ECON 201 ECON201 Policy Application Pretest Answers
Policy Application Module
Pretest:
Choose the BEST answer. A liquidity trap exists when a change in money supply:
is unable to affect the interest rate.
is able to lower the interest rate.
is able to increase the interest rate.
Choose ALL that apply. In the Keynesian model, the government can respond to a recessionary or inflationary gap by:
changing autonomous spending.
changing the quantity of money.
relying on the spending multiplier to generate a change in real GDP that is a multiple of the change in autonomous spending.
Choose the BEST answer. An increase in government autonomous spending may result in which of the following?
Crowding out of private investment.
A decline in the interest rate.
Deficit reduction.
Reduced government borrowing.
Choose the BEST answer. Former President Ronald Reagan was a supporter of supply side economics. Supply side economists believe that:
increasing tax rates decreases demand.
reducing tax rates increases supply.
reducing tax rates increases demand.
Choose the BEST answer. Why does the recognition lag influence fiscal policy effectiveness?
Because it takes time to evaluate differences between states of the economy.
Because it takes time for interest rates and bond prices to change.
Because it takes time to agree on a resolution.
Because it takes time to collect data on the current state of the economy.
Choose the BEST answer. In the long run, the Phillips curve will be ________ at the natural rate of unemployment.
upward sloping
a horizontal line
a vertical line
Choose ALL that apply. New Classical economists believe fiscal policy is ineffective because any increase in government spending will cause:
business investment to fall.
households to spend less.
private individuals to save more.
Choose the BEST answer. If Ricardian Equivalence theory holds completely true, then any change in budget deficits or budget surpluses would be completely offset by which of the following?
A change in currency exchange rates.
A dependence on inflows of capital.
A corresponding change in private saving.
A sustained pattern of trade imbalances.
Choose the BEST answer. A limitation of countercyclical fiscal policies is that:
given uncertainty, it can be difficult to target specific economic objectives.
they are typically less effective than countercyclical monetary policy.
automatic stabilizers must be enacted by congress to go into effect.
Choose ALL that apply. Government investment in capital include(s):
physical capital investments such as roads and bridges.
human capital investments such asprimary education.
financial capital investments such as government bonds.
Choose ALL that apply. The experience of the 1970s taught economists that changes in:
aggregate supply can affect the economy in the short run.
aggregate demand can affect the economy in the long run.
both aggregate demand and aggregate supply are important in understanding changes in the economy in the short run.
Choose the BEST answer. The crowding out argument ignores the possibility of:
interest rates rising.
government spending financed by additional taxes or budget cuts.
the government spending multiplier.
Choose the BEST answer. Tax cuts that are explicitly temporary have less impact than permanent ones because:
individuals and businesses do not change their behavior very much, since they do not expect the tax cuts to last.
temporary tax cuts always have less effect on the budget deficit than permanent ones do.
temporary tax cuts are usually smaller than permanent ones.
Choose ALL that apply. Challenges with fiscal policy include:
finding the political will to undertake contractionary fiscal policy.
the possibility of insufficient aggregate demand causing inflation.
the possibility of excessive aggregate demand causing unemployment.
different preferences within congress as to the specific tax or spending changes desired.
Self-Checks:
Choose the BEST answer. A liquidity trap exists when a change in money supply:
is able to increase the interest rate.
is unable to affect the interest rate.
is able to lower the interest rate.
Choose the BEST answer. Why is the effect of a government expenditure multiplier transmitted throughout the economy?
Because there is no change in taxes.
Because government spending generates a change in income, which generates a change in consumption spending which generates a change in income, etc.
Because government spending changes the interest rate.
Choose the BEST answer. A contractionary fiscal policy may result in which of the following?
Reducing government borrowing.
Lower interest rates.
Crowding out of private investment.
Reducing the deficit.
Choose the BEST answer. Former President Ronald Reagan was a supporter of supply side economics. Supply side economists believe that:
increasing tax rates decreases demand.
reducing tax rates increases demand.
reducing tax rates increases supply.
Choose the BEST answer. Why does the impact lag influence monetary policy effectiveness?
Because it takes time for businesses to change investment spending decisions.
Because it takes time to collect data on the current state of the economy.
Because it takes time to agree on a resolution.
Because it takes time to evaluate differences between states of the economy.
Choose the BEST answer. In the long run, the Phillips curve will be ________ at the natural rate of unemployment.
upward sloping
a horizontal line
a vertical line
Choose the BEST answer. After reports of the subprime mortgage crisis began to appear in the media, which of the following most likely caused housing prices to fall?
rational expectations
neoclassical theory
Keynesian theory
cyclical expectations
Choose the BEST answer. If Ricardian Equivalence theory holds completely true, then any change in budget deficits or budget surpluses would be completely offset by which of the following?
A dependence on inflows of capital.
A sustained pattern of trade imbalances.
A corresponding change in private saving.
A change in currency exchange rates.
Choose the BEST answer. Which of the following is unlikely to be a neoclassical policy to address unemployment?
Helping to reduce obstacles that create frictional unemployment.
Trying to reduce the natural rate of unemployment.
Stimulating aggregate demand using fiscal or monetary policy.
Choose ALL that apply. Government investment in capital include(s):
human capital investments such as primary education.
physical capital investments such as roads and bridges.
financial capital investments such as government bonds.
Choose ALL that apply. The experience of the 1970s taught economists that changes in:
aggregate supply can affect the economy in the short run.
both aggregate demand and aggregate supply are important in understanding changes in the economy in the short run.
aggregate demand can affect the economy in the long run.
Choose the BEST answer. The crowding out argument ignores the possibility of:
interest rates rising.
the government spending multiplier.
government spending financed by additional taxes or budget cuts.
Choose the BEST answer. Tax cuts that are explicitly temporary have less impact than permanent ones because:
temporary tax cuts are usually smaller than permanent ones.
individuals and businesses do not change their behavior very much, since they do not expect the tax cuts to last.
temporary tax cuts always have less effect on the budget deficit than permanent ones do.
Quiz:
1. Choose the BEST answer. Which of the following could be potential solutions to the liquidity trap?
increase money supply
sell government bonds
quantitative easing
2. Choose the BEST answer. Which of the following statements is NOT true when considering the liquidity trap and consumers?
They hold on to their money.
They are risk aversive.
They believe the price of nonmonetary assets will rise.
3. Choose the BEST answer. If government spending decreased by $10 million, aggregate demand would decrease by:
more than $10 million.
$10 million.
less than $10 million.
4. Choose the BEST answer. If GDP was $100 million below potential GDP, what should the government do to bring it back to equilibrium?
Raise government spending by something less than $100 million.
Raise government spending by $100 million.
Do nothing.
5. Choose the BEST answer. Holding all else constant while government is borrowing to cover budget deficits, the crowding out concept suggests interest rates ________ borrowing and spending by business and households.
fall and encourage
rise and discourage
fall and discourage
rise and encourage
6. Choose the BEST answer. A reduction in government borrowing can:
decrease the incentive to invest.
give private investment an opportunity to expand.
crowd out private investment.
increase the interest rate.
7. Choose ALL that apply. A supply side economist would advocate reducing tax rates to encourage:
people to work more hours.
businesses to increase investment spending.
consumers to spend less.
8. Choose ALL that apply. A supply side policy to address a recession would likely:
provide tax cuts and increased transfer payments such as unemployment benefits.
enact policies that stimulate aggregate supply rather than aggregate demand.
provide tax cuts rather than increased government spending.
9. Choose the BEST answer. ________ will often cause monetary policy to be considered counterproductive because it makes it hard for the central bank to know when the policy will take effect.
Reserve requirements
Altering the discount rate
Quantitative easing
Long and variable time lags
10. Choose the BEST answer. Why does the legislative lag influence fiscal policy effectiveness?
Because it takes time for interest rates and bond prices to change.
Because it takes time to evaluate differences between states of the economy.
Because it takes time to collect data on the current state of the economy.
Because it takes time for Congress to pass a bill.
11. Choose ALL that apply. The neoclassical perspective believes there is no Phillips curve tradeoff, because:
prices are fully flexible.
changes in aggregate demand affect prices.
the natural rate of unemployment is determined by labor market conditions separate from the mechanism that determines prices.
12. Choose the BEST answer. In a neoclassical economist’s world, an increase in taxes will:
raise the level of GDP.
lower the price level.
increase the natural rate of unemployment.
13. Choose the BEST answer. If the theory of rational expectations is correct, then the ________ over time.
Phillips curve should be vertical
aggregate supply curve should be horizontal
aggregate demand curve should be vertical
14. Choose the BEST answer. When a shift in ________ occurs, rational expectations hold that its impact on output and employment will only be minimal.
price levels
aggregate demand
aggregate supply
wage levels
15. Choose the BEST answer. Ricardian equivalence means that changes in:
investment offset any changes in the government deficit.
imports offset any changes in the government deficit.
exports offset any changes in the government deficit.
private savings offset any changes in the government deficit.
16.Choose the BEST answer. Suppose you are analyzing data for an economy in which Ricardian equivalence holds true. If the budget deficit increases by 50, then:
investment will decrease by 50 or less.
investment will increase by 50 or more.
private savings will decrease by 50 or more.
private savings will increase by 50 or less.
17. Choose the BEST answer. In a recessionary period of low economic output, a Neoclassical economist would:
propose increases in the supply of money.
believe the economy will eventually rebound.
propose increases in government spending.
19. Choose ALL that apply. How would Keynesian and Neoclassical economics propose dealing with cyclical unemployment?
Both would suggest an increase in aggregate demand by increasing government spending.
Keynesians would suggest an increase government spending, while Neoclassicals would suggest doing nothing because the labor market will correct itself.
Keynesians would suggest increasing government spending, while Neoclassicals would suggest tax rebates that stimulate productivity growth and labor demand.
20. Choose the BEST answer. Experience in the 1970’s suggested that:
Keynesian aggregate demand policies are the most important policy tools to address recessions.
recessions can be cause by shifts in both the short run supply curve and the aggregate demand curve.
monetary policy is not useful to combat recession.
21. Choose the BEST answer. The experience of the Great Recession showed that when the economy is in a recession, the government can increase its spending:
without a need to rely on the expenditure multiplier effects.
with minimal risk of crowding out private investment.
at the risk of crowding out private investment.
22. Choose the BEST answer. The experience of the 1970’s led Keynesian economists to understand that monetary policy was:
less effective than previously believed.
more effective than previously believed.
rarely effective.
23. Choose ALL that apply. Government investment in physical capital improvements may not cause a crowding out problem if:
the economy is in deep recession and savings are sitting idle.
it is financed by higher taxes or other budget cuts.
it is financed by deficit spending.
24.Choose the BEST answer. Government investment in physical capital improvements is likely to cause crowding out if:
it is financed by deficit spending.
the economy is in deep recession and savings are sitting idle.
the economy is in booming and savings are scarce. (possible correct answer unconfirmed)
25. Choose ALL that apply. Structural change refers to:
short run changes in the way the economy works.
the fact that after recovery from recession, the economy does not return exactly where it would have been without the recession occurring.
long run changes in the size of sectors in the economy.
26. Choose the BEST answer. Countercylical fiscal policies that stimulate an economy in a recession do not:
reduce unemployment below the natural rate without eventually increasing inflation
increase unemployment above the natural rate without eventually causing inflation.
increase cyclical unemployment while eventually causing inflation.
27. Choose ALL that apply. Two examples of automatic stabilizers built into fiscal policy are:
tax increases when incomes rise during an expansion.
greater claims on the federal unemployment compensation program.
tax increases when incomes fall during a recession.
new laws that put in place new jobs programs, like the ones created during the great depression.
28. Choose ALL that apply. Discretionary fiscal policy:
“Kicks in” quickly and automatically with changing economic conditions
Can be expansionary or contractionary
Literally requires an act of congress to implement
Second Attempt Alternate Questions:
Choose the BEST answer. An increase in government borrowing can:
crowd out private investment.
increase the incentive for private investment.
cause a substantial decrease in interest rates.
Choose the BEST answer. A recognition policy lag describes the length of time it ________.
requires for policy impacts to be recognized.
takes before policy makers recognize that a recession or expansion is occurring.
requires to enact a monetary or fiscal policy.
Choose the BEST answer. The theory of ________ assumes that individuals will use all information available to them to form the most accurate possible expectations about the future.
adaptive expectations
Keynesian economics
naïve expectations
rational expectations
Choose ALL that apply. A limitation of a countercyclical fiscal policy is that:
there is a long time lag between recognizing a recession and implementing a countercyclical policy.
higher taxes and lower spending can be politically difficult to achieve during economic booms.
it has a longer impact lag than monetary policy.
Choose ALL that apply. During a recession, government investment in physical capital:
helps increase the output and productivity of an economy.
has a risk of crowding out private investment in physical capital.
always generates positive returns to investment.
Choose the BEST answer. The crowding out argument ignores the possibility of:
the government spending multiplier.
idle private savings due to a recession.
interest rates rising.
Choose the BEST answer. Crowding out can be minimized, if at the same time that the government increases spending, it:
increases it deficit.
raises taxes.
conducts an open market purchase.
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