Impact of Monetary Policy, Inflation, Unemployment Rate, Principles of Macroeconomics
The key words in this Macroeconomics course include Short Run, Long Run, Impact of Monetary Policy, Inflation Rate, Unemployment Rate, Prices, Federal Reserve, Interest Rate, Economy, Aggregate Supply, Demand Curve, Aggregate Demand, Stimulate the Economy, Money Supply
Consider the impact of monetary policy over time. In the short run, ____________ prices adjust. In the long run, ____________ prices adjust.
Explanation: If you go to the supermarket the day after the central bank changes monetary policy, how many prices will have changed? What about a month later? A year? It takes time for new money to work its way through the economy, but by altering the amount of money available, policy makers do alter the purchasing power of money, and thus the price level for all goods. Some of these prices will adjust right away, and all of them will adjust in the long run.
In 2007, the Federal Reserve lowered interest rates in order to stimulate the economy. Which of the following is a possible explanation as to why this policy failed to restore the economy to long- run equilibrium
the cut in interest rates was accompanied by very loose fiscal policy
since monetary policy shifts the aggregate supply curve, it was not able to deal with aggregate demand issues that led to the Great Recession.
the cut in interest rates shifted the long run aggregate supply curve too far.
since monetary policy shifts the aggregate demand curve, it was not able to deal with the aggregate supply issues that led to the Great Recession,
Explanation : Monetary policy does not serve to shift the long run aggregate supply curve. As a result, it cannot push the economy back to a sustainable equilibrium at the original long-run level of output.
In the past, some people believed that the Federal Reserve would expand the money supply during presidential election years in order to stimulate the economy and help the incumbent president. For this question, assume that the Fed increases inflation by 3% in every election year. Based on this assumption, which of the following statements is true?
This will cause the unemployment rate to rise.
If market participants expect 0% inflation during an election year, then the unemployment rate will fall.
If market participants expect 0% inflation during an election year, then the unemployment rate will rise.
If market participants form their expectations rationally during an election year, then the unemployment rate willrise.
Explanation : If people expect 0% inflation, any positive inflation will stimulate the economy and lower the unemployment rate. If people form their inflation expectations adaptively, they will not anticipate inflation in an election year because it would be a break from their recent experience. Therefore, inflation in election years will consistently lower the rate of unemployment. Lastly, if expectations are formed rationally, then people will consider the incentives of policymakers during election years. Therefore, they will anticipate higher inflation in those years, and the inflation rate will have no effect on the unemployment rate.
In which of the scenarios listed here will the unemployment rate fall below the natural rate of unemployment?
Inflation is steady at 1% for three years but then decreases to 0% for one year.
Inflation is steady for 2% for three years, and the Fed unexpectedly increases the money supply, causing inflation to increase to 3% the following year.
Inflation is steady at 0% for several years.
Inflation is steady at 5% for several years.
Explanation : No matter how expectations were formed, an unexpected increase in inflation will be a surprise to market participants. This will cause the unemployment rate to fall below the natural rate of unemployment.
Suppose that inflation is trending upward. The actual inflation rate for three periods is 0%, then 4%, and then 8%. Based on this statement, which of the following is true?
If someone is predicting rationally, the inflation rate in the fourth period will be 8%
If someone is using adaptive expectations, the inflation rate in the fourth period will be 12%
If someone is predicting rationally, the inflation rate in the fourth period will be 16%
If someone is using adaptive expectations, the inflation rate in the fourth period will be 8%
Explanation : Expectations formed rationally recognize the trend and, looking to the future, predict 12%.
This outcome is different from what would occur under adaptive expectations, which would instead imply an expectation of 8% in the fourth period, since that number is consistent with the most recent experience.