Chapter 09

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Testbank Chapter 9: Introduction to Economic to Economic
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Multiple Choice
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Business cycles are:
Answer
regular and predictable.

irregular but predictable.
regular but unpredictable.
irregular and unpredictable.
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Short-run fluctuations in output and employment are called:
Answer
sectoral shifts.
the classical dichotomy.
business cycles.
productivity slowdowns.
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Question
Recessions typically, but not always, include at least ______ consecutive quarters of
declining real GDP.
Answer
two
four
six
eight
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Over the business cycle, investment spending ______ consumption spending.
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Answer
is inversely correlated with

is more volatile than
has about the same volatility as
is less volatile than
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When GDP growth declines, investment spending typically ______ and consumption
spending typically ______.
Answer
increases; increases
increases; decreases
decreases; decreases
decreases; increases
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Question
Okun's law is the ______ relationship between real GDP and the ______.
Answer
negative; unemployment rate

negative; inflation rate
positive; unemployment rate
positive; inflation rate
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The statistical relationship between changes in real GDP and changes in the unemployment
rate is called:
Answer
the Phillips curve.

the Solow residual.
the Fisher effect.
Okun's law.
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Question
The version of Okun's law studied in Chapter 9 assumes that, with no change in
unemployment, real GDP normally grows by 3 percent over a year. If the unemployment rate
rose by 2 percentage points over a year, Okun's law predicts that real GDP would:
Answer
decrease by 1 percent.
increase by 1 percent.
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Question
The version of Okun's law studied in Chapter 9 assumes that, with no change in
unemployment, real GDP normally grows by 3 percent over a year. If the unemployment rate
fell by 1 percentage point over a year, Okun's law predicts that real GDP would:
Answer
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Question
Long-run growth in real GDP is determined primarily by ______, while short-run movements
in real GDP are associated with ______.
Answer
variations in labor-market utilization; technological progress

technological progress; variations in labor-market utilization
money supply growth rates; changes in velocity
changes in velocity; money supply growth rates
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Leading economic indicators are:
Answer
the most popular economic statistics.

data that are used to construct the consumer price index and the unemployment
rate.
variables that tend to fluctuate in advance of the overall economy.
standardized statistics compiled by the National Bureau of Economic Research.
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A decline in the Index of Supplier Deliveries is typically an indicator of a future ______ in
economic production, and a narrowing of the interest rate spread between the 10-year
Treasury note and 3-month Treasury bill is typically an indicator of a future ______ in
economic production.
Answer
increase; slowdown
increase; increase
slowdown; increase
slowdown; slowdown
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Question
The index of leading indicators compiled by the Conference Board includes 10 data series
that are used to forecast economic activity about ______ in advance.
Answer
one month
six to nine months
one to two years
five to ten years
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Measures of average workweeks and of suppliers' deliveries (vendor performance) are
included in the index of leading indicators, because shorter workweeks tend to indicate
______ future economic activity, and slower deliveries tend to indicate ______ future
economic activity.
Answer
stronger; stronger
stronger; weaker
weaker; stronger
weaker; weaker
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Most economists believe that prices are:
Answer
flexible in the short run but many are sticky in the long run.
flexible in the long run but many are sticky in the short run.
sticky in both the short and long runs.
flexible in both the short and long runs.
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Most economists believe that the classical dichotomy:
Answer
holds approximately in both the short run and the long run.
holds approximately in the long run but not at all in the short run.
holds approximately in the short run but not at all in the long run.
does not hold even approximately in either the long run or the short run.
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A 5 percent reduction in the money supply will, according to most economists, reduce prices
5 percent:
Answer
in both the short and long runs.

in neither the short nor long run.
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in the short run but lead to unemployment in the long run.

in the long run but lead to unemployment in the short run.
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Monetary neutrality, the irrelevance of the money supply in determining values of ______
variables, is generally thought to be a property of the economy in the long-run.
Answer
real
nominal
real and nominal
neither real nor nominal
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Alan Blinder's survey of firms found that the typical firm adjusts its prices:
Answer
more than once a week.

about once a month.
once or twice a year.
less than once a year.
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Alan Blinder's survey of firms found that the theory of price stickiness accepted by the most
firms was:
Answer
menu costs.
coordination failure.
nominal contracts.
procyclical elasticity.
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The results of Alan Blinder's survey of firms suggest all of the following are true except that:
Answer
there is only one theory of price stickiness.

coordinating wage and price setting could improve welfare.
reasons for price stickiness vary by industry.
activist monetary policy can be used to cure recessions.
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Question
A difference between the economic long run and the short run is that:
Answer
the classical dichotomy holds in the short run but not in the long run.
monetary and fiscal policy affect output only in the long run.
demand can affect output and employment in the short run, whereas supply is
the ruling force in the long run.
prices and wages are sticky in the long run only.
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The aggregate demand curve is the ______ relationship between the quantity of output
demanded and the ______.
Answer
positive; money supply

negative; money supply
positive; price level
negative; price level
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The relationship between the quantity of output demanded and the aggregate price level is
called:
Answer
aggregate demand.
aggregate supply.
aggregate output.
aggregate consumption.
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Question
If an aggregate demand curve is drawn with real GDP (Y) along the horizontal axis and the
price level (P) along the vertical axis, using the quantity theory of money as a theory of
aggregate demand, this curve slopes ______ to the right and gets ______ as it moves
farther to the right.
Answer
downward; steeper
downward; flatter
upward; steeper
upward; flatter
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The assumption of constant velocity in the quantity equation is the equivalent of the
assumption of a constant:
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Answer
short-run aggregate supply curve.

long-run aggregate supply curve.
price level in the short run.
demand for real balances per unit of output.
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Along an aggregate demand curve, which of the following are held constant?
Answer
real output and prices

nominal output and velocity
the money supply and real output
the money supply and velocity
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According to the quantity theory of money, if output is higher, ______ real balances are
required, and for fixed M this means ______ P.
Answer
higher; lower
lower; higher
higher; higher
lower; lower
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According to the quantity equation, if the velocity of money and the supply of money are
fixed, and the price level increases, then the quantity of goods and services purchased:
Answer
increases.
decreases.
does not change.
may either increase or decrease.
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For a fixed money supply, the aggregate demand curve slopes downward because at a lower
price level real money balances are ______, generating a ______ quantity of output
demanded.
Answer
higher; greater
higher; smaller
lower; greater
lower; smaller
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The aggregate demand curve tells us possible:
Answer
combinations of M and Y for a given value of P.

combinations of M and P for a given value of Y.
combinations of P and Y for a given value of M.
results if the Federal Reserve reduces the money supply.
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When an aggregate demand curve is drawn with real GDP (Y) along the horizontal axis and
the price level (P) along the vertical axis, if the money supply is decreased, then the
aggregate demand curve will shift:
Answer
downward and to the left.

downward and to the right.
upward and to the left.
upward and to the right.
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When the Federal Reserve reduces the money supply, at a given price level the amount of
output demanded is ______ and the aggregate demand curve shifts ______.
Answer
greater; inward
greater; outward
lower; inward
lower; outward
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When the Federal Reserve increases the money supply, at a given price level the amount of
output demanded is ______ and the aggregate demand curve shifts ______.
Answer
greater; inward
greater; outward
lower; inward
lower; outward
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Looking at the aggregate demand curve alone, one can tell ______ that will prevail in the
economy.
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Answer
the quantity of output and the price level

the quantity of output
the price level
neither the quantity of output nor the price level
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The relationship between the quantity of goods and services supplied and the price level is
called:
Answer
aggregate demand.
aggregate supply.
aggregate investment.
aggregate production.
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Aggregate supply is the relationship between the quantity of goods and services supplied
and the:
Answer
money supply.
unemployment rate.
interest rate.
price level.
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Question
A short-run aggregate supply curve shows fixed ______, and a long-run aggregate supply
curve shows fixed ______.
Answer
output; output
prices; prices
prices; output
output; prices
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In the long run, the level of output is determined by the:
Answer
interaction of supply and demand.

money supply and the levels of government spending and taxation.
amounts of capital and labor and the available technology.
preferences of the public.
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When a long-term aggregate supply curve is drawn with real GDP (Y) along the horizontal
axis and the price level (P) along the vertical axis, this curve:
Answer
slopes upward and to the right.

slopes downward and to the right.
is horizontal.
is vertical.
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The vertical long-run aggregate supply curve satisfies the classical dichotomy because the
natural rate of output does not depend on:
Answer
the labor supply.

the supply of capital.
the money supply.
technology.
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If the long-run aggregate supply curve is vertical, then changes in aggregate demand affect:
Answer
neither prices nor level of output.

both prices and level of output.
level of output but not prices.
prices but not level of output.
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The natural level of output is:
Answer
affected by aggregate demand.

the level of output at which the unemployment rate is zero.
the level of output at which the unemployment rate is at its natural level.
permanent and unchangeable.
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The long-run aggregate supply curve is vertical at the level of output:
Answer
determined by aggregate demand.

at which unemployment is at its natural rate.
at which the inflation rate is zero.
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at a predetermined price level.

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If all prices are stuck at a predetermined level, then when a short-run aggregate supply curve
is drawn with real GDP (Y) along the horizontal axis and the price level (P) along the vertical
axis, this curve:
Answer
is horizontal.
is vertical.
slopes upward and to the right.
slopes downward and to the right.
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Question
The price level decreases and output increases in the transition from the short run to the long
run when the short-run equilibrium is ______ the natural rate of output in the short run.
Answer
above
below
equal to
either above or below
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If the short-run aggregate supply curve is horizontal, then changes in aggregate demand
affect:
Answer
level of output but not prices.

prices but not level of output.
both prices and level of output.
neither prices nor level of output.
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In the aggregate demandaggregate supply model, short-run equilibrium occurs at the
combination of output and prices where:
Answer
aggregate demand equals long-run aggregate supply.

aggregate demand equals short-run aggregate supply.
aggregate demand equals short-run and long-run aggregate supply.
short-run aggregate supply equals long-run aggregate supply.
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Question
If the short-run aggregate supply curve is horizontal, then the:
Answer
classical dichotomy is satisfied.

money supply cannot affect prices in the short run.
money supply cannot affect output in the short run.
money supply is irrelevant in the short run.
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The short-run aggregate supply curve is horizontal at:
Answer
a level of output determined by aggregate demand.

the natural level of output.
the level of output at which the economy's resources are fully employed.
a fixed price level.
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The short run refers to a period:
Answer
of several days.
during which prices are sticky and unemployment may occur.
during which capital and labor are fully employed.
during which there are no fluctuations.
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The long run refers to a period:
Answer
of decades.
during which capital and labor are sometimes not fully employed.
during which prices are flexible.
during which output deviates from the full-employment level.
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If the short-run aggregate supply curve is horizontal, then a change in the money supply will
change ______ in the short run and change ______ in the long run.
Answer
only prices; only output

only output; only prices
both prices and output; only prices
both prices and output; both prices and output
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In the aggregate demand/aggregate supply model, long-run equilibrium occurs at the
combination of output and prices where:
Answer
aggregate demand equals long-run aggregate supply.

aggregate demand equals short-run aggregate supply.
aggregate demand equals short-run and long-run aggregate supply.
short-run aggregate supply equals long-run aggregate supply.
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If a short-run equilibrium occurs at a level of output above the natural rate, then in the
transition to the long run, prices will ______ and output will ______.
Answer
increase; increase
decrease; decrease
increase; decrease
decrease; increase
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If a short-run equilibrium occurs at a level of output below the natural rate, then in the
transition to the long run, prices will ______ and output will ______.
Answer
increase; increase
decrease; decrease
increase; decrease
decrease; increase
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If the short-run aggregate supply curve is horizontal and the Fed increases the money
supply, then:
Answer
output and employment will increase in the short run.

output and employment will decrease in the short run.
prices will increase in the short run.
prices will decrease in the short run.
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Assume that the economy starts from long-run equilibrium. If the Federal Reserve increases
the money supply, then ______ increase(s) in the short run and ______ increase(s) in the
long run.
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Answer
prices; output
output; prices
output; output
prices; prices
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Assume that the economy begins in long-run equilibrium. Then the Fed reduces the money
supply. In the short run ______, whereas in the long run, prices ______ and output returns to
its original level.
Answer
output decreases and prices are unchanged; rise

output decreases and prices are unchanged; fall
output and prices both decrease; rise
output and prices both decrease; fall
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Monetary neutrality is a characteristic of the aggregate demandaggregate supply model in:
Answer
both the short run and the long run.

in neither the short run nor the long run.
in the short run, but not in the long run.
in the long run, but not in the short run.
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The economic response to the overnight reduction in the French money supply by 20 percent
in 1724:
Answer
confirmed the neutrality of money because no real variables were affected by

this
nominal change.
confirmed the quantity theory by leading to an immediate 20 percent reduction in
the price level.
confirm the short-run neutrality of money because prices and wage did not
adjust immediately.
contradicted Okun's law because decreases in output were not associated with
increases in unemployment.
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When the French money supply was reduced by 45 percent in 1724, only ______ fell
immediately.
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Answer
prices
output
exchange rates
interest rates
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The short run, represented by the recession that followed the decision to retire
greenbacks after the Civil War, lasted approximately:
Answer
six months.
one year.
three years.
six years.
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Stabilization policy:
Answer
aims at keeping output and employment at their natural rates.

always succeeds in keeping output and employment at their natural rates.
is generally ineffective.
does more harm than good.
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Which of the following is an example of a demand shock?
Answer
a large oil-price increase

the introduction and greater availability of credit cards
a drought that destroys agricultural crops
unions obtaining a substantial wage increase
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Starting from long-run equilibrium, if the velocity of money increases (due to, for example, the
invention of automatic teller machines) and no action is taken by the government:
Answer
prices will rise in both the short run and the long run.
output will rise in both the short run and the long run.
prices will rise in the short run and output will rise in the long run.
output will rise in the short run and prices will rise in the long run.
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If the short-run aggregate supply curve is horizontal, and if each member of the general
public chooses to hold a larger fraction of his or her income as cash balances, then:
Answer
output and employment will increase in the short run.

output and employment will decrease in the short run.
prices will increase in the short run.
prices will decrease in the short run.
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A reduction in the demand for money is the equivalent of a(n) ______ in velocity and will shift
the aggregate demand curve to the ______.
Answer
increase; right
increase; left
decrease; right
decrease; left
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Starting from long-run equilibrium, if the velocity of money increases (due to, for example, the
invention of automatic teller machines), the Fed might be able to stabilize output by:
Answer
decreasing the money supply.

increasing the money supply.
decreasing the price level.
increasing the price level.
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Exhibit: Shift in Aggregate Demand
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Reference: Ref 9-1
(Exhibit: Shift in Aggregate Demand) In this graph, initially the economy is at point E, with
price P and output Y. Aggregate demand is given by curve AD , and SRAS and LRAS
0
represent, respectively, short-run and long-run aggregate supply. Now assume that the
aggregate demand curve shifts so that it is represented by AD . The economy moves first to
1
point ______ and then, in the long run, to point ______.

Answer
A; D
D; A
C; B
B; C
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Reference: Ref 9-1
(Exhibit: Shift in Aggregate Demand) In this graph, initially the economy is at point E, with the
price P and output Y. Aggregate demand is given by curve AD , and SRAS and LRAS
0
represent, respectively, short-run and long-run aggregate supply. Now assume that the
aggregate demand curve shifts so that it is represented by AD . The economy moves first to
2
point ______ and then, in the long run, to point ______.

Answer
A; D
D; A
A; B
B; A
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Reference: Ref 9-1
(Exhibit: Shift in Aggregate Demand) Assume that the economy is initially at point A with
aggregate demand given by AD . A shift in the aggregate demand curve to AD could be the
2
result of either a(n) ______ in the money supply or a(n) ______ in velocity.
Answer
increase; increase
increase; decrease
decrease; increase
decrease; decrease
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Starting from long-run equilibrium, an increase in aggregate demand increases ______ in the
short run, but only increases ______ in the long run.
Answer
output; prices
prices; output
short-run aggregate supply; long-run aggregate supply
the money supply; the natural rate of output
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A supply shock does not occur when:
Answer
a drought destroys crops.

unions push wages up.
the Fed increases the money supply.
an oil cartel increases world oil prices.
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A favorable supply shock occurs when:
Answer
environmental protection laws raise costs of production.

the Fed increases the money supply.
unions push wages up.
an oil cartel breaks up and oil prices fall.
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An adverse supply shock ______ the short-run aggregate supply curve ______ the natural
level of output.
Answer
raises; but cannot affect

raises; and may also lower
lowers; but cannot affect
lowers; and may also lower
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If the short-run aggregate supply curve is horizontal, an increase in union aggressiveness
that pushes wages and prices up will result in ______ prices and ______ output in the short
run.
Answer
higher; lower
lower; higher
higher; higher
lower; lower
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Exhibit: Supply Shock
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Reference: Ref 9-2
(Exhibit: Supply Shock) In this graph, assume that the economy starts at point A and there is
a favorable supply shock that does not last forever. In this situation, point ______ represents
short-run equilibrium and point ______ represents long-run equilibrium.
Answer
B; C
B; A
E; D
E; A
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Reference: Ref 9-2
(Exhibit: Supply Shock) Assume that the economy is at point B. With no further shocks or
policy moves, the economy in the long run will be at point:
Answer
A.
B.
C.
D.
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Reference: Ref 9-2
(Exhibit: Supply Shock) Assume that the economy is at point E. With no further shocks or
policy moves, the economy in the long run will be at point:
Answer
A.
B.
C.
D.
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Reference: Ref 9-2
(Exhibit: Supply Shock) Assume that the economy starts at point A and there is a drought
that severely reduces agricultural output in the economy for just one year. In this situation,
point ______ represents the short-run equilibrium immediately following the drought and
point ______ represents the eventual long-run equilibrium.
Answer
B; C
B; A
E; D
D; A
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In the short run, a favorable supply shock causes:
Answer
both prices and output to rise.

prices to rise and output to fall.
prices to fall and output to rise.
both prices and output to fall.
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In the short run, an adverse supply shock causes:
Answer
both prices and output to rise.

prices to rise and output to fall.
prices to fall and output to rise.
both prices and output to fall.
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Stagflation occurs when prices ______ and output ______.
Answer
fall; falls
fall; increases
rise; falls
rise; increases
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The dilemma facing the Federal Reserve in the event that an unfavorable supply shock
moves the economy away from the natural rate of output is that monetary policy can either
return output to the natural rate, but with a ______ price level, or allow the price level to
return to its original level, but with a ______ level of output in the short run.
Answer
higher; higher
higher; lower
lower; lower
lower; higher
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If the Fed accommodates an adverse supply shock, output falls ______ and prices rise
______.
Answer
less; more
less; less
more; less
more; more
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Starting from long-run equilibrium, without policy intervention, the long-run impact of an
adverse supply shock is that prices will:
Answer
be permanently higher and output will be restored to the natural rate.

return to the old level and output will be restored to the natural rate.
be permanently higher and output will be permanently lower.
return to the old level, but output will be permanently lower.
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Question
Starting from long-run equilibrium, if a drought pushes up food prices throughout the
economy, the Fed could move the economy more rapidly back to full employment output by:
Answer
increasing the money supply, but at the cost of permanently higher prices.
decreasing the money supply, but at the cost of permanently lower prices.
increasing the money supply, which would restore the original price level.
decreasing the money supply, which would restore the original price level.
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On two occasions in the 1970s:
Answer
world oil prices rose rapidly, inflation was high, and the unemployment rate was
high.
world oil prices rose rapidly, inflation was moderate, and the unemployment rate
was high.
world oil prices rose rapidly, inflation was high, and the unemployment rate was
moderate.
oil prices rose rapidly, but the Fed used monetary policy to curb inflation.
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Multiple Choice
0 points
Question
In the mid-1980s, oil prices ______, inflation was ______, and the unemployment rate
______.
Answer
rose rapidly; high; rose

rose slowly; moderate; was high
fell; low; declined
fell; low; rose
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Multiple Choice
0 points
Question
If a change in government regulations allows banks to start paying interest on checking
accounts, this will:
Answer
increase the demand for money.

decrease the demand for money.
have no effect on the demand for money.
increase the demand for currency but decrease the demand for checking
accounts.
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Multiple Choice
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Question
If the demand for money increases, this will:
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Answer
increase velocity.
decrease velocity.
have no effect on velocity.
cause the Fed to increase the money supply.
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Multiple Choice
0 points
Question
If the demand for money increases, but the Fed keeps the money supply the same, then in
the short run output will:
Answer
fall and in the long run prices will remain unchanged.

remain unchanged and in the long run prices will fall.
remain unchanged and in the long run prices will remain unchanged.
fall and in the long run prices will fall.
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Multiple Choice
0 points
Question
If the Fed reduces the money supply by 5 percent and the quantity theory of money is true,
then:
Answer
every point on the aggregate demand curve moves 5 percent to the left.
every point on the aggregate demand curve moves up 5 percent.
the aggregate demand curve moves down and to the left, but it is impossible to
determine exactly by how much.
the aggregate demand curve moves up and to the right, but it is impossible to
determine exactly by how much.
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Multiple Choice
0 points
Question
If the Fed reduces the money supply by 5 percent and the quantity theory of money is true,
then output will fall 5 percent in the short run and:
Answer
prices will remain unchanged in the long run.

output will fall 5 percent in the long run.
prices will fall 5 percent in the long run.
output will remain unchanged in the long run.
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Multiple Choice
0 points
Question
Making use of Okun's law, it may be computed that if the Fed reduces the money supply 5
percent and the quantity theory of money is true, then the unemployment rate will rise about:
Answer
5 percent in both the short run and the long run.

2.5 percent in both the short run and the long run.
5 percent in the short run but will return to its natural rate in the long run.
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2.5 percent in the short run but will return to its natural rate in the long run.
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Multiple Choice
0 points
Question
If the Fed reduces the money supply by 5 percent, then the real interest rate will:
Answer
rise in both the short run and the long run.

rise in the short run but return to its original equilibrium level in the long run.
rise in the short run but will fall below its original equilibrium level in the long run.
be unaffected in both the short run and the long run.
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Multiple Choice
0 points
Question
If Fed A cares only about keeping the price level stable and Fed B cares only about keeping
output at its natural level, then in response to an exogenous decrease in the velocity of
money:
Answer
both Fed A and Fed B should increase the quantity of money.

Fed A should increase the quantity of money whereas Fed B should keep it
stable.
Fed A should keep the quantity of money stable whereas Fed B should
increase it.
both Fed A and Fed B should keep the quantity of money stable.
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Multiple Choice
0 points
Question
If Fed A cares only about keeping the price level stable and Fed B cares only about keeping
output at its natural level, then in response to an exogenous increase in the price of oil:
Answer
both Fed A and Fed B should increase the quantity of money.

Fed A should increase the quantity of money whereas Fed B should keep it
stable.
Fed A should keep the quantity of money stable whereas Fed B should
increase it.
both Fed A and Fed B should keep the quantity of money stable.
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Essay
0 points
Question
Assume that the long-run aggregate supply curve is vertical at Y = 3,000 while the short-run
aggregate supply curve is horizontal at P = 1.0. The aggregate demand curve is Y = 2(M/P)
and M = 1,500.
a.
If the economy is initially in long-run equilibrium, what are the values of P and Y?
b.
If M increases to 2,000, what are the new short-run values of P and Y?
c.
Once the economy adjusts to long-run equilibrium at M = 2,000, what are P and Y?
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Answer
a. P = 1.0; Y = 3,000
b. P = 1.0; Y = 4,000
c. P = 1.333; Y = 3,000
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Question
and M = 1,500.
a.
If the economy is initially in long-run equilibrium, what are the values of P and
Y?
b.
What is the velocity of money in this case?
c.
Suppose because banks start paying interest on checking accounts, the

aggregate demand function shifts to Y = (1.5)(M/P). What are the short-run
values of P and Y?
d.
What is the velocity of money in this case?
e.
With the new aggregate demand function, once the economy adjusts to
long-run equilibrium, what are P and Y?
f.
What is the velocity now?
Answer
a. P = 1.0; Y = 3,000
b. velocity = 2
c. P = 1.0; Y = 2,250
d. velocity = 1.5
e. P = 0.75; Y = 3,000
f. velocity = 1.5
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and M = 1,000.
a.
If the economy is initially in long-run equilibrium, what are the values of P and
Y?
b.
Now suppose a supply shock moves the short-run aggregate supply curve to P
= 1.5. What are the new short-run P and Y?
c.
If the aggregate demand curve and long-run aggregate supply curve are
unchanged, what are the long-run equilibrium P and Y after the supply shock?
d.
Suppose that after the supply shock the Fed wanted to hold output at its
long-run level. What level of M would be required? If this level of M were
maintained, what would be long-run equilibrium P and Y?
Answer
a. P = 1.0; Y = 3,000
b. P = 1.5; Y = 2,000
c. P = 1.0; Y = 3,000
d. M = 1,500; P = 1.5; Y = 3,000
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Essay
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Question
The principal method used by the Federal Reserve to change the money supply is through
open-market operations. Use the aggregate demandaggregate supply model to illustrate
graphically the impact in the short run and the long run of a Federal Reserve decision to
increase open-market purchases. Be sure to label: i. the axes; ii. the curves; iii. the initial
equilibrium values; iv. the direction the curves shift; v. the short-run equilibrium values; and
vi. the long-run equilibrium values. State in words what happens to prices and output in the
short run and the long run.
Answer
In the short run, output increases while the price level remains unchanged. In the
long run, prices increase and output returns to the full-employment level.
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Essay
0 points
Question
The advent of interest-earning checking accounts in the early 1980s led many households to
keep a larger proportion of their income in checking accounts. Use the aggregate demand
aggregate supply model to illustrate graphically the impact in the short run and the long run
of this change in money demand. Be sure to label: i. the axes; ii. the curves; iii. the initial
Answer
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In the short run, output decreases while the price level remains unchanged. In the
long run, prices decrease and output returns to the full-employment level.
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Essay
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Question
Suppose that droughts in the Southeast and floods in the Midwest substantially reduce food
production in the United States. Use the aggregate demandaggregate supply model to
illustrate graphically the impact in the short run and the long run of this adverse supply
shock. Be sure to label: i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the
direction the curves shift; v. the short-run equilibrium values; and vi. the long-run equilibrium
values. State in words what happens to prices and output in the short run and the long run.
Answer
In the short run, output decreases while the price level increases. In the long run,
prices decrease and output returns to the full-employment level.
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Question
Suppose that laws are passed banning labor unions and that resulting lower labor costs are
passed along to consumers in the form of lower prices. Use the aggregate demand
aggregate supply model to illustrate graphically the impact in the short run and the long run
of this favorable supply shock. Be sure to label: i. the axes; ii. the curves; iii. the initial
Answer
In the short run, output increases while the price level decreases. In the long run,
prices increase and output returns to the full-employment level.
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Essay
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Question
Suppose you are an economist working for the Federal Reserve when droughts in the
Southeast and floods in the Midwest substantially reduce food production in the United
States. Use the aggregate demandaggregate supply model to illustrate graphically your
policy recommendation to accommodate this adverse supply shock, assuming that your top
priority is maintaining full employment in the economy. Be sure to label: i. the axes; ii. the
curves; iii. the initial equilibrium values; iv. the direction the curves shift; and v. the terminal
equilibrium values. State in words what happens to prices and output as a combined result of
the supply shock and the recommended Fed accommodation.
Answer
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The accommodating policy means that the price level is permanently higher, but
output is at the full-employment level.
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Question
Throughout much of the 1990s, the United States experienced declining energy prices.
Assume that the U.S. economy was in long-run equilibrium before these declines began.
a.
Use the aggregate demandaggregate supply model to illustrate graphically the
short-run and long-run impact of this decline on output and prices.
b.
If the Federal Reserve attempted to offset this deviation from the natural rate in
the short run, should the money supply be increased or decreased?
Answer a.
Output increases and prices decrease in the short run to point B. Output and prices
return to their original levels at point A in the long run.
b. The Federal Reserve must reduce the money supply in the short run, in order to
return the economy to the natural rate, moving the economy to point C with a
permanently lower price level.
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Essay
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Question
The long-run and short-run aggregate supply curves reflect fundamental differences between
long-run and short-run macroeconomic analysis.
a.
Graphically illustrate the long-run and short-run aggregate supply curves. Be
sure to label the axes.
b.
What determines the level of output in the long run versus the short run?
c.
How do prices behave differently in the long run and the short run?
Answer a.
b. In the long run, output is determined by the factors of production and technology,
but in the short run, output is determined by demand.
c. In the long run, prices are flexible, but in the short run, prices are sticky.
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Question
The economy of Macroland is initially in long-run equilibrium. A severe drought causes an
adverse supply shock.
a.
What happens to prices and output in the short run?
b.
What would happen to prices and output in the long run if there is no policy
accommodation?
c.
If the Central Bank of Macroland wants to prevent the short-run changes in

price and output, what policy action could it take? How would the results of this
policy action differ from the prices and output that would result in the long run
with no policy action?
Answer a. In the short run, prices increase and output decreases.

b. With no policy accommodation, both output and prices would return to their initial
long-run equilibrium levels.
c. The central bank could increase the money supply to return output to full
employment, but this would result in a long-run equilibrium at a higher price level
than the initial long-run equilibrium.
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Question
A central bank reduces the money supply in an economy initially in long-run equilibrium.
a.
What will happen to output and prices in the short run?
b.
What will happen to unemployment in the short run?
c.
What will happen to output and prices in the long run?
Answer a. In the short run, output would decrease with little change in prices.
b. In the short run, unemployment will increase.
c. In the long run, output will return to the full-employment level at a lower price
level.
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Essay
0 points
Question
An oil cartel effectively increases the price of oil by 100 percent, leading to an adverse supply
shock in both Country A and Country B. Both countries were in long-run equilibrium at the
same level of output and prices at the time of the shock. The central bank of Country A takes
no stabilizing-policy actions. After the short-run impacts of the adverse supply shock become
apparent, the central bank of Country B increases the money supply to return the economy
to full employment.
a.
Describe the short-run impact of the adverse supply shock on prices and output
in each country.
b.
Compare the long-run impact of the adverse supply shock on prices and output
in each country.
Answer a. In both Country A and Country B, output will decline and the price level will rise.
b. In the long run, output in both Country A and Country B will return to the
full-employment level, but the price level will be higher in Country B than in Country
A because of the policy accommodation.
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Essay
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Question
An economy is initially in long-run equilibrium. The introduction of an electronic payments
system dramatically reduces the demand for money in the economy.
a.
What is the short-run impact on prices and output of the new system?
b.
What can the central bank do, if anything, to counteract the short-run changes
in output and prices?
c.
If the central bank does not take any policy actions, what will be the long-run
impact of the electronic payments system on prices and output?
Answer a. In the short run, output will increase as the reduction in money demand (increase
in velocity) shifts the aggregate demand curve out to the right. There will be an
increase in output and little change in prices in the short run.
b. The central bank could counteract the decline in money demand by reducing the
money supply, shifting the aggregate demand curve back to the left.
c. In the long run with no central bank stabilizing action, output will return to the
full-employment level with a higher price level.
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Essay
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Question
Explain the meaning of monetary neutrality and illustrate graphically that there is monetary
neutrality in the long run in the aggregate demandaggregate supply model. Be sure to label:
i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the direction the curves shift; v.
the short-run equilibrium values; and vi. the long-run equilibrium values. Explain in words
what your graph illustrates.
Answer Monetary neutrality is the property that changes in money do not change real
variables. Graphically starting from long-run equilibrium at point A, an increase in
the money supply shifts the AD curve rightward. There is a short-run equilibrium at
point B with higher real output, but in the long run, prices increase, shifting the
SRAS upward until the new long-run equilibrium is reached at point C, where there
is a higher price level, but no change in real GDP. This illustrates that in the long
run, the change in the money supply does not change the real variable (real GDP).
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Essay
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Question
You are given the information about the following leading indicators. For each indicator
explain whether the information suggests that a recession or expansion should be expected
in the future.
a.
Average initial weekly claims for unemployment insurance rises.
b.
New building permits issued increase.
c.
The interest rate spread between the 10-year Treasury note and the 3-month
Treasury bill narrows.
d.
The Index of Supplier Deliveries falls.
Answer a. Recession; more workers eligible for unemployment insurance benefits indicate
that firms are laying off workers and cutting back on production.
b. Expansion; planned investment is increasing.
c. Recession; future interest rates are not expected to rise, which typically occurs in
a recession.
d. Recession; few firms are experiencing slow deliveries, indicating that output and
production is slow.
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Essay
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Question
Monetary policy can be either a stabilizing influence on the economy or a source of
instability. Give an explanation for both possibilities.
Answer If monetary policy is used to offset changes in aggregate demand that move an
economy away from the natural rate, then monetary policy actions are stabilizing. If
monetary policy actions move an economy away from the natural rate, either by
increasing or decreasing the money supply when the economy is in long-run
equilibrium, then monetary policy is destabilizing.
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Testbank Chapter 9: Introduction to Economic to Economic

Description Question pool for Testbank Chapter 9: Introduction to Economic to Economic

regular and predictable.

is inversely correlated with

negative; unemployment rate

the Phillips curve.

variations in labor-market utilization; technological progress

the most popular economic statistics.

in both the short and long runs.

in the short run but lead to unemployment in the long run.

more than once a week.

there is only one theory of price stickiness.

positive; money supply

short-run aggregate supply curve.

real output and prices

combinations of M and Y for a given value of P.

downward and to the left.

the quantity of output and the price level

interaction of supply and demand.

slopes upward and to the right.

the labor supply.

neither prices nor level of output.

affected by aggregate demand.

determined by aggregate demand.

at a predetermined price level.

level of output but not prices.

aggregate demand equals long-run aggregate supply.

classical dichotomy is satisfied.

a level of output determined by aggregate demand.

only prices; only output

aggregate demand equals long-run aggregate supply.

output and employment will increase in the short run.

output decreases and prices are unchanged; rise

both the short run and the long run.

confirmed the neutrality of money because no real variables were affected by

aims at keeping output and employment at their natural rates.

a large oil-price increase

output and employment will increase in the short run.

decreasing the money supply.

Reference: Ref 9-1

point ______ and then, in the long run, to point ______.

Reference: Ref 9-1

point ______ and then, in the long run, to point ______.

Reference: Ref 9-1

a drought destroys crops.

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environmental protection laws raise costs of production.

raises; but cannot affect

Reference: Ref 9-2

Reference: Ref 9-2

Reference: Ref 9-2

Reference: Ref 9-2

both prices and output to rise.

both prices and output to rise.

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be permanently higher and output will be restored to the natural rate.

rose rapidly; high; rose

increase the demand for money.

fall and in the long run prices will remain unchanged.

prices will remain unchanged in the long run.

5 percent in both the short run and the long run.

rise in both the short run and the long run.

both Fed A and Fed B should increase the quantity of money.

point and then, in the long run, to point .

point and then, in the long run, to point .