rate of inflation.
B. a measure of overall prices at a particular point in time.
C. the percentage change in a price index such as the CPI.
D. the price of a specific good in comparison to the prices of other goods and services.
83. A relative price is:

84. A measure of overall prices at a particular point in time is called:

A. a relative price.
B. the price level.
C. a real price.
D. inflation.
85. If the price of motel rooms increases by 10% while the prices of other goods and services increase by 5% on
average, the relative price of motel rooms has:
A. increased.
B. decreased by 5%.
C. decreased by 10%.
D. remained constant.
86. If all prices, including the price of beef, increase by 3%, then the relative price of beef has ______ and inflation
_____.
A. increased; has occurred
B. increased; has not occurred
C. remained constant; has occurred
D. remained constant; has not occurred
87. To counteract relative price changes, the government would implement:

A. monetary policy.
B. fiscal policy.
C. polices that affect the supply and demand for a specific good.
D. policies that affect the supply and demand for all goods and services.
88. A change in the average price level is called _____, while a change in the price of a specific good in comparison
with other goods and services is called _______.
A. a quality adjustment; a substitution bias
B. a change in a relative price; inflation
C. inflation; a change in a relative price
D. a price level adjustment; a quality adjustment
89. Suppose the value of the CPI is 1.100 in year one, 1.122 in year two, and 1.133 in year three. Assume also that
the price of computers increases by 3% between year one and year two, and by another 3% between year two
and year three. The price level is increasing, the inflation rate is _______, and the relative price of computers is
_________.
A. decreasing; increasing
B. increasing; increasing
C. decreasing; decreasing
D. increasing; decreasing
_________.
A. increasing; increasing
B. constant; increasing
C. constant; decreasing
_________.
92. ______ is an increase in the price level, while ______ is an increase in the price of one good in comparison to
other goods and services.
A. Inflation; hyperinflation
B. A relative price increase; inflation
C. Hyperinflation; inflation
D. Inflation; a relative price increase
93. Inflation makes it difficult to distinguish relative price changes from changes in the general level of prices.
Consequently, inflation ______ the efficiency of the market system.
A. increases
B. decreases
C. does not change
D. may either increase or decrease
94. Inflation ______ the signals sent by price changes to demanders and suppliers of goods and services.
A. amplifies
B. obscures
C. enhances
D. has no impact on
95. The phenomenon known as ______ occurs when inflation causes people to pay an increasing percentage of their
income in taxes even when their real incomes have not changed.
A. hyperinflation
B. bracket creep
C. the Fisher effect
D. substitution bias
96. To prevent people paying a higher percentage of their income in taxes even when their real incomes have not
changed, Congress:
A. implemented a flat tax.
B. reduced the capital gains tax.
C. indexed the income tax brackets to the CPI.
D. deflated the income tax brackets to the CPI.
97. In Econoland in 2005, people with incomes between $20,000 and $30,000 paid 12% of their income in taxes and
people with incomes between $30,001 and $40,000 paid 15%. In 2005, the CPI in Econoland equaled 1.20, and
it increased to 1.26 in 2006. If the government of Econoland wants to keep households with a given real income
from being pushed up into a higher tax bracket by inflation, the $20,000-to-$30,000 bracket will be changed in
2006to:
A. $15,873-to-$23,810
B. $21,000-to-$31,500
C. $24,000-to-$37,800
D. $25,200-to-$37,800
98. The shoe leather costs of inflation include all of the following except:
A. the lost purchasing power of cash.
B. the extra costs incurred to avoid holding cash.
C. the cost of more frequent trips to the bank.
D. the installation of a new cash management system.
99. The extra costs incurred to avoid holding cash when there is inflation are called the:
A. average costs of inflation.
B. consumer price index costs.
C. external costs.
D. shoe leather costs.
100. Making more frequent, but smaller cash withdrawals from banks ______ the inflation losses from holding cash and
______ the shoe leather costs of inflation.
A. increases; increases
B. increases; reduces
C. reduces; has no impact on
D. reduces; increases
101. Shoe leather costs include the ______ due to the more frequent trips to the bank, the new cash management
systems and the expanded employment in banks that inflation causes.
A. bracket creep and redistribution that occur
B. deflating and indexing that are necessary
C. substitution and price adjustment biases that arise
D. time and effort that are used up
102. As the rate of inflation increases, the increased cost to a consumer of more frequent trips to the bank to make cash
withdrawals represents an increase in the:
A. shoe leather costs of inflation.
B. erosion of the purchasing power of cash.
C. tax distortion generated by inflation.
D. "noise" in the price system.
103. If workers and employers agree to a three-year wage contract under the expectation of 3% inflation, and inflation
turns out to be 5%, then:
A. workers gain and employers gain.
B. workers gain and employers lose.
C. workers lose and employers gain.
D. workers lose and employers lose.
104. Suppose workers and employers agree to a three-year wage contract under the expectation of 3% inflation, but
inflation turns out to be 1%. In this case, ______ lost purchasing power, and ______ gained purchasing power.
A. employers; workers
B. no one; employers
C. workers; employers
D. employers; no one
105. If a borrower and lender agree to an interest rate on a loan when inflation is expected to be 7% and inflation turns
out to be 10% over the life of the loan, then the borrower ______ and the lender ______.
A. gains; gains
B. gains; loses
C. is not affected; gains
D. loses; gains
106. Suppose a borrower and lender agree to an interest rate on a loan when inflation is expected to be 6%. The
borrower would benefit the most if which of the following inflation rates actually occurred?
A. 0%
B. 3%
C. 6%
D. 9%
107. When inflation turns out to be different from what was expected, purchasingpower is ______.
A. destroyed
B. redistributed
C. increased
D. decreased
108. It is difficult to engage in long-term financial planning when inflation is:

A. high and erratic.
B. low and stable.
C. accounted for through indexing.
D. predictable.
109. The real costs of inflation to society include:

A. an increase in the general level of prices.
B. lost purchasing power of income.
C. higher relative prices.
D. interference with long-term planning.
110. The "true" costs of inflation are:

A. higher relative prices.
B. lower relative prices.
C. reduced economic growth and efficiency.
D. a higher overall price level.
111. The "true" costs of inflation to an economy include all of the following except:
A. shoe-leather costs.
B. higher relative prices.
C. noise in the price system.
D. unexpected redistribution of wealth.
112. Inflation reduces economic efficiency because it does each of the following except:
A. Distort incentives through interaction with the tax laws.
B. Obscure information transmitted by prices.
C. Induce people to minimize cash holdings.
D. Change relative prices.
113. An extremely high rate of inflation is called _____.

A. super inflation
B. deflation
C. disinflation
D. hyperinflation
114. Hyperinflation is:

A. frequently experienced in the United States.
B. very erratic inflation.
C. an extremely high rate of inflation.
D. an extremely low rate of inflation.
115. An inflation rate of over 500 percent per year would be classified as:
A. relative inflation.
B. deflation.
C. inflation.
D. hyperinflation.
116. The real interest rate is the:

A. market interest rate.
B. annual percentage increase in the nominal value of a financial asset.
C. annual percentage increase in the purchasing power of a financial asset.
D. the interest rate charged on a loan in dollar terms.
117. The nominal interest rate is the:
A. annual percentage increase in the dollar value of a financial asset.
B. annual percentage increase in the purchasing power of a financial asset.
C. real rate of return on an asset.
D. the real interest rate minus the inflation rate.
118. The annual increase in the dollar value of a financial asset is called the:
A. real rate of return.
B. inflation rate.
C. real interest rate.
D. nominal interest rate.
119. If the real interest rate is 3% and the inflation rate is 7%, then the nominal interest rate equals:
A. 3%.
B. 4%.
C. 7%.
D. 10%
120. If the nominal interest rate is 10% and the inflation rate is 3%, then the real interest rate equals:
A. 3%
B. 7%
C. 10%
D. 13%
121. If the nominal interest rate is 8% and the real interest rate is 3%, then the inflation rate equals:
A. 3%
B. 5%
C. 8%
D. 11%
122. The nominal interest rate equals the:

A. real interest rate minus the inflation rate.
B. real interest rate plus the inflation rate.
C. real interest rate divided by the inflation rate.
D. inflation rate minus the real interest rate.
123. The real interest rate equals the:

A. nominal interest rate plus the inflation rate.
B. nominal interest rate minus the inflation rate.
C. inflation rate minus the nominal interest rate.
D. inflation rate times the nominal interest rate.
124. The market interest rate in Alpha is 7%, and the market interest rate in Beta is 10%; the inflation rate in Alpha is
3%, and inflation rate in Beta is 8%. Which of the following statements is true?
A. The real interest rate is higher in Alpha, but the nominal interest rate is higher in Beta.
B. The real interest rate is higher in Beta, but the nominal interest rate is higher in Alpha.
C. Both the real and nominal interest rates are higher in Alpha.
D. Both the real and nominal interest rates are higher in Beta.
125. On January 1, 2008, Anna invested $5,000 at 5% interest for one year. The CPI on January 1, 2009 stood at 1.60.
On January 1, 2009, the CPI was 1.68. The real rate of interest earned by Anna was ______ percent.
A. -5
B. 0
C. 5
D. 8
126. On January 1, 2008, Edward invested $10,000 at 5% interest for one year. The CPI on January 1, 2008 stood at
1.60. On January 1, 2009, the CPI was 1.76. The real rate of interest earned by Edward was ______ percent.
A. -5
B. 0
C. 5
D. 10
127. Samantha is lending Jack $1,000 for one year. The CPI is 1.60 at the time the loan is made, and they both expect
it to be 1.68 in one year. If Samantha and Jack agree that Samantha should earn a 3% real return for the year, the
nominal interest rate on this loan should be ______ percent.
A. 3
B. 5
C. 8
D. 11
128. Marge is lending Martin $1,000 for one year. The CPI is 1.60 at the time the loan is made. They expect it to be 1.76
in one year. If Marge and Martin agree that Marge should earn a 3% real return for the year, the nominal interest
rate on this loan should be ______ percent.
A. 3
B. 7
C. 13
D. 16
129. If the bank agrees to make a loan at a 7% interest rate and the inflation rate is 3%, then 4% is the ______ rate.
A. nominal interest
B. real interest
C. hyperinflation
D. disinflation
130. If the borrower and lender agree to a loan at 8% when the inflation rate is 3%, then 8% is the ______ interest rate
and 5% is the ______ interest rate.
A. real; nominal
B. nominal; real
C. relative; nominal
D. real; relative
131. For a given nominal interest rate, an unexpectedly high inflation rate ______ the real interest rate.
A. increases
B. decreases
C. has no impact on
132. The real rate of return on holding cash is equal to:

A. the nominal interest rate.
B. the real interest rate.
C. the expected inflation rate.
D. zero minus the inflation rate.
133. If both the lender and borrower agree on an 8% interest rate, both expect a 4% inflation rate, and inflation turns out
to be 4%, then ______ by the inflation.
A. the borrower is hurt and the lender gains
B. the borrower gains and the lender is hurt
C. neither the borrower nor the lender are hurt
D. both the borrower and lender are hurt
134. For a given nominal interest rate, an unexpectedly low inflation rate ______ the real interest rate.
A. increases
B. decreases
C. has no impact on
135. The real rate of return on holding cash ______ inflation is correctly anticipated.
A. is higher when
B. is lower when
C. does not depend on whether
D. equals the nominal interest rate when
136. Unexpectedly high inflation ______ borrowers and ______ lenders.

A. helps; hurts
B. helps; helps
C. hurts; hurts
D. hurts; helps
137. If the annual real interest rate on a 10-year inflation-protected bond equals 1.5 percent and the annual nominal rate
of return on a 10-year bond without inflation protection is 4.2 percent, what average rate of inflation over the ten
years would make holders of inflation-protected bonds and holders of bonds without inflation protection equally well
off?
A. 1.5%
B. 2.7%
C. 4.2%
D. 5.7%
138. If the annual real rate on a 10-year inflation-protected bond equals 1.9 percent and the annual nominal rate of return on
a 10-year bond without inflation protection is 4.4 percent, what average rate of inflation over the ten years would make
holders of inflation-protected bonds and holders of bonds without inflation protection equally well off?
A. 1.9%
B. 2.5%
C. 4.4%
D. 6.3%
139. Assume one investor bought a 10-year inflation-protected bond with a fixed annual real rate of 1.5% and another
investor bought a 10-year bond without inflation protection with a nominal annual return of 4.2%. If inflation over
the 10-year period averaged 3%, which investor earned a higher real return?
A. The investor who purchased the inflation protected bond.
B. The investor who purchased the bond without inflation protection.
C. Both investors earned the same real return.
D. Neither investor earned a positive real return.
140. Assume one investor bought a 10-year inflation-protected bond with a fixed annual real rate of 1.5% and another
investor bought a 10-year bond without inflation protection with a nominal annual return of 4.2%. If inflation over
the 10-year period averaged 2 %, which investor earned a higher real return?
141. An investor purchasing an inflation-protected bond with a fixed annual real return of 1.75 percent will earn a
nominal annual return of ______ percent if the actual inflation rate turns out to be 3.25 percent.
A. 1.50%
B. 1.86%
C. 5.00%
D. 5.69%
142. The nominal return on an inflation-protected bond equals a fixed real return:
A. plus the actual rate of inflation.
B. minus the actual rate of inflation.
C. divided by the price level.
D. plus the expected rate of inflation.
143. Inflation-protected bonds guarantee investors:

A. no real wealth loss in the event of unexpectedly high inflation.
B. above average real returns.
C. a fixed nominal rate of return.
D. an above average rate of inflation.
144. The tendency for nominal interest rates to be high when inflation is high and low when inflation is low is known
as:
A. the consumer price index.
B. deflating.
C. shoe leather costs.
D. the Fisher effect.
145. The Fisher effect is the tendency for ______ interest rates to be ______ when inflation is high.
A. real; high
B. real; low
C. market; low
D. nominal; high
146. To obtain a given real rate of return, lenders must charge a ______ nominal interest rate in the face of increasing
inflation.
A. deflated
B. higher
C. lower
D. constant
Chapter 05 TestBank - new Key
1. The measure of the cost of a standard basket of goods and services in any period relative to the cost of the
same basket of goods and services in the base year is called the:
A. consumption cost calculator.
B. consumption production index.
C. consumer production index.
D. consumer price index.
The consumer price index compares the cost of a standard basket of goods and services in any period
relative to the cost of the same basket of goods and services in the base year.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 01 Easy
Learning Objective: 05-01
Topic: The Consumer Price Index and Inflation
2. The consumer price index for the current year measures the cost of a standard basket in the ______ year
relative to the cost of the same basket in the ______ year.
A. current; base
B. current; current
C. base; index
D. base; current

Blooms: Remember
Difficulty: 01 Easy
3. The CPI is a measure of the:
A. real wage.
B. price of a specific good or service.
D. average level of prices relative to prices in the base year.

Blooms: Remember
Difficulty: 01 Easy
4. Suppose that the total expenditures for a typical household in 2010equaled $2,500 per month, while the cost of
purchasing exactly the same items in 2015 was $3,000. If 2010 is the base year, the CPI for 2010 equals:
A. 0.83
B. 1.00
C. 1.20
D. 1.25
The base year, by definition, has a CPI value equal to 1.00.

Blooms: Understand
Difficulty: 02 Medium
5. Suppose that the total expenditures for a typical household in 2010 equaled $5,500 per month, while the cost
of purchasing exactly the same items in 2015 was $6,875. If 2010 is the base year, the CPI for the year 2015
equals:
A. 0.80
B. 1.00
C. 1.20
D. 1.25
CPI is calculated by taking the current price of the basket and dividing it by the historical price of the basket. In
this case, $6,875/$5,500 = 1.25.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
6. If the total expenditures of a typical family equaled $35,000 per year in 2010 and the exact same basket of
goods and services cost $40,000 in the year 2015, the family's cost of living:
C. decreased by 14 percent.
D. increased by 12.5 percent.
The percentage change in the CPI is computed by taking the current price of the basket divided by the
historic price of the basket and then subtracting 1. In this case, ($40,000/$35,000) - 1 = 0.143, or a 14
percent increase.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
7. The consumer price index for Planet Econ consists of only two items: books and hamburgers. In 2010, the
base year, the typical consumer purchased 10 books for $25 each and 25 hamburgers for $2 each. In 2015,
the typical consumer purchased 15 books for $30 each and 30 hamburgers for $3 each. The consumer price
index for 2015 on Planet Econ equals:
A. 1.00
B. 1.15
C. 1.25
D. 1.45
First, note that in the computation of the CPI, the basket of goods and services is fixed - so the quantities
remain the same as in the base year. The market basket cost in 2010 was (10*$25) + (25* $2) = $300. The
same market basket’scost in 2015 was (10*$30) + (25*$3) = $375, so the consumer price index is 1.25.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
8. The typical family on the Planet Econ consumes 10 pizzas, 7 pairs of jeans, and 20 gallons of milk. In
2008, pizzas cost $10 each, jeans cost $40 per pair, and milk cost $3 per gallon. In 2009, the price of
pizzas went down to $8 each, while the prices of jeans and milk remained the same. Between 2008 and
2009, a typical family's cost of living:
A. increased by 4.5 percent.
D. decreased by 20 percent.
The market basket cost in 2008 was (10*$10) + (7*$40) + (20*$3) = $440. The same market basket’s cost
in 2009 was (10*$8) + (7*$40) + (20*$3) = $420, so the consumer price index is 0.955, or a decrease of 4.5
percent.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
9. The typical family on the Planet Econ consumes 10 pizzas, 7 pairs of jeans, and 20 gallons of milk. In 2008,
pizzas cost $10 each, jeans cost $40 per pair, and milk cost $3 per gallon. In 2009, the price of pizzas
increased to $14 each, while the price of jeans and milk remained the same. Between 2008 and 2009, a
typical family's cost of living:
B. decreased by 9 percent.
D. increased by 40 percent.
The market basket cost in 2008 was (10*$10) + (7*$40) + (20*$3) = $440. The same market basket’s cost in
2009 was (10*$14) + (7*$40) + (20*$3) = $480, so the consumer price index is 1.091, or an increase of 9.1
percent.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
10. If the consumer price index increased from 1.52 to 1.65, then it must be the case that ______ relative to prices
in the base year.
A. all prices rose
B. the weighted average level of prices rose
C. all prices fell
D. some prices rose and some prices fell
It is typical for some prices to rise and some to fall in the same year, but the consumer price index measures
the average price of the entire basket, weighted by the quantity of each item.
Blooms: Understand
11. The consumer price index measures the cost of:
A. a fixed basket of goods and services.
B. a changing basket of goods and services.
C. all goods and services purchased by consumers.
D. goods and services required to live above the poverty level.
In the computation of the Consumer Price Index, the basket of goods and services is fixed.
Blooms: Remember
Difficulty: 01 Easy
12.
A consumer expenditure survey reports the following information on consumer protein spending:
Using 2005 as the base year, by how much does a "cost of protein" index increase between 2005 and 2006?
A. 5.2 percent
B. 8.6 percent
C. 13.4 percent
D. 14.3 percent
First, note that in the computation of the CPI, the basket of goods and services is fixed - so the quantities
remain the same as in the base year. The protein cost in 2005 was (5*$5) + (10*$3) + (7*$6) = $97. Protein
cost in 2006 was (5*$7) + (10*$4) + (7*$5) = $110, so the protein price index is 1.134, or an increase of
13.4 percent.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
13.
A consumer expenditure survey reports the following information on entertainment spending:
2008 2009
Price Quantity Price Quantity
Movies $7 5 $8 7
Concerts $30 2 $35 2
CDs $16 7 $15 10
Using 2008 as the base year, by how much does a "cost of entertainment" index increase between 2008
and 2009?
A. 3.9 percent
B. 8.6 percent
C. 13.4 percent
D. 29.4 percent
The entertainment cost in 2008 was (5*$7) + (2*$30) + (7*$16) = $207. Entertainment cost in 2009 was (5*$8)
+ (2*$35) + (7*$15) = $215, so the entertainment price index is 1.039, or an increase of 3.9 percent.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
14. A CPI that equals 1.34 in 2008 (when 2000 is the base year) means that:
A. prices in 2008 are 34 percent higher than in 2007.
B. the CPI equals $1.34 in 2008.
C. the inflation rate in 2008 is 134 percent.
D. the average level of prices is 34 percent higher in 2008 than in the base year.
A CPI of 1.34 means that prices on average have risen 34 percent since the base year.

Blooms: Understand
15. A measure of the average price of a given class of goods or services relative to the price of the same goods
and services in a base year is called a:
A. real price.
B. real quantity.
D. price index.
This is the definition of "price index."

Blooms: Remember
Difficulty: 01 Easy
16. A price index measures:
A. the price of specific good or service.
B. the change in the price of a specific good or service.
C. only the prices that change.
D. the average price of a given class of goods or services relative to the price of the same goods and services
in a base year.
A price index measures the average price of a given class of goods or services relative to the price of the same
goods.
Blooms: Remember
Difficulty: 01 Easy
17. The annual percentage rate of change in the price level is the:
A. relative price.
B. Fisher effect.
C. cost of living.
D. inflation rate.
The inflation rate is the annual percentage rate of change in the price level.

Blooms: Remember
Difficulty: 01 Easy
18. The inflation rate can be calculated as the percentage change in:
A. real GDP.
B. nominal GDP.
C. the CPI.
D. the exchange rate.
Percent changes in the CPI is the most popular measure of the inflation rate.

Blooms: Remember
Difficulty: 01 Easy
19. The CPI in year one equaled 1.45. The CPI in year two equaled 1.51. The rate of inflation between years one
and two was ______ percent.
A. 4.0
B. 4.1
C. 4.5
D. 6.0
The percentage change in CPI is calculated as: (current price index - historic prices) / historic price index.
In this case: (1.51 - 1.45) / 1.45 = 0.041, or 4.1 percent.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
______ percent.
A. 5.0
B. 5.4
C. 9.3
D. 10.2
In this case:(0.54 - 0.49) / 0.49 = 0.102, or 10.2 percent.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
21. Inflation is a measure of the ______ of prices; the CPI is a measure of the ______ of prices.
A. current level; rate of change in the level
B. rate of change in the level; current level
C. index; base year’s level
D. base year’s level; index
Inflation is a rate of change, whereas the CPI measures a level.
Blooms: Understand
22. The ______ is the rate of change of the _______.
A. base year price index; current year price index
B. current year price index; base year price index
C. CPI; rate of inflation
D. rate of inflation; CPI
The CPI measures how fast prices get from one level to another measured by the CPI.

Blooms: Understand
23. In 1929, the CPI equaled 0.171 and in 1930, the CPI equaled 0.167. These data provide evidence of a period
of:
A. inflation.
B. deflation.
C. trade deficit.
D. expansion.
Over the period 1929 to 1930 the price level fell, which is called "deflation."
Blooms: Understand
24. If the CPI equaled 1.43 in 2008and 1.56 in 2009, then between 2008 and 2009 there was:
A. inflation.
B. deflation
C. a recession
D. an expansion
Inflation occurs when the CPI increases over time.

Blooms: Understand
Difficulty: 01 Easy
______ percent.
A. -13.3
B. -11.8
C. 1.5
D. 11.8
In this case: (0.15 - 0.17) / 0.17 = -0.118, or an 11.8 percent decrease.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
______ percent.
A. -7.1
B. -6.7
C. 1.4
D. 6.7
In this case:(0.14 - 0.15) / 0.15 = -0.667, or a 6.7 percent decrease.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
27. Deflation is a situation in which the:
A. quantity of goods and services produced is increasing over time.
B. quantity of goods and services produced is decreasing over time.
C. prices of most goods and services are falling over time.
D. prices of most goods and services are rising over time.
Deflation occurs when the average price level falls, and this is usually a situation where most goods
and services see falling prices.

Blooms: Remember
Difficulty: 01 Easy
28. The situation when the price of most goods and services are falling over time is called:
A. inflation.
B. disinflation.
C. a boom.
D. deflation.
Deflation occurs when the average price level falls, and this is usually a situation where most goods
and services see falling prices.
Blooms: Understand
29. The ______ is the rate of increase of all prices except ______.
A. real rate of inflation; energy and food
B. core rate of inflation; energy and food
C. nominal rate of inflation; labor
D. core rate of inflation; interest rates
The core rate of inflation is the rate of increase of all prices except energy and food.

Blooms: Remember
30. The core rate of inflation excludes food and energy prices because:
A. these prices don’t change very frequently.
B. these prices are most frequently responsible for short-run fluctuations in the inflation rate.
C. consumers do not directly face these prices.
D. these prices do not matter to policymakers.
Changes in prices of food and energy can come quickly and make inflation hard to measure. The "core rate of
inflation" reduces the effect of these sporadic price changes.

Blooms: Remember
Difficulty: 01 Easy
31. Over time, the core rate of inflation should be ______ than the general rate of inflation.
A. more stable
B. less stable
C. higher
D. less meaningful
The "core rate of inflation" reduces the effect of sporadic food and energy prices and thus makes the inflation
rate more stable.
Blooms: Understand
32. A nominal value is measured:
C. using the consumer price index.
D. by indexing.
A nominal value is measured in terms of current dollar value.
Blooms: Remember
Difficulty: 01 Easy
Topic: Adjusting for Inflation
33. A measurement in terms of current dollar value is called a(n) ______ quantity.
A. nominal
B. real
C. deflated
D. indexed
A nominal value is measured in terms of current dollar value.

Blooms: Remember
Difficulty: 01 Easy
34. Which of the following is a nominal quantity?
A. The number of people unemployed
B. The current price of a barrel of oil
C. The number of cars produced in 2005
D. The amount of coal mined in one month
The value of a barrel of oil changes when the price level changes whereas the others would not change,
as they are not measured in prices.

Blooms: Understand
35. Which of the following is a real quantity?
A. The current wages paid to factory workers
B. The cost of a new car
C. The number of tons of steel produced in 2005
D. The current price of a barrel of oil
Real quantities do not depend on the price level whereas nominal quantities do.

Blooms: Understand
36. A real quantity is a quantity measured:
C. by the average quantity.
D. using real prices.
A real quantity is measured in physical terms.
Blooms: Remember
Difficulty: 01 Easy
37. All of the following are real quantities except the:
A. number of new cars produced in one year.
B. tons of steel shipped to South America.
C. millions of computer chips shipped to computer makers.
D. billions of dollars invested in stocks.
The value of "billions of dollars invested in stocks" depends on the price level whereas the values of the
others do not.
Blooms: Understand
38. To correct a nominal quantity for changes in the price level, one should:
A. add a price index to it.
B. subtract a price index from it.
C. divide it by a price index.
D. multiply it by a price index.
Deflating is the process of dividing a nominal value by a price index to obtain thereal value.

Blooms: Remember
Difficulty: 01 Easy
39. To compare the purchasing power of nominal wages in two different years, one must:
A. compare the nominal values.
B. deflate both quantities by a common price index.
C. increase both quantities by the same percentage increase in a price index.
D. adjust both quantities by the real interest rate.
Deflating is the process of dividing a nominal value by a price index to obtain the real value.

Blooms: Understand
40. The price of a gallon of gasoline at the pump increased by 10 percent at the same time that the inflation rate
was 5 percent. The nominal price of gasoline _____, and the real price of gasoline _____.
The price of gasoline at the pump increased by more than the general level of prices increased, so both
gasoline’s nominal and real price increased.

Blooms: Understand
41. The price of a gallon of gasoline at the pump increased by 10 percent at the same time that the inflation rate
was 15 percent. The nominal price of gasoline _____, and the real price of gasoline _____.
The price of gasoline at the pump increased by less than the general price level, thus while the nominal
price increased, the real price decreased.

Blooms: Understand
also 5 percent. The nominal price of gasoline _____, and the real price of gasoline _____.
A. did not change; increased
B. did not change; did not change
D. increased; decreased
The price of gasoline at the pump increased at the same rate as the general price level, thus while the
nominal price increased, the real price was unchanged.
Blooms: Understand
43. If the CPI equaled 1.00 in 1995 and 1.65 in 2005 and a typical household's income equaled $35,000 in 1995
and $40,000 in 2005, then between 1995 and 2005, real household income:
A. increased.
B. decreased.
C. was constant.
Household real income fell because real income was $35,000 ($35,000 / 1.00) in 1995 and only $24,242
($40,000 / 1.65) in 2005.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
found a job paying $30,000. The CPI was 1.68 in 2005. The 1972 graduate's job paid ______ in nominal terms
and ______ in real terms than the 2005 graduate's job.
A. more; less
B. more; more
C. less; more
D. less, less
The 1972 graduate’s job paid less not only in nominal terms ($7,200 is clearly less than $30,000) but also in
real terms. The real wage for the 1972 graduate was $17,225 ($7,200 / 0.418) compared to $17,857 ($30,000 /
1.68) for the 2005 graduate.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
found a job paying $28,000. The CPI was 1.68 in 2005. The 1972 graduate's job paid ______ in nominal terms
and ______ in real terms than the 2005 graduate's job.
A. more; less
B. more; more
C. less; more
D. less, less
The 1972 graduate’s job paid less in nominal terms ($7,200 is clearly less than $30,000) but more in real terms.
The real wage for the 1972 graduate was $17,225 ($7,200 / 0.418) compared to $16,667 ($28,000 / 1.68) for
the 2005 graduate.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
46. One family earned an income of $28,000 in 1990. Over the next five years, their income increased by 15%, while
the CPI increased by 12%. After five years, this family's nominal income ______, and their real income
______.
The family’s nominal income increased, as it was 15 % higher in 1995. The family’s real income also increased
because their percentage income gains were greater than the percentage price level increases. In other
words, their nominal income grew faster than average prices increasing the purchasing power or real income
of the family.
Blooms: Understand
47. One family earned an income of $28,000 in 1990. Over the next five years, their income increased by 15%, while
the CPI increased by 15%. After five years, this family's nominal income ______, and their real income
______.
The family’s nominal income increased, as it was 15 % higher in 1995. However, the family’s real income did
not change because their nominal income increased by the same percent as the price level. In other words, the
purchasing power or real income of the family did not change.

Blooms: Understand
48. A year's tuition at a state university cost $250 in 1972 when the CPI equaled 0.418. The cost of a year's tuition
at the same state university cost $3,000 in 2005 when the CPI equaled 1.68. The real cost of tuition between
1972 and 2005:
A. increased.
B. decreased.
The real cost of tuition increased from $598 ($250 / 0.418) in 1972 to $1,786 ($3000 / 1.68) in 2005. In other
words the real cost of tuition almost tripled in those 33 years.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
49. The price of a gallon of gasoline was $0.35 in 1972 when the CPI equaled 0.418. The cost of a gallon of
gasoline was $2.25 in 2005 when the CPI equaled 1.68. The real cost of a gallon of gasoline between 1972
and 2005:
A. increased.
B. decreased.
The real cost of gasoline increased from $.84 per gallon ($0.35 / 0.418) in 1972 to $1.34 ($2.25 / 1.68) in 2005.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
50. The wage paid to workers measured in terms of real purchasing power is called the:
A. nominal wage.
B. cost of living.
C. minimum wage.
D. real wage.
The "real wage" is the wage paid to workers measured in terms of real purchasing power.

Blooms: Remember
Difficulty: 01 Easy
51. The real wage is the wage:
A. measured in current dollars.
B. required to maintain a minimum standard of living.
C. employers are required to pay workers.
D. measured in terms of purchasing power.
The real wage identifies the purchasing power of labor earnings.

Blooms: Remember
Difficulty: 01 Easy
A. increased.
B. decreased.
In this case, nominal wages grew less than the inflation rate, so real wages decreased.
Blooms: Understand
A. increased.
B. decreased.
In this case, nominal wages rose faster than the inflation rate, so real wages increased.

Blooms: Understand
54. A report indicated that the average real wage in manufacturing declined by 2% between 1990 and 2000. If the
CPI equaled 1.30 in 1990, 1.69 in 2000, and the average nominal wage in manufacturing was $35 in 2000,
what was the average nominal wage in manufacturing in 1990?
A. $21.13
B. $26.40
C. $26.92
D. $27.47
The real wage in 2000 was $20.71($35/1.69). This real wage is 98 percent, or (0.98), of the real wage in 1990.
So the real wage 2000 = real wage 1990 * 0.98, or 20.71 = real age 1990 * 0.98. We solve for the real wage in
1990, by dividing each side with 0.98: $20.71 / 0.98 = 21.13. Finally we can obtain the nominal wage for 1990
by multiplying the real wage in 1990 with the CPI in 1990: 21.13 * 1.3 = $27.47.
AACSB: Analytic
Blooms: Analyze
Difficulty: 03 Hard
55. A factory worker earned $10 an hour in 1980. The CPI was 0.82 in 1980. The same factory worker was earning
$15 an hour in 1990 when the CPI was 1.31. From 1980 to 1990, the factory worker's hourly real wage:
A. increased from $7.63 to $18.29.
B. decreased from $12.20 to $11.45.
D. increased from $10 to $15
Real hourly wage decreased from $12.20 (i.e., $10/0.82) to $11.45 (i.e., $15/1.31).
AACSB: Analytic
Blooms: Analyze
Difficulty: 03 Hard
56. The practice of increasing a nominal quantity each period by an amount equal to the percentage increase in a
specified price index is called:
A. a substitution bias.
B. the Fisher effect.
C. deflating.
D. indexing.
Indexing is the practice of increasing a nominal quantity each period by an amount equal to the percentage
increase in a specified price index.

Blooms: Remember
Difficulty: 01 Easy
57. Indexing is the process of:
A. dividing a real quantity by a price index.
B. dividing a nominal quantity by a price index.
C. increasing a nominal quantity by an amount equal to the percentage change in a price index.
D. increasing a real quantity by an amount equal to the percentage change in a price index.
Indexing is the practice of increasing a nominal quantity each period by an amount equal to the percentage
increase in a specified price index.

Blooms: Remember
Difficulty: 01 Easy
58. To ensure that your salary maintains its real purchasing power from year to year, your nominal salary must
be:
A. deflated.
B. indexed.
C. aggregated.
D. hyperinflated.
Indexing is the act of increasing nominal amounts by the inflation index to ensure that salaries keep up
with inflation.

Blooms: Understand
59. If you wish to maintain a constant purchasing power when you retire, you should choose retirement income
options that are:
A. deflated.
B. nominal.
C. indexed.
D. inflated.
Indexing keeps wages and prices increasing at the same rate as inflation.

Blooms: Understand
60. Because the minimum wage is not indexed to inflation, when there is inflation the nominal minimum wage
_____, and the real minimum wage _____.
A. remains constant; decreases
B. remains constant; remains constant
C. decreases; remains constant
D. increases; decreases
Income that is not indexed to inflationloses purchasing power over time when inflation occurs. In the case of the
minimum wage, it is constant in nominal terms but decreases in real terms.

Blooms: Understand
61. The CPI equals 1.00 in year one and 1.15 in year two. If the nominal wage is $15 in year one and a contract
calls for the wage to be indexed to the CPI, what will be the nominal wage in year two?
A. $15.00
B. $16.15
C. $17.25
D. $22.50
To find the indexed wage in year two, take the nominal wage in year one and multiply it by the CPI, i.e.,
$15*1.15 = $17.25.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
A. $10.30
B. $10.70
C. $10.90
D. $11.02
To find the indexed wage in year two, the wage that would maintain the purchasing power from the first year,
take the nominal wage in year one and multiply it by the CPI:, $10*1.07 = $10.70. Then, since the contract
calls for an increase in the real wage by 3%, the indexed wage must be increased by 3 percent: $10.70*1.03
= $11.02.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
A. $15.30
B. $16.09
C. $16.45
D. $16.68
To find the indexed wage in year two, the wage that would maintain the purchasing power from the first year,
take the nominal wage in year one and multiply it by the CPI:, $15*1.09 = $16.35. Then, since the contract
calls for an increase in the real wage by 3%, the indexed wage must be increased by 2 percent: $16.35*1.02
= $16.68.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
percent in the second year of the contract and by another 3 percent in the third year. The CPI is 1.00 in the
first year, 1.07 in the second year, and 1.15 in the third year. What dollar wage must be paid in the third year?
A. $10.61
B. $11.15
C. $12.20
D. $12.31
Note that since the first year is also the base year, the real wage and nominal wage are both $10 per hour in
that year. Since the real wage is suppose to increase by 3 percent in the second year, the real wage in year
two must be $10.30 ($10 * 1.03) per hour. Similarly, the real wage should also increase by 3 percent in the third
year, so the real wage in year three must be $10.609 ($10.3 * 1.03) per hour. In order to find the nominal wage
in year three, we must index this real wage to adjust for inflation. The nominal wage in year three must be
$12.20 ($10.609 * 1.15).
AACSB: Analytic
Blooms: Analyze
Difficulty: 03 Hard
65. To ensure that a nominal payment represents a constant level of purchasing power over time, one should:
A.
add the price index to it.
B.
subtract the price index from it.
C. divide it by the price index.

D. increase it by a percentage equal to the rate of inflation for that year.
To keep nominal amounts constant in real terms, increase nominal amounts by the rate of inflation each year.

Blooms: Remember
Difficulty: 01 Easy
66. Two methods used to adjust nominal values for inflation are:
A. substituting and complementing.
B. indexing and deflating.
C. aggregating and disaggregating.
D. real and nominal.
Indexing increases nominal amounts by the rate of inflation each year to maintain a certain real value, while
deflating is the process of obtaining real values from nominal ones.
Blooms: Remember
Difficulty: 01 Easy
67. The Boskin Commission found that the CPI ______ the true inflation rate.
A. is independent of
B. understates
C. precisely measures
D. overstates
The Boskin Commission found that the CPI overstates the true inflation rate because the CPI assumes a fixed
basket of goods and services. In reality, people adjust their basket of goods and services to buy less of those
items whose prices have risen greatly.

Blooms: Remember
Difficulty: 01 Easy
Topic: Does the CPI Measure "True" Inflation?
68. If the Boskin Commission's conclusion is correct, then the CPI ______ the "true" inflation rate and indexing
Social Security benefits to the CPI is ______ the federal government billions of dollars.
A. understates; costing
B. overstates; costing
C. understates; saving
D. measures; saving
If the CPI overstates the "true" inflation rate, anything indexed to the CPI will over-correct for
inflation.This overstating costs the federal government billions of dollars each year.
Blooms: Remember
Difficulty: 01 Easy
69. If the Boskin Commission's conclusion is correct, then the CPI ______ the "true" inflation and improvements in
living standards over time has been _____.
A. understates; overestimated
B. understates; underestimated
C. overstates; underestimated
D. measures; overestimated
The Boskin Commission said the CPI overstates the "true" inflation rate. Since real wages are calculated
by dividing nominal wages by the CPI, then the calculated real wages are too low if the CPI is too high.This
underestimates living standards.

Blooms: Remember
Difficulty: 01 Easy
70. If the official CPI inflation rate is 4%, the "true" rate of inflation may be closer to ______ according to the
findings of the Boskin Commission.
A. -4%
B. 0%
C. 2%
D. 6%
The overstatement of the CPI is about 2 percent according to the BoskinComission. So the "true" inflation
rate would be the inflation rate based on the CPI minus two percent: 4% - 2% = 2%.
Blooms: Understand
71. Suppose the CPI does indeed overstate the inflation rate. When the CPI increases by 5% and household
incomes increase by 5%, we should conclude that real incomes of households have:
A. increased.
B. stayed constant.
C. decreased.
D. increased more slowly than has inflation.
The overstatement of the CPI is about 2 percent according to the BoskinComission. So the "true" inflation rate
would be the inflation rate based on the CPI minus two percent: 5% - 2% = 3%. So if household income
increased by 5%, then incomes have increased more than than the 3% "true" rate of inflation, and real income
has increased.

Blooms: Understand
72. When statisticians fail to take into account improvements in the quality of goods and services, the CPI will tend
to ______ the rate of inflation.
A. understate
C. be unrelated to
D. overstate
It’s hard to correctly factor in improvement to the quality of goods and services. To the extent that quality
improvements are not fully accounted for, the CPI overstates the "true" inflation rate.

Blooms: Remember
Difficulty: 01 Easy
73. Suppose manufacturers introduce a new model car to replace a car currently included in the CPI basket. The
price of the new car is 10 percent higher than the discontinued model, but the new car has additional safety
features and amenities. In this situation the CPI will tend to ______ inflation as a result of ______ bias.
B. understate; quality adjustment
The CPI did not fully reflect the higher quality of the new car, so it overstated the price increase. This
is called "quality adjustment" bias.

Blooms: Understand
74. The quality adjustment bias of the CPI refers to the failure of statisticians to:
D. take into account price changes in goods and services.
The quality adjustment bias of the CPI refers to the failure of statisticians to take into account improvements
in goods and services.

Blooms: Remember
Difficulty: 01 Easy
75. Product improvements make it difficult for the statisticians who construct the CPI to distinguish between ______
changes and ______ changes.
A. price; quality
B. quantity; price
C. quantity; quality
D. income; price
The price index seeks to compare prices of goods and services while keeping the quality of goods and
services constant. But products are always changing and usually changing for the better. It is common for both
prices and quality to go up at the same time.

Blooms: Understand
76. The substitution bias in the CPI refers to the failure of statisticians to:
D. take into account new products purchased by consumers.
When prices rise sharply for a product, consumers shift away from it. Since the CPI uses a fixed basket of goods
and services, this switching between substitute products is often missed, resulting in "substitution bias."

Blooms: Remember
Difficulty: 01 Easy
77. When statisticians fail to allow for the possibility that consumers switch from products with rising prices to those
whose prices are stable or falling, the CPI will tend to ______ the rate of inflation.
A. understate
C. be unrelated to
D. overstate
When prices rise sharply for a product, consumers shift away from it. Since the CPI uses a fixed basket of
goods and services, this switching between substitute products is often missed, resulting in "substitution bias"
and overstatement of the CPI.

Blooms: Remember
Difficulty: 01 Easy
78. Suppose that the price of chicken rises sharply compared to the price of turkey. In response, consumers buy
more turkey and less chicken than they did in the CPI base year. In this situation the CPI will tend to ______
inflation as a result of ______ bias.
B. understate; substitution
When prices rise sharply for a product, consumers shift away from it. Since the CPI uses a fixed basket of
goods and services, this switching between substitute products is often missed, resulting in "substitution bias"
and overstatement of the CPI.
Blooms: Understand
79. Two types of bias that tend to cause the CPI to overstate the "true" rate of inflation are the ______ bias and the
______ bias.
A. substitution; quality adjustment
B. price; quantity
C. aggregation; price
D. quality adjustment; price adjustment
Two reasons for the CPI overstating inflation emphasized by the Boskin report was substitution bias and
quality adjustment bias.
Blooms: Remember
Difficulty: 01 Easy
80. The substitution bias in the CPI arises because the CPI:
A. is based on a fixed basket of goods and services.
B. does not adequately allow for improvements in products.
C. measures prices at two different times.
D. understates the "true" rate of inflation.
The CPI uses a historical market basket of goods so the index will not reflect any substitution that has
occurred and, thus, overstates inflation.

Blooms: Remember
Difficulty: 01 Easy
81. When consumers substitute a cheaper good for a more expensive one, the CPI will ______ the change in the
cost of living.
A. equal
B. understate
C. precisely measure
D. overstate
The CPI uses a historical market basket of goods so the index will not reflect any substitution that has
occurred and, thus, overstates inflation.

Blooms: Remember
Difficulty: 01 Easy
82. The price level is:
The price level is a measure of overall prices at a particular point in time.
Blooms: Remember
Difficulty: 01 Easy
Topic: The Costs of Inflation: Not What You Think
83. A relative price is:
A relative price is the price of a specific good in comparison to the prices of other goods and services.

Blooms: Remember
Difficulty: 01 Easy
84. A measure of overall prices at a particular point in time is called:
A. a relative price.
B. the price level.
C. a real price.
D. inflation.
The price level is a measure of overall prices at a particular point in time.

Blooms: Remember
Difficulty: 01 Easy
85. If the price of motel rooms increases by 10% while the prices of other goods and services increase by 5% on
average, the relative price of motel rooms has:
A. increased.
B. decreased by 5%.
C. decreased by 10%.
D. remained constant.
In this case, motel rooms prices increased by more than other goods and services so the relative price of
motel rooms increased.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
86. If all prices, including the price of beef, increase by 3%, then the relative price of beef has ______ and inflation
_____.
A. increased; has occurred
B. increased; has not occurred
C. remained constant; has occurred
D. remained constant; has not occurred
In this case, the price of beef rose at the same rate as the general price level. Thus the relative price of beef
was constant although inflation occurred at a rate of 3%.

Blooms: Understand
87. To counteract relative price changes, the government would implement:
A. monetary policy.
B. fiscal policy.
C. polices that affect the supply and demand for a specific good.
D. policies that affect the supply and demand for all goods and services.
If the government doesn’t like relative price changes that make a specific good, like milk, more expensive
then the government must use policies that affect the supply and demand for that particular good or service.

Blooms: Remember
Difficulty: 01 Easy
88. A change in the average price level is called _____, while a change in the price of a specific good in
comparison with other goods and services is called _______.
A. a quality adjustment; a substitution bias
B. a change in a relative price; inflation
C. inflation; a change in a relative price
D. a price level adjustment; a quality adjustment
These are the definitions of "inflation" and "changes in relative prices."
Blooms: Understand
_________.
A. decreasing; increasing
B. increasing; increasing
C. decreasing; decreasing
The inflation rate is decreasing because the rate of change is falling from year one to ears two: (1.122 -1.100)
/ 1.122 = 0.02 or 2% versus (1.133 - 1.122) / 1.122 = 0.01 or 1%. The relative price of computers is increasing
because its price change of 3% exceeds inflation rate in both years.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
_________.
The inflation rate is constant because the rate of change is the same in both years: (1.210 - 1.100) / 1.100 = =
0.1 or 10% and (1.331 - 1.210) / 1.210 = 0.1 or 10%. The relative price of computers is decreasing because its
3% rate of price change is less than the inflation rate in both years.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
_________.
The inflation rate is increasing because the rate of change is increasing from year ne to year two: (1.160 -
1.100) / 1.1 = 0.0545or 5.45% and (1.270 - 1.160) / 1.160 = 0.0948 or 9.48%. The relative price of computers is
decreasing because its 3% price change is less thanthe inflation rate in both years.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
92. ______ is an increase in the price level, while ______ is an increase in the price of one good in comparison to
other goods and services.
A. Inflation; hyperinflation
B. A relative price increase; inflation
C. Hyperinflation; inflation
D. Inflation; a relative price increase
This is the definition of both "inflation" and the definition of "relative price increase."

Blooms: Understand
93. Inflation makes it difficult to distinguish relative price changes from changes in the general level of prices.
Consequently, inflation ______ the efficiency of the market system.
A. increases
B. decreases
C. does not change
This may be the biggest problem with price movement: it is hard to distinguish between changes in the general
price level and changes in a specific good’s price.

Blooms: Remember
Difficulty: 01 Easy
Topic: The True Costs of Inflation: Not What You Think
94. Inflation ______ the signals sent by price changes to demanders and suppliers of goods and services.
A. amplifies
B. obscures
C. enhances
D. has no impact on
This may be the biggest problem with price movement: it is hard to distinguish between changes in the general
price level and changes in a specific good’s price.
Blooms: Remember
Difficulty: 01 Easy
95. The phenomenon known as ______ occurs when inflation causes people to pay an increasing percentage of
their income in taxes even when their real incomes have not changed.
A. hyperinflation
B. bracket creep
C. the Fisher effect
D. substitution bias
This is the definition of ‘bracket creep." This was a huge problem in the 1960’s and 1970’s when inflation
rates were high.

Blooms: Remember
Difficulty: 01 Easy
96. To prevent people paying a higher percentage of their income in taxes even when their real incomes have not
changed, Congress:
A. implemented a flat tax.
B. reduced the capital gains tax.
C. indexed the income tax brackets to the CPI.
D. deflated the income tax brackets to the CPI.
Congress indexed income taxes in the 1980’s to prevent "bracket creep."
Blooms: Remember
Difficulty: 01 Easy
97. In Econoland in 2005, people with incomes between $20,000 and $30,000 paid 12% of their income in taxes
and people with incomes between $30,001 and $40,000 paid 15%. In 2005, the CPI in Econoland equaled
1.20, and it increased to 1.26 in 2006. If the government of Econoland wants to keep households with a given
real income from being pushed up into a higher tax bracket by inflation, the $20,000-to-$30,000 bracket will be
changed in 2006to:
A. $15,873-to-$23,810
B. $21,000-to-$31,500
C. $24,000-to-$37,800
D. $25,200-to-$37,800
The inflation rate between 2005 and 2006 was: (1.26 - 1.20) / 1.20 = 0.05 or 5%, so the tax bracket needs to
be adjusted by that amount: $20,000*1.05 = $21,000 and $30,000*1.05 = $31,500.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
98. The shoe leather costs of inflation include all of the following except:
A. the lost purchasing power of cash.
B. the extra costs incurred to avoid holding cash.
C. the cost of more frequent trips to the bank.
D. the installation of a new cash management system.
The "shoe leather" costs of inflation are the inconveniences that occur in dealing with cash during times of
high inflation.
Blooms: Remember
Difficulty: 01 Easy
99. The extra costs incurred to avoid holding cash when there is inflation are called the:
A. average costs of inflation.
B. consumer price index costs.
C. external costs.
D. shoe leather costs.
The extra costs incurred to avoid holding cash when there is inflation are called shoe leather costs.
Blooms: Remember
Difficulty: 01 Easy
100. Making more frequent, but smaller cash withdrawals from banks ______ the inflation losses from holding cash
and ______ the shoe leather costs of inflation.
A. increases; increases
B. increases; reduces
C. reduces; has no impact on
D. reduces; increases
Keeping lower cash balances reduces the loss from inflation but increases the inconvenience of inflation
by requiring more frequent trips to the bank or ATM.

Blooms: Understand
101. Shoe leather costs include the ______ due to the more frequent trips to the bank, the new cash management
systems and the expanded employment in banks that inflation causes.
A. bracket creep and redistribution that occur
B. deflating and indexing that are necessary
C. substitution and price adjustment biases that arise
D. time and effort that are used up
Shoe leather costs are any of the inconveniences people face when they need money for a transaction.

Blooms: Remember
Difficulty: 01 Easy
102. As the rate of inflation increases, the increased cost to a consumer of more frequent trips to the bank to make
cash withdrawals represents an increase in the:
A. shoe leather costs of inflation.
B. erosion of the purchasing power of cash.
C. tax distortion generated by inflation.
D. "noise" in the price system.
Shoe leather costs are any of the inconveniences people face when they need money for a transaction.

Blooms: Remember
Difficulty: 01 Easy
103. If workers and employers agree to a three-year wage contract under the expectation of 3% inflation, and
inflation turns out to be 5%, then:
A. workers gain and employers gain.
B. workers gain and employers lose.
C. workers lose and employers gain.
D. workers lose and employers lose.
Workers lose because their wages just went up 3% per year whereas average prices went up 5%, so their real
incomes fell.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
104. Suppose workers and employers agree to a three-year wage contract under the expectation of 3% inflation,
but inflation turns out to be 1%. In this case, ______ lost purchasing power, and ______ gained purchasing
power.
A. employers; workers
B. no one; employers
C. workers; employers
D. employers; no one
Employers lose because their wage bill went up 3% per year whereas average prices went up 1%, so
employer purchasing power fell. At the same time, the workers saw their purchasing power increase as their
nominal income rose more than average prices.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
105. If a borrower and lender agree to an interest rate on a loan when inflation is expected to be 7% and inflation
turns out to be 10% over the life of the loan, then the borrower ______ and the lender ______.
A. gains; gains
B. gains; loses
C. is not affected; gains
D. loses; gains
In this case, there was unanticipated inflation of 3%. This worked to the advantage of the borrower who paid
back dollars that were less valuable than the two parties expected at the signing of the contract.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
106. Suppose a borrower and lender agree to an interest rate on a loan when inflation is expected to be 6%. The
borrower would benefit the most if which of the following inflation rates actually occurred?
A. 0%
B. 3%
C. 6%
D. 9%
The higher the inflation rate, the more devalued are the dollars the borrow repays.

Blooms: Understand
107. When inflation turns out to be different from what was expected, purchasingpower is ______.
A. destroyed
B. redistributed
C. increased
D. decreased
When unanticipated inflation occurs, an arbitrary redistribution of wealth or purchasing power occurs
because some parties are helped and other parties are hurt by the inflation.
Blooms: Remember
Difficulty: 01 Easy
108. It is difficult to engage in long-term financial planning when inflation is:
A. high and erratic.
B. low and stable.
C. accounted for through indexing.
D. predictable.
The word "erratic" is important here. If inflation is erratic, parties to long-term contracts are uncertain about
the worth of repaid dollars.
Blooms: Remember
Difficulty: 01 Easy
109. The real costs of inflation to society include:
A. an increase in the general level of prices.
B. lost purchasing power of income.
C. higher relative prices.
D. interference with long-term planning.
If inflation is unanticipated, parties to long-term contracts are uncertain about the value of repaid dollars,
so these contracts are sometimes not written. Note that income will only lose purchasing power if it is not
adequately adjusted for inflation.
Blooms: Remember
Difficulty: 01 Easy
110. The "true" costs of inflation are:
A. higher relative prices.
B. lower relative prices.
C. reduced economic growth and efficiency.
D. a higher overall price level.
The "true" costs of inflation include reduced efficiency of the market system as inflation makes it difficult to
distinguish relative price changes from changes in the general level of prices.

Blooms: Remember
Difficulty: 01 Easy
111. The "true" costs of inflation to an economy include all of the following except:
A. shoe-leather costs.
B. higher relative prices.
C. noise in the price system.
D. unexpected redistribution of wealth.
Higher relative prices indicate that a particular good or service has become more scares compared to others.
This phenomenon is not necessarily related to inflation.

Blooms: Remember
Difficulty: 01 Easy
112. Inflation reduces economic efficiency because it does each of the following except:
A. Distort incentives through interaction with the tax laws.
B. Obscure information transmitted by prices.
C. Induce people to minimize cash holdings.
D. Change relative prices.
Higher relative prices indicate that a particular good or service has become more scares compared to others.
This phenomenon is not necessarily related to inflation.
Blooms: Remember
Difficulty: 01 Easy
113. An extremely high rate of inflation is called _____.
A. super inflation
B. deflation
C. disinflation
D. hyperinflation
Hyperinflation is an extremely high rate of inflation.

Blooms: Remember
Difficulty: 01 Easy
114. Hyperinflation is:
A. frequently experienced in the United States.
B. very erratic inflation.
C. an extremely high rate of inflation.
D. an extremely low rate of inflation. Hyperinflation
is an extremely high rate of inflation.

Blooms: Remember
Difficulty: 01 Easy
115. An inflation rate of over 500 percent per year would be classified as:
A. relative inflation.
B. deflation.
C. inflation.
D. hyperinflation.
Very large rates of inflation and breakdown of the currency is called "hyperinflation."

Blooms: Understand
116. The real interest rate is the:
A. market interest rate.
B. annual percentage increase in the nominal value of a financial asset.
C. annual percentage increase in the purchasing power of a financial asset.
D. the interest rate charged on a loan in dollar terms.
The real interest rate is the annual percentage increase in the purchasing power of a financial asset.

Blooms: Remember
Difficulty: 01 Easy
Topic: Inflation and Interest Rates
117. The nominal interest rate is the:
A. annual percentage increase in the dollar value of a financial asset.
B. annual percentage increase in the purchasing power of a financial asset.
C. real rate of return on an asset.
D. the real interest rate minus the inflation rate.
The nominal interest rate is the annual percentage increase in the dollar value of a financial asset.
Blooms: Remember
Difficulty: 01 Easy
118. The annual increase in the dollar value of a financial asset is called the:
A. real rate of return.
B. inflation rate.
C. real interest rate.
D. nominal interest rate.
The nominal interest rate is the annual increase in the dollar values of a financial asset.

Blooms: Remember
Difficulty: 01 Easy
119. If the real interest rate is 3% and the inflation rate is 7%, then the nominal interest rate equals:
A. 3%.
B. 4%.
C. 7%.
D. 10%
The real interest rate = the nominal interest rate - the inflation rate. So to find the nominal interest rate, add the
real interest rate to the inflation rate.
Blooms: Understand
120. If the nominal interest rate is 10% and the inflation rate is 3%, then the real interest rate equals:
A. 3%
B. 7%
C. 10%
D. 13%
The real interest rate = the nominal interest rate - the inflation rate. So to find the real interest rate, subtract
the inflation rate from the nominal interest rate.
Blooms: Understand
121. If the nominal interest rate is 8% and the real interest rate is 3%, then the inflation rate equals:
A. 3%
B. 5%
C. 8%
D. 11%
The real interest rate = the nominal interest rate - the inflation rate. So to find the inflation rate, subtract the real
interest rate from the nominal interest rate.

Blooms: Understand
122. The nominal interest rate equals the:
A. real interest rate minus the inflation rate.
B. real interest rate plus the inflation rate.
C. real interest rate divided by the inflation rate.
D. inflation rate minus the real interest rate.
The real interest rate = the nominal interest rate - the inflation rate. So the equation for nominal interest rate
is: nominal interest rate = real interest rate + inflation rate.
Blooms: Remember
Difficulty: 01 Easy
123. The real interest rate equals the:
A. nominal interest rate plus the inflation rate.
B. nominal interest rate minus the inflation rate.
C. inflation rate minus the nominal interest rate.
D. inflation rate times the nominal interest rate.
The equation is: the real interest rate = the nominal interest rate - the inflation rate.
Blooms: Remember
Difficulty: 01 Easy
124. The market interest rate in Alpha is 7%, and the market interest rate in Beta is 10%; the inflation rate in Alpha is
3%, and inflation rate in Beta is 8%. Which of the following statements is true?
A. The real interest rate is higher in Alpha, but the nominal interest rate is higher in Beta.
B. The real interest rate is higher in Beta, but the nominal interest rate is higher in Alpha.
C. Both the real and nominal interest rates are higher in Alpha.
D. Both the real and nominal interest rates are higher in Beta.
In Alpha, the real interest rate is: 7% - 3% = 4%. In Beta, the real interest rate is: 10% - 8% = 2%. Thus, the real
interest rate is higher in Alpha and the nominal interest rate is higher in Beta.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
125. On January 1, 2008, Anna invested $5,000 at 5% interest for one year. The CPI on January 1, 2009 stood
at 1.60. On January 1, 2009, the CPI was 1.68. The real rate of interest earned by Anna was ______
percent. A. -5
B. 0
C. 5
D. 8
The real rate of interest equals the nominal rate of interest minus inflation. In this case, the real rate was 0%
because the inflation rate was 5% from 2008 to 2009: (1.68 - 1.60) / 1.6 = 0.05 or 5%.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
126. On January 1, 2008, Edward invested $10,000 at 5% interest for one year. The CPI on January 1, 2008
stood at 1.60. On January 1, 2009, the CPI was 1.76. The real rate of interest earned by Edward was ______
percent.
A. -5
B. 0
C. 5
D. 10
The real rate of interest equals the nominal rate of interest minus inflation. In this case, the real rate was -5%
because the inflation rate was 10% from 2008 to 2009: (1.76 - 1.60) / 1.6 = 0.10 or 10%.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
127. Samantha is lending Jack $1,000 for one year. The CPI is 1.60 at the time the loan is made, and they both
expect it to be 1.68 in one year. If Samantha and Jack agree that Samantha should earn a 3% real return for
the year, the nominal interest rate on this loan should be ______ percent.
A. 3
B. 5
C. 8
D. 11
The inflation rate is expected to be 5 percent: (1.68 - 1.60) / 1.6 = 0.05. To achieve a real return of 3%, the
nominal rate has to be 3% higher than the rate of inflation, or 5% + 3% = 8%.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
128. Marge is lending Martin $1,000 for one year. The CPI is 1.60 at the time the loan is made. They expect it to be
1.76 in one year. If Marge and Martin agree that Marge should earn a 3% real return for the year, the nominal
interest rate on this loan should be ______ percent.
A. 3
B. 7
C. 13
D. 16
The inflation rate is expected to be 10%: (1.76 - 1.60) / 1.6 = 0.10 or 10%. To achieve a real return of 3%, the
nominal rate has to be 3% higher than the inflation rate, or 10% + 3% = 13%.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
129. If the bank agrees to make a loan at a 7% interest rate and the inflation rate is 3%, then 4% is the ______
rate.
A. nominal interest
B. real interest
C. hyperinflation
D. disinflation
The nominal rate is 7% and the inflation rate is 3%. The difference between these is the real interest rate of 4%.
Blooms: Understand
130. If the borrower and lender agree to a loan at 8% when the inflation rate is 3%, then 8% is the ______ interest
rate and 5% is the ______ interest rate.
A. real; nominal
B. nominal; real
C. relative; nominal
D. real; relative
The nominal rate is 8% and the inflation rate is 3%, so the real interest rate is 5%.

Blooms: Understand
131. For a given nominal interest rate, an unexpectedly high inflation rate ______ the real interest rate.
A. increases
B. decreases
C. has no impact on
If inflation is higher than expected the real rate of interest decreases, because the real interest rate equals the
nominal interest rate minusthe inflation rate.
Blooms: Remember
Difficulty: 01 Easy
132. The real rate of return on holding cash is equal to:
A. the nominal interest rate.
B. the real interest rate.
C. the expected inflation rate.
D. zero minus the inflation rate.
Cash has a nominal return of 0%. Thus, the real return to holding cash is zero minus the inflation rate.
Blooms: Understand
133. If both the lender and borrower agree on an 8% interest rate, both expect a 4% inflation rate, and inflation turns
out to be 4%, then ______ by the inflation.
A. the borrower is hurt and the lender gains
B. the borrower gains and the lender is hurt
C. neither the borrower nor the lender are hurt
D. both the borrower and lender are hurt
When inflationary expectations are fulfilled, neither the lender nor the borrower is hurt by inflation.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
134. For a given nominal interest rate, an unexpectedly low inflation rate ______ the real interest rate.
A. increases
B. decreases
C. has no impact on
Because the real interest rate equals the nominal interest rate minus the inflation rate, a lower than expected
inflation rate increases the real interest rate. So the lender gets an unexpected bonus.
Blooms: Remember
Difficulty: 01 Easy
135. The real rate of return on holding cash ______ inflation is correctly anticipated.
A. is higher when
B. is lower when
C. does not depend on whether
D. equals the nominal interest rate when
Because the nominal rate of return on holding cash is always zero regardless of the rate of inflation, the real
rate of return does not depend on whether or not inflation is correctly anticipated. Only the actual inflation rate
will impact the real rate of return on holding cash.

Blooms: Understand
136. Unexpectedly high inflation ______ borrowers and ______ lenders.
A. helps; hurts
B. helps; helps
C. hurts; hurts
D. hurts; helps
This is one of the biggest costs of inflation: the transfer of wealth from lenders to borrowers in periods of
unexpectedly high inflation.
Blooms: Remember
Difficulty: 01 Easy
137. If the annual real interest rate on a 10-year inflation-protected bond equals 1.5 percent and the annual
nominal rate of return on a 10-year bond without inflation protection is 4.2 percent, what average rate of
inflation over the ten years would make holders of inflation-protected bonds and holders of bonds without
inflation protection equally well off?
A. 1.5%
B. 2.7%
C. 4.2%
D. 5.7%
To be as well off without inflation protection, one would need a real rate of return of 1.5 percent. This return is
achieved when the nominal rate is 4.2 percent and the annual inflation rate is 2.7 percent,: i.e., 4.2% - 2.7% =
1.5%.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
138. If the annual real rate on a 10-year inflation-protected bond equals 1.9 percent and the annual nominal rate of
return on a 10-year bond without inflation protection is 4.4 percent, what average rate of inflation over the ten
years would make holders of inflation-protected bonds and holders of bonds without inflation protection equally
well off?
A. 1.9%
B. 2.5%
C. 4.4%
D. 6.3%
To be as well off without inflation protection, one would need a real rate of return of 1.9 percent. This return is
achieved when the nominal rate is 4.4 percent and the annual inflation rate is 2.5 percent, i.e., 4.4% - 2.5% =
1.9%.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
139. Assume one investor bought a 10-year inflation-protected bond with a fixed annual real rate of 1.5% and
another investor bought a 10-year bond without inflation protection with a nominal annual return of 4.2%. If
inflation over the 10-year period averaged 3%, which investor earned a higher real return?
The inflation-protected investor earned a real return of 1.5% while the other investor earned a real return of
1.2% because the nominal return of 4.2% was reduced by the annual inflation rate of 3%: $4.2% - 3% = 1.2%.
AACSB: Analytic
Blooms: Understand
140. Assume one investor bought a 10-year inflation-protected bond with a fixed annual real rate of 1.5% and
another investor bought a 10-year bond without inflation protection with a nominal annual return of 4.2%. If
inflation over the 10-year period averaged 2 %, which investor earned a higher real return?
The inflation-protected investor earned a real return of 1.5% while the other investor earned a real return of 2.2%
because the nominal return of 4.2% was reduced by the annual inflation rate of 2%: $4.2% - 2% = 2.2% .

Blooms: Understand
141. An investor purchasing an inflation-protected bond with a fixed annual real return of 1.75 percent will earn a
nominal annual return of ______ percent if the actual inflation rate turns out to be 3.25 percent.
A. 1.50%
B. 1.86%
C. 5.00%
D. 5.69%
The inflation-protected investor earned a real return of 1.75 percent. If the actual inflation rate was 3.25 percent
then the nominal interest rate was 5 percent:, 1.75% + 3.25% = 5%.
AACSB: Analytic
Blooms: Apply
Difficulty: 03 Hard
142. The nominal return on an inflation-protected bond equals a fixed real return:
A. plus the actual rate of inflation.
B. minus the actual rate of inflation.
C. divided by the price level.
D. plus the expected rate of inflation.
The attractive feature of inflation-protected bonds is they add an inflation premium to a known real return.

Blooms: Remember
Difficulty: 01 Easy
143. Inflation-protected bonds guarantee investors:
A. no real wealth loss in the event of unexpectedly high inflation.
B. above average real returns.
C. a fixed nominal rate of return.
D. an above average rate of inflation.
The attractive feature of inflation-protected bonds is they add an inflation premium to a known real return.

Blooms: Remember
Difficulty: 01 Easy
144. The tendency for nominal interest rates to be high when inflation is high and low when inflation is low is known
as:
A. the consumer price index.
B. deflating.
C. shoe leather costs.
D. the Fisher effect.
The Fisher effect is the tendency for nominal interest rate to be high when inflation is high and low
when inflation is low.

Blooms: Remember
Difficulty: 01 Easy
145. The Fisher effect is the tendency for ______ interest rates to be ______ when inflation is high.
A. real; high
B. real; low
C. market; low
D. nominal; high
The Fisher effect is the tendency for nominal interest rate to be high when inflation is high and low
when inflation is low.
Blooms: Remember
Difficulty: 01 Easy
146. To obtain a given real rate of return, lenders must charge a ______ nominal interest rate in the face of
increasing inflation.
A. deflated
B. higher
C. lower
D. constant
This is the result of the "Fisher effect" which says that nominal interest rates in inflation rates move together.
Blooms: Remember
Difficulty: 01 Easy
Chapter 05 TestBank - new Summary
Category # of Questions
AACSB: Analytic 40
AACSB: Reflective Thinking 106
Accessibility: Keyboard Navigation 144
Blooms: Analyze 3
Blooms: Apply 36
Blooms: Remember 64
Blooms: Understand 43
Difficulty: 01 Easy 64
Difficulty: 02 Medium 43
Difficulty: 03 Hard 39
Learning Objective: 05-01 31
Topic: The Consumer Price Index and Inflation 31
Topic: Adjusting for Inflation 35
Topic: Does the CPI Measure "True" Inflation? 15
Topic: Inflation and Interest Rates 31
Topic: The Costs of Inflation: Not What You Think 11
Topic: The True Costs of Inflation: Not What You Think 23

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Test Bank for Principles of Macroeconomics 6th Edition

Frank Bernanke Antonovics Heffetz 0073518999

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Chapter 05 TestBank - new

3. The CPI is a measure of the:

11. The consumer price index measures the cost of:

A consumer expenditure survey reports the following information on entertainment spending:

16. A price index measures:

22. The ______ is the rate of change of the _______.

27. Deflation is a situation in which the:

32. A nominal value is measured:

34. Which of the following is a nominal quantity?

35. Which of the following is a real quantity?

36. A real quantity is a quantity measured:

37. All of the following are real quantities except the:

51. The real wage is the wage:

57. Indexing is the process of:

C. divide it by the price index.

82. The price level is:

83. A relative price is:

84. A measure of overall prices at a particular point in time is called:

87. To counteract relative price changes, the government would implement:

108. It is difficult to engage in long-term financial planning when inflation is:

109. The real costs of inflation to society include:

110. The "true" costs of inflation are:

113. An extremely high rate of inflation is called _____.

114. Hyperinflation is:

116. The real interest rate is the:

122. The nominal interest rate equals the:

123. The real interest rate equals the:

132. The real rate of return on holding cash is equal to:

136. Unexpectedly high inflation ______ borrowers and ______ lenders.

143. Inflation-protected bonds guarantee investors:

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

A consumer expenditure survey reports the following information on entertainment spending:

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

AACSB: Reflective Thinking

C. divide it by the price index.

22. The is the rate of change of the _.

136. Unexpectedly high inflation borrowers and lenders.