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Chapter 1 1. Recall Chapter 1's opening story about the British sea captains and the convicted felons. In what way were incentives used to solve the problem of the high mortality rate on board the ships? a. Payment (to ship captains) was to be offered for each prisoner that was taken aboard the ships. b. Payment (to ship captains) was made independent of the regulations passed for prisoner welfare. c. Regulations were passed so that prisoners could get better food, water, and medical care. d. Payment (to ship captains) was made dependent on the survival rate of prisoners. ANSWER: d 2. Recall Chapter 1's opening story about the British sea captains and the convicted felons. Instead of paying the sea captains for each prisoner placed on board the ships in Great Britain, an economist suggested: a. paying for each prisoner who walked off the ship in Australia. b. paying for food and water to reduce the costs of caring for prisoners during the transit. c. doing nothing, since the suggested change would not matter. d. that new regulations be passed to require prisoner safety and health. ANSWER: a 3. In his book The Wealth of Nations, Adam Smith claimed that individuals: a. always act in an altruistic way. b. always consider the effect of their actions on others. c. are motivated by self-interest. d. are not concerned with resources. ANSWER: c 4. In the opening story, the payment to captains of prisoner transport ships for each convict who arrived in Australia instead of for each convict who boarded the ship: a. made no difference. b. saved the lives of hundreds of convicts. c. increased the volume of slave trafficking. d. shows that people care more about morality than about their self-interest. ANSWER: b 5. Several states offer rebates on the purchase of electric vehicles. This practice highlights the idea of: a. self-interest. b. trade-offs. c. incentives. d. thinking on the margin. ANSWER: c 6. Every day, people work at serving people meals at restaurants all around the world. These people work for Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 our benefit because: a. people think on the margin. b. trade-offs are everywhere. c. they benefit by doing so. d. institutions require them to do so. ANSWER: c 7. Economists think that people are self-interested: a. only when monetary incentives are present. b. because they respond to incentives in predictable ways. c. only rarely in response to incentives. d. unless they are being altruistic. ANSWER: b 8. The basic postulate of economics indicates that changes in incentives influence the: a. actions of producers but not consumers. b. actions of consumers but not producers. c. choices of individuals only when they buy and sell goods in the marketplace. d. choices of individuals with regard to a wide range of activities, including those generally perceived as social or political. ANSWER: d 9. According to economists, people respond to: a. other people. b. social interest. c. money. d. incentives. ANSWER: d 10. Adam Smith wrote, “It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest.” He meant that: a. most of us no longer get our dinner directly from the butcher, the brewer, and the baker. b. butchers, brewers, and bakers are not productive members of society. c. high-interest payments mean that no one has to work anymore. d. people work for the benefit of others because it benefits them to do so. ANSWER: d 11. Which financing method for transporting prisoners from point A to B will result in the greatest number of prisoners surviving the trip? Assume there are 50 prisoners being transported. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. The ship's captain is paid $100 by the government for every live prisoner that is loaded on board at point A. b. The ship's captain is paid $100 by the government for every live prisoner that is unloaded at point B. c. The ship's captain is paid $400 by the government for every live prisoner that is loaded on board at point A. d. The ship's captain is paid a flat rate of $3,000 for the trip, rather than being paid per prisoner. ANSWER: b 12. The main incentive for business activity is: a. government subsidies. b. technological advancement. c. profit. d. employment. ANSWER: c 13. Suppose a certain business wants to encourage its employees to live healthier lives. The easiest way for the business to realize this goal is to: a. give each employee $100 a month for a gym membership. b. install a gym in the office building. c. reduce health insurance benefits. d. pay a monthly bonus to employees who log an hour of exercise a week on a fitness tracker. ANSWER: d 14. Many companies pay their factory employees based on piece rates—the more they produce, the more they get paid. This practice highlights the role of: a. marginal thinking. b. incentives. c. trade-offs. d. sunk costs. ANSWER: b 15. If there were no _____, the “invisible hand” would not function as Adam Smith describes. a. money b. self-interest c. trade d. inflation ANSWER: b 16. Based on the ideas of Adam Smith, it is _____ barbers wash, cut, and style hair, but _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. not out of benevolence that; from their regard for their own self-interest b. out of benevolence that; sometimes from their regard for their own self-interest c. not out of self-interest that; out of their benevolence d. from charity and good will that; only if they can charge high prices ANSWER: a 17. In the 1800s, the federal government paid railroad companies for each mile of track built. This payment scheme created incentives for railroad companies to lay track: a. between points A and B using the most direct route. b. between points A and B using the most indirect route. c. as slowly as possible. d. using the best materials possible. ANSWER: b 18. Adam Smith's “invisible hand” refers to: a. people's pursuit of their own self-interest. b. people's pursuit of the social interest. c. social justice. d. government control. ANSWER: a 19. Adam Smith coined the term “invisible hand” to mean: a. a physical hand that leads individuals to promote social interest by pursuing self-interest. b. a metaphorical hand that leads individuals to promote social interest by pursuing self-interest. c. a physical hand that leads individuals to promote self-interest by pursuing social interest. d. a metaphorical hand that leads individuals to promote self-interest by pursuing social interest. ANSWER: b 20. What is the “invisible hand”? a. the idea that government economic planning tends to benefit not only the individual but also all of society b. the principle that most people avoid economic transactions with so-called “outsiders” c. the idea that people pursuing their own self-interest actually benefit the public at large d. the notion that the pursuit of profit leads to the exploitation of consumers ANSWER: c 21. Adam Smith sought to explain the concept of aligning self-interest with the promotion of society's overall interest by: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. using an analysis of wealth as productivity. b. suggesting that markets are led by an invisible hand. c. arguing that markets are ineffective institutions. d. suggesting that government increase regulations. ANSWER: b 22. The idea that markets work efficiently: a. refers to the fact that self-interest can be aligned with social interest. b. means that trade-offs can be reduced by channeling greed toward good ends. c. suggests that there is never any need for government regulation, taxes, or subsidies. d. has been known for many centuries. ANSWER: a 23. Which of the following statements reflects Adam Smith's important insight into marketplace behavior? a. Society benefits when people and firms pursue their own self-interest. b. Markets are usually an inefficient way of organizing economic activity. c. Greedy, self-interested behavior needs to be constrained to ensure strong economic growth. d. Trade restrictions on imported goods increase domestic employment. ANSWER: a 24. Adam Smith's metaphor of the “invisible hand” refers to the notion that: a. greed is always good when externally motivated. b. behavior based on self-interest can lead to an overall benefit to society. c. market incentive can lead to negative side effects. d. markets always align self-interest with social interest. ANSWER: b 25. When markets don't align self-interest with social interest: a. markets will still manage to reach an efficient outcome. b. governments may improve the situation by changing incentives. c. societal costs will always exceed individual benefits. d. individual benefits will exceed societal benefits. ANSWER: b 26. If market incentives to produce are too strong, the market will end up producing: a. too much of the good. b. too little of the good. c. a quantity equal to the efficient outcome, as market incentives can never be considered too strong. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 d. zero output. ANSWER: a 27. If market incentives to produce are too weak, the market will end up producing: a. too much of the good. b. too little of the good. c. a quantity equal to the efficient outcome, as any incentive will result in economic efficiency. d. zero output. ANSWER: b 28. According to economists, socially good outcomes arise whenever people pursue: a. self-interest. b. either self-interest or the social interest. c. self-interest, and it aligns with the social interest. d. self-interest, and it does not align with the social interest. ANSWER: c 29. The “invisible hand” concept is: a. always present as a force in market outcomes. b. never present as a force in market outcomes. c. frequently present as a force in market outcomes. d. not well understood as it relates to market outcomes. ANSWER: c 30. When the social interest is aligned with self-interest: a. the free market functions in the best interest of society. b. regulatory action may improve upon the free market outcome. c. the relevant market should be banned. d. the relevant production process should be outsourced. ANSWER: a 31. When it comes to getting a college education, most people consider _____, not _____. a. the social interest; their self-interest b. their public interest; their social interest c. their costs; their benefits d. their self-interest; the social interest ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 32. Government can help to align self-interest with the social interest by: a. enacting policies that increase incentives to work and trade. b. decreasing international trade. c. promoting charity work. d. banning free markets. ANSWER: a 33. Suppose that you do not study for your economics course but still earn a good grade. This is an example of a bad institution because: a. your school is not very selective; anyone can get in. b. your self-interest in not studying conflicts with the social interest of having people who understand economics. c. your school has a reputation of training excellent economists. d. sometimes the “invisible hand” is absent, not just invisible. ANSWER: b 34. During the COVID-19 pandemic, many state governors instituted stay-at-home orders to prevent the spread of the illness. This example highlights the idea that: a. greed is bad. b. markets align self-interest with the social interest. c. government can sometimes improve market outcomes. d. incentives are not always important. ANSWER: c 35. Which of the following choices best illustrates the concept of Adam Smith's “invisible hand”? a. Etsy creates a Web site for an artist who sells his artwork to a collector in another country. b. A fishery is depleted due to overfishing. c. Government requires owners to have their vehicles’ emissions tested each year. d. A factory that provides much-needed employment is built on the site of the only playground for the children in town. ANSWER: a 36. Which of the following is an example of self-interest that attempts to promote public interest? a. A factory spills chemicals into a nearby river. b. The prime minister of Canada restricts the trade of lumber with the United States. c. The Cincinnati Reds beat the Atlanta Braves. d. An entrepreneur creates a crowd-funding Web site to provide funding for a public school’s fine arts program. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 37. It takes approximately _____ years and _____ to bring a new drug to the market. a. 12; $1 billion b. 2; $100,000 c. 4; $5 million d. 6; $20 billion ANSWER: a 38. When the unemployment rate falls, college enrollment tends to: a. rise. b. remain the same. c. fall. d. defy prediction. ANSWER: c 39. The great economic problem is how to arrange our scarce resources: a. to provide the most profit possible. b. to meet the basic needs of all people. c. to satisfy as many of our wants as possible. d. to prevent them from being completely depleted. ANSWER: c 40. Scarcity: a. is when a resource is completely used up. b. is when there isn't enough to satisfy all our wants. c. happens only in a few economies around the world. d. can be fixed with good economic policy. ANSWER: b 41. The opportunity cost of a choice is: a. the value of the opportunities lost. b. the net value of the opportunities gained. c. the difference between the benefits and costs of the choice. d. sometimes positive or negative. ANSWER: a 42. In the market for pharmaceuticals, the issue of “drug lag” illustrates which of the following ideas? a. The longer a drug is tested for safety, the lower the opportunity cost in terms of lives lost. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 b. If a drug is not tested for safety, it might kill more people. c. Because of the higher cost of testing a drug, it takes longer to make it, and more lives are lost. d. Lives are being lost because safe drugs that are still in the testing stage have not yet been approved. ANSWER: d 43. In the market for pharmaceuticals, the issue of “drug loss” illustrates which of the following ideas? a. The longer a drug is tested for safety, the lower is the opportunity cost in terms of lives lost. b. If a drug is not tested for safety, it might kill more people. c. Because of the higher cost of testing a drug, fewer drugs are made, and more lives are lost. d. Lives are being lost because safe drugs that are still in the testing stage have not been approved. ANSWER: c 44. What you give up to obtain an item is called your: a. opportunity cost. b. explicit cost. c. true cost. d. direct cost. ANSWER: a 45. Opportunity costs are important because: a. monetary costs are higher than opportunity costs. b. only monetary costs should be considered when making choices. c. they determine how to make the world more productive. d. people change their behavior when opportunity costs change. ANSWER: d 46. The opportunity cost of a choice is: a. the opportunity of using the money to buy something else cheaper. b. the money cost that a person does not have to pay when doing something. c. the money that a buyer has to pay for an item. d. the value of the next best opportunity foregone. ANSWER: d 47. Estimates suggest that tens of thousands of people have died because the FDA withheld beta-blockers from the market while testing to determine whether the drugs were safe and effective. This is an example of: a. drug lag. b. drug loss. c. bureaucratic incompetence. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 d. market failure. ANSWER: a 48. According to economists, when the FDA raises the approval requirements for new drugs: a. everyone will benefit and be better off. b. society will potentially lose a new drug approval. c. everyone but the drug makers will lose. d. people will only demand more drug testing. ANSWER: b 49. If the FDA enacts more stringent pharmaceutical drug tests, two costs of this policy would be: a. drug lag and drug lapse. b. drug lapse and drug misallocation. c. drug loss and drug lag. d. drug misallocation and drug loss. ANSWER: c 50. Mark Zuckerberg dropped out of college and founded Facebook. His opportunity cost of attending college was: a. tuition, the cost of books, and room and board. b. tuition, the cost of books, and a low-paying job. c. tuition, the cost of books, and the income from his Facebook pursuits. d. only the income from his Facebook pursuits. ANSWER: c 51. When the opportunity cost of a choice decreases: a. individuals are more likely to choose that same option. b. individuals are less likely to choose that same option. c. the marginal benefits of that choice increase as well. d. the marginal benefits of that choice decrease. ANSWER: a 52. During a recession, we expect that the opportunity cost of attending college: a. rises. b. falls. c. remains the same. d. cannot be determined from the information given. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 53. Quitting your current job to work full-time at your profitable new business is most likely a direct application of the principle of: a. gains from trade. b. specialization. c. thinking on the margin. d. opportunity cost. ANSWER: d 54. In an effort to prevent the spread of COVID-19, many state governors requested that businesses shut down to assist in the effectiveness of stay-at-home orders. This policy caused many businesses to lay off their employees. What concept does this example represent? a. trade-offs b. marginal pollution c. sunk costs d. public provision ANSWER: a 55. The opportunity cost of winning a free ticket to the World Series worth $885 and choosing to attend the game is: a. zero, since the ticket was free. b. priceless, if the person really loves baseball. c. at least $885, the lost market value of selling the ticket, and the time to go. d. zero, if the person would rather go to the game than do anything else. ANSWER: c 56. You must decide whether to work this afternoon or study for your biology test. Your decision highlights the following “Big Idea” in economics. a. Institutions Matter b. Incentives Matter c. Economics Is Fun d. Trade-offs Are Everywhere ANSWER: d 57. Why do you think researchers sometimes find a positive relationship between the unemployment rate and college enrollment rates? a. The opportunity cost of attending college rises during economic booms, leading to higher college enrollment rates. b. The opportunity cost of attending college rises during recessions, leading to higher college enrollment rates. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 c. The opportunity cost of attending college falls during recessions, leading to higher college enrollment rates. d. The opportunity cost of attending college falls during economic booms, leading to higher college enrollment rates. ANSWER: c 58. The opportunity cost of attending college is: a. tuition and books. b. travel expenses, tuition, and books. c. the psychic costs of missing your family and friends while in school. d. lost wages from not working full-time. ANSWER: d 59. Each of the following ideas is central to economics EXCEPT: a. “good institutions can eliminate economic trade-offs.” b. “people react to incentives.” c. “specialization and trade benefit everyone.” d. “prices rise when the government prints too much money.” ANSWER: a 60. As the FDA uses _____ time and resources to ensure the safety of new drugs, _____. a. more; more people will die from taking unsafe drugs b. less; fewer people will die waiting for access to life-saving medicine c. more; fewer people will die waiting for access to life-saving medicine d. less; fewer people will die from taking unsafe drugs ANSWER: b 61. During the Middle Ages, expensive castle-based warfare was the dominant method of conflict. Warfare was also the main function of government. Which reason best explains why few universities were built during this time? a. The lack of professors meant there was no incentive to create universities. b. The opportunity cost of building universities was fewer castles. c. There were no benefits to attending college at the time. d. Local rulers did not care about long-term growth. ANSWER: b 62. Most people do not buy the safest car they can find. Why not? a. Other factors matter besides safety, such as comfort, cost, and fuel economy. b. People do not take the time to understand the safety features of cars. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 c. Consumers are unaware of the risks of different cars. d. The statement is false. People do buy the safest car they can find. ANSWER: a 63. Some people take jobs that are dangerous, but such jobs pay well. For example, oil rig workers make $78,000 per year on average. Why? a. Oil rig workers are accepting of the danger in trade for higher salaries. b. Oil rig workers do not understand the danger involved in the job. c. Oil rig workers are assessing the opportunity cost of the danger in the job. d. Oil rig workers only care about the positive characteristics of the job. ANSWER: a 64. Fluctuations in graduate school enrollment correlate positively with fluctuations in unemployment. What is the most likely reason why? a. The opportunity cost of going to graduate school is high when jobs are difficult to find. b. When jobs are easy to find, there are strong incentives to go to grad school. c. The opportunity cost of going to graduate school is low when jobs are hard to find. d. Even if you have a job, the salary will be so low that going to graduate school is worth the effort. ANSWER: c 65. Manuel insists that he places an infinite value on his life. Stefan is suspicious of this claim and points out to Manuel that he sometimes eats ice cream when broccoli would be much better for him. What Big Idea is Stefan using? a. Trade Makes People Better Off: Manuel could not make his own ice cream, though he could grow his own broccoli; Manuel must be trading for ice cream. b. Incentives Matter: No one is paying Manuel to be healthy. c. Think on the Margin: “Infinite value” is too much to be on the margin. d. Trade-offs Are Everywhere: Gaining some enjoyment is worth giving up some safety. ANSWER: d 66. Why is it less costly to attend college during a recession? a. Tuition is much lower during a recession. b. The opportunity cost is higher during a recession because there are more labor market opportunities. c. The opportunity cost is lower during a recession because there are fewer labor market opportunities. d. Colleges give out better grades during recessions, so the opportunity cost is lower. ANSWER: c 67. Why might the FDA err on the side of “overtesting” pharmaceutical drugs rather than use a level of testing that is economically efficient? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. Dangerous side effects are more important than drug loss and drug lag. b. Dangerous side effects are less important than drug loss and drug lag. c. Drug lag and drug loss are not significant concerns in the case of most pharmaceutical drugs. d. Dangerous side effects are not relevant in most pharmaceutical drug cases. ANSWER: a 68. What should happen to crime rates when the unemployment rate rises? a. Crime rates should fall because the economic gains to property crime will be lower when incomes are lower. b. Crime rates should rise because the opportunity cost of crime (i.e., getting a legitimate job) has fallen. c. Crime rates should fall because the opportunity cost of crime (i.e., getting a legitimate job) has risen. d. Crime rates should rise because the trade-offs have been eliminated. ANSWER: b 69. In the 2 hours between classes a student can do one of three things, ranking them from most to least desirable as: (1) chat with friends, (2) study economics, or (3) eat lunch. This student's opportunity cost of chatting with friends is: a. the total value of studying economics and eating lunch. b. the value of studying economics. c. the value of chatting with friends. d. nothing because students do not pay their friends to chat with them. ANSWER: b 70. Over the weekend, Bella can do one of three things, ranked as most to least desirable: (1) go to the beach, (2) study economics, or (3) work. Bella’s opportunity cost of going to the beach is: a. the value of studying economics and working. b. the value of studying economics. c. the value of going to the beach. d. the value of working. ANSWER: b 71. How is the unemployment rate related to the opportunity cost of college? a. As the unemployment rate increases, the opportunity cost of attending college falls because fewer opportunities for employment exist. b. As the unemployment rate decreases, the opportunity cost of attending college falls, since it becomes easier to pay for tuition when employed. c. As the unemployment rate increases, the opportunity cost of attending college increases because fewer people are giving up the opportunity of working to attend college. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 d. As the unemployment rate increases, the opportunity cost of attending college increases because more people are giving up the opportunity of working to attend college. ANSWER: a 72. The opportunity cost of committing a crime and spending 5 years in jail: a. is the same for everyone. b. is higher for people who are employed than for the unemployed. c. is zero because the costs of jail are paid for by the government. d. equals the fines and legal fees. ANSWER: b 73. Dinah quits her administrative job, which pays $50,000 a year, to finish her 4-year college degree. Her annual college expenses are $11,000 for tuition; $1,900 for books; and $2,500 for food. The opportunity cost of attending college for the year is: a. $15,400. b. $12,900. c. $65,400. d. $62,900. ANSWER: d 74. Air travel from Chicago to Los Angeles costs $800 and takes 4 hours. A bus ticket between the cities costs $100 and takes 104 hours. Other things being constant, the minimum value of one's time that would induce a rational individual to fly rather than drive would be: a. $1 per hour. b. $7 per hour. c. $12 per hour. d. $120 per hour. ANSWER: b 75. You are given a ticket to a Garth Brooks concert worth $150. You value the ticket at only $100, sell it to a friend for $100, and attend a Chris Stapleton concert for $175. The opportunity cost of attending the Chris Stapleton concert is: a. $25 worth of alternative goods and services. b. $75 worth of alternative goods and services. c. $175 worth of alternative goods and services. d. $275 worth of alternative goods and services. ANSWER: c 76. On June 13, 2011, writer Sebastian Anthony at Extreme Tech wrote, “During the two days that the Les Paul Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 [Google] doodle was online, those 740 million visitors spent 26 seconds more on the Google home page than normal. That's a total of almost 10.7 million work hours spent playing with the Les Paul Google Doodle. Assuming the average Google user earns $25/hour, the doodle cost companies around the world $268 million in lost productivity.” Mr. Anthony's mistake is overestimating opportunity costs. He is doing this by assuming that: a. labor has no incentive to work. b. all those work hours would have been spent working if not for the doodle. c. none of the Google visitors sleep. d. labor is not making a marginal decision. ANSWER: b 77. Economists Jevons, Menger, and Walras are credited with: a. explaining the limitations of monetary policy. b. formulating the theory of comparative advantage. c. developing the concept of opportunity cost. d. starting the "marginal revolution." ANSWER: d 78. What is meant by the term “marginal revolution”? a. the public disdain toward the institution of marginal tax rates b. the transformation in economic thought that occurred with the discovery of marginal thinking c. the institution of the death penalty for drug dealers d. the effect of policies on crime ANSWER: b 79. What is thinking on the margin? a. making decisions that are of noneconomic importance b. making choices that are based on historical precedents c. making choices that ignore the marginal benefits, but not the marginal costs, of some activity d. making choices by comparing the additional benefits and additional costs from doing a little bit more of some activity ANSWER: d 80. Deciding whether to study an additional hour for an exam by comparing the additional benefits to the additional costs of an extra hour of study is an example of: a. the social interest. b. the invisible hand. c. marginal thinking. d. the power of trade. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: c 81. When deciding whether or not to undertake an activity, economists compare: a. the total cost of the activity against the total benefit received. b. the total benefit of the activity against the total cost of production. c. the additional cost of the activity against the additional benefits received. d. the average cost of the activity versus the total benefits received. ANSWER: c 82. A student at a party deciding whether to stay a few more minutes is: a. thinking on the margin. b. increasing the rate of unemployment. c. aligning her self-interest with the social interest. d. paying high interest rates. ANSWER: a 83. Economists believe people make decisions by: a. comparing marginal costs with marginal benefits. b. thinking about costs but not benefits. c. thinking about benefits but not costs. d. comparing total costs with total benefits. ANSWER: a 84. An example of a marginal decision is deciding whether to: a. invest half your savings in Google or Microsoft. b. buy one more apple or one more banana. c. commit your life to economics or biology. d. study for 5 hours or for 10 hours. ANSWER: b 85. All of the following are decisions made on the margin EXCEPT: a. eating dessert at a restaurant. b. budgeting $10,000 to buy a new car. c. buying new shoes to go with your new clothes. d. reading for one more hour before going to sleep. ANSWER: b 86. Decreasing one's driving speed when one sees a police cruiser is an application of the principle of: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. gains from trade. b. returns from specialization. c. marginal thinking. d. opportunity cost. ANSWER: c 87. Imposing the death penalty on rapists may increase the number of murders because: a. the death penalty is not a deterrent to the behavior of a rapist. b. once a victim is raped, there is no additional penalty imposed for also killing the victim. c. rapists are irrational and place no value on the life of their victims. d. rapists do not think about the consequences of their actions. ANSWER: b 88. A grocery store is running a “buy-one-get-another-at-one-half-off” promotion on a dozen doughnuts. So the first dozen is $6, and the second would be $3. A person would buy the second dozen if their marginal benefit from the second dozen doughnuts is: a. greater than $3. b. greater than $6. c. greater than $9. d. less than $3. ANSWER: a 89. What is a plausible economic explanation for why Braille “dots” are commonly found on drive-up automatic teller machines even though blind customers likely will not use a drive-up automatic teller machine? a. Blind people must be able to use such machines because the Americans with Disabilities Act requires such dots on the keys. b. The marginal cost of making two different types of keypads is substantial, and the benefit of providing keypads without the Braille dots is less than that marginal cost. c. The marginal cost of making the keys with the Braille dots is less than making the keys without the Braille dots. d. There is no economic concept that explains why the keypads have Braille dots. ANSWER: b 90. Suppose your teacher finishes class 30 minutes early on the day before an exam. She indicates that you may leave, or you may stay on for an optional study period that will last for the remaining 30 minutes of the scheduled class time. You should: a. always choose to stay for the study period, since you have already paid for the class time. b. choose to stay only if you like the instructor, since the value obtained is higher than if you disliked the instructor. c. choose to stay only if the benefits gained from the extra study session exceed the cost of another 30 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 minutes in class. d. choose to stay for the study session only if you do not plan to study on your own for the exam. ANSWER: c 91. Suppose you have ordered a value meal at a local fast-food restaurant. The cashier asks if you would like to “supersize” your meal. In order to make an efficient decision, you should compare: a. the total cost of the larger, “supersized” meal versus the total benefits received. b. the additional cost of the larger meal versus the additional benefits received. c. the total cost of the larger meal versus the additional cost to the restaurant. d. the benefits of the smaller meal versus the additional benefits obtained from consuming the “supersized” meal. ANSWER: b 92. If the costs of staying at a party a few more minutes are higher than the benefits, you should: a. stay longer. b. leave the party. c. never have attended the party in the first place. d. have thrown your own party. ANSWER: b 93. If the costs of studying for your economics test for 30 more minutes are higher than the benefits, you should: a. continue to study. b. quit studying. c. not study in the first place. d. study for another hour. ANSWER: b 94. When deciding how much to study for an economics class, students should study until: a. the total benefits exceed the total costs. b. the total costs equal the total benefits. c. the marginal benefits exceed the marginal costs. d. the marginal costs exceed the marginal benefits. ANSWER: d 95. When deciding whether to eat more food at a buffet, diners should eat until: a. total benefit exceeds total cost. b. total cost equals total benefit. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 c. marginal benefit exceeds marginal cost. d. marginal cost exceeds marginal benefit. ANSWER: d 96. A high-school graduate deciding to go to college makes that decision by: a. comparing the total income earned per year after graduating from college with the total cost of going to college. b. comparing the additional income earned per year after graduating from college with the additional cost of going to college. c. thinking about the benefit to society if she goes to college. d. following what her friends do. ANSWER: b 97. Suppose a customer at a restaurant is deciding whether or not to order dessert. Marginal thinking means that the customer should compare: a. the total benefit from the entire meal and dessert with the additional cost of the dessert. b. the total benefit from the entire meal and dessert with the total cost of the meal and dessert. c. the additional benefit from the dessert with the additional cost of the dessert. d. the marginal benefit from the meal with the marginal cost of the dessert. ANSWER: c 98. A customer at a fast-food restaurant may choose to order a burger for $4.00 and fries for $1.50 or order a value meal (that includes the burger, fries, and a drink) for $6.00. What is the marginal cost of the drink if the customer orders the value meal? a. $6.00 b. $1.50 c. $0.00 d. $0.50 ANSWER: d 99. At Cordless Cellular Phone Services, an unlimited cell phone plan costs $50 per month and has unlimited minutes, texts, and data. What is the marginal fee for the 1,000th minute used? a. $0.50 b. $0 c. $0.05 d. $0.10 ANSWER: b 100. An automobile gets 40 miles per gallon, and a gallon of fuel costs $4.00. What is the marginal fuel cost for Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a typical mile of driving with this vehicle? a. $0.05 b. $0.10 c. $0.15 d. $0.20 ANSWER: b 101. The average tax on a professor's income of $100,000 is 18%, and the marginal tax rate above $100,000 is 45%. If the professor teaches during the summer and earns an additional $10,000 (bringing her total earnings for the year to $110,000), how much of the summer income does she keep after paying taxes? a. $4,500 b. $1,800 c. $6,300 d. $5,500 ANSWER: d 102. Joe runs a landscape business. He knows that providing landscaping services costs him $100 per hour on average, while the cost of providing such services is $150 per hour after 5 PM (due to overtime pay, reduced productivity, and the added wear and tear on his equipment). A potential client offers Joe $130 per hour to provide services but needs him to provide the services after 5 PM due to circumstances at the property. a. Joe should take the job, since $130 exceeds his average cost of production. b. Joe should take the job, since he is making a $30 profit per hour. c. Joe should decline the job, since he would lose $150 per hour worked on the job. d. Joe should decline the job, since he would lose $20 per hour worked. ANSWER: d 103. A person has a comparative advantage in activity X when that person's: a. opportunity cost of performing that activity is very high. b. ability to perform that activity exceeds that of all other people. c. government negotiates a favorable trade agreement. d. opportunity cost is lower for him than for other trading partners. ANSWER: d 104. The real power of trade lies in people's ability to: a. get things they can't produce. b. get the lowest price possible. c. increase their consumption. d. specialize and increase production. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 105. One benefit of trade is that it: a. increases the division of knowledge because trade makes people more self-sufficient, producing more of what they consume. b. allows for increased specialization and mass-production techniques that lower per unit costs of production. c. lowers productivity, leading to greater domestic employment. d. decreases economies of scale, making production more efficient. ANSWER: b 106. When two people voluntarily trade with each other: a. one person will be better off, and the other person will be worse off. b. both of them will be better off. c. both of them will be worse off. d. whether they will be better off or worse off depends on how they negotiate with each other. ANSWER: b 107. Patterns of specialization and trade are explained by: a. the principle of comparative advantage. b. the principle of absolute advantage. c. people's productivity. d. government control and regulation. ANSWER: a 108. When Angel has a comparative advantage over Blake in cooking, it means that: a. the opportunity cost of cooking is higher for Angel than for Blake. b. the opportunity cost of cooking is lower for Angel than for Blake. c. Angel can cook faster than Blake can. d. Blake can cook faster than Angel can. ANSWER: b 109. When Asha has a comparative advantage over Jabari in welding, it means that: a. the opportunity cost of welding is higher for Asha than for Jabari. b. the opportunity cost of welding is lower for Asha than for Jabari. c. Asha can weld faster than Jabari can. d. Jabari can weld faster than Asha can. ANSWER: b 110. It makes sense that Martha Stewart hires another person to do her ironing because: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. she never learned how to iron. b. her opportunity cost of ironing is the same as the opportunity cost for the person she hires. c. her opportunity cost of ironing is lower than the opportunity cost for the person she hires. d. her opportunity cost of ironing is higher than the opportunity cost for the person she hires. ANSWER: d 111. Trade increases production partly by taking advantage of: a. economies of scale. b. economies of scope. c. realism. d. pluralism. ANSWER: a 112. Trade increases production partly by taking advantage of: a. specialization. b. mercantilism. c. idealism. d. internalization. ANSWER: a 113. Self-sufficiency: a. is the key to prosperity. b. is not a popular idea. c. results in poverty and death. d. means being able and willing to trade. ANSWER: c 114. Which of the following statements is TRUE about trade? a. Everyone can benefit from trade, even people who trade with someone from a foreign country. b. Comparative advantage is based on specializing in products that have a high opportunity cost of production. c. If a person can do everything better than anyone else, there is no reason for that person to trade with others. d. Trade makes one party better off but the other party worse off, so there is no net gain to society. ANSWER: a 115. Without trade, we would all be able to produce: a. products we enjoy with trade. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 b. somewhat less than we do now. c. very little. d. more than we do now. ANSWER: c 116. As the United States becomes more productive at manufacturing chemicals and pharmaceutical drugs, the opportunity cost of producing other items such as textiles _____, leading to _____ demand for foreign textiles. a. increases; increased b. decreases; increased c. increases; decreased d. decreases; decreased ANSWER: a 117. The better Martha Stewart is at running her business: a. the higher her opportunity cost of ironing her own shirts. b. the lower her opportunity cost of ironing her own shirts. c. the more it makes sense for her to iron her own shirts because she will have more time. d. the more it makes sense for her to spend her time away from her business. ANSWER: a 118. What factor is responsible for ending malaria in the United States? a. inflation b. wealth c. the gold standard d. yardstick competition ANSWER: b 119. Which of the following helped the most to bring an end to malaria in the United States? a. government aid to the poor b. climate change c. economic growth d. spending on health care ANSWER: c 120. Which of the following best explains why economists want to understand the determinants of economic wealth? a. Economists, like everyone else, are self-interested. b. As overall wealth increases, distribution of wealth tends to equalize as well. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 c. Higher levels of wealth tend to generate better health and human rights outcomes across countries. d. The determinants of economic wealth are easier to study than the determinants of economic growth. ANSWER: c 121. One of the effects of economic growth is: a. a higher rate of infant mortality. b. less leisure time. c. a lower level of reported happiness. d. better sanitation and health outcomes. ANSWER: d 122. How are wealth and economic growth related? a. Increases in wealth help facilitate economic growth. b. Economic growth causes increases in wealth. c. Wealth and economic growth are negatively related. d. Economic growth causes resource depletion and reduces society's wealth. ANSWER: b 123. The historical rise in living standards of American workers is primarily a result of: a. the influence of labor unions in America. b. tariff protection imposed by the American government. c. the enactment of minimum wage laws in America. d. the rise in American productivity. ANSWER: d 124. Countries with _____ have _____ infant survival. a. higher wealth; higher b. higher wealth; lower c. higher productivity; lower d. higher productivity; higher ANSWER: a 125. Wealthy countries tend to have _____ physical capital per worker and _____ human capital per worker. a. little; a lot of b. a lot of; little c. a lot of; a lot of d. no; a lot of Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: c 126. Today GDP per capita in South Korea is _____ than in North Korea. a. 10 times less b. two times less c. two times greater d. 10 times greater ANSWER: d 127. In 1950, GDP per capita in South Korea was _____ GDP per capita in North Korea. a. 10 times less than b. two times less than c. roughly equal to d. two times greater than ANSWER: c 128. South Korea became much richer than North Korea as a result of: a. foreign aid from the United States. b. a different cultural background. c. a different language. d. its economic systems and incentives. ANSWER: d 129. North Korea and South Korea were equally poor in 1950, but today South Korea is _____ than North Korea. a. 10 times richer b. two times richer c. two times poorer d. 10 times poorer ANSWER: a 130. Which of the following best characterizes rich countries? a. a very large number of workers b. significant levels of human and physical capital per worker c. strong government restrictions on private property rights d. closed markets and the use of the latest technological knowledge ANSWER: b 131. What are the institutions that help foster the appropriate incentives for economic growth? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. regulated labor and credit markets; and unions b. communal property rights and absence of a profit–loss system c. a dependable legal system, property rights, and competitive and open markets d. production and export quotas; and supply and demand ANSWER: c 132. An economy in which entrepreneurs are free to experiment with new ideas and bring innovative products to the market will: a. help economic growth but not affect living standards. b. lead to improved living standards and increased economic growth. c. lead to increased living standards but stagnate economic growth. d. help stagnate living standards but increase economic growth. ANSWER: b 133. Among the most powerful institutions for supporting good incentives are: a. government price controls. b. monopolies. c. legal limits on excessive profits. d. property rights. ANSWER: d 134. Each of the following will act as good incentives to innovate and induce economic growth EXCEPT: a. government regulations. b. a dependable legal system. c. political stability. d. property rights. ANSWER: a 135. A dependable legal system and competitive, open markets help to: a. shape incentives that induce economic growth. b. reduce liberty and varied freedoms. c. bring about honest government and political stability. d. increase inefficiencies. ANSWER: a 136. Entrepreneurial activity is encouraged by: a. good institutions. b. opportunity costs. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 c. economic growth. d. trade-offs. ANSWER: a 137. Institutions that promote economic growth include: a. policies that provide incentives for people to produce and trade. b. government control in markets. c. income redistribution from the rich to the poor. d. the amount of goods and services that are provided citizens by their government. ANSWER: a 138. Ideas: a. will run out some day. b. are not depleted when they are used. c. are not an important factor in economic growth. d. occur at the same rate no matter what. ANSWER: b 139. Institutions that support economic growth are the ones that: a. encourage consumption and discourage savings. b. give the government more control over what is produced and how it is produced. c. require companies to act in the social interest. d. provide incentives for entrepreneurs to take risks and innovate. ANSWER: d 140. Which option best explains why firms develop new ideas for production techniques and product features? a. because they are interested in sharing their new ideas with the world b. because they are interested in making a profit c. because it will be in the social interest d. because doing so will make their customers happy ANSWER: b 141. If North Korea and South Korea were both equally poor in 1950, why has South Korea developed so much faster since then? a. The two countries have different linguistic, cultural, and historical backgrounds. b. North Korea has an economic system that develops incentives. c. South Korea has maintained a more market-based economic system. d. South Korea began with a higher per capita GDP. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: c 142. A National Geographic Channel special, Inside North Korea, reported on Dr. Sanduk Ruit's humanitarian mission to North Korea, one of the poorest countries in the world. Over a 10-day period, he performed 1,000 relatively straightforward eye surgeries to remove blindness due to cataracts. Why is it not surprising that North Korea doesn't have doctors to perform this surgery? a. North Korea specializes in other things and trades for medical services. b. North Korea is too poor to afford qualified eye doctors. c. The “invisible hand” allocates resources to other areas. d. North Korea suffers from too many economic booms and busts to afford such surgeries. ANSWER: b 143. Research spearheaded by Dr. Norman Borlaug in the 1950s and 1960s helped develop high-yield wheat that is now in use all over the world. It was so successful that some credit Borlaug with saving more than 1 billion people from dying of starvation. What quality do ideas have that makes this claim so credible? a. They don't require many resources to develop, just careful thought. b. They create incentives, transform human behavior, and allow people to pursue their own self-interest. c. They are intangible, allowing them to easily be improved upon. d. They aren't depleted when they are used, allowing them to spread quickly and without limit. ANSWER: d 144. The Great Depression was: a. a natural manifestation of competitive markets. b. cut short because of well-thought-out monetary policy. c. to date, the worst economic period in U.S. economic history. d. about as severe as the 2008–2009 recession. ANSWER: c 145. In a recession, generally: a. unemployment increases. b. employment increases. c. wages decrease and unemployment increases. d. wages increase and unemployment increases. ANSWER: c 146. During the Great Depression, the U.S. unemployment rate exceeded a. 35%. b. 30%. c. 25%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 d. 20%. ANSWER: d 147. During the Great Depression, U.S. national output fell by: a. 35%. b. 30%. c. 25%. d. 20%. ANSWER: b 148. The Great Depression: a. was the normal response of an economy to changing economic conditions. b. could not have been lessened with appropriate monetary policy. c. generated unemployment rates of more than 20%. d. was not an important economic event. ANSWER: c 149. Which of the following statements is TRUE? a. The Great Depression, despite its name, was really a small economic downturn with very little unemployment. b. The Great Depression refers to the severe economic downturn that occurred during the nineteenth century. c. The Great Depression would have been less severe if the Federal Reserve had acted appropriately. d. Well-functioning economies grow at a constant rate and do not experience booms and busts. ANSWER: c 150. Booms and busts refer to the: a. fluctuations in economic activity over time. b. theory of the second best. c. decreases in a nation's output growth over time. d. monetary inflation and deflation caused by the central bank. ANSWER: a 151. Two major policies used by the government to affect economic conditions are: a. acceleration and recalibration policy. b. recalculation and normalization policy. c. fiscal and monetary policy. d. passive and active policy. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: c 152. Monetary and fiscal policies: a. can reduce the severity of economic busts. b. have been proven to be ineffective and are no longer used during recessions. c. work only during times of rapid inflation. d. are tools used during economic booms but not economic busts. ANSWER: a 153. Economists have discovered that economic booms and busts: a. are needless and can be eliminated. b. should be encouraged because they help make people better off. c. can be moderated but not eliminated. d. cause people to specialize so that they become more productive. ANSWER: c 154. Most developed countries: a. have stopped growing. b. grow at an unsteady rate. c. grow at a steady rate. d. grow at an increasing rate. ANSWER: b 155. Economic booms and busts: a. can be moderated but cannot be avoided. b. can be avoided by employing growth-encouraging institutions. c. do not occur, since the economy always grows at a constant pace. d. occur only when countries have bad institutions. ANSWER: a 156. All booms and busts: a. are part of an economy's normal response to changing economic conditions. b. are avoidable. c. are caused by the weather. d. affect the rate of economic growth. ANSWER: d 157. Monetary and fiscal policy: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. can make matters worse if poorly used. b. are useless. c. can prevent all recessions. d. are all-powerful. ANSWER: a 158. Which of the following explains why economic booms and busts cannot be avoided? a. The effects of fiscal and monetary policies will never be completely understood. b. The time lags of both fiscal and monetary policies make eliminating boom–bust cycles impossible. c. Economic booms–busts could be avoided if politicians would put good economics ahead of good politics. d. The economy is always being struck by unavoidable shocks. ANSWER: d 159. In Zimbabwe, the government _____ the _____ money, which caused the country's severe inflation. a. decreased; demand for b. decreased; supply of c. increased; supply of d. increased; demand for ANSWER: c 160. Inflation is: a. a decrease in the general level of prices. b. an increase in a price of a good. c. an increase in the general level of prices. d. an increase in the prices of goods in a particular classification, like food or energy. ANSWER: c 161. According to Milton Friedman, “Inflation is always and everywhere a: a. capitalist problem.” b. communist problem.” c. monetary phenomenon.” d. situation caused by haphazard technological growth.” ANSWER: c 162. The _____ has the power to regulate the money supply in the United States. a. Federal Reserve b. president Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 c. Senate d. House of Representatives ANSWER: a 163. From 2007 to 2009, the inflation rate in Zimbabwe could be characterized as: a. negative. b. zero. c. positive but low. d. positive and high. ANSWER: d 164. The Zimbabwean government printed money as fast as it could for years. As a result: a. prices fell rapidly in Zimbabwe. b. the Zimbabwean economy grew rapidly. c. Zimbabwe experienced mild inflation. d. Zimbabwe experienced inflation at a rate of billions of percent per month. ANSWER: d 165. Milton Friedman argued that: a. prices need to be regulated and set by the government to prevent inflation. b. general price level increases result from the government printing too much money. c. inflation is a phenomenon of capitalist economies. d. appropriate antitrust policy can prevent businesses from causing inflation. ANSWER: b 166. The central bank of the United States is known as the: a. Federal Reserve. b. Central Bank of the United States. c. Central Reserve Union. d. Federal Central Bank. ANSWER: a 167. The central bank of the United States is: a. the Senate. b. the Department of Treasury. c. the Federal Reserve. d. Wall Street. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: c 168. Inflation can be defined as: a. the general rise in the level of output in an economy. b. the boom–bust cycles of an economy. c. the rise and fall of the general level of prices in an economy. d. the increase in the general level of prices in an economy. ANSWER: d 169. An increase in the general price level is: a. depreciation. b. appreciation. c. deflation. d. inflation. ANSWER: d 170. Inflation: a. is a decrease in the general level of prices. b. is an increase in the general level of prices. c. makes it easier to figure out real values for goods, services, and investments. d. is a rare problem in macroeconomics. ANSWER: b 171. Central banking in the United States refers to: a. the operation of the Federal Reserve in its attempts to affect the economy. b. how commercial banks interact with one another to earn more profits. c. the federal government's control of the U.S. banking system. d. how banking decisions are centralized in New York City. ANSWER: a 172. Inflation is primarily caused by: a. businesses raising their prices in response to increasing energy prices. b. the government printing too much money. c. misguided fiscal policy. d. economic downturns in GDP. ANSWER: b 173. Most economists believe that an increase in the supply of money results in: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. an increase in the demand for goods and services. b. higher unemployment in the short run. c. higher inflation in the long run. d. no change for the economy. ANSWER: c 174. Inflation is bad for an economy because: a. there is an increase in demand for goods. b. it leads to higher employment and wages. c. people have a hard time figuring out the real values of goods, services, and investments. d. people feel richer. ANSWER: c 175. Inflation occurs largely as a result of: a. the government having a large debt. b. a shortage in the supply of goods or services. c. the government printing too much money. d. a recession. ANSWER: c 176. Which of the following would be the most likely to cause inflation? a. massive increases in government spending b. sustained increases in the money supply c. increases in interest rates d. a decline in the purchasing power of the dollar ANSWER: b 177. When people spend more money without an increase in the supply of goods, prices: a. must rise. b. must fall. c. may rise or fall. d. must stay the same. ANSWER: a 178. In Zimbabwe, price increases of 150,000% per year were caused by: a. the country's unsustainable trade deficit. b. marginal tax rates as high as 90%. c. large increases in the money supply. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 d. deregulated prices. ANSWER: c 179. Inflation typically arises from: a. a sufficiently rapid contraction of the money supply. b. a constant money supply. c. a sufficiently rapid increase in the money supply. d. an increase in the price level. ANSWER: c 180. What is one cause of inflation? a. the persistent rise in prices in the economy b. the inability of production to keep up with spending in the economy c. increased spending by people and the government d. economic growth without money growth ANSWER: b 181. A policymaker wants to reduce inflation. In order to make an intelligent decision about how to do so, the policymaker: a. should use a simple rule: once inflation is gone, it will always be gone. b. needs to know the causes of inflation, for example, the government printing too much money. c. should find out if people are really better off as a result of the inflation. d. should realize that inflation can be reduced without any costs. ANSWER: b 182. In an episode of DuckTales (a Disney cartoon starring Scrooge McDuck) entitled “Dough Ray Me,” one of the characters invented a duplicating machine. Other characters used the machine to start duplicating money at a phenomenal rate. What would you expect to happen? (And indeed, the episode does show this happening.) a. More people would save money. b. The government would print more money. c. It would create massive inflation. d. Wages would fall. ANSWER: c 183. Which statement is correct regarding the Federal Reserve? a. Most economists believe that the Federal Reserve does more good than harm. b. The Federal Reserve has developed the ability to manage the economy with great precision. c. Its control of the money supply is not connected to the performance of the economy. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 d. The Federal Reserve's decisions usually have an immediate effect on the economy's unemployment rate. ANSWER: a 184. Which statement explains why the Federal Reserve has a tough job? a. There are lags in the effects of monetary policy, and economic conditions continuously change. b. Legally it is not allowed to change the supply of money; it can only make recommendations to the president. c. It takes a long time for Congress to agree on a policy. d. It can change the supply of money, but that doesn't affect spending or the rate of unemployment. ANSWER: a 185. The decisions made by the Federal Reserve Bank sometimes result in negative effects on the economy because: a. the economy is weakened when the Fed uses monetary policy. b. the government uses money inefficiently when it comes to fiscal policy. c. the Fed finds that forecasting economic conditions is easy but controlling the money supply is difficult. d. too much money or too little money might induce inflation or unemployment due to bad timing of decisions. ANSWER: d 186. The main objective of a central bank is to: a. supply the right amount of money to keep the economy stable. b. supply as much money as it can to help the economy grow. c. supply the government with the money it needs to operate. d. make sure every citizen has the amount of money he or she wants to have. ANSWER: a 187. If the central bank creates too much money, _____ is the result. If the central bank doesn't create enough money, an economic _____ is the result. a. deflation; boom b. inflation; boom c. deflation; slowdown d. inflation; slowdown ANSWER: d 188. The average starting salary of economics majors is just behind that of: a. political science majors. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 b. marketing majors. c. chemical and nuclear engineering majors. d. education majors. ANSWER: c 189. Economists believe that people are self-interested all the time. a. True b. False ANSWER: b 190. People are rational and sometimes respond in unpredictable ways to incentives. a. True b. False ANSWER: b 191. People are often irrational and respond in unpredictable ways to incentives. a. True b. False ANSWER: b 192. Economists think that no one is ever self-interested. a. True b. False ANSWER: b 193. Economists think that people behaving in their self-interest is bad for society. a. True b. False ANSWER: b 194. Economists believe that people will not respond to nonmonetary incentives, like love or status. a. True b. False ANSWER: b 195. In addition to monetary incentives, economists also believe people respond to incentives like fame, power, reputation, and love. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 b. False ANSWER: a 196. Economists argue that self-interested people respond only to monetary incentives. a. True b. False ANSWER: b 197. Because people instinctively act in their self-interest, markets will often produce outcomes in line with the social interest. a. True b. False ANSWER: a 198. Markets align self-interest with the social interest as long as the government doesn't interfere. a. True b. False ANSWER: b 199. Under the right conditions, markets align self-interest with the social interest, but sometimes government intervention is necessary. a. True b. False ANSWER: a 200. An example of a case in which free markets do not align self-interest with social interest is pollutionemitting production. a. True b. False ANSWER: a 201. An example of Adam Smith's “invisible hand” is self-interested businesspeople developing a better keyboard for the blind in hopes of making large profits. a. True b. False ANSWER: a 202. The opportunity cost of attending college includes tuition, room and board, cost of meals, and the lost opportunity to make money at a job. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. True b. False ANSWER: b 203. The opportunity cost of playing 2 hours of Fortnite is the value of the opportunity lost from the 2 hours of play. a. True b. False ANSWER: a 204. With careful planning, we can usually get something that we like without having to give up something else that we like. a. True b. False ANSWER: b 205. In a large class, each student's opportunity cost of taking an exam is likely to be the same. a. True b. False ANSWER: b 206. One student’s opportunity cost of studying for an exam may be lost work time, while another’s may be lost time for playing video games. a. True b. False ANSWER: a 207. The FDA faces societal trade-offs when it decides how safe drugs need to be before allowing patients to use them. For example, if the FDA raises the cost of testing for drug safety, some safe drugs will never be developed, and people will unnecessarily die. a. True b. False ANSWER: a 208. A student spends 4 years in college. College tuition, fees, and room and board cost $10,000 per year. This student's opportunity cost of attending college is $10,000. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: b 209. Marginal thinking was simultaneously described by three economists—Stanley Jevons, Carl Menger, and Adam Smith. a. True b. False ANSWER: b 210. A marginal change is a small incremental adjustment to an existing plan of action. a. True b. False ANSWER: a 211. The term “marginal” in economics means “additional.” a. True b. False ANSWER: a 212. When deciding whether to eat a second piece of pizza, you should compare the total benefit of the two pieces of pizza with the total cost. a. True b. False ANSWER: b 213. One of the Big Ideas in economic thinking is that there is an incentive to do something if the total benefit is bigger than the total cost. a. True b. False ANSWER: b 214. One of the Big Ideas in economic thinking is that there is an incentive to do something if the marginal benefit is bigger than the marginal cost. a. True b. False ANSWER: a 215. The general manager of a Major League Baseball team reasons that hiring an all-star-caliber third baseman would allow the team to win 13 more games per season, generating more fan interest and higher ticket sales. The estimated increase in ticket and merchandise sales is $10.5 million per year, but it would cost the team $12 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 million a year to hire an all-star-caliber third baseman. Using marginal cost–benefit thinking, the general manager will not hire the all-star-caliber third baseman. a. True b. False ANSWER: a 216. The economics of trade depends on whether the trading partners live in the same country and share the same language and religion. a. True b. False ANSWER: b 217. Everyone can benefit from trade through increased specialization, division of knowledge, and productivity. a. True b. False ANSWER: a 218. While trade has many benefits, the division of knowledge is a negative outcome of trade. a. True b. False ANSWER: b 219. Two people can benefit from trade if they both live in the same country but not if they live in different countries. a. True b. False ANSWER: b 220. The theory of comparative advantage concludes that people can produce more by specializing than by doing everything themselves. a. True b. False ANSWER: a 221. Greater emphasis on self-sufficiency and trading less with foreign countries would increase incomes and living standards in the United States. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: b 222. Less emphasis on self-sufficiency and trading more with other nations will increase incomes and living standards in the United States. a. True b. False ANSWER: a 223. In the process of trading in free markets, firms and consumers benefit, but workers do not. a. True b. False ANSWER: b 224. Economic wealth is uncorrelated with the level of women's rights and political liberty in a country. a. True b. False ANSWER: b 225. America was so poor in past centuries that even George Washington caught malaria. a. True b. False ANSWER: a 226. Because of their low incomes, about a million people in the United States die from malaria each year. a. True b. False ANSWER: b 227. While economic growth does increase the quality of life, the trade-off is that life expectancy is now shorter than in the past. a. True b. False ANSWER: b 228. People in developing countries are more vulnerable to illness and disease than people in developed countries mainly because they lack the ability to pay for preventative interventions. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: a 229. People in wealthier economies tend to lead richer and more fulfilled lives. a. True b. False ANSWER: a 230. Understanding economic growth is one of the most important tasks of economics. a. True b. False ANSWER: a 231. Understanding economic growth is not important in economics, but understanding wealth is. a. True b. False ANSWER: b 232. South Korea is an example of a country that has adopted good institutions for promoting economic growth. a. True b. False ANSWER: a 233. For countries to be wealthy, they need lots of physical and human capital per worker, which, in turn, depends on a system of private property rights, political stability, a just legal system, honest government, and competitive and open markets. a. True b. False ANSWER: a 234. If two countries are initially at the same level of development, the institution of well-functioning markets can allow one country to develop faster than the other. a. True b. False ANSWER: a 235. The environment best suited for economic growth is one with well-functioning competitive markets, property rights, and creativity in firms. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 ANSWER: a 236. Monetary and fiscal policies are among a government's tools for mitigating economic fluctuations. a. True b. False ANSWER: a 237. The Federal Reserve acted quickly and appropriately to diffuse the Great Depression. a. True b. False ANSWER: b 238. During the Great Depression, the unemployment rate rose above 20%. a. True b. False ANSWER: a 239. During the Great Depression, the unemployment rate rose above 35%. a. True b. False ANSWER: b 240. A period marked by falling wages, falling national output, and rising unemployment is called a recession. a. True b. False ANSWER: a 241. Economies MUST experience both booms and busts. All economists can do is work to limit the extent of the economic fluctuations. a. True b. False ANSWER: a 242. Monetary and fiscal policies have the potential to make a recession worse. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 243. Monetary and fiscal policies have the potential to improve unemployment and GDP during a recession. a. True b. False ANSWER: a 244. Modern economic understanding allows us to avoid economic booms and busts, although political constraints prevent the needed policies from being implemented. a. True b. False ANSWER: b 245. High inflation in Zimbabwe in 2009 was a result of the Zimbabwean government's printing too much money. a. True b. False ANSWER: a 246. When the government decreases the supply of money, there is an increase in the general level of prices. a. True b. False ANSWER: b 247. Central banks can cause inflation. a. True b. False ANSWER: a 248. In the long run, excess money printing by the government causes inflation and economic busts. a. True b. False ANSWER: a 249. One of the drawbacks of inflation is that it creates a lot of uncertainty about prices. a. True b. False ANSWER: a 250. Inflation makes it more difficult to figure out the real value of goods. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 a. True b. False ANSWER: a 251. During the period of dramatic inflation in Zimbabwe, if you had 1 trillion Zimbabwean dollars, you still were not very rich. a. True b. False ANSWER: a 252. Inflation increases the value of money by increasing the purchasing power of money. a. True b. False ANSWER: b 253. If there is high inflation, individual households will be hurt, but economic disruptions on the national level will not result. a. True b. False ANSWER: b 254. Most economists believe the Federal Reserve does more good than harm to the U.S. economy. a. True b. False ANSWER: a 255. The Federal Reserve's attempts to combat a recession and high unemployment could result in higher inflation. a. True b. False ANSWER: a 256. The Federal Reserve has a dual mandate to promote maximum employment and stable prices. This can be hard because attempts to reduce unemployment can cause more inflation. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 257. The study of economics increases your understanding of the distant past, present events, and future possibilities. a. True b. False ANSWER: a 258. Among other things, an understanding of economics can help you better manage your finances. a. True b. False ANSWER: a 259. One of the limitations of economics is that the principles apply only to the American economic system and not to foreign economies. a. True b. False ANSWER: b 260. There are 10 Big Ideas in Chapter 1. List four of them. ANSWER: A student could list any four of the following Big Ideas: Incentives Matter Good Institutions Align Self-Interest with the Social Interest Trade-offs Are Everywhere Think at the Margin Trade Makes People Better Off Wealth and Economic Growth Are Important Institutions Matter Economic Booms and Busts Cannot Be Avoided but Can Be Moderated Inflation Is Caused by Increases in the Supply of Money Central Banking Is a Hard Job 261. In his book The Wealth of Nations, Adam Smith explained, “It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest.” Explain what Adam Smith meant by this. Be sure to tie your explanation to one or more of the Big Ideas in economics discussed in the text. ANSWER: He meant that economists believe that people respond in predictable ways to incentives (Incentives Matter). Every day, we rely on the work of millions of other people to provide us with food, clothing, and shelter. These people work for our benefit because doing so benefits them in the form of profits/income. When these people act in their own self-interest, they also end up promoting the social interest (Good Institutions Align Self-Interest with the Social Interest). 262. How do self-interested businesses benefit society? ANSWER: The goal of business is to maximize profits, a self-interested pursuit. Maximizing profits, however, Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 requires that businesses cater to their customers' tastes and preferences. Cowen/Tabarrok discuss how supermarkets keep their shelves stocked with products from all over the world and how millions of other people provide the public with food, clothing, and shelter. Paraphrasing Adam Smith: People do these things out of their own self-interest to earn money, not from their own innate kindness. Thus behavior done out of self-interest helps bring a variety of products to the market in sufficient quantity. 263. Let's assume that your favorite musician (who sells platinum records and has sold-out concerts) is a great cook. He also makes splendid cakes and pies. He could sell the pies and cakes for $30 each. Why doesn't he spend his whole day baking and cooking? ANSWER: He does not spend the whole day baking and cooking because he can make a lot more money singing and signing record deals. The opportunity cost of baking pies and cakes would be too high. 264. Define opportunity cost. What is the opportunity cost to you of attending college? What was your opportunity cost of coming to class today? ANSWER: Opportunity cost is that which you must give up to obtain some item. The opportunity cost of a person attending college is the value of the best alternative use of that person's time and other resources used in the process. For most students this would be the income the student gives up by not working. A student's opportunity cost of coming to class is the value of the best opportunity the student gave up, such as sleep, a Frisbee game, or being with a girlfriend/boyfriend. 265. Why do airlines sometimes advertise last-minute airline ticket sales at low prices? What economic principle are they applying? ANSWER: The airlines are engaging in marginal thinking. They weigh the costs versus benefits of selling a ticket at a sale price. The marginal cost of a last-minute passenger will be a little extra paperwork, some extra jet fuel, and some refreshments on the aircraft. The marginal benefit (the incentive for the airline to offer the sale) of having the last-minute passenger is the extra revenue from serving that customer. If the marginal revenue is greater than the marginal cost, the airline will benefit from selling the airline ticket on sale. 266. Using the marginal thinking concept, explain a student's decision to wake up and attend an 8 AM class in the winter (the student is already registered for the class). ANSWER: On the one hand, the student will stand to gain extra knowledge from the single session of the class. If the subject is interesting and the teacher is good, this is equivalent to an hour of enjoyment and learning. On the other hand, the student is sleepy, and it is cold and uncomfortable outside. If the class has no attendance policy and there is no exam scheduled and no assignment due, the student may feel that she has nothing to lose by missing one class. Weighing the marginal costs versus the marginal benefits, the student may thus opt to sleep in! A penalty associated with nonattendance when there is an exam scheduled or an assignment due raises the marginal cost of nonattendance. 267. Why do you think economists generally support increased trade? ANSWER: People will be better off if they can exchange things they value less for things they value more. Doing so will make everyone involved in such trading activity better off. 268. Wherein lies the power of trade? ANSWER: The power of trade comes from people specializing in the activity of their comparative advantage Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 and trading for more things than they could produce on their own. 269. Using the concepts of incentives and good institutions, explain how a country might achieve economic growth. ANSWER: Economic growth stems from having well-functioning markets, consumers who are wealthy enough to purchase the goods and services produced, development of physical and human capital per worker, good institutions, and technological advancement. If consumers can afford goods and services, and wealth is increasing, firms will have markets. Wealthy consumers also save more, which allows firms to invest more. Firms' primary incentive is profit. If firms see the possibility of sales and profit, they will innovate and use and create new technologies in production and product attributes. They will increase efficiency and reduce waste. As firms and consumers become wealthier, more incentives arise for investment and the development of physical and human capital. However, investment will not occur adequately or efficiently if good institutions do not exist. Good institutions include well-established property rights, an honest government, a dependable legal system, and well-functioning markets. 270. Many industrialized nations have been pumping trillions of dollars into their economies in the form of stimulus packages, tax rebates, and bailouts in order to stimulate additional consumer spending and business investment and to ward off global recession. If a large portion of these funds are obtained through the printing of new money, explain whether or not this will help or hurt these economies in the long run. ANSWER: If the stimulus packages and bailouts are able to increase both consumer spending and business investment, then it is more likely that these initiatives will be successful in warding off recession. However, if these stimulus packages are financed by the printing of new money, then this will most likely lead to increased inflation in the long run, hence dampening the expansionary effects of the stimulus. 271. Explain why central banking is a hard job. ANSWER: Too much money in the economy means that inflation will result. Not enough money in the economy is bad as well and can lead to a recession or a slowing of economic growth. The Fed is always trying to get it “just right,” but some of the time it fails. Sometimes the failure is a mistake because forecasting where the economy is headed is very difficult. Central banking relies on economic tools, but in the final analysis, it is as much an art as a science. 272. The Fed's decisions: a. are always right. b. affect the economy with no lag at all. c. often take months for their effects to be felt in the economy. d. never help avoid recessions. ANSWER: c 273. Which of these quotes from the text captures what makes central banking difficult? a. “No one can foresee the future.” Copyright Macmillan Learning. Powered by Cognero.
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Chapter 1 b. “We cannot avoid all recessions.” c. “Markets, however, do not always align self-interest with social interest.” d. “In some situations the Fed must accept a certain amount of either inflation or unemployment.” ANSWER: a 274. Because people instinctively act in the social interest, markets will produce outcomes in line with the social interest. a. True b. False ANSWER: b
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Chapter 2 1. Which of the following statements is TRUE? a. Trade makes workers in high-productivity countries less productive. b. Trade causes workers in low-wage countries to receive an even lower wage. c. Specialization and trade raise wages in both countries that are party to the trade. d. Specialization and trade raise productivity but not wages. ANSWER: c 2. Which of the following statements is TRUE? a. Only a high-wage country can benefit by trading with a low-wage country. b. A high-wage country cannot benefit by trading with a low-wage country. c. Trade raises the wages of workers in low- and high-wage countries. d. There is an inverse relationship between productivity and wages. ANSWER: c 3. Trade creates value because: a. people get what they want. b. raw materials are transformed into finished products. c. people exchange things they do not want for things they do. d. idle resources are put to use. ANSWER: c 4. eBay creates value by: a. helping sellers trick buyers into purchasing broken items. b. moving goods like broken laser pointers from people who don't want them to people who do. c. helping people with the same preferences find each other. d. moving toys from children who want them to children who don't. ANSWER: b 5. David sells his car, which he considers worthless, to Cameron for $200. Which of the following statements is TRUE? a. David and Cameron must have different preferences for the car. b. This trade did not create value because Cameron is buying a car that David considers worthless. c. Cameron is the only one made better off by the trade. d. David is made better off by the trade, but Cameron is made worse off. ANSWER: a 6. Matilda sells her iPhone, which she considers worthless, to Gabriel for $200. Which of the following statements is TRUE? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. Matilda and Gabriel must have the same preferences for the iPhone. b. This trade created value because Gabriel is buying the iPhone for more than Matilda thinks it is worth. c. Matilda is the only one made better off by the trade. d. Matilda is made better off by the trade, but Gabriel is made worse off by the trade. ANSWER: b 7. Jose sells his economics textbook from last semester, which he could sell back to the bookstore for $40, to Adolfo for $150. Adolfo had planned to pay $240 for the textbook at the bookstore. Which of the following statements is TRUE? a. Jose and Adolfo must have the same preferences for the textbook. b. This trade did not create value because Adolfo is buying the textbook for more than Jose could get from the bookstore. c. Both Jose and Adolfo are made better off by the trade. d. Adolfo is made better off by the trade, but Jose is made worse off by the trade. ANSWER: c 8. Mark values his drum set at $800, and Ella values her guitar at $1,000. Suppose that Mark trades his drum set for Ella's guitar. a. This trade makes Ella worse off by $200. b. This trade makes Mark better off by $200. c. Mark must value Ella's guitar for at least $800, and Ella must value Mark's drum set for at least $1,000. d. This trade decreases total value by moving the guitar and drum away from people who placed a high value on them. ANSWER: c 9. Facilitators of trade (such as Pierre Omidyar, the developer of eBay): a. may become very rich since they are creating value for many individuals. b. find it very hard to profit from their services since they are not directly involved in the trades. c. typically profit from their services only if they are able to obtain government patent rights. d. are usually seen as taking advantage of consumers. ANSWER: a 10. Trade makes people better off when: a. everyone wants the same things as other people. b. some people are less productive than others. c. people cannot specialize in certain activities. d. people have different preferences. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: d 11. Each of 100 people receives a random item from a grocery store and assigns it a value between 1 (low) and 10 (high). They trade those items among themselves for items they prefer rather than those they randomly received and then assign a second value (again, 1 to 10) to the item that they end up with after the trading concludes. How would the sum of those values before trading compare with the sum after trading? a. The value would stay the same because no new goods were introduced. b. The value would stay the same because no one has a comparative advantage. c. After trading, value would be lower because no one can specialize. d. After trading, value would be higher because preferences are diverse. ANSWER: d 12. Which of the following is least likely to be a consequence of the division of knowledge? a. the development of the computer tablet b. a totally self-sufficient family farm c. a new delivery method for cancer-fighting drugs d. the provision of a new bike path in your community ANSWER: b 13. Only a very small portion of people who use microwaves know how they work. This is an example of: a. a production possibility frontier. b. the division of knowledge. c. absolute advantage. d. opportunity cost. ANSWER: b 14. Jennifer buys a computer based on the recommendation of her brother, who is an information technology professional. This is an example of: a. a production possibility frontier. b. the division of knowledge. c. gains from trade. d. opportunity cost. ANSWER: b 15. Division of knowledge refers to: a. dividing tasks into different subtasks and having one person perform all these subtasks. b. people learning different tasks in which they specialize. c. assigning one person to learn all the different ways to perform the same task. d. limiting what each person knows about another person. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: b 16. Which of the following situations would lead to more starvation? a. a world where everyone grows his or her own food and there is no trade b. a world with trade and lots of specialization c. a world with immense division of knowledge d. a world where only some people specialize in food and everyone else produces something else ANSWER: a 17. The main reason specialization can raise productivity is that: a. knowledge in human brains is limited. b. some persons have more knowledge than others. c. it is always good to know less than more. d. it is impossible to learn anything well. ANSWER: a 18. There are many specialties in the practice of medicine. For example, there are surgeons, cardiologists, neurologists, obstetricians, and ophthalmologists. This is an example of: a. a production possibility frontier. b. the division of knowledge. c. gains from trade. d. opportunity cost. ANSWER: b 19. Knowledge increases _____ and specialization _____ total output. a. education; decreases b. productivity; increases c. perception; increases d. economies of scale; decreases ANSWER: b 20. Economic growth in the modern era is primarily due to the: a. increases in the number of people. b. increases in money. c. defining of national borders. d. creation of new knowledge. ANSWER: d 21. Specialization and trade can _____ the per unit cost of production because _____ . Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. decrease; they allow for more small-scale production b. decrease; they create economies of scale associated with large-scale production c. increase; they require more expensive, specialized equipment d. increase; more expensive labor is needed ANSWER: b 22. The United States and the European Union are groups of semi-independent states that have come together under an agreement whereby resources can travel freely across borders and a common currency is in use. Which of the following statements best explains how this allows for the achievement of economies of scale? a. Each state or country can now target larger markets and can thus earn more export revenue. b. States and countries no longer have to worry about borders impeding trade. c. Each state or country can adopt large-scale production techniques that allow lower per unit costs of production. d. The removal of trade borders and a common currency enhance trade between member states. ANSWER: c 23. One of the outcomes of specialization is that it leads to _____, which _____ the average cost of production. a. smaller-scale production; lowers b. smaller-scale production; raises c. larger-scale production; raises d. larger-scale production; lowers ANSWER: d 24. Without _____, specialization is impossible. a. different preferences b. productivity c. opportunity costs d. trade ANSWER: d 25. If each of us had to grow all of our own food: a. civilization would collapse, and billions of people would starve. b. we would have more time for other pursuits. c. people would be richer since they would no longer have to spend money on groceries. d. the total amount of knowledge in society would increase since everyone would have to learn about farming. ANSWER: a 26. If instead of specialized doctors (neurologists, cardiologists, gastroenterologists, etc.) we had doctors who Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 each knew the same things about all aspects of medicine, it would be: a. better because then we could just go to one doctor with no loss of quality in medical care. b. better because total medical knowledge in society would increase. c. worse because the human brain is limited. d. worse because total medical knowledge in society would decrease. ANSWER: d 27. Roses grown in Kenya travel to Amsterdam and ultimately to your local flower shop because: a. the World Rose Commission coordinates the different elements of the rose industry. b. markets coordinate the specialization and trade necessary for the flower industry to function. c. of the trade agreement between the governments of Kenya and Amsterdam. d. customers are willing to pay more for roses that pass through Amsterdam. ANSWER: b 28. Trade barriers like the Berlin Wall: a. increased the number of scientists and engineers. b. added billions of minds to the global division of knowledge. c. decreased innovation and global cooperation. d. prevented restrictive monopolistic practices. ANSWER: c 29. A rock carving from ancient Norway depicts two identical people doing different jobs in the same boat: one uses a bow to hunt while the other paddles. How does this early example illustrate the benefits of trade? a. One prefers to hunt, while the other prefers to paddle the boat; this is an example of diverse preferences. b. One learns to be very good at paddling, and one learns to be very good at hunting; this is an example of specialization and division of knowledge. c. The paddler is stronger than the hunter, so the paddler sacrifices a lot by hunting; this is an example of comparative advantage. d. There is no trade in this example, since no goods are being exchanged. ANSWER: b 30. Fourteenth-century potters in the Chinese city of Jingdezhen developed the technology to heat a kiln at 1,300 degrees Celsius and produce porcelain, or “china,” which was particularly popular in Persia, where the Koran forbade serving food on gold or silver and wealthy families were anxious for a legal way to impress their dinner guests. The potters also imported Persian cobalt to create the blue dye for the porcelain (local cobalt was not as bold in color). Which advantage(s) from trade is (are) illustrated in this passage? a. differences in preferences b. specialization c. comparative advantage Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. all of these advantages ANSWER: d 31. As trade becomes more widespread, specialization _____, which in turn _____ productivity. a. decreases; decreases b. increases; increases c. decreases; increases d. increases; decreases ANSWER: b 32. Which of the following statements is TRUE? I. Compared with a modern economy, the division of knowledge is greater in a primitive economy because every family is self-sufficient: growing its own food, making its own clothes, and constructing its own shelter. II. Nobody understands the entire process of producing even the simplest products, like a lead pencil, in a modern economy. III. The collapse of communism and the opening of the Chinese economy to the rest of the world have increased the division of knowledge, leading to increased world output. a. I only b. III only c. II and III only d. I, II, and III ANSWER: c 33. Why do people specialize? a. Specialization increases productivity. b. Specialization decreases people's dependence on one another. c. People become self-sufficient when they specialize. d. Most people know how to do only a few tasks. ANSWER: a 34. Without trade, the knowledge used by an entire economy would be about the same as the knowledge had by: a. all intelligent people combined. b. a large number of people. c. one person. d. no one. ANSWER: c 35. With trade, the knowledge used by an entire economy would be about the same as the knowledge had by: a. all intelligent people combined. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. a large number of people. c. one person. d. no one. ANSWER: a 36. Which of the following is typically a result of the division of knowledge? a. The society runs with the knowledge of a few persons. b. Each person has the same knowledge as everyone else. c. Labor productivity is higher. d. No one specializes in any activity. ANSWER: c 37. As _____ develops, so does _____. a. specialization; trade b. trade; specialization c. productivity; trade d. productivity; specialization ANSWER: c 38. As _____ develops, so does _____. a. trade; the division of knowledge b. trade; specialization c. productivity; trade d. productivity; specialization ANSWER: c 39. Economies can grow due to: a. the extent to which all individuals are educated in all areas of production. b. government policies. c. the extent to which markets facilitate specialization through trade. d. barriers to trade that promote the growth of domestic markets. ANSWER: c 40. The enormous variety of goods and services that we consume each day can be attributed mainly to: a. government regulations. b. home production. c. specialization and trade. d. early craftsmen handing down their knowledge. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: c 41. If the goal of education were solely to support economic growth, the ideal graduate would be a: a. jack-of-all-trades but master of none (where a “jack” is a serviceable tradesperson). b. jack-of-one-trade and master of one. c. jack-of-no-trades and master of none. d. jack-of-some-trades but master of none. ANSWER: b 42. The relationship between trade and specialization is best characterized as follows: a. trade decreases specialization, which in turn increases the demand for trade. b. trade decreases specialization, which in turn decreases the demand for trade. c. trade increases specialization, which in turn increases the demand for trade. d. trade increases specialization, which in turn decreases the demand for trade. ANSWER: c 43. Absolute advantage derives from which of the following? a. the lowest cost of production b. the most suitable climate c. the least expensive labor force d. the best educated labor force ANSWER: a 44. Utilizing comparative advantage can best be exemplified as: a. your lawyer word-processing her own legal briefs. b. the CEO of Microsoft programming his own computer. c. the president of your university teaching a class again. d. a world-renowned chef hiring someone to cook meals for his family. ANSWER: d 45. Utilizing comparative advantage can best be exemplified as: a. your plumber fixing his own faucet. b. your professor writing an economics textbook. c. a seamstress making her daughter’s prom dress. d. an auto mechanic having his oil changed on the way home from work. ANSWER: d 46. Which of the following best describes the principle of comparative advantage? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. Some people can produce the same good better than other producers can. b. Someone has the ability to produce the same good using fewer inputs than another producer. c. Someone has the ability to produce the same good for the lowest opportunity cost. d. To produce more of one good, people have to produce less of another good. ANSWER: c 47. Jesse is good at math and excellent at making friends, and Addae is equally good at both. Mathematically and socially challenged Jordan wants to hire tutors to help in each area. Who should tutor Jordan in which area to maximize Jordan's college experience? a. Jesse and Addae should tutor Jordan in both math and social skills. b. Jesse should teach math, and Addae should teach how to make friends. c. Jesse and Addae should both teach how to make friends. d. Jesse should teach how to make friends, and Addae should teach math. ANSWER: d 48. Which of the following best explains the term “specialization” with respect to trade? a. Specialization occurs when people concentrate their productive resources on the goods and services they can produce most efficiently. b. Specialization occurs when one person can produce more of a particular good than another person can. c. Specialization refers to the absolute advantage that a person enjoys in the production of goods and services. d. Specialization refers to the ability of a person to produce more of a good than his or her trading partners can. ANSWER: a 49. Owen Wilson is an actor who has acted in many action comedy films. In contrast, Tom Cruise has acted in many serious action films. How might the theory of specialization be applied to them? a. Owen Wilson has fully specialized in action comedy movies, while Tom Cruise has fully specialized in serious action movies. b. Due to filmography protectionism, Owen Wilson is unable to secure serious action roles, and Tom Cruise is unable to secure action comedy roles. c. Casting directors see Owen Wilson as relatively better at action comedy roles and Tom Cruise as relatively better at serious action roles and cast them accordingly. d. Owen Wilson does not have the talent necessary to act in more serious films. ANSWER: c 50. Absolute advantage refers to: a. the ability to make a good with fewer inputs than another producer. b. the ability to produce a good with a lower opportunity cost than another producer. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 c. specializing in the production of one good. d. the amount of output produced by an input. ANSWER: a 51. Comparative advantage refers to: a. the ability to make a good with fewer inputs than another producer. b. the ability to produce a good with a lower opportunity cost than another producer. c. specializing in the production of one good. d. the amount of output produced by an input. ANSWER: b 52. The ability of one producer to produce one good or service using fewer inputs than another producer is: a. comparative advantage. b. absolute advantage. c. opportunity cost. d. competition. ANSWER: b 53. Suppose a famous baseball player, Jacob deGrom, hires a high-school student to paint his house. Which of the following is most likely TRUE? a. The opportunity cost of painting a house is higher for Jacob deGrom than for the high-school student. b. The opportunity cost of painting a house is lower for Jacob deGrom than for the high-school student. c. The opportunity cost of painting a house is the same for Jacob deGrom as for the high-school student. d. The opportunity cost of painting a house is zero for Jacob deGrom and is negative for the highschool student. ANSWER: a 54. A producer has a comparative advantage over other producers if his production of the good involves: a. more inputs. b. fewer inputs. c. a higher opportunity cost. d. a lower opportunity cost. ANSWER: d 55. A producer has an absolute advantage over other producers if his production of the good involves: a. more inputs. b. fewer inputs. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 c. a higher opportunity cost. d. a lower opportunity cost. ANSWER: b 56. Table: iPhone and Apple Watch Production Chinese labor units German labor units
1 iPhone 3 5
1 Apple Watch 3 4
According to the table on iPhone and Apple Watch production, which of the following is TRUE? a. China has an absolute advantage in producing both iPhones and Apple Watches. b. Germany has an absolute advantage in producing both iPhones and Apple Watches. c. China has an absolute advantage in producing iPhones, and Germany has an absolute advantage in producing Apple Watches. d. Germany has an absolute advantage in producing iPhones, and China has an absolute advantage in producing Apple Watches. ANSWER: a 57. Table: iPhone and Apple Watch Production Chinese labor units German labor units
1 iPhone 3 5
1 Apple Watch 3 4
According to the table on iPhone and Apple Watch production, the opportunity cost of producing one iPhone is: a. 5/4 Apple Watches for Germany, and 1 Apple Watch for China. b. 3 Apple Watches for China, and 4 Apple Watches for Germany. c. 4/5 of one Apple Watch for China, and 1 Apple Watch for Germany. d. 2 Apple Watches for China, and 5/4 Apple Watches for Germany. ANSWER: a 58. Table: iPhone and Apple Watch Production Chinese labor units German labor units
1 iPhone 3 5
1 Apple Watch 3 4
According to the table on iPhone and Apple Watch production, which of the following is TRUE about German and Chinese comparative advantages? a. China has a comparative advantage in producing both iPhones and Apple Watches. b. Germany has a comparative advantage in producing both iPhones and Apple Watches. c. China has a comparative advantage in producing iPhones, and Germany has a comparative advantage in producing Apple Watches. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. Germany has a comparative advantage in producing iPhones, and China has a comparative advantage in producing Apple Watches. ANSWER: c 59. Table: Automobile and Light SUV Production South Korean labor units U.S. labor units
1 Automobile 15 24
1 Light SUV 18 20
According to the table on automobile and light SUV production, which of the following is TRUE? a. South Korea has an absolute advantage in producing both automobiles and light SUVs. b. The United States has an absolute advantage in producing both automobiles and light SUVs. c. South Korea has an absolute advantage in producing automobiles, and the United States has an absolute advantage in producing light SUVs. d. The United States has an absolute advantage in producing automobiles, and South Korea has an absolute advantage in producing light SUVs. ANSWER: a 60. Table: Automobile and Light SUV Production South Korean labor units U.S. labor units
1 Automobile 15 24
1 Light SUV 18 20
According to the table on automobile and light SUV production, the opportunity cost of producing one automobile is: a. 6/5 light SUVs for the United States, and 5/6 of one light SUV for South Korea. b. 6 light SUVs for the United States, and 5 light SUVs for South Korea. c. 5/6 of one light SUV for the United States, and 1 light SUV for South Korea. d. 4 light SUVs for the United States, and 5/4 light SUVs for South Korea. ANSWER: a 61. Table: Automobile and Light SUV Production South Korean labor units U.S. labor units
1 Automobile 15 24
1 Light SUV 18 20
According to the table on automobile and light SUV production, which of the following is TRUE about U.S. and South Korean comparative advantages? a. South Korea has a comparative advantage in producing both automobiles and light SUVs. b. The United States has a comparative advantage in producing both automobiles and light SUVs. c. South Korea has a comparative advantage in producing automobiles, and the United States has a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 comparative advantage in producing light SUVs. d. The United States has a comparative advantage in producing automobiles, and South Korea has a comparative advantage in producing light SUVs. ANSWER: c 62. According to the theory of comparative advantage, a country should specialize in producing a good that involves: a. more inputs than those in other countries. b. fewer inputs than those in other countries. c. a higher opportunity cost than that of other countries. d. a lower opportunity cost than that of other countries. ANSWER: d 63. Suppose France can produce 4 phones or 3 computers with 1 unit of labor, and Sweden can produce 1 phone or 2 computers with 1 unit of labor. If France can trade only with Sweden, then the theory of comparative advantage suggests that: a. France should specialize in producing phones and import computers from Sweden. b. France should specialize in producing computers and import phones from Sweden. c. France should produce both phones and computers, and import nothing from Sweden. d. France should import both phones and computers from Sweden. ANSWER: a 64. Suppose South Africa can produce 6 phones or 3 computers with 1 unit of labor, and Australia can produce 7 phones or 2 computers with 1 unit of labor. If South Africa can trade only with Australia, then the theory of comparative advantage suggests that: a. South Africa should specialize in producing phones and import computers from Australia. b. South Africa should specialize in producing computers and import phones from Australia. c. South Africa should produce both phones and computers, and import nothing from Australia. d. South Africa should import both phones and computers from Australia. ANSWER: b 65. Suppose Italy can produce 6 bottles of olive oil or 3 bottles of wine with 1 unit of labor, and France can produce 2 bottles of olive oil or 4 bottles of wine with 1 unit of labor. If Italy can trade only with France, then the theory of comparative advantage suggests that: a. France should specialize in producing olive oil and import wine from Italy. b. France should specialize in producing wine and import olive oil from Italy. c. France should produce both olive oil and wine, and import nothing from Italy. d. France should import both olive oil and wine from Italy. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 66. According to the theory of comparative advantage: a. every country can produce some good with a lower opportunity cost. b. every country should produce goods that involve high opportunity costs. c. some countries have a comparative advantage in producing every good. d. some countries should import every good from other countries. ANSWER: a 67. Which of the following statements shows how absolute advantage can be distinguished from comparative advantage? a. Absolute advantage refers to the ability to produce a good using fewer inputs, while comparative advantage is based on the monthly amount. b. Absolute advantage is based on the yearly production amount that a country can produce, while comparative advantage is based on the monthly production amount. c. Absolute advantage refers to the ability to produce a larger amount of goods with the same number of inputs, whereas comparative advantage refers to the ability to have the lowest opportunity cost of production. d. Absolute advantage is based on the amount of land a country has to use, while comparative advantage is based on the cost of the labor. ANSWER: c 68. The real cost of producing a good is: a. the dollar cost of inputs used to make the item. b. the opportunity cost of producing the good. c. the resources that were used to make the good. d. the dollar amount it costs to sell the good. ANSWER: b 69. Comparative advantage is determined by which of the following? a. efficiency b. bargaining power c. opportunity cost d. productivity ANSWER: c 70. The theory of comparative advantage is: a. rarely relevant for identifying whether gains from trade can be obtained. b. always relevant for identifying whether gains from trade can be obtained. c. not TRUE for nations, though it may be TRUE for individuals. d. TRUE for nations, but it is not TRUE for business or individuals. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: b 71. Figure: PPF Goods X and Y
Which of the points representing various consumption possibilities for the country portrayed in the figure is only attainable through foreign trade? a. point A b. point B c. point C d. both points C and B ANSWER: c 72. Figure: PPF Goods X and Y
Point A represents an allocation of resources that is: a. efficient. b. inefficient. c. impossible. d. the result of trade. ANSWER: b 73. Suppose a country without any international trade opens its borders to international trade. After Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 specialization, how will its location on its production possibility frontier change? a. The country moves from inside the PPF to on the PPF. b. The country moves from on the PPF to beyond the PPF. c. The country moves along the PPF toward its comparative advantage. d. The country moves along the PPF away from its comparative advantage. ANSWER: b 74. Figure: PPF Nickel and Textiles
What is the maximum amount of nickel China can produce? a. 10 tons b. 8 tons c. 6 tons d. 4 tons ANSWER: b 75. Figure: PPF Nickel and Textiles
What is the maximum amount of textiles China can produce? a. 10 tons Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. 8 tons c. 6 tons d. 4 tons ANSWER: b 76. Figure: PPF Nickel and Textiles
How many tons of textiles does Australia give up to produce 1 ton of nickel? a. 1/3 b. 1/2 c. 2 d. 3 ANSWER: a 77. On a production possibilities frontier, a trade-off can be illustrated as: a. an outward shift. b. an inward shift. c. a movement from a point inside the frontier to one on the frontier. d. a movement along the frontier itself. ANSWER: d 78. The production possibilities frontier shows: a. the combinations of outputs a country can produce given its resources and productivity. b. the combinations of inputs that a country has given its outputs and productivity. c. the combinations of outputs and resources that a country possesses given its productivity. d. the maximum level of a country's productivity given its resources and outputs. ANSWER: a 79. Anita is a wonderful baker and can bake 10 cakes in a day, but then she has no time left to make cookies. If she bakes only cookies, she can make 200 cookies in a day. John can make equally delicious cakes and cookies Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 but can make only 7 cakes or 100 cookies in a day. Based on this information, which of the following statements is TRUE? a. Anita has the comparative advantage in the production of cakes. b. John has the comparative advantage in the production of cakes. c. John has the absolute advantage in the production of cookies. d. Anita has the comparative advantage in the production of both cakes and cookies. ANSWER: b 80. Anita is a wonderful baker and can bake 10 cakes in a day, but then she has no time left to make cookies. If she bakes only cookies, she can make 200 cookies in a day. John can make equally delicious cakes and cookies but can make only 7 cakes or 100 cookies in a day. Based on this information, which of the following statements is TRUE? a. Anita should split her time between cakes and cookies. John should bake cakes. b. Anita should bake cakes, and John should bake cookies. c. Anita and John should split their time equally between cakes and cookies. d. Anita should bake cookies, and John should bake cakes. ANSWER: d 81. Figure: PPF Mexico and United States
The production possibility frontiers above show what Mexico and the U.S. can produce using 24 units of labor. The opportunity costs of producing 1 computer are: a. 6 shirts for Mexico and 1 shirt for the United States. b. 1/6 of a shirt for both Mexico and the United States. c. 1 shirt for Mexico and 1/6 of a shirt for the United States. d. 6 shirts for both Mexico and the United States. ANSWER: a 82. Figure: PPF Mexico and United States
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Chapter 2
The production possibility frontiers above show what Mexico and the U.S. can produce using 24 units of labor. The opportunity costs of producing 1 shirt are: a. 1 computer for Mexico and 1/6 of a computer for the United States. b. 1/6 of a computer for Mexico and 1 computer for United States. c. 1 computer for both Mexico and the United States. d. 1/6 of a computer for both Mexico and the United States. ANSWER: b 83. Figure: PPF Mexico and United States
The production possibility frontiers above show what Mexico and the U.S. can produce using 24 units of labor. Mexico has a comparative advantage in _____, and the United States has a comparative advantage in _____. a. computers; shirts b. shirts; computers c. computers; computers d. shirts; shirts ANSWER: b 84. Figure: PPF Australia and United States
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Chapter 2
The figures above show what Australia and the U.S. can produce using the same quantity of labor. The opportunity costs of producing 1 pound of beef are: a. 5/8 of a bushel of corn for Australia and 1 bushel of corn for the United States. b. 8/5 bushels of corn for the United States and 1 bushel of corn for Australia. c. 1 bushel of corn for Australia and 5/8 of a bushel of corn for the United States. d. 8/5 bushels of corn for the United States and 1 bushel of corn for Australia. ANSWER: a 85. Figure: PPF Australia and United States
The figures above show what Australia and the U.S. can produce using the same quantity of labor. The opportunity costs of producing 1 bushel of corn are: a. 8/5 pounds of beef for Australia and 1 pound of beef for the United States. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. 5/8 of a pound of beef for the United States and 1 pound of beef for Australia. c. 8/5 pounds of beef for Australia and 5/8 of a pound of beef for the United States. d. 1 pound of beef for the United States and 5/8 of a pound of beef for Australia. ANSWER: a 86. Figure: PPF Australia and United States
The figures above show what Australia and the U.S. can produce using the same quantity of labor. Australia and the United States would be willing to trade 1 pound of beef for: a. between 1 and 8/5 pounds of corn. b. between 5/8 and 1 pound of corn. c. between 2/3 and 5/8 of a pound of corn. d. 5/8 of a pound of beef for the United States and 8/5 pounds of beef for Australia. ANSWER: b 87. Figure: PPF Australia and United States
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Chapter 2
The figures above show what Australia and the U.S. can produce using the same quantity of labor. Australia has a comparative advantage in _____, and the United States has a comparative advantage in _____. a. corn; beef b. beef; beef c. beef; corn d. corn; corn ANSWER: c 88. Figure: PPF Australia and United States
The figures above show what Australia and the U.S. can produce using the same quantity of labor. Australia has an absolute advantage in _____, and the United States has an absolute advantage in _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. neither corn nor beef; both corn and beef b. both corn and beef; neither corn nor beef c. beef; corn d. corn; beef ANSWER: b 89. Figure: PPF Australia and United States
The figures above show what Australia and the U.S. can produce using the same quantity of labor. If Australia and the United States trade to have higher consumption, the United States should specialize in the production of _____, and Australia should specialize in the production of _____. a. neither corn nor beef; both corn and beef b. both corn and beef; neither corn nor beef c. beef; corn d. corn; beef ANSWER: d 90. Table: Production Possibilities for the United States and Mexico United States Mexico
Corn (millions of tons) 50 40
Potatoes (millions of tons) 10 5
According to the table on production possibilities for the United States and Mexico, Mexico has an absolute advantage in _____ and a comparative advantage in _____. a. neither good; corn b. corn; potatoes c. potatoes; corn Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. neither good; potatoes ANSWER: a 91. Table: Production Possibilities for the United States and Mexico United States Mexico
Corn (millions of tons) 50 40
Potatoes (millions of tons) 10 5
According to the table on production possibilities for the United States and Mexico, the United States has an absolute advantage in _____ and a comparative advantage in _____. a. both goods; corn b. both goods; potatoes c. potatoes; corn d. nothing; potatoes ANSWER: b 92. Table: Production Possibilities for the United States and Mexico United States Mexico
Corn (millions of tons) 50 40
Potatoes (millions of tons) 10 5
According to the table on production possibilities for the United States and Mexico, Mexico's opportunity cost of producing each ton of potatoes is _____, while the United States's opportunity cost of producing each ton of potatoes is _____. a. 0.125 ton of potatoes; 0.2 ton of potatoes b. 8 tons of corn; 0.2 ton of potatoes c. 8 tons of corn; 5 tons of corn d. 5 tons of corn; 0.2 ton of corn ANSWER: c 93. Table: Production Possibilities for the United States and Mexico United States Mexico
Corn (millions of tons) 50 40
Potatoes (millions of tons) 10 5
Using the table on production possibilities for the United States and Mexico, assume each country specializes in the good for which it has a comparative advantage. Which of the following answers identifies a trade price that both countries would find acceptable? a. A price between 0.2 potato for 1 corn and 5 corns for 1 potato b. A price between 0.125 potato for 1 corn and 8 potatoes for 1 corn c. A price between 5 corns for 1 potato and 8 corns for 1 potato d. A price between 0.125 potato for 1 corn and 5 potatoes for 1 corn Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: c 94. Table: Production Possibilities for Dante and Helena Dante Helena
Greeting Cards 4 6
Artistic Posters 2 1
Dante is an artist who produces custom-made greeting cards and artistic posters. Helena is an equally talented artist who can produce these items as well. According to the table on production possibilities, Dante's opportunity cost of producing artistic posters is _____, and Helena's opportunity cost of producing artistic posters is _____. a. ½ greeting card; 1/6 greeting card b. 4 greeting cards; 6 greeting cards c. 2 greeting cards; 6 greeting cards d. 4 greeting cards; 1 greeting card ANSWER: c 95. Table: Production Possibilities for Dante and Helena Dante Helena
Greeting Cards 4 6
Artistic Posters 2 1
Dante is an artist who produces custom-made greeting cards and artistic posters. Helena is an equally talented artist who can produce these items as well. According to the table on production possibilities, Dante's opportunity cost of producing greeting cards is _____, and Helena's opportunity cost of producing greeting cards is _____. a. ½ artistic poster; 1/6 artistic poster b. 2/3 artistic poster; ½ artistic poster c. 2 artistic posters; 6 artistic posters d. 4 artistic posters; 1 artistic poster ANSWER: a 96. Table: Production Possibilities for Dante and Helena Dante Helena
Greeting Cards 4 6
Artistic Posters 2 1
Dante is an artist who produces custom-made greeting cards and artistic posters. Helena is an equally talented artist who can produce these items as well. According to the table on production possibilities, Dante should specialize in producing _____, and Helena should specialize in producing _____. a. greeting cards; greeting cards b. artistic posters; artistic posters c. artistic posters; greeting cards d. greeting cards; artistic posters Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: c 97. Table: Production Possibilities for Kenya and Sri Lanka Kenya Sri Lanka
Beans (millions of tons) 100 150
Tea (millions of tons) 200 450
According to the table on production possibilities for Kenya and Sri Lanka, Kenya's opportunity cost of producing beans is _____, while Sri Lanka's opportunity cost of producing beans is _____. a. 0.5 tea; 0.33 tea b. 2 teas; 0.33 tea c. 200 teas; 450 teas d. 2 teas; 3 teas ANSWER: d 98. Table: Production Possibilities for Kenya and Sri Lanka Kenya Sri Lanka
Beans (millions of tons) 100 150
Tea (millions of tons) 200 450
According to the table on production possibilities for Kenya and Sri Lanka, Kenya should produce _____, and Sri Lanka should produce _____. a. beans; tea b. tea; beans c. both goods; neither good d. neither good; both goods ANSWER: a 99. Table: Production Possibilities for Kenya and Sri Lanka Kenya Sri Lanka
Beans (millions of tons) 100 150
Tea (millions of tons) 200 450
According to the table on production possibilities for Kenya and Sri Lanka, which of the following answers identifies a trade price that both countries would find acceptable? a. A price between 0.5 bean for 1 tea and 2 teas for 1 bean b. A price between 0.5 and 3 beans for 1 tea c. A price between 2 and 3 teas for 1 bean d. A price between 0.3 and 2 beans for 1 tea ANSWER: c 100. Table: Production Possibilities for Italy and Belgium Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2
Italy Belgium
Labor Hours Needed to Make Pounds Produced in 40 1 Pound of: Hours Linen Pasta Linen Pasta 10 4 4 10 2 8 20 5
According to the table on production possibilities for Italy and Belgium, the opportunity cost of 1 pound of linen for Italy is: a. 10 pounds of pasta. b. 1/4 pound of pasta. c. 4 pounds of pasta. d. 2 1/2 pounds of pasta. ANSWER: d 101. Table: Production Possibilities for Italy and Belgium
Italy Belgium
Labor Hours Needed to Make Pounds Produced in 40 1 Pound of: Hours Linen Pasta Linen Pasta 10 4 4 10 2 8 20 5
According to the table on production possibilities for Italy and Belgium, the opportunity cost of 1 pound of linen for Belgium is: a. 5 pounds of pasta. b. 4 pounds of pasta. c. 1/4 pound of pasta. d. 20 pounds of pasta. ANSWER: c 102. Table: Production Possibilities for Italy and Belgium
Italy Belgium
Labor Hours Needed to Make Pounds Produced in 40 1 Pound of: Hours Linen Pasta Linen Pasta 10 4 4 10 2 8 20 5
According to the table on production possibilities for Italy and Belgium, the opportunity cost of 1 pound of pasta for Italy is: a. 2/5 pound of linen. b. 4 pounds of linen. c. 1/4 pound of linen. d. 2 hours of labor. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 103. Table: Production Possibilities for Italy and Belgium
Italy Belgium
Labor Hours Needed to Make Pounds Produced in 40 1 Pound of: Hours Linen Pasta Linen Pasta 10 4 4 10 2 8 20 5
According to the table on production possibilities for Italy and Belgium, the opportunity cost of 1 pound of pasta for Belgium is: a. 5 pounds of linen. b. 20 pounds of linen. c. 1/4 pound of linen. d. 4 pounds of linen. ANSWER: d 104. Table: Production Possibilities for Italy and Belgium
Italy Belgium
Labor Hours Needed to Make Pounds Produced in 40 1 Pound of: Hours Linen Pasta Linen Pasta 10 4 4 10 2 8 20 5
According to the table on production possibilities for Italy and Belgium, Italy has a comparative advantage in: a. both goods, while Belgium has a comparative advantage in neither good. b. linen, while Belgium has a comparative advantage in pasta. c. pasta, while Belgium has a comparative advantage in linen. d. neither good, while Belgium has a comparative advantage in both goods. ANSWER: c 105. Table: Production Possibilities for Italy and Belgium
Italy Belgium
Labor Hours Needed to Make Pounds Produced in 40 1 Pound of: Hours Linen Pasta Linen Pasta 10 4 4 10 2 8 20 5
According to the table on production possibilities for Italy and Belgium, Italy and Belgium both could benefit if Italy were to specialize in: a. neither good and Belgium were to specialize in both goods. b. both goods and Belgium were to specialize in neither good. c. pasta and Belgium were to specialize in linen. d. linen and Belgium were to specialize in pasta. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 106. Table: Production Possibilities for Italy and Belgium
Italy Belgium
Labor Hours Needed to Make Pounds Produced in 40 1 Pound of: Hours Linen Pasta Linen Pasta 10 4 4 10 2 8 20 5
According to the table on production possibilities for Italy and Belgium, Belgium should specialize in linen production because it: a. has an absolute advantage in producing linen and pasta. b. can do so at a greater opportunity cost. c. has a comparative advantage in producing linen. d. already can produce enough pasta to meet demand. ANSWER: c 107. Table: Production in the United States and Germany
United States Germany
Labor Units Required to Produce: 1 Clock 1 Sofa 2 5 3 9
According to the table, the opportunity cost of producing 1 sofa in the United States is _____, and the opportunity cost of producing 1 sofa in Germany is _____. a. 2 clocks; 3 clocks b. 10 clocks; 27 clocks c. 0.4 clock; 0.33 clock d. 2.5 clocks; 3 clocks ANSWER: d 108. Table: Production in the United States and Germany
United States Germany
Labor Units Required to Produce: 1 Clock 1 Sofa 2 5 3 9
According to the table, the opportunity cost of producing 1 clock in the United States is _____, and the opportunity cost of producing 1 clock in Germany is _____. a. 5 sofas; 9 sofas b. 0.4 sofa; 0.33 sofa c. 5 clocks; 9 clocks d. 2.5 clocks; 3 clocks ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 109. Table: Production in the United States and Germany
United States Germany
Labor Units Required to Produce: 1 Clock 1 Sofa 2 5 3 9
According to the table, which of the following statements is TRUE? a. The United States has a comparative advantage in clocks. b. Germany has an absolute advantage in clocks and sofas. c. The United States has a comparative advantage in sofas. d. The United States has a comparative advantage in clocks and sofas. ANSWER: c 110. Table: Production in France and Italy
France Italy
Labor Units Required to Produce: 1 Bag of Truffles 1 Pair of Wool Socks 1 1 2 4
According to the table, France should specialize in producing _____, and Italy should specialize in producing _____. a. truffles; wool socks b. wool socks; truffles c. truffles; truffles d. wool socks; wool socks ANSWER: b 111. In Colombia, it takes 3 workers to produce 2 pounds of coffee. In Mexico, it takes 4 workers to produce 1 pound of coffee. Therefore: a. Colombia has a comparative advantage in the production of coffee. b. Mexico has a comparative advantage in the production of coffee. c. in Colombia, the opportunity cost of producing 1 pound of coffee is 2/3. d. Colombia has an absolute advantage in the production of coffee. ANSWER: d 112. In Spain, it takes 4 workers to produce 4 bottles of wine. In France, it takes 3 workers to produce 4 bottles of wine. Therefore: a. Spain has a comparative advantage in the production of wine. b. France has an absolute advantage in the production of wine. c. In Spain, the opportunity cost of producing 1 bottle of wine is 3/4. d. Spain has an absolute advantage in the production of wine. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: b 113. In Spain, it takes 3 workers to produce 4 pounds of cheese. In France, it takes 6 workers to produce 4 pounds of cheese. Therefore: a. Spain has a comparative advantage in the production of cheese. b. France has an absolute advantage in the production of cheese. c. In Spain, the opportunity cost of producing 1 pound of cheese is 1/2. d. Spain has an absolute advantage in the production of cheese. ANSWER: d 114. Which statement is TRUE? a. It is virtually impossible for a country to be the low-cost producer of all goods and services. b. The benefits of trade depend on absolute advantage, not comparative advantage. c. A country could have a comparative advantage in producing everything. d. A country that has the absolute advantage in production will also have the comparative advantage. ANSWER: a 115. Figure: Countries A and B
According to the diagram about countries A and B, which of the following statement(s) is correct? I. Country A has a comparative advantage in good Y. II. Country B has an absolute advantage in both goods. III. Country B has a comparative advantage in good X. a. I and II only b. I and III only c. II and III only d. I, II, and III ANSWER: d 116. Figure: Countries A and B Copyright Macmillan Learning. Powered by Cognero.
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The opportunity cost of producing good X in country A is _____, and in country B, it is _____, meaning that country _____ should specialize in producing good X and country _____ in good Y. a. 2Y; 1Y; B; A b. 1/2Y; 1Y; B; A c. 1/2Y; 1Y; A; B d. 2Y; 1Y; A; B ANSWER: a 117. Figure: Countries A and B
If both countries fully allocated all of their labor toward the good in which they have a comparative advantage, the combined production for the two countries would be _____ units of good X and _____ units of good Y. a. 100; 80 b. 70; 90 c. 40; 100 d. 100; 100 ANSWER: a 118. Figure: Countries A and B
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Chapter 2
Assume that each country begins by allocating half its labor force to the production of each good. Through trade with each other, each country could increase its consumption of both goods if country A moved part of its labor force to the production of good _____ and country B moved part of its labor force to the production of good _____. a. X; X b. X; Y c. Y; Y d. Y; X ANSWER: d 119. Figure: Countries A and B
If each country allocated half of its labor force to the production of each good before trade and then each specialized in its comparative advantage and allocated 75 percent of its labor force to the production of that good, world production of good X would change by _____ and the production of good Y by _____. a. 40; 50 b. 25; –5 c. 15; –5 d. 50; 40 ANSWER: c 120. Figure: Countries M and N Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2
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Chapter 2 If both countries fully allocated all of their labor toward the good in which they have a comparative advantage, the combined production for the two countries would be _____ units of good A and _____ units of good B. a. 100; 70 b. 40; 90 c. 90; 70 d. 100; 40 ANSWER: a 121. Figure: Countries M and N
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Chapter 2
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Chapter 2 Assume that each country begins by allocating half of its labor force to the production of each good. Through trade, each country could increase its consumption of both goods if country M moved part of its labor force to the production of good _____ and country N moved part of its labor force to the production of good _____. a. A; B b. B; A c. A; A d. B; B ANSWER: a 122. Which of the following best characterizes the relationship between the parties to a trade and the gains from trade? a. Gains from trade are fueled by differences in preferences and differences in opportunity costs of production. b. Gains from trade are fueled by differences in preferences only. c. Gains from trade are fueled by differences in opportunity costs of production only. d. Gains from trade are greatest when there are no differences between the two parties to a trade. ANSWER: a 123. Two countries that specialize in something where they have a comparative advantage and then trade with each other will experience increases in: I. wages. II. total output. III. living standards. a. I and II only b. II and III only c. II only d. I, II, and III ANSWER: d 124. Which of the following statements is TRUE? a. Two countries that specialize in something in which they have a comparative advantage and then trade with each other will experience an increase in wages, but not total output. b. Two countries that specialize in something in which they have a comparative advantage and then trade with each other will experience an increase in total output, but not wages. c. Two countries that specialize in something in which they have a comparative advantage and then trade with each other will experience a decrease in living standards. d. Two countries that specialize in something in which they have a comparative advantage and then trade with each other will experience an increase in wages, total output, and living standards. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 125. If labor in China is less productive than labor in the United States in all areas of production, then: a. both the United States and China can benefit from trade. b. neither nation can benefit from trade. c. China can benefit from trade, but the United States cannot. d. the United States can benefit from trade, but China cannot. ANSWER: a 126. According to the theory of comparative advantage, the reason wages are lower in China than in the United States is: a. the higher cost of living in the United States. b. lower productivity in China. c. the lower opportunity cost to work in China. d. more trade restrictions in the United States. ANSWER: b 127. Sophia and Manuel are married. Sophia can do $15 worth of household chores per hour, and Manuel can do $30 worth of household chores per hour. In the labor market, Manuel can earn $30 per hour and Sophia can earn $45 per hour. The theory of comparative advantage suggests that: a. Manuel should specialize in household chores and Sophia should specialize in the labor market. b. Sophia should specialize in household chores and Manuel should specialize in the labor market. c. Sophia should specialize in both household chores and the labor market. d. Manuel should specialize in both household chores and the labor market. ANSWER: a 128. The principles of comparative advantage, specialization, and trade apply to: I. individuals. II. communities. III. regions. IV. nations. a. I and II only b. I, II, and III only c. II, III, and IV only d. I, II, III, and IV ANSWER: d 129. Adam Smith advocated the benefits of: a. protectionism. b. trade tariffs over trade quotas. c. international trade. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. absolute advantage. ANSWER: c 130. Absolute advantage is the ability to produce a: a. good at a lower opportunity cost than others. b. good with fewer inputs than others. c. good when demand is high. d. variety of goods. ANSWER: b 131. A country has a comparative advantage in producing a good when it produces that good: a. at a lower opportunity cost than another country. b. at a higher opportunity cost than another country. c. in greater quantity than another country. d. with fewer inputs than another country. ANSWER: a 132. Two persons each produce two identical goods. Which of the following is TRUE about their absolute and comparative advantages in the production of these two goods? a. One person can have an absolute advantage in both goods but not a comparative advantage in both goods. b. One person can have a comparative advantage in both goods but not an absolute advantage in both goods. c. One person can have neither an absolute nor a comparative advantage in either good. d. Both persons can always have both an absolute and comparative advantage in both goods. ANSWER: a 133. To benefit the most from trade, a person should: a. specialize in an activity for which she has an absolute advantage. b. specialize in an activity for which she has a comparative advantage. c. do everything she possibly can. d. do as little as possible. ANSWER: b 134. The concept of comparative advantage implies that: a. there are winners and losers when people trade without specializing. b. people have to be self-sufficient. c. people benefit from specializing and trading with one another. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. only those people who are productive benefit from trade. ANSWER: c 135. The reason Martha Stewart does not iron her own clothes is that: a. she has never learned how to iron. b. she has a comparative advantage in ironing. c. she does not have an absolute advantage in ironing. d. her opportunity cost of ironing exceeds the person's wages providing the ironing service. ANSWER: d 136. Both Maria and Jorge bake cookies and bread, but Maria spends less time baking each batch of cookies and each loaf of bread than Jorge does. Which of the following is TRUE? a. Maria has an absolute advantage in baking both cookies and bread. b. Maria has a comparative advantage in baking both cookies and bread. c. Jorge has an absolute advantage in baking both cookies and bread. d. Jorge has a comparative advantage in baking both cookies and bread. ANSWER: a 137. Both Maria and Jorge bake cookies and bread, but Maria spends less time baking each batch of cookies and each loaf of bread than Jorge does. Specialization and trade between them can benefit: a. both Maria and Jorge. b. Maria, but not Jorge. c. Jorge, but not Maria. d. neither Maria nor Jorge. ANSWER: a 138. Both Bohai and Guiren build fine wood dining tables and desks. Bohai spends less time building each desk than Guiren does. Guiren spends less time building each dining table than Bohai does. Which of the following is TRUE? a. Bohai has an absolute advantage in building both dining tables and desks. b. Bohai has a comparative advantage in building desks. c. Guiren has an absolute advantage in building both dining tables and desks. d. Guiren has a comparative advantage in building desks. ANSWER: b 139. Both Bohai and Guiren build fine wood dining tables and desks. Bohai spends less time building each desk than Guiren does. Guiren spends less time building each dining table than Bohai does. Specialization and trade between them can benefit: a. both Bohai and Guiren. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. Bohai, but not Guiren. c. Guiren, but not Bohai. d. neither Bohai nor Guiren. ANSWER: a 140. Which of the following explains why someone with an absolute advantage in painting houses may NOT spend their time painting houses? a. They may also have a comparative advantage in painting houses. b. Even though they have an absolute advantage in painting houses, they still may not be very good at it. c. In an efficient market, someone with an absolute advantage in painting houses will always spend their time painting houses. d. They may be relatively better at something else than painting houses. ANSWER: d 141. In his prime, Michael Jordan played both professional basketball and professional baseball. Compared with most people, Jordan would have an absolute advantage in: a. playing both basketball and baseball, since he was better at both than the average person. b. playing basketball only because he was relatively better at basketball. c. playing baseball only, since he ultimately gave up baseball to concentrate on basketball. d. neither basketball or baseball, since he cannot hold the relative advantage in both sports. ANSWER: a 142. A country has an absolute advantage in production if: a. it can produce the same good using fewer inputs than another country. b. it can produce a good using fewer inputs than it takes another country to produce a different good. c. other countries can produce the same good using fewer inputs. d. it has the lowest opportunity cost of producing a good. ANSWER: a 143. A country has a comparative advantage in production if: a. it can produce the same good using fewer inputs than another country. b. it can produce a good using fewer inputs than it takes another country to produce a different good. c. other countries can produce the same good using fewer inputs. d. it has the lowest opportunity cost of producing a good. ANSWER: d 144. Martha Stewart does not do her own ironing because she: a. is not very good at ironing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. has an absolute advantage in ironing. c. has a comparative advantage in something else. d. has a comparative advantage in ironing. ANSWER: c 145. A country has a comparative advantage in a good if: a. it can produce more of that good than any other country can. b. it does not have an absolute advantage in that good. c. it has the lowest opportunity cost of producing that good. d. no other country is willing to buy that good from it. ANSWER: c 146. Traders should specialize in the good: a. that they can produce with the lowest opportunity cost. b. in which they have an absolute advantage. c. in which their trading partner has a comparative advantage. d. in which they do not have an absolute advantage. ANSWER: a 147. Brazil can produce 1 unit of sugarcane with 1 unit of labor and 1 iPod with 8 units of labor, and China can produce 1 unit of sugarcane with 2 units of labor and 1 iPod with 4 units of labor. Which of the following is TRUE? a. Brazil has a comparative advantage in sugarcane production and an absolute advantage in iPod production. b. Both countries have a comparative advantage in sugarcane production. c. China has an absolute advantage in production of both goods. d. Brazil has both a comparative advantage and an absolute advantage in sugarcane production. ANSWER: d 148. Brazil can produce 1 unit of sugarcane with 1 unit of labor and 1 iPod with 8 units of labor, and China can produce 1 unit of sugarcane with 2 units of labor and 1 iPod with 4 units of labor. What are each country's opportunity costs of producing iPods? a. Brazil: 4 units of sugarcane; China: 2 units of sugarcane b. Brazil: 8 units of sugarcane; China: 2 units of sugarcane c. Brazil: 1/8 unit of sugarcane; China: 1/2 unit of sugarcane d. Brazil: 1/2 unit of sugarcane; China: 1/2 unit of sugarcane ANSWER: b 149. Brazil can produce 1 unit of sugarcane with 1 unit of labor and 1 iPod with 8 units of labor, and China can Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 produce 1 unit of sugarcane with 2 units of labor and 1 iPod with 4 units of labor. Which of the following is TRUE? a. Before trade, China's opportunity cost of 1 unit of sugarcane is 2 iPods. b. China has an absolute advantage in sugarcane production. c. Both parties benefit if they specialize and trade at terms of 1 unit of sugarcane for 2 iPods. d. With trade, Brazil should specialize in sugarcane and China in iPods. ANSWER: d 150. The better a person is at producing one good: a. the worse he is at producing other goods. b. the higher the opportunity cost to him of producing other goods. c. the lower the incentive he has to trade with other people. d. the better he is at producing other goods. ANSWER: b 151. Producers who have absolute advantages in all goods: a. cannot exist. b. have no use for trade. c. are better off specializing in their comparative advantages and trading for other goods. d. should avoid the global division of labor because it is counterproductive for them. ANSWER: c 152. In 2010, Switzerland-based Nestlé began sailing supermarket barges up and down parts of the Amazon River. The barges carry approximately 300 different goods and cater to about a dozen local communities that fish the Amazon's bountiful rivers and whose members lack the time and money to visit a conventional store. Which advantage from trade is illustrated in this passage? a. differences in preferences b. specialization c. comparative advantage d. Each of these advantages is illustrated in the passage. ANSWER: c 153. When determining what a country should specialize in producing, economists chiefly consider: a. absolute advantage. b. comparative advantage. c. incentives. d. the dispersion of knowledge. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 154. A country has an absolute advantage if it can produce _____ good using _____ inputs than another country. a. the same; fewer b. a different; more c. the same; more d. a different; fewer ANSWER: a 155. The production possibility frontier shows: a. how society can produce more of one good without giving up the production of another good. b. what people can consume given different combinations of goods produced. c. the combinations of output that an economy can produce given its productivity and supply of inputs. d. the types of goods and services that society should produce to satisfy social interest. ANSWER: c 156. When using a production possibilities frontier (PPF), a trade-off is demonstrated by: a. an outward shift of the PPF. b. an inward shift of the PPF. c. a movement from a point inside the PPF to a point on the frontier. d. a movement along the PPF. ANSWER: d 157. Figure: Production Possibilities A and B
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In the graph, a trade-off is shown in the movement from: a. point A to point B. b. point A to point C. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 c. point B to point E. d. PPF A to PPF B. ANSWER: a 158. Figure: Production Possibilities A and B
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If this economy is currently functioning at point D on PPF A without international trade, which point best represents consumption with trade? a. point A Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. point C c. point E d. point B ANSWER: c 159. The fundamental idea behind the production possibilities frontier is: a. the idea of absolute advantage. b. the trade-offs that exist in production. c. that economic growth is unlimited. d. that incentives matter. ANSWER: b 160. The slope of the production possibilities frontier at a given point indicates _____. a. the preferences of a country b. a country's total gains from trade c. a country's opportunity cost of production d. a country's trade balance ANSWER: c 161. Which of the following is FALSE regarding the production possibilities frontier (PPF)? a. The PPF shows the combination of goods that a country can produce given its current productivity and supply of resources. b. The PPF illustrates the trade-offs that exist in the production of goods. c. The PPF shows us that gains from trade are maximized when countries produce goods for which they have an absolute advantage in production. d. The PPF illustrates the fundamental ideas of scarcity and opportunity cost. ANSWER: c 162. Figure: U.S. Production Possibility Frontier
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Suppose the figure illustrates the U.S. PPF for the production of corn and TVs. Which of the following statements is TRUE? a. The United States should specialize in the production of corn, since it can produce more corn than TVs. b. For each TV that the United States produces, it gives up 25 units of corn. c. The United States should produce 50 TVs and 1,250 units of corn to maximize value to society. d. The United States has a comparative advantage in the production of TVs. ANSWER: b 163. A production possibilities frontier shows: a. the supply and demand for a good in a country. b. all combinations of goods that a country can produce given its productivity and supply of inputs. c. the uninhabited territory of a country that is full of new possibilities. d. the goods that a country will be able to produce in the future if it continues to grow. ANSWER: b 164. Figure: Coffee and Tea
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Despite its widespread popularity today, coffee wasn't consumed as a beverage until the mid-1400s. Tea was the beverage of choice, particularly in Southeast Asia. Before coffee, what was the total tea production? (Assume the only reason to grow coffee was for beverage purposes.) a. 80,000,000 b. 130,000,000 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 c. 140,000,000 d. 160,000,000 ANSWER: d 165. Figure: Coffee and Tea
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Chapter 2 Which of the following is NOT a possible production level? a. 20 million pounds of tea, 100 million pounds of coffee b. 120 million pounds of tea, 80 million pounds of coffee c. 100 million pounds of tea, 40 million pounds of coffee d. 0 million pounds of tea, 120 million pounds of coffee ANSWER: b 166. Figure: Drums and Shoes
Given the graph of the production possibilities frontier in the figure, which of the following statements is TRUE? a. The country has 2 units of labor, and it takes 0.5 unit of labor to produce 1 unit of either good. b. The country has 3 units of labor, and it takes 1 unit of labor to produce 3 drums and 1 unit of labor to produce 3 1/3 pairs of shoes. c. The country has 4 units of labor, and it takes 2 units of labor to produce 8 drums and 3 units of labor to produce 3 shoes. d. The country has 5 units of labor, and it takes 1 unit of labor to produce 1.8 drums and 1 unit of labor to produce 2.5 shoes. ANSWER: b 167. The _____ shows all combinations of goods that a country can produce given its productivity and _____. a. comparative advantage frontier; market prices b. absolute advantage frontier; supply of inputs c. production possibilities frontier; supply of inputs d. production possibilities frontier; market prices Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: c 168. Figure: Cars and Boats
A country needs 4 units of labor to produce 1 car and 3 units of labor to produce 1 boat, and the country has 120 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 units of labor. Which of the figures represents this country's PPF? a. Figure A b. Figure B c. Figure C d. Figure D ANSWER: b 169. Iceland produces two goods: Viking hats (Y) and fish (X). Its production possibilities frontier is characterized as Y = 50 – 2X and tells us that the opportunity cost of catching (producing) an additional unit of fish in Iceland is: a. increasing in fish production. b. constant in fish production. c. decreasing in fish production. d. unable to be determined from the information given. ANSWER: b 170. Iceland produces two goods: Viking hats (Y) and fish (X). Its production possibilities frontier is characterized as Y = 50 – 2X. What is the opportunity cost of producing a tenth unit of fish (i.e., going from 9 units of fish production to 10)? a. 0.5 unit of fish b. 2 units of fish c. 0.5 Viking hat d. 2 Viking hats ANSWER: d 171. Iceland produces two goods: Viking hats (Y) and fish (X). Its production possibilities frontier is characterized as Y = 50 – 2X. What is the opportunity cost of producing a tenth Viking hat (i.e., going from a production level of 9 Viking hats to a production level of 10 Viking hats)? a. 0.5 unit of fish b. 2 units of fish c. 0.5 Viking hat d. 2 Viking hats ANSWER: a 172. Table: Movies and Oil State Texas California New York
Hypothetical Maximum Production per Year Movies Barrels of Oil (millions) 75 50 60 30 20 5
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Chapter 2 According to the table, which state has a comparative advantage in oil? a. Texas, because it can produce more oil than anyone else b. New York, because its opportunity cost for a barrel of oil is 4 movies per year c. Texas, because its opportunity cost for a barrel of oil is 1.5 movies per year d. California, because its opportunity cost for a barrel of oil is 2 movies per year ANSWER: c 173. Table: Movies and Oil State Texas California New York
Hypothetical Maximum Production per Year Movies Barrels of Oil (millions) 75 50 60 30 20 5
According to the table, which state has a comparative advantage in movies? a. Texas, because it can produce more movies than anyone else b. New York c. California d. impossible to tell from the information in the table ANSWER: b 174. Brazil and Canada trade two goods: bananas and ice pops. Brazil has a comparative advantage in banana production. This means that: a. Brazil also has a comparative advantage in ice pop production. b. Canada has a comparative advantage in ice pop production. c. neither country has a comparative advantage in ice pop production. d. both countries have a comparative advantage in ice pop production. ANSWER: b 175. Brazil and Canada trade two goods: bananas and ice pops. Brazil has a comparative advantage in banana production. From this, we know that: a. Brazil produces bananas at a lower explicit cost than does Canada. b. Brazil produces ice pops at a lower explicit cost than does Canada. c. Brazil produces bananas at a lower opportunity cost than does Canada. d. Brazil produces ice pops at a lower opportunity cost than does Canada. ANSWER: c 176. Jimmy Kimmel hosts the Jimmy Kimmel Live! show, and Molly McNearney helps write for it. Jimmy needs 4 hours to rehearse, while Molly would need 10 hours of rehearsal if she were to host. Jimmy writes one usable joke in 1 hour, but Molly needs 2 hours to do the same. From these numbers, we infer that Jimmy has an absolute advantage in the production of: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. show hosting. b. joke writing. c. neither show hosting nor joke writing. d. both show hosting and joke writing. ANSWER: d 177. Jimmy Kimmel hosts the Jimmy Kimmel Live! show, and Molly McNearney writes for it. Jimmy needs 4 hours to rehearse, while Molly would need 10 hours of rehearsal if she were to host. Jimmy writes one usable joke in 1 hour, but Molly needs 2 hours to do the same. From these numbers, we infer that Jimmy has a comparative advantage in the production of: a. show hosting. b. joke writing. c. neither show hosting nor joke writing. d. both show hosting and joke writing. ANSWER: a 178. Jimmy Kimmel hosts the Jimmy Kimmel Live! show, and Molly McNearney writes for it. Jimmy needs 4 hours to rehearse, while Molly would need 10 hours of rehearsal if she were to host. Jimmy writes one usable joke in 1 hour, but Molly needs 2 hours to do the same. If each party produces according to their comparative advantage: a. Molly will host and Jimmy will write. b. Molly will host and Molly will write. c. Jimmy will host and Jimmy will write. d. Jimmy will host and Molly will write. ANSWER: d 179. Martha Stewart can iron 20 shirts per hour. Her housekeeper can iron 12 shirts per hour. From this information alone, we can infer that: a. Martha has a comparative advantage in ironing. b. the housekeeper has a comparative advantage in ironing. c. Martha has an absolute advantage in ironing. d. the housekeeper has an absolute advantage in ironing. ANSWER: c 180. Jack and Jill work at a bakery. In 1 hour, Jack can decorate either 5 ice-cream cakes or 2 wedding cakes. In 1 hour, Jill can decorate either 4 ice-cream cakes or 1 wedding cake. Thus the opportunity cost of decorating an ice-cream cake is _____ for Jack and _____ for Jill. a. 4 wedding cakes; 2.5 wedding cakes b. 1/4 wedding cake; 2/5 wedding cake c. 2.5 wedding cakes; 4 wedding cakes Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. 2/5 wedding cake; 1/4 wedding cake ANSWER: d 181. Jack and Jill work at a bakery. In 1 hour, Jack can decorate either 5 ice-cream cakes or 2 wedding cakes. In 1 hour, Jill can decorate either 4 ice-cream cakes or 1 wedding cake. According to this scenario, _____ has a comparative advantage in decorating ice-cream cakes and _____ has a comparative advantage in decorating wedding cakes. a. Jack; Jack b. Jill; Jill c. Jack; Jill d. Jill; Jack ANSWER: d 182. Jack and Jill work at a bakery. In 1 hour, Jack can decorate either 5 ice-cream cakes or 2 wedding cakes. In 1 hour, Jill can decorate either 4 ice-cream cakes or 1 wedding cake. According to this scenario, which of the following outcomes will benefit both Jack and Jill the most? a. Both Jack and Jill specialize in decorating ice-cream cakes. b. Both Jack and Jill specialize in decorating wedding cakes. c. Jill specializes in decorating ice-cream cakes, and Jack specializes in decorating wedding cakes. d. Jill specializes in decorating wedding cakes, and Jack specializes in decorating ice-cream cakes. ANSWER: c 183. Suppose the United States is more productive than China at making both T-shirts and cell phones. The theory of comparative advantage suggests that consumption in both countries will: a. increase if the United States produces both goods. b. increase if each country specializes in producing the good with a lower opportunity cost. c. not change if China produces either T-shirts or cell phones. d. remain unchanged. ANSWER: b 184. Figure: Computers and Books
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Chapter 2
According to the figure, the opportunity cost of producing books: a. is higher for country A than for country B. b. is higher for country B than for country A. c. is the same for countries A and B. d. cannot be determined. ANSWER: a 185. Figure: Computers and Books
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Chapter 2
According to the figure, both countries can increase consumption if: a. both countries buy computers and books from each other. b. both countries produce both computers and books. c. country A produces only computers and buys books from country B. d. country A produces only books and buys computers from country B. ANSWER: c 186. Figure: Computers and Books
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Chapter 2
According to the figure, if country A produces only the good for which it has a comparative advantage and then consumes the other good by exchanging computers for books, then: a. country A will consume outside its PPF, but country B will consume inside its PPF. b. country A will consume inside its PPF, but country B will consume outside its PPF. c. both countries will consume inside their own PPFs. d. both countries will consume outside their own PPFs. ANSWER: d 187. When economists say that an individual or country has a comparative advantage in the production of a good, it means that they: a. can produce more of the good than anyone else. b. are the lowest-opportunity-cost producer of the good. c. are the highest-opportunity-cost producer of the good. d. are operating on their production possibilities frontier. ANSWER: b 188. The opportunity cost of producing a particular good refers to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. how much of something else must be given up to produce 1 additional unit of the good. b. how much of a good can be produced with the existing technology and resources. c. the total cost of production, including wages. d. the marginal cost of production. ANSWER: a 189. Anita can bake 10 cakes in a day but has no time left to make cookies. If she bakes only cookies, she can make 200 cookies in a day. John makes equally delicious cakes and cookies but can make only 7 cakes or 100 cookies in a day. Based on this information, which of the following statements is TRUE? a. Anita has a comparative advantage in the production of cakes. b. John has a comparative advantage in the production of cakes. c. John has an absolute advantage in the production of cookies. d. Anita has a comparative advantage in the production of both cakes and cookies. ANSWER: b 190. Figure: Comparative Advantage
The figure illustrates both the U.S. and Japanese production possibilities frontiers for TVs and wheat. Based on this information, which of the following is TRUE? a. The United States has a comparative advantage in the production of TVs. b. The United States has a comparative advantage in the production of wheat. c. Japan has a comparative advantage in the production of wheat. d. Japan has an absolute advantage in the production of TVs. ANSWER: b 191. Figure: Comparative Advantage
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Chapter 2
The figure illustrates both the U.S. and Japanese production possibilities frontiers for TVs and wheat. Based on this information, which of the following is TRUE? a. The opportunity cost of producing a TV in the United States is 1/3 of a bushel of wheat. b. The opportunity cost of producing a TV in the United States is 900 bushels of wheat. c. The opportunity cost of producing a TV in Japan is 2 bushels of wheat. d. The opportunity cost of producing a bushel of wheat in Japan is 2 TVs. ANSWER: c 192. When countries produce those goods for which they have a comparative advantage: a. total production and consumption will increase in all countries. b. trade will increase, but production will decrease. c. at least one country will be worse off; maximizing production comes from producing those goods for which they have the absolute advantage. d. they are maximizing their opportunity costs. ANSWER: a 193. Figure: Sofas and Windows
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In the PPF diagram, what is the opportunity cost of producing an additional window? a. 1 1/4 sofas b. 4/5 of a window c. 1 window d. 4/5 of a sofa ANSWER: c 194. Figure: Sofas and Windows
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In the PPF diagram, what is the opportunity cost of producing an additional sofa? a. 1 1/4 sofas b. 4/5 of a window c. 1 window d. 4/5 of a sofa ANSWER: c 195. How is slope, measured as rise over run, related to the production possibilities frontier? a. Slope measures the fixed costs of producing good X and good Y. For a slope of –3, the fixed cost of producing either good X or good Y is $3 multiplied by the number of units produced. b. Slope gives the opportunity cost of producing an additional unit of the good on the x-axis. So if the slope is –3, the country must give up producing one-third of a unit of good Y for every additional unit of good X it produces. c. Slope gives the fixed cost of producing an additional unit of the good on the x-axis. So if the slope is –3, the country must give up producing one-third of a unit of good Y for every additional unit of good X it produces. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. Slope gives the opportunity cost of producing an additional unit of the good on the x-axis. So if the slope is –3, the country must give up producing 3 units of good Y for every additional unit of good X it produces. ANSWER: d 196. Figure: Steel and Lumber
In the PPF diagram, the United States has a comparative advantage in _____ and an absolute advantage in _____. a. both goods; both goods b. steel; lumber c. steel; both goods d. lumber; steel ANSWER: c 197. Figure: Steel and Lumber Copyright Macmillan Learning. Powered by Cognero.
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In the PPF diagram, China has a comparative advantage in _____ and an absolute advantage in _____. a. lumber; neither of the goods b. steel; lumber c. steel; neither of the goods d. lumber; steel ANSWER: a 198. Figure: Rice and Shirts
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Use the PPFs shown for the United States and India. With specialization and trade, the United States would produce _____, and India would produce _____. a. 50 pounds of rice and 0 shirts; 0 pounds of rice and 35 shirts b. 30 pounds of rice and 16 shirts; 11.4 pounds of rice and 15 shirts c. 0 pounds of rice and 40 shirts; 20 pounds of rice and 0 shirts d. 50 pounds of rice and 40 shirts; 20 pounds of rice and 35 shirts ANSWER: a 199. Figure: Rice and Shirts
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Use the PPFs shown for the United States and India. If the United States and India specialize and trade, one country will trade away 20 pounds of rice in exchange for 20 shirts from the other. Compared with no trade, _____ will be able to consume _____ additional shirts, and _____ will be able to consume an additional _____ pounds of rice. a. the United States; 0; India; 8.6 b. India; 5; the United States; 0 c. the United States; 4; India; 8.6 d. India; 8.6; the United States; 4 ANSWER: c 200. New Zealand is more productive than Madagascar at producing all goods and services. In this situation: a. New Zealand might benefit by trading with Madagascar. b. Madagascar would be harmed if it traded with New Zealand. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 c. both countries would benefit from trading with each other. d. New Zealand would see its standard of living decline if it traded with Madagascar. ANSWER: c 201. Trade tends to: a. decrease the wages of high-productivity countries. b. decrease the wages of low-productivity countries. c. decrease the wages of both high- and low-productivity countries. d. increase the wages of both high- and low-productivity countries. ANSWER: d 202. Figure: Benin
In the figure, Benin has 32 workers, and the price per ton of cotton and ton of rice is $2,500 and $1,200, respectively. The average wage with no trade is _____, and the average wage with trade is _____. a. $850; $1,081.25 b. $768.75; $1,000 c. $1,000; $850 d. $1,000; $1,081.25 ANSWER: b 203. Babe Ruth could produce 2 home runs in a week of play as a fielder or 1 win in a week of play as a pitcher. What was his opportunity cost for a week of pitching? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. 1 win b. 2 wins c. 1 home run d. 2 home runs ANSWER: d 204. Babe Ruth could produce 2 home runs in a week of play as a fielder or 1 win in a week of play as a pitcher. What was his opportunity cost of a week of fielding? a. 1 win b. 2 wins c. 1 home run d. 2 home runs ANSWER: a 205. Conan O'Brien hosts the Conan show, and Andy Richter, his sidekick, writes for it. Conan needs 4 hours to rehearse and host a good show. It takes Andy 10 hours to do the same. Conan writes one usable joke in an hour, but Andy needs 2 hours to do the same. Conan's opportunity cost of writing a single usable joke is: a. 0.2 unit of hosting. b. 0.25 unit of hosting. c. 0.5 unit of hosting. d. 1 unit of hosting. ANSWER: b 206. Conan O'Brien hosts the Conan show, and Andy Richter, his sidekick, writes for it. Conan needs 4 hours to rehearse and host a good show. It takes Andy 10 hours to do the same. Conan writes one usable joke in an hour, but Andy needs 2 hours to do the same. Andy's opportunity cost of writing a single usable joke is: a. 0.2 unit of hosting. b. 0.25 unit of hosting. c. 0.5 unit of hosting. d. 1 unit of hosting. ANSWER: a 207. Conan O'Brien hosts the Conan show, and Andy Richter, his sidekick, writes for it. Conan needs 4 hours to rehearse and host a good show. It takes Andy 10 hours to do the same. Conan writes one usable joke in an hour, but Andy needs 2 hours to do the same. Conan's opportunity cost of rehearsing and hosting a show is: a. 0.2 usable joke. b. 0.5 usable joke. c. 4 usable jokes. d. 5 usable jokes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: c 208. Conan O'Brien hosts the Conan show, and Andy Richter, his sidekick, writes for it. Conan needs 4 hours to rehearse and host a good show. It takes Andy 10 hours to do the same. Conan writes one usable joke in an hour, but Andy needs 2 hours to do the same. Andy's opportunity cost of rehearsing and hosting a show is: a. 0.2 usable joke. b. 0.5 usable joke. c. 4 usable jokes. d. 5 usable jokes. ANSWER: d 209. According to the theory of trade, if two countries trade with each other: a. consumption in one country will fall and wages in that country will also fall. b. wage costs will remain low if both countries specialize in producing the goods for which they have a comparative advantage. c. trade will raise the labor productivity and wages of both countries. d. wages in the country with a comparative advantage will rise, and wages in the country without a comparative advantage will fall. ANSWER: c 210. Trade tends to: a. increase wages in developed countries but decrease wages in lesser-developed countries. b. decrease wages in developed countries but increase wages in lesser-developed countries. c. decrease wages in all countries. d. increase wages in all countries. ANSWER: d 211. Wage rates are primarily based on the: a. level of comparative advantage. b. extent to which the country is involved in trade with other countries. c. productivity of labor. d. institutional factors present. ANSWER: c 212. Which of the following is TRUE regarding trade and wages? a. Trade can increase wages by increasing the productivity of labor. b. Trade helps to equalize wages between high- and low-productivity countries. c. Countries with low productivity levels will always have lower wages than high-productivity nations whether they trade or not. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 d. Trade directly increases productivity, which in turn increases wages. ANSWER: c 213. A country produces and consumes 8 units of sugarcane that cost $50 per unit and 2 Apple Watches that cost $200 each. After specialization and trade, the country consumes 8 units of sugarcane and 4 Apple Watches. With 24 units of labor, what are wages in this country? a. $33.33 without trade and $50 with trade b. $50 without trade and $75 with trade c. $50 without trade and $33.33 with trade d. $33.33 without trade and $75 with trade ANSWER: a 214. When a rich country that has absolute advantages in all products begins trading with a poor country: a. the wages in the rich country will go down, and the wages in the poor country will go up. b. the wages in both countries will go up. c. the wages in both countries will go down. d. the wages in the rich country will go up, and the wages in the poor country will go down. ANSWER: b 215. High-productivity workers fear trade because they think they cannot compete with workers in lowproductivity countries. Low-productivity workers fear trade because they think they cannot compete with workers in high-productivity countries. Which of these fears is justified? a. The fears of workers in high-productivity countries are justified; the fears of workers in lowproductivity countries are not. b. The fears of workers in low-productivity countries are justified; the fears of workers in highproductivity countries are not. c. Both sets of fears are justified. d. Neither set of fears is justified. ANSWER: d 216. According to Adam Smith: a. trade is a way for rich people to exploit poor people. b. trade within a nation benefits people, but international trade does not. c. trade does not benefit anyone. d. people buy goods for which they have higher opportunity costs than others. ANSWER: d 217. Adam Smith said, “It is the maxim of every prudent master of a family never to attempt to make at home what it will cost him more to make than to buy. The tailor does not attempt to make his own shoes, but buys Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 them of the shoemaker. The shoemaker does not attempt to make his own clothes, but employs a tailor.” Which of the following concepts best illustrates Smith's intent with this statement? a. comparative advantage b. incentives matter c. scarcity d. production possibilities frontier ANSWER: a 218. What is the difference between trade among individuals and trade among nations? a. The logic of trade and specialization is stronger for individuals than it is for nations. b. The logic of trade and specialization is stronger for nations than it is for individuals. c. The logic of trade and specialization applies equally well among individuals and nations. d. Without looking at specific cases, we can't say much about the logic of trade and specialization for individuals and nations. ANSWER: c 219. Adam Smith: a. believed that trade in local communities is good for the economy, but trading with people located in foreign countries is bad for the economy. b. did not discuss or have an opinion about international trade. c. argued that it is beneficial to buy a product if the seller can sell it to us cheaper than we can make it for ourselves, regardless of the product's country of origin. d. believed that trade in local communities is bad for the economy, but trading with people located in foreign countries is good for the economy. ANSWER: c 220. In many universities, graduate students are employed to teach introductory undergraduate courses, even though the full professors at these universities have more experience and could potentially teach these courses better. Which of the following best explains why universities choose to hire graduate students instead of full professors to teach their introductory courses? a. Graduate students are cheaper. b. The opportunity cost of teaching an introductory course is higher for full professors than for graduate students. c. The opportunity cost of teaching an introductory course is higher for graduate students than for full professors. d. Introductory classes are the best place for graduate students to build their teaching skills. ANSWER: b 221. Gains from international trade are best characterized as potential gains from: a. importation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. exportation. c. neither importation nor exportation. d. both importation and exportation. ANSWER: d 222. The development of shipping containers enabled companies to move freight quickly between ships, trucks, and trains by loading a single large container with many different goods and then moving the container. Before the container, freight had to be loaded and unloaded one palette, barrel, or box at a time. What impact did the shipping container have on globalization? Why? a. an increase because it allowed the faster spread of communication b. an increase because it decreased transportation costs c. a decrease because it caused many dock workers to lose their job d. a decrease because it caused the amount of human cooperation to fall ANSWER: b 223. According to the textbook, globalization: a. never took place. b. began as far back as the Roman Empire. c. began in the twenty-first century. d. occurred only during the Dark Ages. ANSWER: b 224. Increased trade has also led to: a. increased globalization of economies. b. a more equal distribution of wealth across countries. c. a decline in human cooperation. d. more specialization and thus less globalization. ANSWER: a 225. The trade networks of the Roman Empire: a. fell apart in the medieval era, leading to the Dark Ages. b. were not of great importance. c. show that globalization is a new phenomenon. d. did not facilitate the transport of goods from different parts of the world. ANSWER: a 226. Globalization is: a. pushed through by politicians while citizens are reacting to disasters and upheavals. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. the advance of human cooperation across national boundaries. c. the advance of human conflict across national boundaries. d. supported only by greedy corporations. ANSWER: b 227. The Dark Ages was a period in which trade: a. expanded because of rising transportation and communication costs. b. expanded because of falling transportation and communication costs. c. decreased because world markets became more isolated. d. decreased because world markets became less isolated. ANSWER: c 228. Globalization is best described as: a. a new process. b. an old process that has consistently grown. c. an old process that has grown intermittently. d. an old process that has declined over time. ANSWER: c 229. The recent pace of globalization has been increased through: a. declining transportation costs. b. increased speed of communication. c. the integration of world markets. d. each of these developments. ANSWER: d 230. Gains from trade are largest when two parties are similar in terms of preferences. a. True b. False ANSWER: b 231. Gains from trade are largest when two parties are similar in terms of opportunity costs of production. a. True b. False ANSWER: b 232. Trade refers to the exchange of goods or services between two parties. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. False ANSWER: a 233. Trade refers to the exchange of goods and services between at least two different nations. a. True b. False ANSWER: b 234. Trade makes people better off only when they all have the same preferences. a. True b. False ANSWER: b 235. Trades are considered zero-sum transactions because when one person gains, the other loses an equal amount. a. True b. False ANSWER: b 236. Trade works best between people who share similar preferences. a. True b. False ANSWER: b 237. Trade creates value by moving goods from people that value them less to people that value them more. a. True b. False ANSWER: a 238. Jerome has an old (working) television that he would like to get rid of now that he has purchased a new television. The old television is no longer worth anything to him now. Shanique, on the other hand, has an even older television that has just broken down. She would pay up to $50 for any working TV. If Jerome trades Shanique his old television for $50, both are better off but the total value in society does not increase. a. True b. False ANSWER: b 239. Involuntary trades increase value in the same way voluntary trades do. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. True b. False ANSWER: b 240. One of the ways trade increases wealth is by taking advantage of differences in preferences. a. True b. False ANSWER: a 241. Large cities should have more professional closet organizers than small cities. a. True b. False ANSWER: a 242. In a world with trade, no one can afford to specialize. a. True b. False ANSWER: b 243. Trade leads to increased productivity because trade allows people to specialize. a. True b. False ANSWER: a 244. Although trade increases productivity, it decreases society's collective knowledge because people specialize in a very limited number of things. a. True b. False ANSWER: b 245. The human brain has no limits, so the division of knowledge decreases the total knowledge in society. a. True b. False ANSWER: b 246. Without trade, specialization is impractical. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 ANSWER: a 247. The U.S. interstate highway system probably allowed more people in small communities to become fulltime interior decorators. a. True b. False ANSWER: a 248. Specialization is an example of self-interest aligning with the social interest because it increases the amount you can consume as well as the amount society can consume. a. True b. False ANSWER: a 249. An advantage to specialization is that it can decrease the average cost of production by concentrating on smaller-scale production. a. True b. False ANSWER: b 250. Specialization and the division of knowledge decreased with the fall of the Berlin Wall and the opening of China's economy to the world. a. True b. False ANSWER: b 251. The benefits of economies of scale and increased competition to an economy include lower unit costs. a. True b. False ANSWER: a 252. As trade becomes more extensive, it slows down the creation of new ideas because fewer people can specialize in areas like science and engineering. a. True b. False ANSWER: b 253. If it were impossible to have a comparative advantage, there would be no gains from trade. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 a. True b. False ANSWER: b 254. If you have a comparative advantage in washing dishes, then you also have an absolute advantage in washing dishes. a. True b. False ANSWER: b 255. When comparing two countries with two goods each, if one country has a comparative advantage in one good, the other country will have a comparative advantage in the other good. a. True b. False ANSWER: a 256. Comparative advantage occurs when an individual's opportunity cost for producing the same good or service is lower than that of another individual. a. True b. False ANSWER: a 257. Countries can benefit from trading with one another because trade allows each country to specialize in doing what it does best. a. True b. False ANSWER: a 258. Trading increases the amount a single country can produce. a. True b. False ANSWER: b 259. The production possibilities frontier shows all the combinations of goods that a country can produce given its productivity and supply of inputs. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 260. The points on the production possibilities frontier show the cost of the different goods that a country can produce. a. True b. False ANSWER: b 261. Everyone, from the most to the least skilled to the most and least educated, can benefit from trade. a. True b. False ANSWER: a 262. A country has a comparative advantage in producing one good if its labor cost is lower than that for other countries. a. True b. False ANSWER: b 263. If a country has an absolute advantage in both items produced when compared to another country, there can never be any benefit for them to trade. a. True b. False ANSWER: b 264. U.S. pharmaceutical companies sell drugs to Kenya, and Kenyan farmers sell flowers to the United States. This pattern of trade suggests that the United States is the low-opportunity-cost producer of drugs, and Kenya is the low-opportunity-cost producer of flowers. a. True b. False ANSWER: a 265. In Spain, it takes 10 workers to produce 1 barrel of wine and 4 workers to produce 1 yard of cloth. Thus, the opportunity cost of producing 1 barrel of wine is 2.5 yards of cloth. a. True b. False ANSWER: a 266. Trade causes wages in countries with high productivity to increase and wages in countries with low productivity to decrease. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. False ANSWER: b 267. Specializing in its comparative advantage and trading with other nations benefit a country in terms of its total output but not individuals when it comes to their wages. a. True b. False ANSWER: b 268. Specializing in one's comparative advantage and trading with others will make individuals better off but may not make countries better off. a. True b. False ANSWER: b 269. Conan O'Brien hosts the Conan show, and Andy Richter, his sidekick, writes for it. Conan needs 4 hours to rehearse and host a good show. It takes Andy 10 hours to do the same. Conan writes one usable joke in an hour, but Andy needs 2 hours to do the same. Gains from trade are largest when Conan hosts the show and Andy writes for the show. a. True b. False ANSWER: a 270. International trade is based on the theory of absolute advantage. a. True b. False ANSWER: b 271. To benefit from trade, a country must have an absolute advantage in producing its traded good. a. True b. False ANSWER: b 272. A country or individual that is best at doing something should always undertake that activity to maximize gains from trade. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 273. Trade allows countries to consume more than their ability to produce. a. True b. False ANSWER: a 274. Employing comparative advantage increases the total satisfaction with what's produced but not the total amount of what's produced. a. True b. False ANSWER: b 275. If Kino can gather 15 logs a day or catch 10 fish a day and Jian can gather 5 logs a day or catch 5 fish a day, then Jian has a comparative advantage in catching fish. a. True b. False ANSWER: a 276. The production possibilities frontier's negative slope illustrates the notion of trade-offs—producing more units of one good reduces the amount of another good's production. a. True b. False ANSWER: a 277. According to the theory of comparative advantage, a country specializes in producing goods with lower opportunity costs than in another country. a. True b. False ANSWER: a 278. Poor countries are at a distinct disadvantage when it comes to economic production; they get outcompeted in everything, since they do not have a comparative advantage in anything. a. True b. False ANSWER: b 279. In a certain country, it takes 5 of its 10 workers to produce 1 barrel of wine but only 1 worker to produce 1 yard of cloth. If we graphed this country's PPF (placing wine on the vertical axis and cloth on the horizontal axis), the slope of the PPF would equal –1/5. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 b. False ANSWER: a 280. Mila can clean and polish silverware in 2 hours and change spark plugs in a car in 4 hours. Nadia can clean and polish the same silverware in 1 hour and change spark plugs in a car in 1 hour. Mila does not have a comparative advantage in either activity. a. True b. False ANSWER: b 281. In the time it takes Stanley to clean the bathroom, he can make 3 cheesecakes. In the time it takes Fran to clean the bathroom, she can make 2 cheesecakes. Fran has a comparative advantage in cleaning the bathroom. a. True b. False ANSWER: a 282. The wage rate in India is lower than the wage rate in the United States because Indian workers are more productive than U.S. workers. a. True b. False ANSWER: b 283. Some countries have comparative advantages in everything. a. True b. False ANSWER: b 284. Trade increases productivity when production is carried out by the person/group with the comparative advantage. a. True b. False ANSWER: a 285. The basic idea of trade is to buy the things you could make only at a high opportunity cost and sell the things you can make at a low opportunity cost. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 286. The economist credited with saying, “It is the maxim of every prudent master of a family never to attempt to make at home what it will cost him more to make than to buy,” is Adam Smith. a. True b. False ANSWER: a 287. Because Chinese wages are much lower than wages in the United States, the Chinese can outcompete the United States in everything. a. True b. False ANSWER: b 288. Globalization is the advance of human cooperation across national boundaries. a. True b. False ANSWER: a 289. Evidence from history shows that when the extent of trade expands, the result is prosperity. a. True b. False ANSWER: a 290. Trade makes rich people richer and poor people poorer. a. True b. False ANSWER: b 291. Increased communication speed played a significant role in recent developments that led to increased trade and globalization. a. True b. False ANSWER: a 292. In the Star Trek: Deep Space Nine episode “Treachery, Faith and the Great River,” one of the characters is attempting to repair a spaceship. This is a critical job because there's a war going on, but the war is making it difficult to get the needed parts. An alien named Nog explains how he could obtain them by navigating the Great Material Continuum. He explains: It binds the universe together . . . there are millions upon millions of worlds in the universe, each one filled with too much of one thing and not enough of another. And the Great Continuum flows through them all, like a mighty river, from “have” to “want” and back again. And if we navigate the Continuum with skill and grace, Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 our ship will be filled with everything our hearts desire. Identify which of the major themes of trade this passage about the Great Material Continuum highlights, and explain how it works. ANSWER: Trade makes people better off when preferences differ and cooperation is encouraged through selfinterest. 293. What are the three major benefits of trade? Explain briefly. ANSWER: Trade requires people or countries to specialize. The first benefit of trade comes when people with differing preferences are made better off from their voluntary trades. The second benefit of trade comes from increased productivity as a result of specialization and the division of knowledge. Specialization followed by trade greatly increases productivity. The third benefit of trade comes from taking advantage of differences in opportunity costs. According to the theory of comparative advantage, people or countries can specialize in producing goods that involve the lowest opportunity costs. As a result, everyone can benefit from trade. 294. Your professor hires a teaching assistant to grade student assignments even though your professor may do the task faster and perhaps more accurately. How can you explain this behavior using the theory of comparative advantage? ANSWER: According to the theory of comparative advantage, people specialize in what involves the lowest opportunity cost. The professor can grade student assignments faster, so he has an absolute advantage. However, the opportunity cost of grading student assignments may be higher for the professor than for the teaching assistant, so the teaching assistant has a comparative advantage in grading assignments. On the other hand, the professor might have comparative advantages in other teaching activities, such as lecturing. So the reason for the professor to hire a teaching assistant to grade assignments is consistent with the theory of comparative advantage. 295. In a two-country world of Japan and South Korea, suppose Japan can produce 600 radios or 300 TV sets in 1 day with all its available resources, while South Korea can produce 100 radios or 200 TV sets in 1 day with all its available resources. According to the theory of comparative advantage, what would be the possible gain in this world if the two countries specialized and traded with each other? ANSWER: For Japan, the opportunity cost of producing 1 radio is half of 1 TV set, and the opportunity cost of producing 1 TV set is 2 radios. For South Korea, the opportunity cost of producing 1 radio is 2 TV sets, and the opportunity cost of producing 1 TV set is half of 1 radio. Suppose each of the two countries produces 100 TV sets and uses other available resources to produce radios: Japan can produce 400 radios, and South Korea can produce 50 radios. In this case, without trade the total world production is 450 radios and 200 TV sets. However, because the opportunity cost of producing radios is lower for Japan than for South Korea, Japan has a comparative advantage in producing radios. Because the opportunity cost of producing TV sets is lower for South Korea than for Japan, South Korea has a comparative advantage in producing TV sets. According to the theory of comparative advantage, Japan should specialize in producing radios and import TV sets from South Korea, while South Korea should specialize in producing TV sets and import radios from Japan. As a result of specialization and trade, the total consumption in this two-country world is 600 radios and 200 TV sets. Compared to the case without trade, there is a gain of 150 radios. 296. Cameron and Jacquie must prepare a presentation for their marketing class. As part of their presentation, they must create a marketing plan and prepare 40 PowerPoint slides. It would take Cameron 5 hours to do the required plan and 5 hours to prepare the PowerPoint slides. It would take Jacquie 6 hours to do the plan and 10 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2 hours to prepare the PowerPoint slides. a. How much time would it take the two to complete the project if they divided the creation of the marketing plan equally and the preparation of the PowerPoint slides equally? b. How much time would it take the two to complete the project if they used comparative advantage and specialized in creating the marketing plan or preparing the PowerPoint slides? c. If Cameron and Jacquie have the same opportunity cost of $5 per hour, is there a better solution than for each to specialize? ANSWER: a. If both tasks are divided equally, it will take 5.5 hours to create the marketing plan and 7.5 hours to prepare the PowerPoint slides. This is a total of 13 hours of work. b. If Jacquie specializes in creating the marketing plan and Cameron specializes in preparing the PowerPoint slides, it will take 11 hours to complete the project. c. If Jacquie specializes in creating the marketing plan, her opportunity cost will be $30; hence, Jacquie would be better off if she paid Cameron any amount less than $30 to create the marketing plan. Since Cameron's opportunity cost of creating the marketing plan is only $25, he would be better off if Jacquie paid him between $25 and $30 to create the marketing plan. In this case, the total time spent on the project would be 10 hours. 297. In Narnia, 1 binky can be produced with 2 workers and 1 sippy cup can be produced with 0.25 worker. In Bedrock, 1 binky can be produced with 1 worker and 1 sippy cup can be produced with 0.50 worker. a. What is the opportunity cost of producing 1 sippy cup in Narnia and 1 sippy cup in Bedrock? b. Which country has the comparative advantage in sippy cups? c. Suppose that each country has 100 workers and completely specializes in its comparative advantage. How many units of sippy cups and binkies will each country produce? d. Before trade, Narnia produces 25 binkies and 200 sippy cups, and Bedrock produces 50 binkies and 100 sippy cups. Show how specialization and free trade can make each country better off than it was before trade. ANSWER: a. The opportunity cost in Narnia is 0.125 binky, and the opportunity cost in Bedrock is 0.5 binky. b. Narnia has the comparative advantage in sippy cups. c. Narnia will produce 400 sippy cups and no binkies, and Bedrock will produce 100 binkies and no sippy cups. d. If the countries agree to trade 150 sippy cups for 30 binkies, each country will be better off than when they didn't trade. Narnia will consume 250 (400 – 150) sippy cups and 30 binkies, and Bedrock will consume 70 binkies (100 – 30) and 150 sippy cups. 298. Briefly describe a few activities that a typical student might do on any given day that reflect the effects of globalization. ANSWER: Globalization allows us to enjoy goods from around the world and expand the variety of goods we consume as well as interact more with people from other countries and regions. A student wakes up in the morning to the ring of an alarm clock made in China. That student may then have breakfast that includes Colombian coffee, cereal that uses corn made in the United States, and bananas grown in Honduras. The student wears a shirt that has a “Made in Bangladesh” label. The student then picks up his or her textbooks made with paper that came from trees grown in Canada and goes to class where the teacher is a visiting instructor from Turkey. In class, the student sits between two other students, one from Iraq and one from Kenya. Later in the evening, the student unwinds by playing games on a Nintendo Wii made in Japan. Dinner might consist of Indian cuisine, and dessert might be Italian tiramisu. Finally the student goes back to bed and sleeps under a blanket made in South Korea. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 2
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Chapter 3 1. Which of the following statements is TRUE? a. When the price of oil is high, consumers will use oil for both valuable and less valuable uses. b. When the price of oil is low, consumers will use oil only for its most valuable uses. c. When the price of oil rises, consumers tend to use oil for uses in which there are few substitutes for it. d. When the price of oil falls, consumers start to conserve oil and use it only when there are no other options. ANSWER: c 2. Which of the following statements is TRUE? a. Consumer surplus is the difference between the maximum price a consumer is willing to pay for a good or service and its market price. b. Bill is willing to pay $10 for a pound of clay. If he buys a pound of clay at a market price per pound of $5, his consumer surplus is $2. c. Total consumer surplus is represented graphically by the area beneath the demand curve. d. Total consumer surplus is represented graphically by the area above the demand curve. ANSWER: a 3. The most important tools in economics, according to the textbook, are supply, demand, and the: a. idea of equilibrium. b. opportunity to barter. c. quantity of sales. d. level of prices. ANSWER: a 4. Figure: Demand Curve
Which statement is TRUE regarding the figure? a. At a price of $6 per unit, consumers are willing and able to buy 10 units. b. The maximum price demanders are willing to pay for 15 units is $6 per unit. c. The higher the price, the greater the quantity demanded. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 d. At a price of $3.75 per unit, consumers are indifferent between buying 10 and 15 units. ANSWER: a 5. The quantity demanded of a good or service is the amount that: a. consumers are willing and able to buy at a given price. b. firms are willing to sell during a given time period at a given price. c. consumers would like to buy but might not be able to afford. d. consumers need to consume during a given time period. ANSWER: a 6. The quantity demanded is the quantity that buyers are: a. willing to buy but cannot afford. b. able to buy at a given income level but not willing to pay for. c. willing to buy at a given income level. d. willing and able to buy at a given price. ANSWER: d 7. Quantity demanded: a. shows how much buyers are willing and able to buy at different prices. b. is the amount that buyers are willing and able to buy at a particular price. c. shows how much sellers are willing and able to sell at different prices. d. is the amount that sellers are willing and able to sell at a particular price. ANSWER: b 8. A demand curve is a function that shows the relationship between: a. price and the quantity sold. b. price and the quantity supplied. c. price and the quantity demanded. d. quantity demanded and quantity supplied. ANSWER: c 9. The demand curve for oil shows: a. the quantity demanded of oil at different income levels. b. the quantity demanded of oil at different oil prices. c. the demand for oil at different prices of other goods. d. the demand for oil when there is a surplus or shortage. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 10. The demand curve: a. shows how much buyers are willing and able to buy at different prices. b. is the amount that buyers are willing and able to buy at a particular price. c. shows how much sellers are willing and able to sell at different prices. d. is the amount that sellers are willing and able to sell at a particular price. ANSWER: a 11. The demand curve shows the relationship between: a. demand and supply. b. quantity demanded and quantity supplied. c. price and quantity supplied. d. price and quantity demanded. ANSWER: d 12. Which of the following is TRUE about demand curves? a. Demand curves are negatively sloped. b. Demand curves are U-shaped. c. Demand curves are positively sloped. d. Demand curves are vertical. ANSWER: a 13. Figure: Demand Curve
What is the maximum price per book that buyers are willing to pay for 2,500 books? a. $60 b. $45 c. $30 d. $15 ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 14. Figure: Demand Curve
What is the maximum number of books that buyers are willing and able to buy at a price of $45 per book? a. 300 b. 450 c. 100 d. 0 ANSWER: c 15. A supply and/or demand graph typically shows: a. the price of the good on the horizontal axis and the quantity of the good on the vertical axis. b. the quantity of the good on the horizontal axis and the price of the good on the vertical axis. c. supply or demand of the good on the horizontal axis and price of the good on the vertical axis. d. the price of the good on the horizontal axis and supply or demand of the good on the vertical axis. ANSWER: b 16. Figure: Good X
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Chapter 3
Which statement is TRUE regarding the figure? a. At a price of $12 per unit, consumers are willing and able to purchase between 11 and 26 units of good X. b. By spending a total of $4, consumers can purchase 36 units of good X. c. At a price of $6 per unit, consumers are willing and able to purchase 26 units of good X. d. At a price of $4 per unit, consumers are willing and able to purchase 11 units of good X. ANSWER: c 17. Figure: Good X
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Chapter 3
The maximum price that consumers are willing to pay for _____ units of good X is _____ per unit. a. 36; $4 b. 11; $4 c. 36; $12 d. 26; $4 ANSWER: a 18. The law of demand states that: a. the lower the price, the greater the quantity demanded. b. the higher the price, the higher the quantity demanded. c. the demand curve slopes upward. d. an increase in income increases the quantity demanded. ANSWER: a 19. What does the law of demand state? a. As incomes increase, people consume more of all goods. b. The demand for a good increases with the number of consumers in the market. c. As the price of a good increases, consumers purchase less of that good. d. The supply of a good increases in proportion to the demand for it. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: c 20. Which statement expresses the law of demand? a. There is a positive relationship between price and consumer surplus. b. There is a positive relationship between price and the quantity that buyers are willing and able to purchase. c. There is an inverse relationship between the willingness to pay and the ability to pay. d. There is a negative relationship between price and quantity demanded. ANSWER: d 21. Recall the discussion about the demand for oil in your textbook. Which of the following correctly explains why the demand curve for oil is negatively sloped? As the price of oil rises: a. consumers use oil for more and varied purposes. b. consumers increasingly use oil only for those purposes without good substitutes. c. consumers have an incentive to use oil more freely. d. more producers are more willing and able to produce oil. ANSWER: b 22. A demand curve indicates that: a. the quantity demanded of a good is higher when its price is higher. b. the quantity demanded of a good is higher when its price is lower. c. the demand for a good is higher when its price is lower. d. the demand for a good is higher when its price is higher. ANSWER: b 23. The demand curve for oil slopes downward because: a. oil will be used in its higher-valued uses only when the price is lower. b. oil will be used in its higher-valued uses only when the price is higher. c. oil has many substitutes, so no buyer is willing to pay when the price of oil rises. d. oil has no substitutes, so buyers do not react to any change in the price of oil. ANSWER: b 24. Which of the following explains why the demand for oil has a negative slope? a. Oil is equally valuable in all of its uses. b. Oil is not equally valuable in all of its uses. c. Oil has many uses. d. Oil has few substitutes. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 25. When the price of wood is high: a. consumers will be more likely to use wood in its lower-valued uses. b. consumers will be more likely to use wood in its higher-valued uses. c. the quantity demanded of wood will also rise. d. the quantity demanded of wood will be unaffected. ANSWER: b 26. Demand slopes down because: a. supply slopes up, and supply and demand must intersect. b. consumers focus too much on the price of goods when they choose the quantity to demand. c. goods usually have only a single use. d. consumers will choose to use goods only in their higher-valued uses when prices are high. ANSWER: d 27. The law of demand suggests a _____ relationship between price and _____. a. positive; quantity demanded b. positive; quantity supplied c. negative; quantity demanded d. negative; quantity supplied ANSWER: c 28. The demand curve for oil has a _____ slope because a _____ price of oil signals that consumers will use oil in its _____ valuable uses. a. negative; higher; less b. negative; lower; more c. positive; higher; more d. negative; lower; less ANSWER: d 29. If the price of oil were sufficiently high, it would be used only in: a. making plastics. b. generating heat. c. powering cars and jets. d. making kerosene. ANSWER: c 30. Figure: Potatoes
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Chapter 3
According to the demand curve, if the price of potatoes is $8 a pound, how many pounds are demanded? a. 5 b. 50 c. 60,000 d. 80,000 ANSWER: c 31. Figure: Potatoes
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Chapter 3
If the price of potatoes is $8 a pound, what is the consumer surplus received? a. $30,000 b. $60,000 c. $240,000 d. $360,000 ANSWER: c 32. Table: Maximum Willingness to Pay Consumer
Willingness to Pay for 1 lb of Bananas
Jayce Jamie Joss Jade
$2.00 1.25 0.75 0.25
The table shows four individuals' maximum willingness to pay for one pound of bananas. If the market price of bananas is $0.50/lb, what is the total consumer surplus in the market? a. $4.00 b. $2.50 c. $2.75 d. $4.25 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: b 33. Quentin is willing to pay $1,000 for a new cell phone. When he gets to the store, he finds the cell phone he wants is priced at $650. Which of the following is TRUE? a. Quentin will not purchase the cell phone because consumer surplus is not high enough. b. When Quentin purchases the cell phone he wants, he will enjoy a consumer surplus of $350. c. Quentin will buy the cell phone, but he will not enjoy any consumer surplus from the purchase. d. Quentin will lose $350 of consumer surplus when he purchases the cell phone. ANSWER: b 34. Which statement about consumer surplus is TRUE? a. Consumer surplus is the gross benefit to consumers from the exchange that occurs in a market. b. Consumer surplus is the gains from trade on the part of the consumer that result from a market transaction. c. Total consumer surplus is equal to the price the consumers paid multiplied by the quantity they purchased. d. Consumer surplus is the difference between the minimum price the consumer is willing to pay and the market price. ANSWER: b 35. Table: Excel Company Survey Consumer Shira Simon Sian Sonnie
Maximum Willingness to pay for Excel Personal Computers $1,459 1,320 1,201 1,165
The table shows the results of Excel Company's market survey. If the market price of Excel computers is $1,200 each, how much total consumer surplus (in $) are the four consumers earning? a. $380 b. $415 c. $345 d. $5,145 ANSWER: a 36. Table: Sweetbrand Cheesecakes Consumer Fred
Maximum Willingness to pay for Sweetbrand Cheesecakes $11.65
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Chapter 3 Sam Merry Piper
17.99 12.99 16.75
The table shows the maximum consumer willingness to pay for Sweetbrand cheesecakes. Which of the four consumers receives the most consumer surplus if the market price of the cheesecakes is $12.50 each? a. Fred b. Sam c. Merry d. Piper ANSWER: b 37. Table: Sweetbrand Cheesecakes Consumer Fred Sam Merry Piper
Maximum Willingness to pay for Sweetbrand Cheesecakes $11.65 17.99 12.99 16.75
The table shows the maximum consumer willingness to pay for Sweetbrand cheesecakes. Which of the four consumers receives the smallest consumer surplus if the market price of the cheesecakes is $12.50 each? a. Fred b. Sam c. Merry d. Piper ANSWER: c 38. If Maria is willing to pay $50 for a sweatshirt, how much consumer surplus does she earn if the market price for sweatshirts is $27.50 each? a. $27.50 b. $50.00 c. $77.50 d. $22.50 ANSWER: d 39. Figure: Consumer Surplus
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Chapter 3
Calculate the dollar amount of consumer surplus being earned in this market when the price is $30 and there are 300 units consumed. a. $4,500 b. $9,000 c. $18,000 d. $450 ANSWER: a 40. Figure: Earned Consumer Surplus
The market price of the product is $20 per unit. Calculate the dollar amount of consumer surplus being earned in this market. a. $120,000 b. $60,000 c. $100,000 d. $80,000 ANSWER: b 41. Figure: Earned Consumer Surplus
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Chapter 3
If the market price is $30 per unit, calculate the dollar amount of consumer surplus being earned in this market. a. $60,000 b. $30,000 c. $100,000 d. $80,000 ANSWER: b 42. If the university president valued a parking space close to the administration building at $500 and paid $30 for a parking permit, he would receive consumer surplus equal to: a. $30. b. $470. c. $500. d. $530. ANSWER: b 43. The difference between the maximum price a consumer is willing to pay for a given quantity of a good and its market price is: a. producer shortage. b. consumer shortage. c. producer surplus. d. consumer surplus. ANSWER: d 44. When you are willing to pay $5 for a hamburger but you pay $4 for it, your consumer surplus for the hamburger is: a. –$1. b. $1. c. –$9. d. $9. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: b 45. On a graph of a demand curve, total consumer surplus equals: a. the demand curve. b. the area above the demand curve and beneath the market price. c. the area beneath the demand curve and above the market price. d. the market price. ANSWER: c 46. Figure: Demand
In the diagram, for a market price of $4, total consumer surplus equals: a. $30. b. $60. c. $100. d. $75. ANSWER: a 47. To economists, the term “consumer surplus” means: a. the excess money consumers have left over after purchasing goods. b. the difference between the price a consumer is willing to pay and the price that suppliers are willing to accept. c. the consumer's gain from trading. d. the difference between the price a consumer is able to pay and willing to pay. ANSWER: c 48. Consumer surplus is the amount that consumers: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. are willing to pay for a good minus what they actually pay for it. b. are willing to pay for a good. c. actually pay for a good. d. are willing to pay for a good plus the amount that they actually pay for it. ANSWER: a 49. Alex and Tyler enjoy the food at a restaurant named China Star. Alex values a meal there at $15, and Tyler values it at $26. If the restaurant charges only $10 a meal, what is Alex and Tyler's joint consumer surplus from a meal at China Star? a. $41 b. $31 c. $21 d. $16 ANSWER: c 50. There are 100 consumers, each of whom values a concert ticket at a unique whole number dollar amount between $1 and $100. One customer is willing to pay $1, a second is willing to pay $2, a third is willing to pay $3, and so on. An unlimited number of concert tickets are on sale for $15 each. What is the total consumer surplus in this market? a. $3,612.50 b. $4,250.00 c. $4,887.50 d. $5,000.00 ANSWER: a 51. If you are willing to pay $8 for a $6 burrito, what is your consumer surplus if you buy it? a. $8 b. $2 c. $0 d. $6 ANSWER: b 52. The market price of a good is $5, and 40 units of the good sell at this price. Its demand curve intersects the vertical axis at a price of $10 and has a constant slope. What is the approximate value of consumer surplus in this market? a. $100 b. $50 c. $200 d. $75 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: a 53. The market price of a good is $10, and 40 units of the good sell at this price. Its demand curve intersects the vertical axis at a price of $12 and has a constant slope. What is the approximate value of consumer surplus in this market? a. $20 b. $30 c. $40 d. $50 ANSWER: c 54. Figure: Good X
At a price of $200, consumer surplus is: a. $20,000. b. $40,000. c. $10,000. d. $200. ANSWER: c 55. Figure: Good X
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Chapter 3
As the price falls from $200 to $100, consumer surplus changes by: a. $5,000. b. $10,000. c. $12,500. d. –$25,000. ANSWER: c 56. A decrease in demand refers to: a. a rightward shift of the demand curve. b. a leftward shift of the demand curve. c. an upward movement along the demand curve. d. a downward movement along the demand curve. ANSWER: b 57. An increase in demand shifts the demand curve: a. up and to the right. b. down and to the right. c. up and to the left. d. down and to the left. ANSWER: a 58. If, for any given amount of a good or service, willingness to pay increases, then: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. supply has increased. b. supply has decreased. c. demand has increased. d. demand has decreased. ANSWER: c 59. If, for a given amount of a good or service, willingness to pay decreases, then: a. supply has increased. b. supply has decreased. c. demand has increased. d. demand has decreased. ANSWER: d 60. If the demand curve for a normal good shifts downward and to the left: a. willingness to pay has increased. b. the population has increased. c. the price of a substitute has increased. d. income has decreased. ANSWER: d 61. Which variable is NOT a demand shifter? a. price of complements b. price of substitutes c. price of raw materials d. tastes and preferences ANSWER: c 62. In the week before Hurricane Katrina, the price of flashlights rose in New Orleans because of: a. an increase in supply. b. an increase in demand. c. a decrease in supply. d. a decrease in demand. ANSWER: b 63. Which variable does NOT shift the demand curve? a. population b. price of complement goods c. income Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 d. price of the good itself ANSWER: d 64. What are factors that shift the demand curve? a. costs of production, price of the product, subsidies b. income, population, tastes, input prices c. expectations, opportunity costs, price of the product d. price of substitutes, tastes, price of complements ANSWER: d 65. Which one of the following choices would cause the demand curve for an inferior good to shift to the left? a. a fall in incomes b. a fall in the price of the inferior good c. a rise in incomes d. a rise in the price of the inferior good ANSWER: c 66. A decrease in income causes demand for a normal good to _____, and an increase in income causes demand for an inferior good to _____. a. decrease; decrease b. increase; increase c. decrease; increase d. increase; decrease ANSWER: a 67. Figure: Demand Shift
Which of the following could explain the figure? a. Consumer income increases in the market for a normal good. b. Consumer income falls in the market for a normal good. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 c. Consumer income rises in the market for an inferior good. d. Consumer income remains the same and the price of the good falls. ANSWER: a 68. Mario buys 8 units of good X when his income is $2,000 a month. When his income increases to $2,700 per month, he buys only 6 units of good X. For Mario, good X is: a. a normal good. b. a good with few substitutes. c. an inferior good. d. a good of high value. ANSWER: c 69. Assume that spaghetti is an inferior good for most people. As peoples' incomes increase, all other things held constant, the demand for spaghetti will: a. decrease, shifting the demand curve to the left. b. decrease, shifting the demand curve to the right. c. increase, shifting the demand curve to the left. d. increase, shifting the demand curve to the right. ANSWER: a 70. Michael graduates from college, and his income increases by $40,000 a year. Other things held constant, he decreases the quantity of pizza he buys. For Michael, pizza is: a. an inferior good. b. a complement. c. a substitute. d. a normal good. ANSWER: a 71. For a normal good, higher income results in: a. an increase in demand. b. a decrease in demand. c. a movement up along the demand curve. d. a movement down along the demand curve. ANSWER: a 72. Zoey receives a big raise at work and decides to buy additional porcelain figurines. Which of the following statements is TRUE? a. Zoey considers porcelain figurines to be a normal good. b. Zoey considers porcelain figurines to be an inferior good. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 c. Zoey's demand for porcelain figurines decreased. d. Zoey's willingness to pay for porcelain figures has decreased. ANSWER: a 73. For an inferior good, higher income results in: a. an increase in demand. b. a decrease in demand. c. a movement up along the demand curve. d. a movement down along the demand curve. ANSWER: b 74. A good is considered normal if demand for it _____ when income _____. a. increases; increases b. decreases; increases c. stays the same; decreases d. increases; decreases ANSWER: a 75. An inferior good is one that: a. is of low quality or not very durable. b. gets poor reviews from objective, independent evaluators. c. no consumers are willing to buy. d. experiences decreased demand when income increases. ANSWER: d 76. Figure: Shifting Demand
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Chapter 3
In the diagram, which of the following factors would cause the demand curve to shift from D1 to D2? a. an increase in the price of a substitute good b. a decrease in the price of a complement good c. an increase in the population d. an increase in income if this is an inferior good ANSWER: d 77. As the population of elderly in the United States increases, which service will likely see the biggest increase in demand? a. skateboard repair b. home medical care c. career training d. child day care ANSWER: b 78. The average age in the United States is _____, causing the demand for prescription drugs to _____. a. increasing; decrease b. increasing; increase c. decreasing; increase d. decreasing; decrease ANSWER: b 79. Imagine that millions of refugees move out of country A and into country X. This would cause the demand for housing in country A to _____ and the demand for housing in country X to _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. increase; decrease b. increase; increase c. decrease; increase d. decrease; decrease ANSWER: c 80. The current demand for parking in a city's downtown district is such that all the parking garages are full. If there is an increase in the city's population, there will be: a. an increase in the willingness to pay for parking. b. a decrease in the quantity of parking spaces demanded across all prices. c. a decrease in demand for parking. d. no increase in demand, since the parking garages are already at capacity. ANSWER: a 81. The quantity of DVDs that people plan to buy this month will increase when: a. movie theater ticket prices increase. b. the price of movies for download decreases. c. the price of DVD players increases. d. cable television prices decrease. ANSWER: a 82. Coke and Pepsi are substitute soft drinks. Which of the following would cause the demand curve for Pepsi to shift to the left? a. A new Pepsi ad campaign increases the popularity of Pepsi. b. The price of Coke decreases. c. The price of Pepsi decreases. d. The cost of making Pepsi rises. ANSWER: b 83. Figure: Demand Shift
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Chapter 3
Which of the following factors would cause the change in the figure? a. an increase in the price of a complement good b. a decrease in people's willingness to pay for the good c. an increase in the price of a substitute good d. an increase in income for those buying an inferior good ANSWER: c 84. If romaine lettuce and iceberg lettuce are substitutes, a(n) _____ in the price of romaine lettuce will _____ the demand for iceberg lettuce. a. increase; decrease b. increase; increase c. decrease; increase d. decrease; not change ANSWER: b 85. If the demand for good A increases when the price of good B increases, then good A and good B are: a. not related. b. both inferior goods. c. substitutes for each other. d. complements to each other. ANSWER: c 86. A decrease in the price of one substitute good causes: a. an upward movement along the demand curve for the other substitute good. b. a downward movement along the demand curve for the other substitute good. c. a rightward shift in the demand curve for the other substitute good. d. a leftward shift in the demand curve for the other substitute good. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 87. People's expectation of the price of gasoline going up tomorrow may increase the demand for gasoline today. If so, what does this imply about the relationship between gasoline tomorrow and gasoline today? a. They are complements. b. They are substitutes. c. They are unrelated. d. Although related, they are neither substitutes nor complements. ANSWER: b 88. Mark considers 3-D archery and shooting trap substitute activities for each other. As the price of shooting trap increases, Mark's demand to participate in: a. 3-D archery decreases. b. 3-D archery increases. c. shooting trap increases. d. both activities decreases. ANSWER: b 89. Figure: Chicken Legs
In the diagram, the current demand curve for chicken legs is represented by D1. If the price of chicken thighs, a substitute for chicken legs, decreases, the demand curve for chicken legs will: a. shift to D2. b. shift to D3. c. remain at D1. d. shift to D2 and then back to D1. ANSWER: b 90. As world coal prices rise due to increasing scarcity and coal-based energy costs rise, the demand for wind Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 energy will: a. increase. b. decrease. c. remain the same. d. change in random patterns. ANSWER: a 91. Which of the following are likely to be complements? a. hot dogs and hamburgers b. books and book-lights c. coffee and tea d. cars and vans ANSWER: b 92. If the price of computers _____, the demand for printers will _____. a. increases; increase b. decreases; decrease c. decreases; not change d. increases; decrease ANSWER: d 93. A local university decides to double its enrollment over the next five years in order to increase tuition revenue. Which of the following would most likely occur in the market for rental housing in the surrounding community? a. a decrease in the price of rental housing b. an increase in the demand for rental housing c. a decrease in the supply of rental housing d. a change in quantity demanded, not demand (because this is the result of a change in population) ANSWER: b 94. Which of the following would cause the demand for hot dog buns to increase? a. a fall in the price of hot dog buns b. a fall in the price of hot dogs c. a rise in the price of hot dogs d. a rise in the price of hot dog buns ANSWER: b 95. Figure: Demand Shift Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3
Which factor would cause the change in the figure? a. a decrease in the price of a complement good b. a decrease in the price of the product c. a decrease in the price of a substitute good d. an increase in taxes ANSWER: a 96. If the price of shotguns _____, the demand for shotgun shells will _____. a. increases; decrease b. increases; increase c. decreases; decrease d. decreases; stay the same ANSWER: a 97. If the price of swimming pools decreases, we would expect the demand for: a. tennis courts, a substitute good, to increase. b. chlorine, a complement good, to increase. c. swimming pools to increase. d. swimming pools to decrease. ANSWER: b 98. Cell phone data plans are most useful when used with a smartphone, and smartphones are most useful when used with a data plan. As the price of data plans falls, the demand for smartphones will: a. decrease because smartphones and data plans are substitutes. b. increase because smartphones and data plans are complements. c. decrease because smartphones and data plans are complements. d. increase because smartphones and data plans are substitutes. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 99. Figure: Piano Lessons
Which event would shift the demand curve for piano lessons from D1 to D2, as shown in the diagram? a. an increase in the price of piano lessons b. a decrease in the price of piano lessons c. a decrease in the price of pianos d. an increase in the price of pianos ANSWER: c 100. Xbox One's controllers use two AA batteries. When the price of Xbox One fell from $299 to $249, the demand for AA batteries: a. increased, since they are a complement good for the Xbox One. b. decreased, since they are a complement good for the Xbox One. c. increased, since they are a substitute good for the Xbox One. d. decreased, since they are a substitute good for the Xbox One. ANSWER: a 101. If the price of _____ rises, all else the same, the demand for large SUVs will decrease. a. electric vehicles b. gasoline c. minivans d. motorcycles ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 102. Weather forecasters predict that a major winter storm will strike your town within the next few days. Which would occur today based on the expected storm? a. a decrease in people's willingness to pay for bottled water b. a decrease in demand for batteries c. an increase in people's willingness to pay for electric generators d. a shift to the left of the demand curve for snow tires ANSWER: c 103. Figure: Oil Market
Which event could cause the change in the figure? a. the expectation of an outbreak of war in the world's best oil-producing regions b. the expectation of an increase in the future supply of oil c. the expectation that next week's oil prices will be substantially lower d. the expectation of a technology breakthrough in solar energy ANSWER: a 104. Suppose it is widely believed that the price of flat-screen, high-definition televisions will be lower next year. What will happen as a result of such beliefs? a. The demand for flat-screen TVs will increase now. b. The demand for flat-screen TVs will decrease next year. c. The demand for flat-screen TVs will decrease now. d. The demand for flat-screen TVs will not change now. ANSWER: c 105. Suppose that consumers begin to believe that the price of housing will be lower next period. What will happen in the market for housing as a result of these expectations? a. Nothing will happen now. Consumers will wait for the price to actually decrease before changing their behavior. b. Demand for housing will increase now as people adjust to the expectation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 c. Demand for housing will begin to fall now as people postpone their purchase until prices are lower. d. Investors will buy up all the housing inventory, believing they are getting a “deal.” ANSWER: c 106. Which of the following could cause an increase in the demand for gasoline? a. the resolution of a civil war in one of the world's biggest oil-producing nations b. the expectation that the price of gasoline will decrease in the future c. a new technology that makes the production of gasoline significantly less expensive d. an approaching hurricane that threatens a major oil refinery in Texas ANSWER: d 107. If the price of gas is expected to rise sharply in the future, all else the same, the demand for gas today will: a. increase. b. decrease. c. remain the same. d. change in an indeterminate direction. ANSWER: a 108. A decrease in the expected future supply of a good will lead to: a. a change in the demand for the good, but not until the supply actually goes down. b. a change in the price of the good, but not until the supply actually goes down. c. a change in the demand for the good even before the supply actually decreases. d. no change in the demand for the good. ANSWER: c 109. Scientists discover that an asteroid is headed toward Earth and the force of its impact, expected in a matter of weeks, will wipe out all human life. What will happen to the demand for cancer screenings? a. It will increase because everyone will want to make sure they don't have cancer before they die. b. There will be no effect. c. The price of the screenings will increase, but the quantity demanded will stay the same. d. It will decrease because people won't care anymore if they have cancer. ANSWER: d 110. If we expect the current poor weather conditions to lead to higher cotton prices in the future, the: a. current demand for cotton will decrease. b. future demand for cotton will increase. c. current demand for cotton will be unchanged. d. current demand for cotton will increase. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: d 111. In the worldwide coronavirus epidemic: a. current demand for medical-grade face masks decreased. b. future demand for medical-grade face masks increased. c. current demand for medical-grade face masks was unchanged. d. current demand for medical-grade face masks increased. ANSWER: d 112. The movie trilogy The Lord of the Rings was hugely successful, and, as a result, the demand for fantasy novels, action figures, and online role-playing games surged. The increase in demand can be explained by a(n): a. increase in population. b. change in expectations. c. change in tastes. d. change in the price of substitutes. ANSWER: c 113. New research indicates that running marathons is actually bad for the heart (it increases inflammatory markers associated with heart attacks). This news will: a. lead to a decrease in the demand for running shoes. b. have no effect on the demand for or supply of running shoes. c. increase the supply of running shoes. d. lead to an increase in the demand for running shoes. ANSWER: a 114. New research suggests that cholesterol may not be as unhealthy as previously thought. If so, what will happen to the demand for eggs, a high-cholesterol food? a. It will decrease because eggs and cholesterol are substitutes. b. It will increase because of consumers' taste for food that is perceived to be healthier. c. It will increase, since eggs are an inferior good. d. It will decrease because there will be fewer chickens to lay eggs. ANSWER: b 115. The quantity supplied is the: a. amount of inputs that a firm earns profit on. b. change in the sellers' output multiplied by the change in price. c. incremental cost of producing one more unit of output, holding all other things constant. d. amount of a good that firms are willing and able to sell at a particular price during a given period of time. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: d 116. The quantity supplied of oil is the amount that: a. producers plan to sell during a given time period at a given price. b. is actually bought during a given time period at a given price. c. producers wish they could sell at a higher price. d. people are willing to buy during a given time period at a given price. ANSWER: a 117. Figure: Supply Curve
A vertical reading of the figure indicates that: a. at a price higher than $40, the quantity supplied drops to zero. b. at prices of $40 or less, suppliers are willing to sell at least 500 units. c. at a price of $40 per unit, suppliers are willing and able to sell 500 units. d. at a price lower than $40, the quantity supplied drops to zero. ANSWER: c 118. The supply curve illustrates: a. the relationship between the cost of production and price. b. the relationship between the quantity supplied and the price of a good. c. the total cost of producing a good. d. the willingness to produce a good if the technology to produce it becomes available. ANSWER: b 119. The supply curve for oil shows: a. the quantity of oil supplied at different income levels. b. the quantity of oil supplied at different prices of oil. c. the supply of oil at different prices of other goods. d. the supply of oil when there is a surplus or shortage. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: b 120. The quantity supplied is the quantity that: a. sellers are willing but not able to sell. b. sellers are able but not willing to sell at a given price. c. sellers are willing to sell at a given price. d. sellers are willing and able to sell at a given price. ANSWER: d 121. The supply curve: a. shows how much buyers are willing and able to buy at different prices. b. is the amount that buyers are willing and able to buy at a particular price. c. shows how much sellers are willing and able to sell at different prices. d. is the amount that sellers are willing and able to sell at a particular price. ANSWER: c 122. The quantity supplied: a. shows how much buyers are willing and able to buy at different prices. b. is the amount that buyers are willing and able to buy at a particular price. c. shows how much sellers are willing and able to sell at different prices. d. is the amount that sellers are willing and able to sell at a particular price. ANSWER: d 123. Figure: Bananas
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Chapter 3
If the price of bananas is $10 a pound, which number is closest to the number of pounds that suppliers will supply? a. 5 b. 50 c. 60,000 d. 80,000 ANSWER: d 124. Figure: Bananas
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Chapter 3
If the price of bananas is $2 a pound, how many pounds of bananas will suppliers supply? a. 0 b. 1 c. 10 d. 10,000 ANSWER: a 125. The supply curve shows the relationship between: a. demand and supply. b. quantity demanded and quantity supplied. c. price and quantity supplied. d. price and quantity demanded. ANSWER: c 126. Figure: Oil
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Chapter 3
To produce 30 million barrels of oil per day, the minimum price per unit that producers in the diagram require is: a. $20. b. $40. c. $60. d. $80. ANSWER: c 127. Figure: Oil
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Chapter 3
Compared with producing the 20 millionth barrel of oil, the cost of producing the 40 millionth barrel of oil is: a. $40 lower. b. $40 higher. c. approximately the same. d. $80 higher. ANSWER: b 128. The supply curve: a. illustrates the quantity supplied at different prices. b. shows the relationship between the number of units purchased and the number of units produced. c. gives the maximum price that sellers may charge for a good and the quantity supplied. d. shows a negative relationship between price and output. ANSWER: a 129. Suppose that country X is a high-cost producer of oil and country Y is a low-cost producer of oil. The citizens of country X use oil produced in their own country as well as oil produced in country Y. If the market price of oil decreases, oil production in country X will _____, and the citizens of country X will _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. decrease; purchase a larger fraction of their oil from country Y b. increase; purchase a larger fraction of their oil from country X c. decrease; not change their consumption mix between imported and domestic oil d. increase; purchase a smaller fraction of their oil from country Y ANSWER: a 130. Recall the discussion in your textbook about the supply curve for oil. What explains why the supply curve for oil is positively sloped? a. As the price of oil rises, producers' costs of drilling oil also rise. b. As more and more producers enter the market, the price of oil rises. c. As the price of oil rises, consumers buy less and less oil. d. As the price of oil rises, more producers enter the market. ANSWER: d 131. What does the law of supply state? a. There is a positive relationship between price and quantity supplied. b. There is a negative relationship between price and quantity supplied. c. When prices rise, suppliers sell more. d. When prices rise, buyers buy less of the product. ANSWER: a 132. A supply curve indicates that: a. the quantity supplied of a good is higher when the price of that good is higher. b. the quantity supplied of a good is higher when the price of that good is lower. c. the supply for a good is higher when the price of that good is lower. d. the supply for a good is higher when the price of that good is higher. ANSWER: a 133. Which of the following statements about the supply curve is TRUE? a. As the price of a good rises, it becomes profitable to sell the higher-cost good. b. As the price of a good rises, it becomes profitable to sell only the lower-cost good. c. All sellers are willing to sell a good only when the price is very high. d. All sellers are able to sell a good only when the price is very low. ANSWER: a 134. The supply curve for oil slopes upward because: a. oil will be extracted from more costly sources only when the price of oil is lower. b. oil will be extracted from more costly sources only when the price of oil is higher. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 c. no oil producer is willing to extract oil when the price of oil decreases. d. oil producers do not react to any change in the price of oil. ANSWER: b 135. As the price of a good increases: a. it becomes profitable to produce more of the good as long as the costs of production stay the same. b. it becomes profitable to produce more of the good even with higher costs of production. c. demand for that good will decrease. d. suppliers will adjust their quantity supplied only if demand for the good declines. ANSWER: b 136. Why does supply slope up? a. At higher prices, suppliers can profitably produce using more expensive techniques and inputs. b. The cost of producing a given good is the same, no matter how many are produced. c. Producers charge the maximum price that they can get. d. If supply did not slope up, it would not intersect with demand. ANSWER: a 137. The main difference between Saudi Arabian oil production and U.S. oil production is the: a. quantity of production. b. cost of production. c. quality of the product. d. price of the product. ANSWER: b 138. Consider the (world) market supply curve for oil. Saudi oil production inhabits the _____ part of the curve, and Canadian oil production inhabits the _____ part of the curve. a. upper; upper b. lower; lower c. upper; lower d. lower; upper ANSWER: d 139. The law of supply states that there is a _____ relationship between price and quantity _____. a. positive; demanded b. positive; supplied c. negative; demanded d. negative; supplied Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: b 140. Figure: Producer Surplus
What is the producer surplus at a price of $2 per unit? a. $5 b. $6 c. $10 d. $20 ANSWER: a 141. Figure: Producer Surplus
What is the change in producer surplus if the price rises from $2 to $3 per unit? a. $5 b. $10 c. $15 d. $20 ANSWER: c 142. Nigeria receives $53 of producer surplus from each barrel of oil sold at $60. At that level of production, Nigeria's cost to produce a barrel of oil is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. $1.13. b. $7. c. $53. d. $113. ANSWER: b 143. Figure: Earned Producer Surplus
Calculate the total dollar amount of producer surplus earned in this market at a price of $100. a. $5,000 b. $10,000 c. $100 d. $200 ANSWER: a 144. Figure: Generic Market Producer Surplus
Calculate the total dollar amount of producer surplus earned in this market if the market price is $60. a. $800 b. $1,600 c. $2,400 d. $1,200 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: a 145. Table: Willingness to Sell Country Country X Country Y Country Z Country A
Minimum Willingness to Sell a Single Barrel of Oil $12.00 5.99 17.25 36.99
Which country is earning the most producer surplus at a market price of $35 per barrel of oil? a. country X b. country Y c. country Z d. country A ANSWER: b 146. Table: Willingness to Sell Country Country X Country Y Country Z Country A
Minimum Willingness to Sell a Single Barrel of Oil $12.00 5.99 17.25 36.99
Which country is earning the least amount of producer surplus at a market price of $52 per barrel of oil? a. country X b. country Y c. country Z d. country A ANSWER: d 147. Table: Barrels of Oil Country Country A Country B Country C Country D
Minimum Willingness to Sell a Single Barrel of Oil $32.00 16.00 17.25 56.99
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Chapter 3 What is the total amount of producer surplus (per barrel of oil) earned by all four producers if the market price per barrel of oil is $51? a. $65.25 b. $81.76 c. $87.75 d. $93.74 ANSWER: c 148. Figure: Bananas
If the price of bananas in the diagram is $6 a pound, what is the total producer surplus? a. $80,000 b. $120,000 c. $160,000 d. $240,000 ANSWER: a 149. The difference between the market price and the minimum price at which a seller is willing to sell a certain quantity of a good is: a. producer shortage. b. consumer shortage. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 c. producer surplus. d. consumer surplus. ANSWER: c 150. Total producer surplus equals: a. the supply curve. b. the area above the supply curve and beneath the market price. c. the area beneath the supply curve and above the demand curve. d. the market price. ANSWER: b 151. Figure: Producer Surplus
If the market price of coffee is $4, how much producer surplus do suppliers earn? a. $15 b. $45 c. $20 d. $22.50 ANSWER: d 152. Figure: Producer Surplus
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Chapter 3
If the market price of coffee is $6, how much producer surplus do suppliers earn? a. $25 b. $125 c. $75.50 d. $62.50 ANSWER: d 153. Producer surplus is: a. the difference between the market price and the minimum price at which producers are willing to sell a good. b. the amount at which producers are willing to sell a good. c. the amount at which producers sell a good. d. the amount at which producers are willing to sell a good plus the amount at which they sell it. ANSWER: a 154. If prices rise, what happens to producer surplus (all other things being equal)? a. It falls because fewer people buy goods. b. It falls because it encourages competition, which reduces profits. c. It rises because each producer is getting more surplus per good sold. d. It stays the same because the forces increasing the surplus counteract the forces reducing it. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 155. Suppose that Saudi Arabia can produce oil at $4 per barrel, Iran at $10 per barrel, and Canada at $25 per barrel. If the price of oil is $90 per barrel, what is total producer surplus per barrel for world suppliers? a. $270 b. $129 c. $231 d. $51 ANSWER: c 156. Figure: A Supply Curve
Producer surplus at a price of $40 is: a. $200. b. $100. c. $400. d. $600. ANSWER: b 157. A change in which factor would shift the supply curve? a. the price of the good being sold Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 b. the demand for the product c. production technology d. the willingness of consumers to pay ANSWER: c 158. Which of the following choices contains only factors that cause the supply curve to shift to the right? a. a fall in production costs, a rise in technology, an increase in taxes on output b. a fall in tastes and preferences for the product, economic growth, a rise in technology c. a decrease in taxes on production, a fall in subsidies on production, a rise in costs of production d. a rise in technology, a fall in the costs of production, a fall in taxes on output ANSWER: d 159. Which of the following would shift the supply curve to the left? a. an increase in taxes on production b. a fall in tastes and preferences c. an increase in subsidies on production d. a rise in technology ANSWER: a 160. An increase in supply refers to: a. a rightward shift of the supply curve. b. a leftward shift of the supply curve. c. an upward movement along the supply curve. d. a downward movement along the supply curve. ANSWER: a 161. A decrease in supply refers to: a. a rightward shift of the supply curve. b. a leftward shift of the supply curve. c. an upward movement along the supply curve. d. a downward movement along the supply curve. ANSWER: b 162. Figure: Supply Shift
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Chapter 3
In the figure, a movement from S1 to S2 represents: a. a decrease in supply. b. an increase in supply. c. a decrease in quantity supplied. d. an increase in quantity supplied. ANSWER: b 163. An increase in supply shifts the supply curve: a. down and to the right. b. down and to the left. c. up and to the right. d. up and to the left. ANSWER: a 164. Figure: Supply Shift
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Chapter 3 According to the figure, the: a. costs of producing output have decreased. b. technology for producing output has improved. c. costs of producing output have increased. d. price of the product has decreased. ANSWER: c 165. In the oil market, an increase in the wage of oil workers will shift the: a. supply curve for oil to the right. b. supply curve for oil to the left. c. demand curve for oil to the left. d. demand curve for oil to the right. ANSWER: b 166. New production technology in the manufacture of 4K ultra-high-definition television screens has reduced the cost of production. What effect will this have in the market for televisions? a. The demand curve will shift to the right. b. The supply curve will shift to the right. c. The demand and supply curves will both shift to the right. d. The demand curve will shift to the left. ANSWER: b 167. In the market for fertilizer, an: a. increase in the wage rate will increase the demand for fertilizer. b. advance in technology will increase the supply of fertilizer. c. increase in the wage rate will increase the supply of fertilizer. d. increase in the cost of equipment will increase the supply of fertilizer. ANSWER: b 168. As the price of lead falls (a key input in the production of automobile batteries), the cost of producing batteries decreases, shifting the supply curve of batteries: a. down and to the left. b. up and to the right. c. down and to the right. d. up and to the left. ANSWER: c 169. When the price of inputs increases: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. the supply curve shifts down and to the right. b. the supply curve shifts up and to the left. c. there is an upward movement along the supply curve. d. there is a downward movement along the supply curve. ANSWER: b 170. When the price of inputs decreases: a. the supply curve shifts down and to the right. b. the supply curve shifts up and to the left. c. there is an upward movement along the supply curve. d. there is a downward movement along the supply curve. ANSWER: a 171. Anonymity on the Internet has lowered the cost of rudely confronting people. What has happened to the supply of rude confrontations? a. The supply has increased, shifting up and to the left. b. The supply has increased, shifting down and to the right. c. The supply has decreased, shifting up and to the left. d. The supply has decreased, shifting down and to the right. ANSWER: b 172. Pipefitter union workers have demanded that all employers of pipefitters provide health insurance at no cost to the pipefitter. What will happen to the supply of goods produced in factories employing pipefitters? a. Supply will increase, shifting up and to the left. b. Supply will increase, shifting down and to the right. c. Supply will decrease, shifting up and to the left. d. Supply will decrease, shifting down and to the right. ANSWER: c 173. Figure: Supply Shift
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Chapter 3
What would cause the supply curve to shift from S1 to S2 as shown in the diagram? a. an increase in taxes on firms' output b. an increase in the price of inputs used to produce the output c. a decrease in the number of firms that produce the output d. a decrease in the wages paid to union workers who produce the output ANSWER: d 174. Figure: Supply Shift
What would cause the supply curve to shift from S2 to S1 as shown in the diagram? a. a decrease in the opportunity costs of producing the good Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 b. a decrease in the costs of production c. an increase in the prices of inputs used in production d. an expected decrease in the future price of the good ANSWER: c 175. A decrease in production costs at any given quantity _____ supply. a. increases b. decreases c. does not change d. may increase or decrease ANSWER: a 176. An increase in production costs at any given quantity: a. increases supply. b. decreases supply. c. does not change supply. d. changes supply in an indeterminate direction. ANSWER: b 177. Which of the following factors causes a decrease in supply? a. a decrease in demand b. a decrease in the price of the product c. an increase in the price of the product d. new taxes on output ANSWER: d 178. Which of the following factors causes an increase in supply? a. an increase in demand b. an increase in taxes on production c. an improvement in the technology used in production d. new taxes on output paid by the consumer ANSWER: c 179. Firms are willing and able to sell 100 guitars per day at a price of $250 per guitar. What price will firms require to sell 100 guitars per day if there is a tax of $15 per guitar? a. $235 b. $250 c. between $235 and $250 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 d. $265 ANSWER: d 180. A government subsidy to producers causes the: a. supply of the product to increase. b. supply of the product to decrease. c. supply curve to change slope. d. supply curve to shift up and to the left. ANSWER: a 181. A subsidy is a: a. reverse tax. b. means of shifting the supply curve left. c. form of tax increase. d. movement along the supply curve. ANSWER: a 182. Figure: Lobster Market
In the figure, a $10 tax is imposed on the market for lobsters. What is the market price that lobster producers would need to receive to induce them to produce 5,000 bushels of lobster per day? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. $10 b. $40 c. $50 d. $60 ANSWER: d 183. If the government decided to heavily regulate small farmers who grow organic and free-range food, the supply of that food: a. would increase because the regulations would improve the quality of that food. b. would decrease because the regulations are like a tax on the food; they make it more expensive to produce. c. would have no effect because none of the shifters of supply are affected. d. would increase because of changing expectations. ANSWER: b 184. In 2011, the U.S. Senate voted to end ethanol subsidies. What will be the effect of this bill in the market for ethanol? a. Demand will increase. b. Demand will decrease. c. Supply will decrease. d. Supply will increase. ANSWER: c 185. Figure: Supply Shift 2
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Chapter 3
What would cause the supply curve to shift from S1 to S2? a. a $20 tax reduction on each unit of output b. a $40 tax reduction on each unit of output c. a $40 subsidy reduction on each unit of output d. a $20 subsidy reduction on each unit of output ANSWER: d 186. Figure: Supply Shift 2
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Chapter 3
What would cause the supply curve to shift from S1 to S2? a. a $20 tax on each unit of output b. a $40 tax on each unit of output c. a $40 subsidy on each unit of output d. a $20 subsidy on each unit of output ANSWER: a 187. An increase in a per unit production tax: a. increases supply. b. decreases supply. c. does not change supply. d. changes supply in an indeterminate direction. ANSWER: b 188. A decrease in a per unit production tax: a. increases supply. b. decreases supply. c. does not change supply. d. changes supply in an indeterminate direction. ANSWER: a 189. An increase in a per unit production subsidy: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 a. increases supply. b. decreases supply. c. does not change supply. d. changes supply in an indeterminate direction. ANSWER: a 190. A decrease in a per unit production subsidy: a. increases supply. b. decreases supply. c. does not change supply. d. changes supply in an indeterminate direction. ANSWER: b 191. Figure A: Supply Right Shift Figure B: Supply Left Shift
Which statement is TRUE? a. Figure A depicts the expectation that the future price will decrease. b. Figure A depicts an increase in taxes. c. Figure B depicts falling input prices. d. Figure B depicts technological innovations. ANSWER: a 192. If producers form expectations that copper prices will be higher in the future, then this will shift the: a. demand curve for copper to the left. b. supply curve for copper to the right. c. demand curve for copper to the right. d. supply curve for copper to the left. ANSWER: d 193. Figure: Supply Shifts Copyright Macmillan Learning. Powered by Cognero.
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In the figure, the initial supply curve is S1. If producers form expectations that the price will be lower in the near future, S1 will: a. shift to S2 now. b. shift to S3 now. c. not shift now. d. shift to S3 only in the future. ANSWER: b 194. Figure: Supply Shifts
In the figure, the initial supply curve is S1. Producers engage in market speculation with the belief that the price of the good will increase in the near future. This would be represented in the figure by shifting the: a. supply curve to S2, resulting in a lower quantity supplied at each price. b. supply curve to S2, resulting in a higher quantity supplied at each price. c. supply curve to S3, resulting in a lower quantity supplied at each price. d. supply curve to S3, resulting in a higher quantity supplied at each price. ANSWER: a 195. Figure: Supply Shifts Copyright Macmillan Learning. Powered by Cognero.
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In the figure, the initial supply curve is at S1. If producers can pay lower wages to their employees, there is a shift of the: a. supply curve to S2, resulting in a lower quantity supplied at each price. b. supply curve to S2, resulting in a higher quantity supplied at each price. c. supply curve to S3, resulting in a lower quantity supplied at each price. d. supply curve to S3, resulting in a higher quantity supplied at each price. ANSWER: d 196. Suppose a new study predicts that the price of hybrid cars is expected to decrease in the near future. As a result, we would expect: a. consumers to increase demand for hybrid cars today. b. producers to increase supply of hybrid cars today. c. no change in either demand or supply of hybrid cars today. d. producers to decrease supply of hybrid cars today. ANSWER: b 197. If producers expect the price of a good to fall in the future, they might: a. raise the price of the good today. b. hoard goods to save them for when the price is lower. c. increase their supply of goods out of storage today. d. increase the demand for their goods today. ANSWER: c 198. An increase in the expected price of a storable good: a. increases supply today. b. decreases supply today. c. does not change supply today. d. changes supply today in an indeterminate direction. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: b 199. In the early 1980s, movie rentals averaged $5 a night; by the early 1990s, that average was $1 per night. This is an example of a supply curve shifter based on: a. a change in tastes and preferences. b. a decrease in the wages of workers in the video rental stores. c. an increase in the number of VCRs owned by consumers. d. the entry of new suppliers into the market. ANSWER: d 200. Recall your reading about NAFTA in the textbook. Why did the NAFTA agreement result in an increase in lumber supply in the United States? a. NAFTA decreed that the United States should produce more lumber. b. NAFTA stands for North American Furniture Trade Agreement. c. NAFTA reduced barriers to trade, allowing Canadian lumber to enter the United States. d. The United States sold more lumber to Canada. ANSWER: c 201. One result of the North American Free Trade Agreement was that the number of Canadian lumber companies selling in U.S. markets _____, causing a(n) _____ in the total market supply of lumber in the United States. a. increased; decrease b. increased; increase c. decreased; decrease d. decreased; increase ANSWER: b 202. What will happen to the supply of workers 18 to 21 years after a baby boom? a. It will decrease, since workers will cost more to hire. b. It will increase because of the influx of new adults into the labor market. c. It will increase because workers will be needed to care for retirees. d. It will decrease because producer surplus will be lower. ANSWER: b 203. NAFTA made it _____ for Canadian lumber producers to sell lumber in the United States, shifting the supply curve of lumber to the _____. a. easier; right b. difficult; left c. difficult; right Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 d. easier; left ANSWER: a 204. In 2011, revolutions and uprisings spread across North Africa and the Middle East, where a lot of oil is pumped. How did this affect the oil market? a. The supply curve for oil shifted to the left. b. The minimum price producers were willing to sell oil for decreased. c. The quantity of oil that firms were willing and able to produce increased. d. The supply curve for oil shifted to the right. ANSWER: a 205. A firm produces volleyballs and soccer balls. What happens to the supply of soccer balls if the market price of volleyballs increases? a. The opportunity cost of producing soccer balls rises, so the supply curve of soccer balls increases. b. The opportunity cost of producing soccer balls falls, so the supply curve of soccer balls decreases. c. The opportunity cost of producing soccer balls rises, so the supply curve of soccer balls decreases. d. The opportunity cost of producing soccer balls falls, so the supply curve of soccer balls increases. ANSWER: c 206. Which of the following choices correctly illustrates how changes in opportunity costs affect supply? a. A farmer produces corn and wheat. The price of wheat rises, so he shifts his resources toward wheat and the supply of wheat rises. b. A fisherman fishes for lobsters and oysters. The price of lobsters rises, so she decides to spend more of her time fishing for oysters because she can make the same amount of money with fewer lobsters. c. A textbook for economics becomes cheaper, so more students opt to buy that particular textbook. d. Milk and cereal are complementary goods, so when the price of cereal falls, the quantity supplied of milk rises. ANSWER: a 207. Joe runs a landscape company and uses one of the bedrooms in his home as a home office. This office could be used to earn rental income from college students. If average rental income in Joe's neighborhood were to rise: a. Joe's opportunity cost of using a bedroom as a home office would decrease. b. Joe's landscape company would experience a decrease in demand for services at all prices. c. Joe should expand his office space in his home. d. Joe's opportunity cost of using a bedroom as a home office would increase. ANSWER: d 208. A farmer can grow either apples or oranges. An increase in the price of apples _____ the opportunity cost Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 of growing oranges so that the supply curve of oranges shifts _____. a. decreases; down and to the right b. increases; down and to the right c. decreases; up and to the left d. increases; up and to the left ANSWER: d 209. A decrease in the opportunity cost of steel production will: a. increase the price of steel. b. make suppliers more likely to produce steel, thus shifting the supply curve up and to the left. c. make suppliers more likely to produce steel, thus shifting the supply curve down and to the right. d. entice producers to produce more substitute goods. ANSWER: c 210. A farmer can grow soy or sorghum. If the price of soy increases, the opportunity cost of growing sorghum _____, shifting the supply curve of sorghum _____. a. decreases; up and to the left b. increases; up and to the left c. decreases; down and to the right d. increases; down and to the right ANSWER: b 211. A change in price is reflected by a movement along the same demand curve, while a change in demand refers to a shift of the entire demand curve. a. True b. False ANSWER: a 212. If the price of ski lift tickets increases, the demand for ski lift tickets will increase. a. True b. False ANSWER: b 213. The quantity demanded is the quantity that buyers can afford to buy at a particular income level. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 214. The demand curve shows the quantity that consumers are willing and able to purchase at different prices. a. True b. False ANSWER: a 215. The demand curve has a negative slope. a. True b. False ANSWER: a 216. When the price of a good goes down, demand for the good goes down. a. True b. False ANSWER: b 217. The quantity demanded is the quantity that consumers are willing and able to purchase at a given price. a. True b. False ANSWER: a 218. A vertical reading of the demand curve gives the maximum price per unit that consumers are willing to pay for a particular quantity of a good. a. True b. False ANSWER: a 219. There are more substitutes for oil as a heating and energy generator than for oil as a jet fuel. a. True b. False ANSWER: a 220. There are more substitutes for oil as a jet fuel than for oil as a lubricant. a. True b. False ANSWER: b 221. Consumer surplus can be defined as the net benefit to consumers from participating in a market. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 b. False ANSWER: a 222. Other things being equal, total consumer surplus falls when the market price rises. a. True b. False ANSWER: a 223. Total consumer surplus is measured by the area beneath the demand curve. a. True b. False ANSWER: b 224. An increase in demand is a movement along the demand curve to the right. a. True b. False ANSWER: b 225. An increase in the price of a good will typically increase demand for that good. a. True b. False ANSWER: b 226. When income increases, the demand for all goods increases as well. a. True b. False ANSWER: b 227. The demand curve for an inferior good reacts inversely to changes in income, while the demand curve for a normal good has a positive relationship with changes in income. a. True b. False ANSWER: a 228. An increase in income increases the demand for normal goods. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: a 229. The demand for an inferior good increases when income decreases. a. True b. False ANSWER: a 230. An inferior good is one of poor quality. a. True b. False ANSWER: b 231. Demand for a good or service increases when the consumer's income rises, regardless of whether the good is a normal good or inferior good. a. True b. False ANSWER: b 232. When the price of oil used for generating electricity increases, the demand for nuclear power will increase. a. True b. False ANSWER: a 233. If golf course fees decrease, the demand for golf balls will increase. a. True b. False ANSWER: a 234. If the price of granite countertops rises, we would expect the demand for quartz countertops (a substitute product for granite) to decrease. a. True b. False ANSWER: b 235. A reduction in the expected future supply of a good will increase the demand for substitute goods today. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 236. Changes in expectations can shift supply or demand. a. True b. False ANSWER: a 237. There is no relationship between present prices and future prices. a. True b. False ANSWER: b 238. Advertising, fads, and fashion are examples of influences on demand that are generally referred to as altering expectations about products. a. True b. False ANSWER: b 239. A change in quantity supplied is reflected by a movement along the same supply curve, while a change in supply refers to a shift in the entire supply curve. a. True b. False ANSWER: a 240. The supply curve tells us the minimum quantity that suppliers would be willing to sell at different prices. a. True b. False ANSWER: b 241. At low prices, only low-cost producers serve the market, but as market prices rise, higher-cost producers begin to serve the market. a. True b. False ANSWER: a 242. Suppose that the market price for MP3 players is $90, and MP3 players can be produced by firm X for $40 each. Producer surplus for this firm is $50 per MP3 player. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 ANSWER: a 243. Producer surplus can be defined as the revenue producers make from selling goods in a market. a. True b. False ANSWER: b 244. Consumer surplus is a gain from exchange, but producer surplus is a loss from exchange. a. True b. False ANSWER: b 245. Advances in technology such as personal computers and cellular telecommunications are indicated in the supply graph by a movement along the supply curve. a. True b. False ANSWER: b 246. An increase in the use of labor-saving technologies will shift a product's supply curve to the right. a. True b. False ANSWER: a 247. A decrease in the cost of inputs will shift the supply curve down and to the right. a. True b. False ANSWER: a 248. A technological innovation in the production of electronic goods causes the supply for electronic goods to increase. a. True b. False ANSWER: a 249. A tax of $4 shifts the supply curve down and to the right by $4. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 250. NAFTA increased the supply curve of lumber in the United States. a. True b. False ANSWER: a 251. A higher opportunity cost of producing a good increases the supply of that good. a. True b. False ANSWER: b 252. If the price of corn rises, all else the same, we expect the supply of soybeans to increase. a. True b. False ANSWER: b 253. Explain the difference between a change in demand and a change in the quantity demanded. ANSWER: A change in demand is a shift of the entire demand curve either to the right (an increase in demand) or to the left (a decrease in demand). It results from a change in one of the demand shifters, such as income, population, price of substitutes, price of complements, expectations, or tastes. A change in the quantity demanded is simply a movement along the SAME demand curve as a result of a change in the price of the good. 254. The demand for a product is given by: Price $0 1 2 3 4
Quantity Demanded 8 6 4 2 0
Graph the demand curve and calculate consumer surplus at a price of $2. ANSWER: Consumer surplus = 0.5(4 – 2)(4 – 0) = $4
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Chapter 3
The graph is as follows:
255. A market has a demand equation as follows: Qd = 60 – 4P. The market price of the product is $5. Calculate the dollar amount of consumer surplus in this market and illustrate your answer graphically. ANSWER: The first step is to calculate the intercept of the demand equation on the price axis and then to calculate the Qd at the market price. The P-intercept for the demand equation can be found as follows: 60 – 4P = 0 60 = 4P Therefore, P = $15. Thus, this is the price where the demand equation intercepts the price axis. At the market price of $5, Qd = 60 – 4(5) = 40.
The graph is as follows:
Total consumer surplus is therefore 1/2 × 10 × 40 = $200. 256. A market has a demand equation as follows: Qd = 100 – 2P. The market price for the product is $20. Calculate the dollar amount of consumer surplus in this market and illustrate your answer graphically. ANSWER: The first step is to calculate the intercept of the demand equation on the price axis and then to calculate the Qd at the market price. The P-intercept for the demand equation can be found as follows: 100 – 2P = 0 100 = 2P P = $50 Thus, this is the price where the demand equation intercepts the price axis. At the market price of $20, Qd = 100 – 2(20) = 60. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3
The graph is as follows:
Total consumer surplus is therefore 1/2 × 30 × 60 = $900. 257. An increase in the population will lead to an increase in demand. Give three other examples that lead to an increase in demand. ANSWER: An increase in the price of a substitute good leads to an increase in demand. A decrease in the price of a complement good leads to an increase in demand. An increase in tastes that are favorable toward a product leads to an increase in demand. An increase in income for a normal good leads to an increase in demand. A decrease in income for an inferior good leads to an increase in demand. The expectation of higher future prices leads to an increase in demand. 258. What is the difference between a change in quantity demanded (Qd) and a change in demand? Explain what causes a change in Qd and what causes a change in demand, and illustrate using graphs. ANSWER: A change in quantity demanded (Qd) results ONLY from a change in price (P). Thus, a change in Qd will result only in a movement along the SAME demand curve. Figure A shows how Qd falls when P rises, resulting in a leftward movement along the same demand curve from Q0 to Q1. A change in demand is illustrated by a shift of the entire demand curve (holding the price of the good constant) and is caused by changes in other factors, such as changes in income, changes in tastes and preferences, changes in the prices of related goods (substitutes and complements), changes in expectations, and changes in population. Figure B shows a rightward shift of a demand curve, from D0 to D1, that resulted from an increase in population (which increased the size of the market for the product).
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Chapter 3 259. Throughout 2005, average home prices in the United States soared to record highs. Clearly, those individuals who were purchasing homes were paying more for them. But what about the people who were not buying homes? In particular, were people who did NOT own homes affected by this housing bubble? Explain. (Hint: What impact did this substantial increase in the price of owner-occupied housing have on the price of rental housing?) ANSWER: This substantial increase in the price of owner-occupied housing also had a big impact on the market for rental housing. Given that owner-occupied and rental housing are substitute goods, an increase in the price of owner-occupied housing also led to an increase in the demand (and hence the price) of rental housing. It seems that those who were NOT buying homes were still paying more in rent as a result of this owner-occupied housing bubble. 260. Bloomberg News reports that OPEC (a group of countries that together form the world's leading supplier of oil) will increase its supply of oil. This is expected to bring future oil prices down. How will this move by OPEC affect the demand for oil today? Explain your reasoning. ANSWER: It will cause today's demand for oil to decrease. Since people are expecting the future price of oil to be lower, consumers will plan on buying less today. This will decrease the quantity of oil demanded at all prices and shift the current demand for oil to the left. 261. A market has a supply equation as follows: Qs = P. The market price for the product is $50. Calculate the dollar amount of producer surplus in this market and illustrate your answer graphically. ANSWER: The first step is to calculate the intercept of the supply equation on the price axis, and then to calculate the Qs at the market price. The P-intercept for the supply equation can be found by setting the supply equation equal to zero and solving for the price. P = $0 Thus, this is the price where the supply equation intercepts the price axis. At the market price of $50, Qs = 50.
The graph is as follows:
Total producer surplus is therefore 1/2 × 50 × 50 = $1,250. 262. A market has a supply equation as follows: Qs = –20 + 2P. The market price for the product is $20. Calculate the dollar amount of producer surplus in this market and illustrate your answer graphically. ANSWER: The first step is to calculate the intercept of the supply equation on the price axis, and then to calculate the Qs at the market price. The P-intercept for the supply equation can be found by setting Copyright Macmillan Learning. Powered by Cognero.
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Chapter 3 the supply equation equal to zero and solving for the price. –20 + 2P = 0 –20 = –2P P = $10 Thus, this is the price where the supply equation intercepts the price axis. At the market price of $20, Qs = –20 + 2(20) = 20.
The graph is as follows:
Total producer surplus is therefore 1/2 × 10 × 20 = $100. 263. For each of the following changes, determine whether there will be a change in supply (i.e., a shift of the supply curve) or a change in quantity supplied (i.e., no shift of the supply curve). I. change in the resource cost II. change in producer expectations III. change in the price of the good IV. change in technology V. the number of sellers ANSWER: I, II, IV, and V are all supply shifters; the example in III is a price change that corresponds to a new quantity supplied on the same supply curve. 264. What is the difference between a change in quantity supplied (Qs) and a change in supply (S)? Explain what causes a change in Qs and what causes a change in S, and illustrate using graphs. ANSWER: A change in quantity supplied results ONLY from a change in price. Thus, a change in Qs will result only in a movement along the SAME supply curve. Figure A shows how Qs rises when P rises, resulting in a rightward movement along the same supply curve. A change in supply is illustrated by a shift of the entire supply curve (holding the price of the good constant) and is caused by changes in other factors, such as changes in taxes and subsidies on production or output, changes in the technology of production, entry and exit of firms, expectations, and changes in opportunity costs. Figure B shows a rightward shift of a supply curve that resulted from the entry of new firms (which increased the number of sellers in the market).
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265. It is widely known that the rapidly expanding corn-ethanol industry is quickly increasing the price of corn on world markets. Given this, many farmers have begun to grow corn more intensively. For instance, some producers who currently pursue a corn-soybean rotation (planting corn one year and soybeans the next) might shift to a corn-corn-soybean rotation (planting corn two years in a row and then planting soybeans in the third). Continuous production of corn (planting corn every year on the same plot of land) is another possibility. Explain what impact this explosion in the market for corn may have on the market for soybeans. In particular, will those who produce soybeans exclusively be better off, worse off, or unaffected as a result of the increase in corn prices? ANSWER: Given the now relatively high price of corn, the opportunity cost of growing soybeans is now higher; hence, in general, farmers will move to producing more corn and fewer soybeans. This decrease in the supply of soybeans, however, will lead to an increase in the price of soybeans, and therefore those who produce soybeans exclusively will see higher prices and hence higher profits as a result. 266. A recent explosion in the demand for (and price of) organically produced foods has caused many farmers to convert from traditional farming methods to higher-cost organic farming methods. Explain what has happened to the opportunity cost of traditional farming and why. Based on your explanation, does it make sense to see so many farmers moving to organic farming? Explain. ANSWER: The opportunity cost of traditional farming has increased because of the increase in the prices of organic products. Farmers who continue to produce their crops using traditional farming methods give up the opportunity to farm organically, and organic products command a higher price. As a result, we should see less production of crops using traditional farming methods and an increase in the supply of organic crops. The shift in farming from traditional to organic methods makes perfect sense when looking at changes in supply based on opportunity costs.
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Chapter 4 1. Table: Equilibrium Quantity Price Quantity Demanded $10 100 8 150 6 200 4 250 2 300
Quantity Supplied 400 350 300 250 200
Based on the table, the equilibrium quantity is: a. 10. b. 250. c. 100 and 400. d. 275.5. ANSWER: b 2. In a market, the equilibrium condition is given by the following: a. quantity demanded = quantity supplied. b. quantity demanded > quantity supplied. c. quantity demanded / quantity supplied. d. price = quantity demanded = quantity supplied. ANSWER: a 3. The key condition for equilibrium to occur in a market is: a. the demand curve equals the supply curve. b. quantity demanded equals quantity supplied. c. price equals quantity. d. demand for one good equals demand for all other goods. ANSWER: b 4. Figure: Equilibrium
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Chapter 4 The equilibrium price is: a. $8. b. $10. c. $16. d. $12. ANSWER: a 5. Figure: Equilibrium
The equilibrium quantity (in units) is: a. 8. b. 10. c. 16. d. 12. ANSWER: c 6. A market can be described by the equations Qd = 100 – P and Qs = P. What are the equilibrium price and quantity in this market? a. The equilibrium price is $50, and the equilibrium quantity is 50 units. b. The equilibrium price is $100, and the equilibrium quantity is 100 units. c. The equilibrium price is $0, and the equilibrium quantity is 0 units. d. The equilibrium price is $0, and the equilibrium quantity is 100 units. ANSWER: a 7. A market can be described by the equations Qd = 50 – 3P and Qs = 2P. What are the equilibrium price and quantity in this market? a. The equilibrium price is $20, and the equilibrium quantity is 10 units. b. The equilibrium price is $50, and the equilibrium quantity is 100 units. c. The equilibrium price is $30, and the equilibrium quantity is 10 units. d. The equilibrium price is $10, and the equilibrium quantity is 20 units. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: d 8. A market can be described by the equations Qd = 450 – 30P and Qs = 200 + 20P. What are the equilibrium price and quantity in this market? a. The equilibrium price is $5, and the equilibrium quantity is 300 units. b. The equilibrium price is $6.50, and the equilibrium quantity is 330 units. c. The equilibrium price is $13, and the equilibrium quantity is 460 units. d. The equilibrium price is $7, and the equilibrium quantity is 340 units. ANSWER: a 9. Figure: Market Equilibrium
At a price of $3, quantity supplied is _____ and quantity demanded is _____, leading to a _____. a. 6; 2; surplus of 4 units b. 2; 6; shortage of 8 units c. 2; 4; surplus of 2 units d. 4; 2; shortage of 2 units ANSWER: a 10. Figure: Market Equilibrium
At a price of $1, the market is characterized by a(n): Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. excess supply of 2 units. b. excess demand of 4 units. c. surplus of 4 units. d. shortage of 6 units. ANSWER: b 11. Figure: Market Equilibrium
According to the figure, the equilibrium price and quantity are: a. $1 and 4 units. b. $4 and 8 units. c. $2 and 4 units. d. $3 and 6 units. ANSWER: c 12. Figure: Market Equilibrium
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Chapter 4 At a price of $10, quantity supplied is _____ and quantity demanded is _____, leading to a _____. a. 600 units; 225 units; surplus of 375 units b. 225units; 600 units; shortage of 375 units c. 225 units; 600 units; surplus of 375 units d. 600units; 225 units; shortage of 375 units ANSWER: a 13. Figure: Market Equilibrium
At a price of $4, the market is characterized by a(n): a. surplus. b. shortage. c. overage. d. equilibrium. ANSWER: b 14. Figure: Market Equilibrium
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Chapter 4
According to the figure, the equilibrium price and quantity are: a. $10 and 275 units. b. $4 and 600 units. c. $7 and 400 units. d. $7 and 600 units. ANSWER: c 15. Figure: Market Equilibrium
According to the figure, if the price is $4, there is a: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. surplus of 375 units, and the price will fall. b. shortage of 375 units, and the price will rise. c. shortage of 200 units, and the price will fall. d. surplus of 200 units, and the price will rise. ANSWER: b 16. Figure: Market Equilibrium
According to the figure, if the price is $10, there is a: a. surplus of 375 units, and the price will fall. b. shortage of 200 units, and the price will rise. c. shortage of 200 units, and the price will fall. d. surplus of 375 units, and the price will rise. ANSWER: a 17. Suppose that a market is characterized as follows: Consumers are willing and able to purchase 100 units, and sellers are willing and able to sell 70 units. Which of the following statements is TRUE? a. There is a shortage of 30 units. b. The market is in equilibrium. c. The price in the market will decrease. d. Quantity demanded will increase. ANSWER: a 18. If sellers want to sell more products than buyers are willing to purchase, we know that: a. the current price is less than the equilibrium price. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. quantity demanded exceeds quantity supplied. c. the current price is greater than the equilibrium price. d. the demand curve will likely increase. ANSWER: c 19. Suppose that the equilibrium price in the market is $10.00. If the current market price is $7.50: a. the equilibrium price will fall to $7.50. b. competition among buyers will increase the current price. c. the current price will fall below $7.50 as sellers compete for market share. d. the quantity demanded in the market will decrease until the current market price falls. ANSWER: b 20. Suppose that the equilibrium price in the market is $12. If the current market price is $14: a. the quantity supplied in the market will rise, driving the current market price up to $14. b. competition among buyers will increase the current market price. c. the current market price will fall as sellers compete for market share. d. the quantity demanded in the market will decrease until the current market price falls. ANSWER: c 21. In free markets, shortages lead to: a. lower prices. b. higher prices. c. surpluses. d. unexploited gains from trade. ANSWER: b 22. In free markets, surpluses lead to: a. lower prices. b. higher prices. c. stable prices. d. unexploited gains from trade. ANSWER: a 23. Figure: Price Adjustment
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Chapter 4
If the price of the product is $14, there is a: a. shortage of 30 units of the product, and the price will rise to $16. b. surplus of 20 units of the product, and the price will rise to $16. c. shortage of 50 units of the product, and the price will rise to $16. d. surplus of 40 units of the product, and the price will rise to $16. ANSWER: c 24. Table: Equilibrium Price, Quantity P QD QS $10 50 30 12 45 35 14 40 40 16 35 45 18 30 50 The equilibrium price and quantity are: a. $10 and 50. b. $12 and 35. c. $40 and 14. d. $14 and 40. ANSWER: d 25. Table: Equilibrium Price, Quantity P QD QS $10 50 30 12 45 35 14 40 40 16 35 45 18 30 50 If the price in the market were $16, there would be a: a. shortage of 10 units. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. shortage of 35 units. c. surplus of 10 units. d. surplus of 45 units. ANSWER: c 26. Table: Equilibrium Price, Quantity P QD QS $10 50 30 12 45 35 14 40 40 16 35 45 18 30 50 If the price in the market were $12, there would be a: a. shortage of 10 units. b. shortage of 45 units. c. surplus of 10 units. d. surplus of 35 units. ANSWER: a 27. Table: Equilibrium Price, Quantity P QD QS $10 50 30 12 45 35 14 40 40 16 35 45 18 30 50 If the demand curve for the product shifts to the right such that 10 more units of the good are demanded at every price, what is the new equilibrium price? a. $12 b. $14 c. $16 d. $18 ANSWER: c 28. Table: Equilibrium Price, Quantity P QD QS $10 50 30 12 45 35 14 40 40 16 35 45 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 18
30
50
If the supply curve for the product shifts to the right such that 10 more units of the good are supplied at every price, what is the new equilibrium price? a. $12 b. $14 c. $16 d. $18 ANSWER: a 29. Table: Equilibrium Price, Quantity P QD QS $10 50 30 12 45 35 14 40 40 16 35 45 18 30 50 If the supply curve for the product shifts to the right such that 20 more units of the good are supplied at every price, what is the new equilibrium price? a. $10 b. $12 c. $14 d. $16 ANSWER: a 30. For each good produced in a free market economy, demand and supply determine: a. the price of the good, but not the quantity. b. the quantity of the good, but not the price. c. both the price and the quantity of the good. d. neither price nor quantity; sellers determine the price. ANSWER: c 31. When there is a shortage of 1,000 units of a particular good: a. the price of the good will rise. b. the price of the good will fall. c. the quantity demanded of the good will equal 1,000 units. d. there will be no change in the price of the good. ANSWER: a 32. When a surplus exists in a market, we know that the actual price is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. above equilibrium price, and quantity supplied is greater than quantity demanded. b. above equilibrium price, and quantity demanded is greater than quantity supplied. c. below equilibrium price, and quantity demanded is greater than quantity supplied. d. below equilibrium price, and quantity supplied is greater than quantity demanded. ANSWER: a 33. Table: Equilibrium Adjustment Price Quantity Quantity Demanded Supplied $10 100 160 8 120 145 6 130 130 4 140 115 2 150 100 If the price in the free market were $8, then a: a. surplus of 25 units would exist, and the price would tend to fall. b. surplus of 25 units would exist, and the price would tend to rise. c. shortage of 25 units would exist, and the price would tend to rise. d. shortage of 25 units would exist, and the price would tend to fall. ANSWER: a 34. Table: Equilibrium Adjustment Price Quantity Quantity Demanded Supplied $10 100 160 8 120 145 6 130 130 4 140 115 2 150 100 If the price in the free market were $2, then a: a. surplus of 50 units would exist, and the price would fall. b. surplus of 50 units would exist, and the price would rise. c. shortage of 50 units would exist, and the price would rise. d. shortage of 50 units would exist, and the price would fall. ANSWER: c 35. Table: Equilibrium Adjustment Price Quantity Quantity Demanded Supplied $10 100 160 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 8 6 4 2
120 130 140 150
145 130 115 100
The equilibrium price is: a. $2. b. $4. c. $6. d. $8. ANSWER: c 36. Table: Supply and Demand Price $10 $12 $14 $16 $18 $20
Quantity Demanded 2,000 1,900 1,800 1,700 1,600 1,500
Quantity Supplied 1,200 1,300 1,400 1,500 1,600 1,700
If the price in the free market were $18, then: a. a surplus of 200 units would exist, and the price would fall. b. a shortage of 600 units would exist, and the price would rise. c. a shortage of 200 units would exist, and the price would rise. d. the market would be in equilibrium. ANSWER: d 37. Table: Supply and Demand Price $10 $12 $14 $16 $18 $20
Quantity Demanded 2,000 1,900 1,800 1,700 1,600 1,500
Quantity Supplied 1,200 1,300 1,400 1,500 1,600 1,700
If the price in the free market were $20, then a: a. surplus of 200 units would exist, and the price would fall. b. surplus of 600 units would exist, and the price would rise. c. shortage of 200 units would exist, and the price would rise. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 d. shortage of 400 units would exist, and the price would fall. ANSWER: a 38. Table: Supply and Demand Price $10 $12 $14 $16 $18 $20
Quantity Demanded 2,000 1,900 1,800 1,700 1,600 1,500
Quantity Supplied 1,200 1,300 1,400 1,500 1,600 1,700
If the price in the free market were $12, then a: a. surplus of 200 units would exist, and the price would fall. b. shortage of 600 units would exist, and the price would rise. c. shortage of 200 units would exist, and the price would rise. d. surplus of 400 units would exist, and the price would fall. ANSWER: b 39. Table: Supply and Demand Price $10 $12 $14 $16 $18 $20
Quantity Demanded 2,000 1,900 1,800 1,700 1,600 1,500
Quantity Supplied 1,200 1,300 1,400 1,500 1,600 1,700
The equilibrium price is: a. $12. b. $44. c. $16. d. $18. ANSWER: d 40. A free market achieves an equilibrium price and quantity due to: a. the combined actions of buyers and sellers. b. increased competition among sellers. c. government regulations placed on market participants. d. buyers' ability to affect market outcomes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: a 41. When there is a surplus of a good: a. sellers will lower the price to increase the quantity demanded. b. sellers will raise the price to decrease the quantity demanded. c. sellers will compete with buyers. d. this is an indication that the buyers do not value the good. ANSWER: a 42. When there is a shortage of a good: a. buyers will bid up the price of the good to increase the quantity demanded. b. sellers will lower the price of the good to decrease the quantity demanded. c. sellers will compete with buyers for the good. d. this is an indication that the buyers do not value the good. ANSWER: a 43. When the quantity supplied of a good exceeds the quantity demanded, there is a(n): a. shortage. b. surplus. c. equilibrium. d. opportunity cost. ANSWER: b 44. A shortage of a good occurs when: a. the quantity supplied equals the quantity demanded. b. the quantity supplied is greater than the quantity demanded. c. the quantity supplied is less than the quantity demanded. d. supply does not exist. ANSWER: c 45. If the market for Apple Watches experiences a surplus, then the: a. supply of Apple Watches will fall. b. demand for Apple Watches will rise. c. price of Apple Watches will rise. d. price of Apple Watches will fall. ANSWER: d 46. The equilibrium price is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. stable because at this price the quantity demanded equals the quantity supplied. b. unstable because at this price the quantity demanded is less than the quantity supplied. c. unstable because at this price the quantity demanded exceeds the quantity supplied. d. stable because at this price all buyers are willing and able to pay. ANSWER: a 47. Figure: Basic Supply and Demand
In the diagram, which of the following statements is TRUE? a. The equilibrium price is $3, and the equilibrium quantity is 60 units. b. The equilibrium price is $4, and the equilibrium quantity is 60 units. c. The equilibrium price is $2, and the equilibrium quantity is 40 units. d. The equilibrium price is $3, and the equilibrium quantity is 50 units. ANSWER: d 48. Figure: Basic Supply and Demand
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Chapter 4
In the diagram, if the market price is $2, then there is: a. a surplus of 60 units. b. a surplus of 20 units. c. a shortage of 20 units. d. market equilibrium. ANSWER: c 49. Figure: Basic Supply and Demand
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Chapter 4 In the diagram, which of the following statements is TRUE? a. When the price is $3, the quantity demanded exceeds the quantity supplied by 60 units. b. When the price is $2, the quantity demanded exceeds the quantity supplied by 40 units. c. When the price is $4, the quantity demanded is less than the quantity supplied by 40 units. d. When the price is $2, there is a tendency for the price to rise in the future. ANSWER: d 50. Figure: Basic Supply and Demand
In the diagram, the market price is stable only at a price of: a. $2. b. $3. c. $4. d. $50. ANSWER: b 51. If the market price is above the equilibrium price, which of the following will occur? a. Quantity demanded will exceed quantity supplied, and the market price will eventually fall. b. Quantity demanded will exceed quantity supplied, and the market price will eventually rise. c. Quantity supplied will exceed quantity demanded, and the market price will eventually fall. d. Quantity supplied will exceed quantity demanded, and the market price will eventually rise. ANSWER: c 52. If the market price is below the equilibrium price, which of the following will occur? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. Quantity demanded will exceed quantity supplied, and the market price will eventually fall. b. Quantity demanded will exceed quantity supplied, and the market price will eventually rise. c. Quantity supplied will exceed quantity demanded, and the market price will eventually fall. d. Quantity supplied will exceed quantity demanded, and the market price will eventually rise. ANSWER: b 53. If the price of Nike Air Max 1 shoes is below the equilibrium price: a. competition will eventually push the price up. b. there will be a surplus of sneakers. c. quantity demanded will increase as the price rises to the equilibrium price. d. quantity supplied will be greater than quantity demanded. ANSWER: a 54. The yearly shortage of Super Bowl tickets implies that the price of Super Bowl tickets is: a. set at the equilibrium price since they always sell out. b. above the equilibrium price. c. below the equilibrium price. d. not set by supply and demand, but instead set by the NFL. ANSWER: c 55. If there is a surplus of a good, sellers will: a. lower the price to increase the quantity demanded. b. raise the price to decrease the quantity demanded. c. compete with buyers. d. know that the buyers overvalue the good. ANSWER: a 56. A surplus occurs when: a. workers are more productive than expected. b. the quantity supplied is greater than the quantity demanded. c. more people want to buy a good than want to sell it. d. a market is at equilibrium. ANSWER: b 57. A shortage occurs when: a. the price of a good is too high. b. a market is at equilibrium. c. the quantity supplied is zero. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 d. the quantity demanded is greater than the quantity supplied. ANSWER: d 58. The equilibrium price is: a. the price at which quantity demanded is equal to quantity supplied. b. never higher than what most consumers are willing to pay. c. unstable. d. the highest price at which all consumers can afford a good. ANSWER: a 59. When there is a surplus, sellers have an incentive to _____ their price and buyers have an incentive to offer a _____ price. a. increase; lower b. decrease; lower c. increase; higher d. decrease; higher ANSWER: b 60. When there is a shortage, sellers have an incentive to _____ their price and buyers have an incentive to offer a _____ price. a. increase; lower b. decrease; lower c. decrease; higher d. increase; higher ANSWER: d 61. If a market has a surplus, how will the market respond? a. The price will fall and the quantity supplied will fall. b. The price will fall and the quantity supplied will rise. c. The price will rise and the quantity supplied will fall. d. The price will rise and the quantity supplied will rise. ANSWER: a 62. Figure: Chocolate
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Chapter 4
What is the equilibrium price per pound in the diagram? a. $4 b. $6 c. $8 d. $10 ANSWER: c 63. Figure: Chocolate
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Chapter 4 If the price in the diagram is $5, what will happen? a. The price will increase because of a shortage. b. The price will decrease because of a shortage. c. The price will increase because of a surplus. d. The price will decrease because of a surplus. ANSWER: a 64. Figure: Price and Quantity 1
In the diagram, at which price is there a surplus? a. $80 b. $50 c. $40 d. $0 ANSWER: a 65. Figure: Price and Quantity 1
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Chapter 4
In the diagram, at which price is quantity demanded equal to quantity supplied? a. $40 b. $50 c. $60 d. $80 ANSWER: b 66. Figure: Price and Quantity 1
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Chapter 4
In the diagram, at a price of $80, the quantity demanded is _____, the quantity supplied is _____, and there is _____. a. 20; 80; a surplus of 60 units b. 80; 20; a surplus of 60 units c. 80; 20; a shortage of 60 units d. 20; 20; no surplus or shortage ANSWER: a 67. Figure: Price and Quantity 1
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Chapter 4
In the diagram, at a price of $40, the quantity demanded is _____, the quantity supplied is _____, and there is a _____. a. 40; 60; surplus of 20 units b. 80; 20; shortage of 60 units c. 60; 40; shortage of 20 units d. 20; 60; surplus of 40 units ANSWER: c 68. When there is an excess supply in the market, competition will: a. drive the price down to the equilibrium price. b. drive the price up to the equilibrium price. c. cause the demand curve to shift right. d. cause the supply curve to increase. ANSWER: a 69. When there is a shortage in the market, competition will: a. drive the price down to the equilibrium price. b. drive the price up to the equilibrium price. c. cause the demand curve to shift right. d. cause the supply curve to increase. ANSWER: b 70. Table: Supply and Demand Schedule Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 Price per Unit $17 15 13 11
Quantity Demanded 80 88 96 104
Quantity Supplied 97 88 79 71
In the table, a surplus occurs at a price _____, and a shortage occurs at a price _____. a. of $17; below $15 b. of $15; above $15 c. above $15; of $15 d. above $11; below $17 ANSWER: a 71. In a free market equilibrium, prices and quantities are uniquely: a. stable. b. unstable. c. moving in the “right” direction. d. moving in the “wrong” direction. ANSWER: a 72. Imagine a free market in which, at a price of $10, quantity supplied is 50 units and quantity demanded is 40 units. Equilibrium price in this market: a. is equal to $10. b. is less than $10. c. is greater than $10. d. differs from $10 in an indeterminate direction. ANSWER: b 73. Imagine a free market in which, at a price of $10, quantity supplied is 40 units and quantity demanded is 50 units. Equilibrium price in this market: a. is equal to $10. b. is less than $10. c. is greater than $10. d. differs from $10 in an indeterminate direction. ANSWER: c 74. Imagine a free market in which, at a price of $10, quantity supplied is 50 units and quantity demanded is 50 units. Equilibrium price in this market: a. is equal to $10. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. is less than $10. c. is greater than $10. d. differs from $10 in an indeterminate direction. ANSWER: a 75. Imagine a free market in which, at a price of $24, quantity supplied is 300 units and quantity demanded is 550 units. Equilibrium price in this market: a. is equal to $24. b. is less than $24. c. is greater than $24. d. differs from $24 in an indeterminate direction. ANSWER: c 76. Imagine a free market in which, at a price of $4, quantity supplied is 120 units and quantity demanded is 100 units. Equilibrium price in this market: a. is equal to $4. b. is less than $4. c. is greater than $4. d. differs from $4 in an indeterminate direction. ANSWER: b 77. Imagine a free market in which quantity supplied is 50 units and quantity demanded is 50 units at the current price. The market is experiencing a(n): a. equilibrium. b. surplus. c. shortage. d. shift. ANSWER: a 78. Imagine a free market in which quantity supplied is 40 units and quantity demanded is 50 units at the current price. The market is experiencing a(n): a. equilibrium. b. surplus. c. shortage. d. shift. ANSWER: c 79. Imagine a free market in which quantity supplied is 50 units and quantity demanded is 40 units at the current price. The market is experiencing a(n): Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. equilibrium. b. surplus. c. shortage. d. shift. ANSWER: b 80. In a free market setting where quantity supplied is 40 units and quantity demanded is 50 units, price will: a. rise. b. fall. c. remain the same. d. move in an indeterminate direction. ANSWER: a 81. In a free market setting where quantity supplied is 50 units and quantity demanded is 50 units, price will: a. rise. b. fall. c. remain the same. d. move in an indeterminate direction. ANSWER: c 82. In a free market setting where quantity supplied is 50 units and quantity demanded is 40 units, price will: a. rise. b. fall. c. remain the same. d. move in an indeterminate direction. ANSWER: b 83. In a competitive market: a. buyers compete with other buyers, and sellers compete with other sellers. b. buyers compete with sellers, and sellers compete with buyers. c. sellers alone determine the equilibrium price. d. buyers alone determine the equilibrium price. ANSWER: a 84. When a market is competitive: a. buyers compete with sellers to try to get lower prices. b. buyers compete with other buyers, raising prices; and sellers compete with sellers, lowering prices. c. everybody competes with everybody else. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 d. buyers compete with sellers and sellers compete with one another, but buyers do not compete with one another. ANSWER: b 85. How is a class in which students are graded on a curve like a competitive market? a. In both cases, the quantity supplied equals the quantity demanded. b. In a competitive market, demanders compete against one another for goods, the same way students compete for grades. c. In a competitive market, demanders compete against suppliers for goods, the same way students compete for grades. d. If the price is too high, demanders should blame suppliers, the same way students should blame professors for bad grades. ANSWER: b 86. Figure: Demand and Supply
Which statement is TRUE? a. The gains from trade are maximized at 20 units of output. b. At 16 units of output, there are unexploited gains from trade. c. Buyers are willing to pay $20 for the 16th unit of output, and it costs sellers $60 to produce that unit. d. A free market is likely to produce less than 12 units of output. ANSWER: c 87. Figure: Demand and Supply
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Chapter 4
At the equilibrium quantity, total surplus is: a. $960. b. $480. c. $320. d. $240. ANSWER: b 88. Gains from trade are maximized at the: a. equilibrium price and quantity. b. midpoint on the demand curve. c. point at which output is maximized. d. vertical intercept on the supply curve. ANSWER: a 89. Figure: Gains from Trade
What are the unexploited gains from trade at the free market equilibrium? a. $1,000 b. $500 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 c. $0 d. $1,500 ANSWER: c 90. Figure: Gains from Trade
What are the total gains from trade at the free market equilibrium? a. $1,000 b. $500 c. $0 d. $1,500 ANSWER: a 91. Figure: Consumer and Producer Surplus
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Chapter 4 What area represents the total gains from trade at the free market equilibrium? a. triangle AGM b. triangle CGL c. triangle AEG d. triangle DGK ANSWER: a 92. Figure: Consumer and Producer Surplus
What area represents the total consumer surplus from trade at the free market equilibrium? a. triangle AGM b. triangle CGL c. triangle AEG d. triangle EGM ANSWER: c 93. Figure: Consumer and Producer Surplus
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Chapter 4
What area represents the total producer surplus from trade at the free market equilibrium? a. triangle AGM b. triangle CGL c. triangle AEG d. triangle EGM ANSWER: d 94. Figure: Consumer and Producer Surplus
What area represents the unexploited gains from trade when the price is set at B? a. triangle AGM Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. triangle CGL c. triangle AEG d. triangle DGK ANSWER: b 95. Figure: Consumer and Producer Surplus
What area represents the value of wasted resources from trade when the price is set at J? a. triangle AGM b. triangle CGL c. triangle AEG d. triangle DGK ANSWER: d 96. Gains from trade are maximized when: a. the market price is higher than the equilibrium price. b. the market price is less than the equilibrium price. c. the market price is equal to the equilibrium price. d. there are additional potential trades available that have not been completed. ANSWER: c 97. In a free market, when there are unexploited gains from trade: a. the market is slow to adjust to this situation. b. there are sellers who are unwilling to sell at prices buyers are willing to pay. c. there are buyers who are willing to pay more for goods than sellers are asking. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 d. an equilibrium price and quantity have been reached. ANSWER: c 98. In a free market in which an equilibrium price and quantity prevail: a. consumer surplus is less than producer surplus. b. consumer surplus is greater than producer surplus. c. consumer surplus is the same as producer surplus. d. consumer surplus and producer surplus are maximized. ANSWER: d 99. Gains from trade are maximized in a competitive market when: a. quantity supplied equals quantity demanded. b. quantity supplied exceeds quantity demanded. c. quantity demanded exceeds quantity supplied. d. quantity supplied equals zero. ANSWER: a 100. Why is consuming a quantity above equilibrium wasteful? a. because there are willing buyers of the good who do not purchase it b. because resources are used without making society better off c. because it creates a shortage, which generates waste d. because it creates a surplus, which generates waste ANSWER: b 101. Figure: Basic Supply and Demand
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Chapter 4
In a free market, as illustrated in the diagram, total gains from trade are greatest when: a. 60 units are sold at a price of $2. b. 40 units are sold at a price of $3. c. 60 units are sold at a price of $4. d. 50 units are sold at a price of $3. ANSWER: d 102. Figure: Basic Supply and Demand
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Chapter 4 In a free market, as illustrated in the diagram, there are wasted resources when: a. 60 units are sold at a price of $2. b. 40 units are sold at a price of $3. c. 60 units are sold at a price of $4. d. 50 units are sold at a price of $3. ANSWER: a 103. Figure: Basic Supply and Demand
In a free market, as illustrated in the diagram, the unexploited gains from trade are greatest when: a. 60 units are sold at a price of $2. b. 40 units are sold at a price of $4. c. 60 units are sold at a price of $4. d. 50 units are sold at a price of $3. ANSWER: b 104. For suppliers to sell more than the equilibrium quantity, it would mean that: a. it costs suppliers less to produce the good than its value to buyers. b. it costs suppliers more to produce the good than its value to buyers. c. the gains from trade increase. d. suppliers gain from trade while buyers are unaffected. ANSWER: b 105. Figure: Supply and Demand 1 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4
At a market quantity of 5, the shaded region in the figure represents: a. satisfied wants. b. unexploited gains from trade. c. the value of wasted resources. d. willingness to pay. ANSWER: b 106. When the price of a good equals the equilibrium price: a. there will still be some wasted resources. b. gains from trade are minimized. c. opportunity cost is minimized. d. there are no unexploited gains from trade. ANSWER: d 107. Tim values treats for his dog at $10 per box, and John values them at $6 per box. If the price of dog treats is $3 per box but only one box is available between these two buyers, then gains from trade will be maximized when: a. Tim buys the treats. b. John buys the treats. c. either buys the treats, since they both value them more than the market price. d. consumer surplus is equal to $3. ANSWER: a 108. Gains from trade will be maximized at the free market equilibrium price and quantity because the supply Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 of goods is: a. bought by the buyers who have the highest willingness to pay. b. bought by the buyers who have the lowest willingness to pay. c. sold by the sellers with the highest opportunity cost. d. sold by the sellers that minimize producer surplus. ANSWER: a 109. Adali values a new computer at $500. Carsten values a new computer at $750. InfoTech can produce a new computer for $360. Gains from trade are maximized when: a. Adali buys a new computer. b. Carsten buys a new computer. c. both Adali and Carsten buy a new computer. d. neither Adali nor Carsten buys a new computer. ANSWER: c 110. It costs suppliers $1 to produce each additional widget, and widgets sell for $2. Some consumers are not willing to pay $2 for a widget but are nevertheless willing to pay more than $1. Which of the following statements is TRUE? a. The market is at equilibrium. b. Suppliers must be reaping big profits. c. There are unexploited gains from trade. d. Consumers will bid up prices. ANSWER: c 111. When producers produce more than the equilibrium quantity: a. resources are wasted because goods are produced at a higher cost than consumers are willing to pay. b. the market is operating at an abnormally high level of efficiency. c. sellers have an incentive to reduce their price. d. buyers have an incentive to offer a higher price. ANSWER: a 112. The equilibrium quantity is the quantity at which: a. consumers' willingness to pay equals producers' willingness to sell. b. buyers have no unsatisfied wants. c. gains from trade are minimized. d. suppliers' production is maximized. ANSWER: a 113. Figure: Price and Quantity 2 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4
At a cost of $20 per unit, the demanders whose wants are satisfied are represented by the section of the demand curve between the prices of: a. $100 and $80. b. $100 and $50. c. $0 and $100. d. $20 and $80. ANSWER: a 114. Figure: Price and Quantity 2
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Chapter 4
At a cost of $20 per unit, the value of the unexploited gains from trade is represented by areas: a. A + B + E. b. A + B + C + D. c. E + F. d. B + C + E + F. ANSWER: c 115. Figure: Price and Quantity 2
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Chapter 4
At a cost of $20 per unit, the value of the unexploited gains from trade is: a. $200. b. $500. c. $600. d. $900. ANSWER: d 116. Figure: Price and Quantity 3
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Chapter 4
At a quantity of 80 units, it costs sellers _____ to produce the last unit, but buyers value this last unit at _____. a. $80; $50 b. $50; $20 c. $20; $80 d. $80; $20 ANSWER: d 117. Figure: Price and Quantity 3
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Chapter 4
The value of wasted resources at a quantity of 80 units is: a. $800. b. $900. c. $600. d. $200. ANSWER: b 118. Why did Vernon Smith win the Nobel Prize in economics in 2002? a. He created the theory of supply and demand. b. He used laboratory experiments as a tool to confirm the theory of supply and demand. c. He was able to disprove the theory of supply and demand. d. This is a trick question, because Vernon Smith did not win the Nobel Prize. ANSWER: b 119. Laboratory experiments by Vernon Smith support: a. the supply and demand model's usefulness in predicting changes in a free market. b. a market equilibrium where the quantity supplied always exceeds the quantity demanded. c. a market equilibrium where the quantity demanded always exceeds the quantity supplied. d. suspicions that a market equilibrium does not exist in the real world. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 120. In Vernon Smith's supply and demand lab experiment: a. Smith knew the true demand and supply curves, but the subjects did not. b. the subjects did not know their own willingness to pay or sell. c. it took a long time to arrive at equilibrium. d. there were many unrealized gains from trade. ANSWER: a 121. Vernon Smith tested the supply and demand model in the laboratory and found that: a. the results were not consistent with competitive price theory, as he expected. b. buyers and sellers quickly converged on the predicted equilibrium. c. the model may work in real life, but it does not work in the laboratory. d. the buyers with the lowest willingness to pay bought the goods. ANSWER: b 122. Which of the following is a contribution of economist Vernon Smith? a. the idea of movements along the supply and demand curves b. the discovery of equilibrium price c. experimental evidence of equilibrium price d. the theory of demand shocks ANSWER: c 123. Before his pioneering experiments on market equilibrium, Vernon Smith believed that the market equilibrium concept: a. described reality. b. might describe reality. c. did not describe reality. d. may have described reality. ANSWER: c 124. Vernon Smith showed the market equilibrium concept to be: a. unrelated to experimental results. b. inconsistent with experimental results. c. consistent with experimental results. d. not testable in experimental settings. ANSWER: c 125. The September 11 terrorist attacks turned many people away from flying. The demand and supply model would predict which of the following events in the airline travel market? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. The supply of airline travel would decrease, resulting in a higher equilibrium price and a lower equilibrium quantity. b. The supply of airline travel would increase, resulting in a lower equilibrium price and a higher equilibrium quantity. c. The demand for airline travel would decrease, resulting in a lower equilibrium price and a lower equilibrium quantity. d. The supply and demand for airline travel would decrease, resulting in a higher equilibrium price and a higher equilibrium quantity. ANSWER: c 126. The COVID-19 pandemic caused many gyms to close down. The supply and demand model would predict which of the following events in the gym membership market? a. The supply of gym memberships would decrease, resulting in a higher equilibrium price and a lower equilibrium quantity. b. The supply of gym memberships would increase, resulting in a lower equilibrium price and a higher equilibrium quantity. c. The demand for gym memberships would decrease, resulting in a lower equilibrium price and a lower equilibrium quantity. d. The demand for gym memberships would decrease, resulting in a lower equilibrium price and an uncertain change in equilibrium quantity. ANSWER: a 127. The COVID-19 pandemic caused many consumers to be quarantined in their homes. The supply and demand model would predict which of the following events in the market for craft supplies sold by online craft stores? a. The supply of craft supplies sold by online retailers would decrease, resulting in a higher equilibrium price and a lower equilibrium quantity. b. The supply of craft supplies sold by online retailers would increase, resulting in a lower equilibrium price and a higher equilibrium quantity. c. The demand for craft supplies sold by online retailers would increase, resulting in a higher equilibrium price and a higher equilibrium quantity. d. The demand for craft supplies sold by online retailers would decrease, resulting in a lower equilibrium price and a lower equilibrium quantity. ANSWER: c 128. Brazilian rosewood is renowned for its tonal qualities and gorgeous figuring on acoustic guitars. However, Brazilian rosewood is now banned from use in the construction of new guitars. What will likely happen to the price of used Brazilian rosewood guitars over time? a. The price of used Brazilian rosewood guitars will increase because there will be a smaller supply of those guitars on the used market. b. The price of used Brazilian rosewood guitars will decrease as fewer people decide to sell their rosewood guitars. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 c. The price of used Brazilian rosewood guitars will increase at first and then decrease, since an increase in demand raises prices, causing people to buy less of the product. d. The price of used Brazilian rosewood guitars will increase as more people try to cash in by selling their increasingly rare rosewood guitars. ANSWER: a 129. Figure: Market Changes
If the figures represent the market for a popular soda, which figure shows the effect of an increase in the price of a competing energy drink? a. Figure A b. Figure B c. Figure C d. Figure D ANSWER: c 130. Figure: Market Changes
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Chapter 4
If the figures represent the market for wool sweaters, which figure shows the effect of an unseasonably warm winter? a. Figure A b. Figure B c. Figure C d. Figure D ANSWER: d 131. Figure: Market Changes
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Chapter 4
If these figures represent the market for blue jeans, which figure shows the effect of an increase in the price of denim, a raw material used to make jeans? a. Figure A b. Figure B c. Figure C d. Figure D ANSWER: a 132. Figure: Market Changes
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Chapter 4
If these figures represent the market for asparagus, which figure shows the effect of a new disease-resistant asparagus seed? a. Figure A b. Figure B c. Figure C d. Figure D ANSWER: b 133. Figure: Market Changes
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If these figures represent the market for new cars, which figure shows the effect of an economic recession? a. Figure A b. Figure B c. Figure C d. Figure D ANSWER: d 134. If the U.S. government reduces the number of Chinese-made bras that may be imported: a. the equilibrium price will increase and the equilibrium quantity will decrease. b. the demand for bras will increase, leading to a lower equilibrium price. c. the equilibrium price will increase and the equilibrium quantity will increase. d. the equilibrium price will decrease, leading to a higher equilibrium quantity. ANSWER: a 135. Suppose the U.S. government increases the amount of steel that can be exported to foreign countries. What will happen in the domestic market for steel? a. The domestic supply of steel will decrease, leading to a higher equilibrium price. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. The domestic demand for steel will increase, leading to a lower equilibrium price. c. The domestic demand for steel will decrease, leading to a higher equilibrium price. d. The domestic supply of steel will increase, leading to a lower equilibrium price. ANSWER: a 136. Suppose the U.S. government increases the amount of steel that can be exported to foreign countries. What will happen in the domestic market for steel? a. The domestic supply of steel will decrease, leading to a higher equilibrium quantity. b. The domestic demand for steel will increase, leading to a lower equilibrium quantity. c. The domestic demand for steel will decrease, leading to a higher equilibrium quantity. d. The domestic supply of steel will increase, leading to a lower equilibrium quantity. ANSWER: b 137. Suppose a fungus wipes out the tomato crop in the southeast. What will happen in the tomato market? a. The supply of tomatoes will decrease, leading to a higher equilibrium price. b. The demand for tomatoes will increase, leading to a lower equilibrium price. c. The demand for tomatoes will decrease, leading to a higher equilibrium price. d. The supply of tomatoes will increase, leading to a lower equilibrium price. ANSWER: a 138. Suppose a fungus wipes out the tomato crop in the southeast. What will happen in the tomato market? a. The supply of tomatoes will decrease, leading to a higher equilibrium quantity. b. The demand for tomatoes will increase, leading to a lower equilibrium quantity. c. The demand for tomatoes will decrease, leading to a higher equilibrium quantity. d. The supply of tomatoes will increase, leading to a lower equilibrium quantity. ANSWER: b 139. Figure: Demand, Supply Shifts
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Chapter 4 In the figure, the initial demand curve is D1 and the initial supply curve is S1. If technological innovations lower the costs of production, what will happen? a. D1 will shift to D3, and equilibrium price and equilibrium quantity will increase. b. S1 will shift to S2, and equilibrium price will increase but equilibrium quantity will decrease. c. D1 will shift to D2, and equilibrium price and equilibrium quantity will decrease. d. S1 will shift to S3, and equilibrium price will decrease but equilibrium quantity will increase. ANSWER: d 140. Figure: Demand, Supply Shifts
In the figure, the initial demand curve is D1 and the initial supply curve is S1. Suppose this depicts the market for corn. How does the market change when flooding in Iowa destroys a significant amount of the corn crop? a. S1 will shift to S2. b. D1 will shift to D2. c. S1 will shift to S3. d. There will be no change in supply or demand in the market for corn. ANSWER: a 141. Figure: Demand, Supply Shifts
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Chapter 4
In the figure, the initial demand curve is D1 and the initial supply curve is S1. If this depicts the equilibrium in the market for computer printers, what will happen when the price of computers increases? a. S1 will shift to S2. b. D1 will shift to D2. c. D1 will shift to D3. d. S1 will shift to S3. ANSWER: b 142. Figure: Demand, Supply Shifts
In the figure, the initial demand curve is D1 and the initial supply curve is S1. Resource prices in this market increase; at the same time, the consumer population declines as migration causes an outflow of population to other regions. What happens to the supply curve and/or demand curve? a. S1 shifts to S2, but then shifts back to S1. D1 remains at D1. b. S1 shifts to S3, and D1 shifts to D2. c. S1 shifts to S2, and D1 shifts to D3. d. S1 shifts to S2, and D1 shifts to D2. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: d 143. Which of the following would increase the demand for beef? a. lower pork prices b. higher consumer income c. higher prices of feed grains used to feed beef cattle d. an increase in the price of beef ANSWER: b 144. Suppose there is an increase in demand in a market and no change in supply. What will happen to the market equilibrium price and quantity? a. Equilibrium price will rise; equilibrium quantity will rise. b. Equilibrium price will rise; equilibrium quantity will fall. c. Equilibrium price will fall; equilibrium quantity will rise. d. Equilibrium price will fall; equilibrium quantity will fall. ANSWER: a 145. Suppose there is a decrease in demand and no change in supply. What will happen to the market equilibrium price and quantity? a. Equilibrium price will rise; equilibrium quantity will rise. b. Equilibrium price will rise; equilibrium quantity will fall. c. Equilibrium price will fall; equilibrium quantity will rise. d. Equilibrium price will fall; equilibrium quantity will fall. ANSWER: c 146. An increase in supply and a decrease in demand occur in a market. What happens to the equilibrium price and quantity? a. The equilibrium price decreases; the change in the equilibrium quantity is uncertain. b. The equilibrium price decreases; the equilibrium quantity increases. c. The equilibrium price increases; the change in the equilibrium quantity is uncertain. d. The equilibrium price increases; the equilibrium quantity decreases. ANSWER: a 147. An increase in demand and a decrease in supply occur in a market. What happens to the equilibrium price and quantity? a. The equilibrium price decreases; the change in the equilibrium quantity is uncertain. b. The equilibrium price decreases; the equilibrium quantity increases. c. The equilibrium price increases; the change in the equilibrium quantity is uncertain. d. The equilibrium price increases; the equilibrium quantity decreases. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: c 148. An early frost in the vineyards of Napa Valley would cause a(n): a. increase in the demand for wine, increasing price. b. increase in the supply of wine, decreasing price. c. decrease in the demand for wine, decreasing price. d. decrease in the supply of wine, increasing price. ANSWER: d 149. After adjusting for inflation, a comparison of the price of leg warmers reveals that the price was significantly higher in the 1980s than it is today. Which of the following can explain this? a. Since the 1980s jeans have become preferable to leg warmers, decreasing the demand for leg warmers. b. New regulation on the importing of leg warmers made abroad decreased the supply of leg warmers to the United States. c. An increase in the price of cotton used to make leg warmers has led to a decrease in the price of leg warmers today. d. The expected increase in the price of yarn has led to a decrease in the price of leg warmers today. ANSWER: a 150. Which of the following might explain why the price of DVD players has been falling? a. an increase in consumer income b. an increase in the availability of video streaming services c. a decrease in the price of DVDs d. an increase in the price of gasoline ANSWER: b 151. Which of the following would cause the demand for televisions to decrease? a. an economic boom, which increases the amount that people are willing to spend on personal electronics b. an increase in the number of video streaming services that allow consumers to watch television programs on their cell phones and computers c. producers expecting that the future price of televisions will decrease d. an increase in the wages offered to technicians producing televisions ANSWER: b 152. Which of the following would NOT lead to a decrease in the price of domestic automobiles? a. an increase in the price of foreign-made automobiles b. an economic recession, which decreases consumer income c. a decrease in the wages paid to union auto workers Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 d. an increase in the number of domestic automakers ANSWER: a 153. Immediately after a hurricane, it is likely that the quantity demanded for tree cutting/removal services will _____ the quantity supplied, causing the price of tree cutting/removal services to _____. a. equal; remain unchanged b. be less than; rise c. exceed; rise d. decrease; fall ANSWER: c 154. Figure: Supply-Driven Price Change
When the supply curve shifts from S0 to S1, the equilibrium price rises to: a. $12 and the equilibrium quantity falls to 70. b. $10 and the equilibrium quantity falls to 100. c. $12 and the equilibrium quantity falls to 40. d. $10 and the equilibrium quantity falls to 70. ANSWER: a 155. Five new sellers enter a market (that previously had seven) and begin producing a good. Which of the following choices explains what happens to the equilibrium Q and P? a. The demand curve will shift to the right, and the equilibrium P and Q will both rise. b. The supply curve will shift to the right, the equilibrium P will fall, and the equilibrium Q will rise. c. The supply curve will shift to the left, the equilibrium P will fall, and the equilibrium Q will rise. d. The supply curve will shift to the right, the equilibrium P will rise, and the equilibrium Q will fall. ANSWER: b 156. In markets for manufactured goods, a new form of 3-D printing that lowers production costs will lead to: a. an increase in demand, a decrease in quantity demanded, and an increase in price. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. an increase in supply, an increase in quantity demanded, and a decrease in price. c. a decrease in demand, an increase in quantity supplied, and a decrease in price. d. an increase in supply, an increase in quantity demanded, and an increase in price. ANSWER: b 157. If the government institutes a tax on suppliers of Cheesy-Poofs, the market for Cheesy-Poofs will see: a. a decrease in demand, a decrease in quantity supplied, and an increase in price. b. an increase in supply, a decrease in quantity supplied, and an increase in price. c. a decrease in supply, an increase in quantity demanded, and an increase in price. d. a decrease in supply, a decrease in quantity demanded, and an increase in price. ANSWER: d 158. If hipsters decide that Pabst Blue Ribbon has become cliché and they seek out a more iconic beverage, what will happen in the market for PBR? a. Demand will decrease, quantity demanded will decrease, and price will increase. b. Supply will decrease, quantity demanded will decrease, and price will decrease. c. Demand will decrease, quantity supplied will decrease, and price will decrease. d. Demand will decrease, quantity supplied will increase, and price will decrease. ANSWER: c 159. If the price of Netflix decreases, what will happen in the market for Hulu? a. Demand will decrease, quantity demanded will decrease, and price will increase. b. Supply will decrease, quantity demanded will decrease, and price will decrease. c. Demand will decrease, quantity supplied will decrease, and price will decrease. d. Demand will decrease, quantity supplied will increase, and price will decrease. ANSWER: c 160. If the price of ground beef increases, what will happen in the market for steak? a. Demand will increase, quantity supplied will increase, and price will increase. b. Supply will increase, quantity supplied will increase, and price will decrease. c. Demand will increase, quantity supplied will decrease, and price will decrease. d. Demand will decrease, quantity supplied will increase, and price will decrease. ANSWER: a 161. For most of human history, salt was a rare and valuable commodity that had to be either mined or extracted from the ocean through evaporation. This changed when modern chemistry allowed humans to produce it in factories. How did this development affect the market for salt? a. Demand increased, causing the price to rise. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. Demand increased, causing the price to fall. c. Supply increased, causing the price to rise. d. Supply increased, causing the price to fall. ANSWER: d 162. How did the spread of the Internet affect the market for newspapers? a. Demand increased, causing the price to rise. b. Demand decreased, causing the price to fall. c. Supply decreased, causing the price to rise. d. Supply increased, causing the price to fall. ANSWER: b 163. How did the spread of the Internet affect the market for news (regardless of source)? a. Demand increased, causing the price to rise. b. Demand decreased, causing the price to fall. c. Supply decreased, causing the price to rise. d. Supply increased, causing the price to fall. ANSWER: d 164. If supply decreases and its slope remains the same, consumer surplus: a. increases. b. decreases. c. stays the same. d. cannot be determined given the information provided. ANSWER: b 165. If demand increases, what happens with the supply curve? a. The supply increases. b. The supply decreases. c. There is a movement rightward along the supply curve. d. There is a movement leftward along the supply curve. ANSWER: c 166. A(n) _____ causes the equilibrium price to _____ and equilibrium quantity to _____. a. decrease in supply; rise; fall b. decrease in demand; fall; rise c. increase in supply; rise; rise d. increase in demand; rise; fall Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: a 167. An increase in demand causes a: a. temporary shortage at the old equilibrium price and a higher new equilibrium price and quantity. b. permanent shortage, leaving the equilibrium price and quantity unchanged. c. temporary surplus at the old equilibrium price and a lower equilibrium price and quantity. d. temporary shortage at the old equilibrium price, a higher new equilibrium price, and a lower new equilibrium quantity. ANSWER: a 168. Which of the following events will cause a decrease in the equilibrium price? a. a government tax on output b. a decrease in income for an inferior good c. an increase in the price of a substitute good d. lower input prices ANSWER: d 169. What can cause both equilibrium price and quantity to increase? a. an increase in the price of a complement good b. a decrease in the population c. consumer tastes becoming more favorable toward the good d. an increase in the number of sellers ANSWER: c 170. What effect do computer chip sellers' expectations of falling chip prices in the coming months have on the current computer chip market? a. The supply of computer chips increases, pushing down the equilibrium price and quantity. b. The supply of computer chips increases, pushing down the equilibrium price and increasing the equilibrium quantity. c. The demand for computer chips increases, pushing down the equilibrium price and increasing the equilibrium quantity. d. The demand for computer chips decreases, pushing down the equilibrium price and increasing the equilibrium quantity. ANSWER: b 171. What will happen in the market for cotton as a result of a severe drought? a. The demand for cotton will decrease, causing the equilibrium price to fall and equilibrium quantity to fall. b. The demand for cotton will increase, causing the equilibrium price to rise and equilibrium quantity to Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 rise. c. The supply of cotton will decrease, causing the equilibrium price to fall and equilibrium quantity to fall. d. The supply of cotton will decrease, causing the equilibrium price to rise and equilibrium quantity to fall. ANSWER: d 172. Many car buyers use credit to purchase their new cars. What effect does a decrease in interest rates have on the market for new cars? a. The supply of new cars increases, decreasing the price of new cars. b. The supply of new cars decreases, increasing the price of new cars. c. The demand for new cars increases, increasing the price of new cars. d. The demand for new cars decreases, decreasing the price of new cars. ANSWER: c 173. Many home buyers use mortgages to purchase new homes. What effect does an increase in interest rates have on the market for new homes? a. The supply of new homes increases, decreasing the price of new homes. b. The supply of new homes decreases, increasing the price of new homes. c. The demand for new homes increases, increasing the price of new homes. d. The demand for new homes decreases, decreasing the price of new homes. ANSWER: d 174. Imagine a free market in equilibrium. After a sudden increase in demand (but before the price can adjust), the market experiences: a. a shortage. b. a surplus. c. no change. d. a new equilibrium. ANSWER: a 175. Imagine a free market in equilibrium. After a sudden decrease in demand (but before the price can adjust), the market experiences: a. a shortage. b. a surplus. c. no change. d. a new equilibrium. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 176. Imagine a free market in equilibrium. After a sudden increase in supply (but before the price can adjust), the market experiences: a. a shortage. b. a surplus. c. no change. d. a new equilibrium. ANSWER: b 177. Imagine a free market in equilibrium. After a sudden decrease in supply (but before the price can adjust), the market experiences: a. a shortage. b. a surplus. c. its initial equilibrium. d. a new equilibrium. ANSWER: a 178. If demand increases, ceteris paribus, market price will be _____ at the new equilibrium point. a. higher b. lower c. the same d. either higher or lower ANSWER: a 179. Immediately following a decrease in the demand for a product, a _____ occurs, which puts _____ pressure on prices. a. surplus; upward b. surplus; downward c. shortage; upward d. shortage; downward ANSWER: b 180. Immediately following an increase in the demand for a product, a _____ occurs, which puts _____ pressure on prices. a. surplus; upward b. surplus; downward c. shortage; upward d. shortage; downward ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 181. Immediately following a decrease in the supply of a product, a _____ occurs, which puts _____ pressure on prices. a. surplus; upward b. surplus; downward c. shortage; upward d. shortage; downward ANSWER: c 182. Immediately following an increase in the supply of a product, a _____ occurs, which puts _____ pressure on prices. a. surplus; upward b. surplus; downward c. shortage; upward d. shortage; downward ANSWER: b 183. If demand decreases, ceteris paribus, market price will be _____ at the new equilibrium point. a. higher b. lower c. the same d. either higher or lower ANSWER: b 184. If supply increases, ceteris paribus, market price will be _____ at the new equilibrium point. a. higher b. lower c. the same d. either higher or lower ANSWER: b 185. If supply decreases, ceteris paribus, market price will be _____ at the new equilibrium point. a. higher b. lower c. the same d. either higher or lower ANSWER: a 186. If demand increases, ceteris paribus, the quantity exchanged will be _____ at the new market equilibrium point. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. larger b. smaller c. the same d. either larger or smaller ANSWER: a 187. If demand decreases, ceteris paribus, the quantity exchanged will be _____ at the new market equilibrium point. a. larger b. smaller c. the same d. either larger or smaller ANSWER: b 188. If supply increases, ceteris paribus, the quantity exchanged will be _____ at the new market equilibrium point. a. larger b. smaller c. the same d. either larger or smaller ANSWER: a 189. If supply decreases, ceteris paribus, the quantity exchanged will be _____ at the new market equilibrium point. a. larger b. smaller c. the same d. either larger or smaller ANSWER: b 190. Figure: Supply and Demand 2
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Chapter 4
What happens as a result of the change in demand in the diagram? a. a decrease in both the equilibrium price and the equilibrium quantity b. an increase in both the equilibrium price and the equilibrium quantity c. an increase in the equilibrium price and a decrease in the equilibrium quantity d. a decrease in the equilibrium price and an increase in the equilibrium quantity ANSWER: b 191. If market demand decreases: a. equilibrium price and quantity will both increase. b. equilibrium price and quantity will both decrease. c. equilibrium price will increase but equilibrium quantity will decrease. d. equilibrium price will decrease but equilibrium quantity will increase. ANSWER: b 192. If market supply increases: a. equilibrium price and quantity will both increase. b. equilibrium price and quantity will both decrease. c. equilibrium price will increase but equilibrium quantity will decrease. d. equilibrium price will decrease but equilibrium quantity will increase. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 193. If equilibrium price increases while equilibrium quantity decreases, then we know that: a. market demand has increased. b. market demand has decreased. c. market supply has decreased. d. market supply has increased. ANSWER: c 194. Following the release of a new study showing even more benefits to drinking red wine, economists expect: a. a shortage of red wine until the price rises. b. a surplus of red wine until the price falls. c. that both the price and quantity of red wine will decrease. d. that the supply of red wine will increase immediately. ANSWER: a 195. After a hurricane in Florida destroys half of the orange crop, economists predict: a. an increase in both orange prices and orange sales. b. a decrease in both orange prices and orange sales. c. an increase in orange prices and a decrease in orange sales. d. a decrease in orange prices and an increase in orange sales. ANSWER: c 196. Lower gasoline prices have led to an increase in the demand for large SUVs. Consequently, in the market for SUVs, economists are predicting: a. an increase in both the price and quantity of sales. b. a decrease in both the price and quantity of sales. c. an increase in the price of sales and a decrease in the quantity of sales. d. a decrease in the price of sales and an increase in the quantity of sales. ANSWER: a 197. When supply decreases, there is a _____ at the old equilibrium price, which puts _____ pressure on price until the market reaches the new equilibrium. a. surplus; downward b. surplus; upward c. shortage; upward d. shortage; downward ANSWER: c 198. When demand increases, there is a _____ at the old equilibrium price, which puts _____ pressure on price Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 until the market reaches the new equilibrium. a. surplus; downward b. surplus; upward c. shortage; upward d. shortage; downward ANSWER: c 199. Figure: Demand Shift
In the figure, the demand curve shifted from D0 to D1. To describe this movement, we would say that: a. demand increased, which caused an increase in supply. b. quantity demanded increased, which caused an increase in supply. c. demand increased, which caused an increase in quantity supplied. d. quantity demanded increased, which caused an increase in quantity supplied. ANSWER: c 200. Figure: Supply Shift
In the figure, the supply curve shifted from S0 to S1. To describe this movement, we would say that: a. demand decreased, which caused a decrease in supply. b. supply decreased, which caused a decrease in quantity demanded. c. supply decreased, which caused a decrease in demand. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 d. supply increased, which caused a decrease in quantity demanded. ANSWER: b 201. Technological advances have increased the supply of digital cameras. As a result, the: a. demand for digital cameras will increase, putting downward pressure on the price of digital cameras. b. quantity demanded for digital cameras will increase. c. quantity supplied of digital cameras will increase, putting downward pressure on the price of digital cameras. d. demand and supply of digital cameras will both increase. ANSWER: b 202. When you move along a demand curve: a. only price is held constant. b. income and the price of the good are held constant. c. all non-price determinants of demand are held constant. d. all determinants of quantity demanded are held constant. ANSWER: c 203. When you move along a demand curve: a. only the price is held constant. b. there is a change in quantity demanded. c. there is a change in demand. d. all determinants of quantity demanded are held constant. ANSWER: b 204. When the supply curve shifts to the right: a. only the price is held constant. b. there is a decrease in supply. c. there is a change in quantity supplied. d. there is an increase in supply. ANSWER: d 205. A demand curve shows the relationship between: a. quantity demanded and quantity supplied, which are positively related. b. quantity demanded and quantity supplied, which are negatively related. c. price and quantity demanded, which are positively related. d. price and quantity demanded, which are negatively related. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 206. When the price of a good decreases: a. the quantity demanded increases. b. demand increases. c. the quantity supplied increases. d. supply increases. ANSWER: a 207. When the price of a good increases, demand for the good will: a. increase. b. decrease. c. be unaffected. d. depend on the corresponding change in supply. ANSWER: c 208. Figure: Supply and Demand 3
Which of the following statements applies to the diagram? a. An increase in supply causes an increase in quantity demanded. b. A decrease in supply causes an increase in quantity demanded. c. An increase in supply causes an increase in demand. d. A decrease in supply causes a decrease in demand. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: a 209. An increase in the quantity supplied results in: a. a shift of the supply curve to the left. b. a shift of the supply curve to the right. c. a movement upward and to the right along the supply curve. d. a movement downward and to the left along the supply curve. ANSWER: c 210. Figure: Four Panel 1
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Chapter 4
Which of the four panels shows an increase in the quantity supplied? a. Panel A b. Panel B c. Panel C d. Panel D ANSWER: b 211. Figure: Four Panel 2 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4
Which of the four panels shows an increase in income on an inferior good? a. Panel A b. Panel B c. Panel C d. Panel D ANSWER: a 212. An increase in the demand for organic foods will lead to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. an increase in the price, and hence an increase in the supply of organic foods. b. an increase in the price, and hence an increase in the quantity supplied of organic foods. c. a decrease in the price, and hence a decrease in the supply of organic foods. d. a decrease in the price, and hence a decrease in the quantity supplied of organic foods. ANSWER: b 213. What is the difference between a shift in the demand curve and a movement along the demand curve? a. A shift is a reaction to a movement along the demand curve. b. A shift implies a change in the whole demand curve; a movement does not. c. A shift conveys a change in the opportunity cost; a movement does not. d. A shift creates a new equilibrium price; a movement creates a new equilibrium quantity. ANSWER: b 214. What is the difference between a change in demand and a change in quantity demanded? a. A change in demand requires a movement along the demand curve; a change in quantity demanded does not. b. A change in demand shifts the entire curve; a change in quantity demanded means that the price changed. c. A change in quantity demanded means that consumer preferences have changed. d. A change in demand creates a new market equilibrium; a change in quantity demanded does not. ANSWER: b 215. Figure: Price and Quantity 4
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Chapter 4 If the figure depicts a market for an inferior good, which of the following statements describes what could have happened? a. Consumer income increased, causing an increase in demand and an increase in supply. b. Consumer income decreased, causing an increase in demand and an increase in quantity supplied. c. The price of a substitute good increased, causing an increase in quantity demanded and an increase in quantity supplied. d. Consumers expect lower future prices, causing an increase in demand and an increase in supply. ANSWER: b 216. A technological innovation in the production of golf balls increases _____, causing the price to _____ and the _____. a. supply; fall; quantity demanded to increase b. the quantity supplied; fall; quantity demanded to increase c. supply; rise; demand to decrease d. supply; fall; demand to increase ANSWER: a 217. In the market for a normal good, an increase in income will cause an increase in _____, an increase in quantity _____, and a(n) _____ in price. a. demand; supplied; increase b. demand; supplied, decrease c. supply; demanded; decrease d. supply; demanded; increase ANSWER: a 218. Which choice explains how the OPEC crisis of 1973 affected oil prices? a. The supply of oil was reduced, leading to a rise in oil prices. b. The supply of oil was increased, leading to a fall in oil prices. c. The demand for oil increased, leading to a rise in oil prices. d. The demand for oil decreased, leading to a fall in oil prices. ANSWER: a 219. The Arab Oil Embargo of 1973, the Iranian Revolution of 1979, and the Gulf War of 1991 all affected oil prices by: a. increasing the demand for oil. b. reducing the supply of oil. c. reducing the demand for oil. d. increasing the supply of oil. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 220. Economic growth in China led to more Chinese people owning cars, which: a. increased demand for oil, causing oil prices to rise. b. decreased demand for oil, causing oil prices to rise. c. increased demand for oil but decreased supply, causing oil prices to increase rapidly. d. increased demand and supply of oil, causing oil prices to increase rapidly. ANSWER: a 221. When Asian countries went into a recession in 1997, the demand for oil _____ and the price of oil _____. a. increased; increased b. decreased; increased c. decreased; decreased d. increased; decreased ANSWER: c 222. OPEC is able to raise oil prices by: a. increasing the demand for oil. b. decreasing the supply of oil by cutting production. c. decreasing transportation costs, a complement to oil. d. subsidizing the oil production of developing countries. ANSWER: b 223. In 1980, when Iraq attacked Iran, the price of oil _____ because of a(n) _____. a. increased; disruption in the supply of oil b. increased; decrease in the demand for oil c. fell; increased demand for oil d. fell; increased quantity of oil supplied ANSWER: a 224. Which statement most accurately explains the upward trend in the market price of oil between 2000 and 2014? a. The supply of oil has increased faster than the demand for oil has increased. b. Both the demand for and the supply of oil have decreased. c. The demand for oil has increased faster than the supply of oil has increased. d. The demand for oil has decreased while the supply of oil has increased. ANSWER: c 225. What effect did the 1997 East Asian recession in countries such as South Korea, Indonesia, and Thailand have on the oil market? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. The recession decreased income, made the world more dependent on oil, and increased oil demand and prices. b. The recession led to high unemployment and reduced the demand for driving and the supply of oil. c. The recession decreased income and reduced the demand for oil and oil prices. d. The recession led to high unemployment, increased demand for Sunday driving, and increased oil prices. ANSWER: c 226. The growing economies of China and India have increased the demand for: a. oil, leading to higher oil prices in the early part of the twenty-first century. b. automobiles, leading to rising oil supplies and falling prices. c. automobiles, leading to a decrease in the supply of oil and rising oil prices. d. oil, leading to lower oil prices in the early part of the twenty-first century. ANSWER: a 227. Figure: Four Panel 3
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Chapter 4
Which of the panels shows the effect of a negative supply shock? a. Panel A b. Panel B c. Panel C d. Panel D ANSWER: d 228. The price of gasoline decreased dramatically in the summer of 2009. One likely reason for this change Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 was: a. a shortage in the supply of oil worldwide. b. riots in the Middle East that disrupted oil shipments. c. a decrease in the demand for gasoline brought on by the recession. d. strong economic growth in China that increased the demand for automobiles. ANSWER: c 229. Why is the world unlikely to ever literally run out of oil? a. There is an unlimited supply of oil. b. As the cheap-to-produce oil gets used up, the price of oil will rise, encouraging conservation and production using more expensive techniques. c. The demand for oil is not very high. d. As the demand for oil increases, the quantity supplied increases as well. ANSWER: b 230. If scientists discover a new form of energy that cuts the cost of producing electricity to the equivalent of $10 a barrel, what will happen to the market for oil? a. The price of oil will rise because of the competition from the new energy source. b. The supply of oil will decrease because few suppliers can profitably produce oil at $10 a barrel. c. There will be no effect on the market for oil. d. Demand for oil will decrease over time since no one will pay more than $10 for a barrel of oil to produce energy. ANSWER: d 231. The United Nations estimates that Earth's population growth rate will slow down by the year 2050, at which time population may start to decrease. If technological change allows the supply of oil to increase at a constant rate, and nothing else changes, what effect will a slowdown in population growth have on the price of oil? a. Demand will increase during this period, and the price of oil will continue to increase beyond 2050. b. Demand will increase more slowly during this period, but since supply is growing at a constant rate, the rate of price increase will fall, and ultimately the price of oil may begin to fall. c. Demand will increase, raising the quantity supplied. Since the quantity supplied will increase, the price must go down. d. The supply of oil will fall and prices will rise. ANSWER: b 232. When there is a recession, the price of oil tends to fall because: a. people drive more during recessions while looking for employment. b. the supply of oil increases during a recession, due to technological change. c. the prices of substitutes for oil rise during recessions. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 d. incomes fall during a recession, and oil is a normal good. ANSWER: d 233. Since improved technology continually lowers the cost of discovering and producing oil, how can rising oil prices in recent years be explained? a. This is evidence against the supply and demand model. b. Demand has increased more than supply has increased, raising prices. c. Prices always rise when supply shifts down and to the right. d. Oil is one of the few commodities that do not follow the supply and demand model. ANSWER: b 234. At the free market equilibrium, the quantity demanded minus the quantity supplied equals zero. a. True b. False ANSWER: a 235. The price of professional sports tickets is high; therefore, you should blame the owners for taking advantage of the fans, not the other buyers for outbidding you. a. True b. False ANSWER: b 236. A market shortage can be defined as a situation in which the quantity supplied in a market is greater than the quantity demanded, at the given price. a. True b. False ANSWER: b 237. A market surplus can be defined as a situation in which the quantity demanded in a market is less than the quantity supplied, at the given price. a. True b. False ANSWER: a 238. At the equilibrium price, quantity demanded is equal to quantity supplied. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 239. Surpluses drive price up while shortages drive price down. a. True b. False ANSWER: b 240. A shortage will occur at any price below equilibrium price, and a surplus will occur at any price above equilibrium price. a. True b. False ANSWER: a 241. When a shortage occurs, the market price increases. a. True b. False ANSWER: a 242. When the market price is above the equilibrium, the price will increase over time. a. True b. False ANSWER: b 243. The equilibrium price and quantity are the only price and quantity that are stable in a free market. a. True b. False ANSWER: a 244. If the equilibrium price is achieved, all willing demanders become buyers. a. True b. False ANSWER: b 245. A shortage occurs when consumers want to buy more goods than sellers are making available. a. True b. False ANSWER: a 246. With an equilibrium price of $10, a price of $10.99 would create an excess supply. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. True b. False ANSWER: a 247. In a free market, the market moves to an equilibrium because buyers compete against sellers to get the lowest possible prices. a. True b. False ANSWER: b 248. In a competitive market, sellers compete with other sellers. a. True b. False ANSWER: a 249. In a competitive market, buyers compete with sellers. a. True b. False ANSWER: b 250. In a market diagram, demand and supply cross each other at the equilibrium point. a. True b. False ANSWER: a 251. The equilibrium price is unstable because sellers have an incentive to lower their price to sell more goods. a. True b. False ANSWER: b 252. The free market maximizes the gains from trade, producing the level of output that maximizes consumer surplus plus producer surplus. a. True b. False ANSWER: a 253. In a free market equilibrium, the gains from trade are always greater for consumers than for producers. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 b. False ANSWER: b 254. The sum of consumer and producer surplus increases when producers sell more than the market equilibrium quantity. a. True b. False ANSWER: b 255. If market transactions equal the equilibrium quantity, there may still be unexploited gains from trade. a. True b. False ANSWER: b 256. In a free market, gains from trade are maximized when people act in their own self-interest. a. True b. False ANSWER: a 257. If the equilibrium quantity in a market is 200, resources will be wasted and society made poorer if 250 units are produced. a. True b. False ANSWER: a 258. Free markets maximize consumer plus producer surplus regardless of the level of competition. a. True b. False ANSWER: b 259. The government must subsidize firms to ensure that there are no unexploited gains from trade. a. True b. False ANSWER: b 260. At the free market equilibrium, there are no unexploited gains from trade. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: a 261. At the competitive market equilibrium, the buyers who purchase the product have the highest willingness to pay. a. True b. False ANSWER: a 262. If firms produce a quantity that is greater than the equilibrium quantity, then unexploited gains from trade exist. a. True b. False ANSWER: b 263. In order for the gains of trade to be maximized, everyone whose willingness to pay for the good is greater than zero must receive it. a. True b. False ANSWER: b 264. Economic experiments suggest that the real world closely follows theoretical supply and demand. a. True b. False ANSWER: a 265. Vernon Smith, Nobel Prize–winning economist, revolutionized economics by testing the model of demand and supply in experimental settings. a. True b. False ANSWER: a 266. If a frost destroys half of the orange crop in Florida, the equilibrium price of oranges will rise. a. True b. False ANSWER: a 267. The government plans to increase cigarette taxes in six months. Since consumers should expect the future price of cigarettes to increase, the current demand for cigarettes will increase, and the price of cigarettes will rise even before the tax is implemented. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. True b. False ANSWER: a 268. When the demand curve shifts, equilibrium price and quantity exchanged move in opposite directions. a. True b. False ANSWER: b 269. An increase in the wages of fruit pickers will ultimately lead to a decrease in the supply of fruit and hence an increase in the price of fruit. a. True b. False ANSWER: a 270. A decrease in demand for a good will lead to a decrease in the price of the good, but an increase in the quantity supplied. a. True b. False ANSWER: b 271. The equilibrium price will increase if demand and supply both increase by equal amounts. a. True b. False ANSWER: b 272. An increase in supply causes a temporary surplus at the old equilibrium price. a. True b. False ANSWER: a 273. An increase in supply raises the equilibrium price and increases the equilibrium quantity. a. True b. False ANSWER: b 274. Oil increased in price from around $20 a barrel in 1997 to over $80 per barrel in 2014. A possible explanation for this increase is that demand increased faster than supply increased. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. True b. False ANSWER: a 275. There is no difference between saying that there is a change in supply and saying that there is a change in the quantity supplied. a. True b. False ANSWER: b 276. An increase in the quantity supplied causes the supply curve to shift down and to the right. a. True b. False ANSWER: b 277. An increase in the price of a good will decrease DEMAND for that good. a. True b. False ANSWER: b 278. An increase in quantity demanded is a shift in the entire demand curve. a. True b. False ANSWER: b 279. An increase in quantity demanded is a movement along a fixed demand curve caused by a shift in the supply curve. a. True b. False ANSWER: a 280. An increase in demand causes an increase in quantity supplied, which causes a decrease in price. a. True b. False ANSWER: b 281. A decrease in supply raises the price of a good, but it also decreases the quantity demanded, which lowers the price of a good. The net effect on price is ambiguous. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 a. True b. False ANSWER: b 282. There is a positive relationship between price and quantity demanded. a. True b. False ANSWER: b 283. There is a positive relationship between price and quantity supplied. a. True b. False ANSWER: a 284. An increase in the price of granite would result in a decrease in the DEMAND for granite countertops. a. True b. False ANSWER: b 285. An increase in the price of corn will lead to a decrease in the DEMAND for corn. a. True b. False ANSWER: b 286. A decrease in the supply of milk will lead to a decrease in the QUANTITY DEMANDED of milk. a. True b. False ANSWER: a 287. The formation of the Organization of the Petroleum Exporting Countries (OPEC) made it easier for these oil-producing countries to act together and successfully limit the supply of oil, thus raising prices. a. True b. False ANSWER: a 288. Economic growth in China and India has reduced the world supply of oil. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 ANSWER: b 289. War in the Middle East tends to cause a decrease in the world supply of oil. a. True b. False ANSWER: a 290. A market can be described by the equations Qd = 100 – P and Qs = –20 + P. Calculate the equilibrium price and quantity in this market. ANSWER: Equilibrium price is $60, and equilibrium quantity is 40. 291. A market can be described by the equations Qd = 60 – 6P and Qs = 4P. Calculate the equilibrium price and quantity in this market. ANSWER: Equilibrium price is $6, and equilibrium quantity is 24. 292. The quantity demanded for wireless computer mouses is Qd = 500 – 1.75P, and the quantity supplied is Qs = 450 + 0.25P. a. Calculate the equilibrium price and quantity. b. Is total surplus maximized at 440 mouses? Explain. c. If the market price is currently $10, is there a shortage or surplus of mouses? How do you know? d. If the market price is $40, is there a shortage or surplus of mouses? How do you know? ANSWER: a. Qd = Qs 500 – 1.75P = 450 + 0.25P 50 = 2P P = $25 Q = 450 + 0.25(25) = 456.25 b. No. The quantity that maximizes total surplus is the equilibrium quantity. At 440 mouses, there are still gains from trade to be made. c. Qd = 500 – 1.75(10) = 482.5. Qs = 450 + 0.25(10) = 452.5. There is a shortage of 30 mouses, since Qd exceeds Qs. d. Qd = 500 – 1.75(40) = 430. Qs = 450 + 0.25(40) = 460. There is a surplus of 30 mouses, since Qs exceeds Qd. 293. A market can be described by the equations Qd = 100 – P and Qs = –20 + P. At a price of $40, will this market experience a shortage or a surplus, and what is the amount of this shortage or surplus? ANSWER: Equilibrium price is $60, and equilibrium quantity is 40. At a price of $40, there is a shortage. Qd = 100 – (40) = 60. Qs = –20 + (40) = 20. Therefore, there is a shortage (excess demand) of 40 units. 294. A market can be described by the equations Qd = 200 – 3P and Qs = –50 + 2P. At a price of $40, will this Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 market experience a shortage or a surplus, and what is the amount of this shortage or surplus? ANSWER: Equilibrium price is $50, and equilibrium quantity is 50. At a price of $40, there is a shortage. Qd = 200 – (40 × 3) = 80. Qs = –50 + 2(40) = 30. Therefore, there is a shortage (excess demand) of 80 – 30 = 50 units. 295. A market can be described by the equations Qd = 300 – 4P and Qs = 6P. At a price of $40, will this market experience a shortage or a surplus, and what is the amount of this shortage or surplus? Will this market return to equilibrium? Why or why not? ANSWER: Equilibrium price is $30, and equilibrium quantity is 180. At a price of $40, there is a surplus. Qd = 300 – 4(40) = 140. Qs= 6(40) = 240. Therefore, there is a surplus (excess supply) of 100 units. Yes, the market will return to the old equilibrium because sellers will lower prices in their attempts to sell their unsold stock. As the prices lower, quantities sold will increase until demand meets supply again. 296. In the long run, will the market price for a good/service always equal the equilibrium price? Explain why or why not. ANSWER: Yes, due to the invisible hand. If prices are too high (i.e., above the equilibrium price), excess supply drives the price down. If prices are too low (i.e., below the equilibrium price), excess demand drives price up. 297. A free market can be described by the equations Qd = 100 – P and Qs = –20 + P. What are the equilibrium conditions in this market (that is, find equilibrium P and Q), and what are the maximum gains from trade in this market? ANSWER: Price is $60, and equilibrium quantity is 40. Total gains from trade are $1,600. 298. A free market can be described by the equations Qd = 180 – 3P and Qs = –50 + 2P. What are the equilibrium conditions in this market (i.e., find equilibrium P and Q), and what are the maximum gains from trade in this market? ANSWER: The equilibrium price is $46, and equilibrium quantity is 42. Total gains from trade are $735. 299. Consider the market for electric guitars, a normal good. Use well-labeled supply and demand diagrams to illustrate the effects of the following events on the market for electric guitars. a. Consumer income increases. b. The price of wood increases. c. The price of electric amplifiers decreases. d. There is a decrease in the price of bass guitars, a substitute for electric guitars. e. The government eliminates taxes on the producers of electric guitars. f. Many new electric guitar companies are started by an influx of immigrants.
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Chapter 4 ANSWER:
300. Suppose the price of oil is falling due to a drop-off in demand after the summer driving season. Explain what a group of oil-producing nations (like OPEC) that control a significant amount of the world's oil supplies could do to keep prices (and hence profits) high. ANSWER: OPEC nations would want to decrease the supply of oil on world markets, since a decrease in supply would lead to an increase in the price of oil. 301. Draw a market demand curve and market supply curve for automobiles and label these curves D1 and S1, respectively. (Be sure to label all axes!) On the same graph, show what would happen if the auto workers union required all manufacturers of automobiles to now provide health insurance for ALL workers and their dependents. (Note: Assume that prior to this change, manufacturers of automobiles do NOT provide health insurance coverage to 100 percent of their employees and/or their dependents.) What do you expect to happen to the price of automobiles as a result of this change in union policy? ANSWER: The supply curve for automobiles would shift to the left as a result of the increase in costs. As a result, we would expect that the price of automobiles would rise.
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Chapter 4
302. After the financial crisis in 2007–2009, new rules and regulations regarding mortgage lending made it more difficult for many families to purchase a home. Draw a supply and demand graph illustrating the impact of these new, harsher, mortgage-lending laws on the rental housing market. Predict what will happen to the price of rental housing as a result of these new laws. ANSWER: The more stringent mortgage-lending laws made it more difficult to borrow money for the purchase of a home. As a result, the demand for owner-occupied housing fell, and the demand for rental housing rose. The graph illustrates an increase in the demand for rental housing. As a result of this increased demand, we would expect the price of rental housing to rise.
303. Explain why an increase in demand for a good does not lead to an increase in supply. What does an increase in the demand for a good lead to? ANSWER: An increase in the demand for a good does not lead to an increase in supply, because an increase in demand does not cause a change in the production process or technology, and therefore does not lead to a SHIFT in the supply curve itself. Instead, an increase in demand leads to an increased Copyright Macmillan Learning. Powered by Cognero.
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Chapter 4 demand on the existing production process, which leads to a movement along the existing supply curve and an increase in price, thus increasing the quantity supplied, but not supply itself. 304. What is the difference between a “change in demand” and a “change in quantity demanded”? Graph your answer. ANSWER: A change in demand refers to a shift in the demand curve. A change in quantity demanded refers to a movement along a fixed demand curve. Graphically: Change (Decrease) in Demand: Change (Decrease) in Quantity Demanded:
305. Figure: Demand-Driven Price Change
When the demand curve shifts from D0 to D1, the equilibrium price rises to: a. $9 and the equilibrium quantity rises to 120. b. $9 and the equilibrium quantity rises to 160. c. $8 and the equilibrium quantity rises to 140. d. $8 and the equilibrium quantity rises to 160. ANSWER: c
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Chapter 5 1. Which of the following statements is TRUE? a. A price ceiling is the minimum price allowed by law. b. An increase in market demand does not lead to an increase in quantity supplied under a price ceiling. c. A shortage occurs whenever the price is set above the equilibrium price. d. When quantity supplied exceeds quantity demanded, the market experiences a shortage. ANSWER: b 2. A price ceiling is a(n): a. legally established minimum price that can be charged for a good. b. illegally established minimum price that can be charged for a good. c. legally established maximum price that can be charged for a good. d. illegally established maximum price that can be charged for a good. ANSWER: c 3. Price ceilings create five important effects: a. shortages, reductions in product quality, wasteful lines, a loss of gains from trade, and a misallocation of resources. b. surpluses, increases in product quality, search costs, gains from trade, and resource attrition. c. excess demand, long lines, poor service, efficiency, and arbitrage. d. shortages, reduced time costs, low vacancy rates, blat, and deadweight loss. ANSWER: a 4. A legal maximum price at which a good can be sold is a price: a. stabilization. b. ceiling. c. support. d. floor. ANSWER: b 5. A price ceiling creates a _____ when it is set _____ the equilibrium price. a. surplus; below b. surplus; above c. shortage; below d. shortage; above ANSWER: c 6. Figure: Price Ceiling
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Chapter 5
When a price ceiling of $10 is instituted by the government, consumers are able to buy how many units of the product? a. 290 units b. 310 units c. 270 units d. 40 units ANSWER: c 7. Figure: Price Ceiling
A price ceiling of $10 results in a: a. shortage of 270 units. b. shortage of 40 units. c. surplus of 270 units. d. surplus of 40 units. ANSWER: b 8. Figure: Price Ceiling
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Chapter 5
If a price ceiling were set at $12, there would be a: a. shortage of 50 units. b. surplus of 40 units. c. shortage of 0 units. d. surplus of 20 units. ANSWER: c 9. What is NOT an effect of a price ceiling? a. surpluses b. misallocation of resources c. loss of gains from trade d. wasteful lines ANSWER: a 10. When the maximum legal price is below the market price, we say that there is a price: a. floor. b. stabilization. c. support. d. ceiling. ANSWER: d 11. Economists call the maximum legal price a price ceiling because the price: a. cannot legally go lower than the ceiling. b. cannot legally go higher than the ceiling. c. must match the legally established ceiling price. d. All of these answers are correct. ANSWER: b 12. Price ceilings would create all of the following effects EXCEPT: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. shortages. b. reductions in product quality. c. a misallocation of resources. d. maximum gains from trade. ANSWER: d 13. Figure: Price Controls
Which price control would cause a shortage of 20 units of the good? a. a price ceiling of $10 b. a price floor of $10 c. a price ceiling of $6 d. a price floor of $6 ANSWER: c 14. Figure: Price Controls
If the government imposes a price ceiling in this market at a price of $6, the result will be a: a. surplus of 20 units. b. surplus of 10 units. c. shortage of 20 units. d. shortage of 10 units. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: c 15. A price ceiling: a. is a maximum price allowed by law. b. is a minimum price allowed by law. c. has an effect only when it is set above the market price. d. has little effect on market activity. ANSWER: a 16. When the maximum legal price is set below the market price: I. a price floor is in effect. II. a shortage will develop. III. there will be lost gains from trade. IV. there will be no impact on the quantity demanded or supplied. a. I and II only b. I, II, and III only c. II and III only d. IV only ANSWER: c 17. Price ceilings do not have much effect: a. in times of high inflation. b. ever. c. when market prices are at or below the ceiling. d. in nonmarket economies. ANSWER: c 18. When a price ceiling is in effect: a. suppliers get too strong a signal from demanders about their needs. b. demanders have no incentive to signal their needs to suppliers. c. all demander needs are met at the lower price, so there is no need to signal anything to suppliers. d. demanders cannot signal their needs to suppliers. ANSWER: d 19. In ancient Egypt, the Bronze Law set maximum prices for wages, preventing them from rising above what rulers perceived as the minimum needed to survive. If this was $0.10 a day for a porter (someone who carries things short distances) and the market wage was $0.08 a day, which of the following would be a plausible consequence of this law? a. Porters would travel less quickly than they otherwise would. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. Porters would transport items they normally would not. c. Unemployment for porters would decrease. d. Nothing unusual would happen. ANSWER: d 20. In the case of a binding price ceiling, the price paid in the market will be: a. more than the free market equilibrium price. b. less than the free market equilibrium price. c. equal to the free market equilibrium price. d. unable to be compared with the free market equilibrium price. ANSWER: b 21. In the case of a nonbinding price ceiling, the price paid in the market will be: a. more than the free market equilibrium price. b. less than the free market equilibrium price. c. equal to the free market equilibrium price. d. unable to be compared with the free market equilibrium price. ANSWER: c 22. A binding price ceiling leads to a(n): a. shortage. b. surplus. c. equilibrium quantity. d. quantity of zero units. ANSWER: a 23. A nonbinding price ceiling leads to a(n): a. shortage. b. surplus. c. equilibrium quantity. d. quantity of zero units. ANSWER: c 24. Under a binding price ceiling, one expects the quality of a good to: a. rise. b. remain the same. c. fall. d. change in an indeterminate direction. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: c 25. When a price ceiling is in effect, quantity _____ will be greater than quantity _____, creating a _____. a. supplied; demanded; surplus b. demanded; supplied; shortage c. supplied; demanded; shortage d. demanded; supplied; surplus ANSWER: b 26. The quantity exchanged of a good _____ under a binding price ceiling. a. rises b. falls c. remains the same d. changes in an indeterminate direction ANSWER: b 27. If quantity supplied equals 40 units and quantity demanded equals 50 units under a price control, then it is a: a. price ceiling. b. price floor. c. market equilibrium. d. minimum wage. ANSWER: a 28. If quantity supplied equals 80 units and quantity demanded equals 85 units under a price control, then it is a: a. binding price ceiling. b. binding price floor. c. nonbinding price ceiling. d. nonbinding price floor. ANSWER: a 29. If quantity supplied equals 85 units and quantity demanded equals 80 units under a price control, then it is a: a. binding price ceiling. b. binding price floor. c. nonbinding price ceiling. d. nonbinding price floor. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 30. Figure: Government Price Controls
The government enacts a price control, causing a shortage of 15 units of the good. Therefore, the _____ is set at _____. a. price floor; $31 b. price floor; $17 c. price ceiling; $10 d. price ceiling; $17 ANSWER: c 31. Figure: Government Price Controls
If the government sets the price ceiling at $31, there will be: a. a shortage of 15 units. b. a surplus of 15 units. c. a supply of 20 units. d. no effect on the market. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 32. Figure: Price Restrictions
The city of Cherryville sets a price ceiling of $11 on restaurant meals in the city. The effect of the price ceiling is: a. a shortage of 60 units. b. an equilibrium at 65 units. c. a surplus of 60 units. d. 100 units sold in the market. ANSWER: b 33. Figure: Price Restrictions
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Chapter 5
The city of Cherryville sets a price ceiling of $8 on restaurant meals in the city. The effect of the price ceiling is: a. a shortage of 60 units. b. an equilibrium at 65 units. c. a surplus of 60 units. d. 100 units sold in the market. ANSWER: a 34. Figure: Price Restrictions
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Chapter 5
The city of Cherryville sets a price ceiling of $8 on restaurant meals in the city. Which areas reflect the time waiting in line? a. abd b. bd c. dh d. ce ANSWER: b 35. Figure: Price Restrictions
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Chapter 5
The city of Cherryville sets a price ceiling of $8 on restaurant meals in the city. Which areas reflect the lost gains from trade? a. abd b. bd c. dh d. ce ANSWER: d 36. Figure: Price Restrictions
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Chapter 5
The city of Cherryville sets a price ceiling of $8 on restaurant meals in the city. Which area(s) reflect(s) the lost consumer surplus from the price ceiling? a. abd b. ce c. c d. e ANSWER: c 37. Figure: Price Restrictions
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Chapter 5
The city of Cherryville sets a price ceiling of $8 on restaurant meals in the city. Which area(s) reflect(s) the lost producer surplus from the price ceiling? a. abd b. ce c. c d. e ANSWER: d 38. Which statements are TRUE? I. Price controls eliminate competition. II. Price controls make consumers wait in line for a good, which is more efficient than paying bribes. III. Price controls suggest that paying bribes is more efficient than waiting in line for a good. IV. Price controls make consumers wait in line until the time spent plus the price of the good is greater than the value of the good itself. a. I, II, and IV only b. I and II only c. I, III, and IV only d. I and IV only Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: c 39. At a price ceiling of $6 per sheet of drywall, quantity demanded is 100 and quantity supplied is 75. What will happen in the drywall market if there is an increased demand for drywall in the construction industry? a. Equilibrium will be restored. b. The shortage of drywall will fall below 25 units. c. The shortage of drywall will increase above 25 units. d. The surplus of drywall will increase above 25 units. ANSWER: c 40. The lower the price ceiling is relative to the market equilibrium price, the: a. larger the surplus. b. smaller the surplus. c. smaller the shortage. d. larger the shortage. ANSWER: d 41. A shortage results when: a. a price floor is imposed. b. a price ceiling is imposed. c. there is excess supply without any price controls. d. a price floor is imposed but it is not binding. ANSWER: b 42. Shortages occur when prices are held below the market price, causing the quantity demanded to exceed the quantity supplied. This is a result of price: a. floors. b. ceilings. c. gouging. d. competition. ANSWER: b 43. Setting the maximum legal price above the market price will cause: a. a shortage to develop. b. the market to reach an equilibrium outcome. c. quantity supplied to exceed quantity demanded. d. market inefficiencies. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 44. Price controls instituted by President Nixon in 1971: a. generated shortages in the markets for construction, wool, oil, steel bars, toilets, jeans, and other products. b. generated shortages, which were confined mostly to just the markets for gasoline and oil. c. were able to control inflation by 1973. d. were set above the equilibrium price and so made little impact. ANSWER: a 45. Mobile homes are housing units installed on a permanent foundation owned by a landlord. Although a resident owns the home, she rents the foundation from the landlord. In theory, owners of mobile homes can transfer their home to a different foundation if the rent becomes too steep, but uninstalling, transporting, and reinstalling the mobile home is usually prohibitively expensive. This “lock-in” effect encourages state legislatures to create rent controls for mobile home foundations. Which statement describes a plausible, unintended consequence of these laws? a. The price of mobile homes is artificially low. b. There are few new mobile home foundations constructed. c. The price of transporting mobile homes is artificially high. d. There are few new buyers of mobile homes. ANSWER: b 46. Figure: Misallocation of Resources
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Chapter 5
The government sets a price ceiling of $6 in the market. What is the quantity that will be traded in the market after the price ceiling is enacted? a. 400 b. 1,200 c. 900 d. 0 ANSWER: c 47. Figure: Misallocation of Resources
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Chapter 5
The government sets a price ceiling of $4 in the market. The portion of the demand curve that will be satisfied is _____. a. line AB b. line AH c. line AM d. line BH ANSWER: a 48. Figure: Misallocation of Resources
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Chapter 5
The government sets a price ceiling of $4 in the market. The portion of the demand curve that would purchase the good if the price were determined by the market is _____. a. line AB b. line AH c. line AM d. line BH ANSWER: b 49. Figure: Misallocation of Resources
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Chapter 5
The government sets a price ceiling of $4 in the market. The portion of the demand curve from point A to point B represents the _____. a. consumers with a high valuation of the good b. consumers with a low valuation of the good c. consumers with a low valuation of the good who will not purchase it d. consumers with a high valuation of the good who will not purchase it
ANSWER: a 50. Figure: Misallocation of Resources
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Chapter 5
The government sets a price ceiling of $4 in the market. The consumer surplus earned when the price ceiling is enacted is: a. area AFH. b. area ABCD. c. area ABJI. d. area IJL. ANSWER: c 51. Figure: Misallocation of Resources
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Chapter 5
The government sets a price ceiling of $4 in the market. If the good then is randomly assigned to willing buyers, the loss due to random allocation is: a. area AFH. b. area ABCD. c. area ABJI. d. area IJL. ANSWER: b 52. Figure: Misallocation of Resources
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Chapter 5
The government sets a price ceiling of $4 in the market. If the good then is randomly assigned to willing buyers, the consumer surplus after random allocation is: a. area CDIJ. b. area ABCD. c. area ABJI. d. area IJL. ANSWER: a 53. Because of government price controls, a business must now sell soft-serve ice cream at half its original price. This business might respond by: a. offering smaller servings of ice cream. b. skimping on toppings of nuts, fudge sauce, and cherries. c. reducing hours of operation. d. All of the answers are correct. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: d 54. The price controls of the early 1970s caused: a. lead to be removed from gasoline. b. the disappearance of the full-service gas station. c. gas stations to stay open for more hours. d. an excess supply of gasoline. ANSWER: b 55. Why do you think full-service gas stations have largely disappeared across the United States? a. because the government has issued a ban on such gas stations b. because of price controls on gasoline that were issued in 1973 c. because consumers demanded that they should be allowed to pump gas themselves d. None of the answers is correct. ANSWER: b 56. If a seller facing excess demand is unable to raise the price of the good due to a price ceiling, a likely result will be: a. an increase in the quantity supplied of the product. b. an increase in the price of the product. c. a decrease in the quality of the product. d. a further decrease in the price of the product. ANSWER: c 57. If a seller facing excess demand is unable to raise the price of the good due to a price ceiling, the seller might: a. increase the quantity supplied of the product. b. decrease the price of the product. c. increase the quality of the product. d. decrease the level of service for that product. ANSWER: d 58. Figure: Price Controls
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Chapter 5
P* represents a price control enacted by the government. Which figure shows an effective price ceiling? a. Figure A b. Figure B c. Figure C d. Figures A and B Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: c 59. Figure: Price Controls
P* represents a price control enacted by the government. Which figure shows an ineffective price ceiling? a. Figure A only b. Figure B only Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 c. Figure C only d. Figures A and B ANSWER: d 60. In situations of excess demand, sellers might lower quality when they are unable to raise prices because they wish to: a. reduce excess demand. b. raise their profit levels. c. decrease surpluses. d. raise their sales. ANSWER: b 61. In situations of excess demand, sellers might decrease service levels when they are unable to raise prices because they wish to: a. reduce excess demand. b. decrease surpluses. c. raise their profit levels. d. raise their sales. ANSWER: c 62. Price ceilings set by the government: a. are desirable because they make markets more efficient. b. can restore a market to equilibrium. c. are generally believed to cause reductions in product quality. d. are imposed to assist the poor without having adverse effects. ANSWER: c 63. Price ceilings reduce quality because: a. buyers are willing to accept a lower quality of goods with lower prices. b. sellers facing excess demand cannot raise prices to increase profit. c. the law would mandate the quality of goods to match the price of the goods. d. None of the answers are correct. ANSWER: b 64. Which observation would be consistent with the impact of price ceilings? a. Books are printed on higher-quality paper. b. Full-service gasoline stations stay open for 24 hours. c. New automobiles are painted with more coats of paint. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 d. Newspapers switch to a smaller font size to decrease bulk. ANSWER: d 65. Which would MOST likely result after setting a price ceiling on automobiles? a. a surplus of automobiles b. more friendly automobile salesmen c. fewer safety features d. an increase in demand for automobiles ANSWER: c 66. Which would be the LEAST likely result of setting a price ceiling on rental houses? a. higher demand for rental houses b. less inside maintenance c. less landscaping d. more rental houses available on the market ANSWER: d 67. If prices are not allowed to rise because of a price ceiling: a. suppliers have an incentive to provide a high level of customer service. b. suppliers will compensate for the lower price by increasing the quality of their goods. c. prices do not provide the correct information about consumers' valuation of the good. d. a shortage will develop, but only temporarily until markets adjust to the lower prices. ANSWER: c 68. When a price ceiling is in effect: a. there is no competition for goods. b. suppliers have an incentive to provide really good customer service. c. demanders compete for goods in short supply by accepting reductions in quality. d. suppliers compete for customers by inefficiently raising quality levels. ANSWER: c 69. The Edict on Maximum Prices, established by the Roman emperor Diocletian, created price ceilings on various jobs and goods in a failed effort to curb inflation. For example, legal pay for a farm laborer could be no more than $0.108 a day (payment set in modern currency). If the market rate of farm labor was $0.12 a day, which would be a plausible consequence of this law? a. Farms would produce more food than they otherwise would. b. Nothing unusual would happen. c. A laborer would work less hard than he otherwise would. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 d. Unemployment for farm hands would increase. ANSWER: c 70. Typical of price ceilings, the ancient Indian political philosopher known as Kautilya advocated controls to protect against merchant greed, fixing a profit of 5% over the fixed price of local commodities, including textiles. If severe weather were to render the textile market more uncertain (e.g., if transportation routes were damaged), what would reasonably happen? a. There would be no effect. b. Textile quality would wastefully increase. c. Fewer merchants would be willing to supply textiles. d. Deadweight loss would fall. ANSWER: c 71. How can sellers increase profits when they face a price ceiling? a. charge a higher price for the good b. charge a lower price for the good to undercut rival sellers c. produce and sell more output d. reduce the quality of the product and provide less customer service ANSWER: d 72. Figure: Effects of Price Ceilings
At a price ceiling of $2.00 per unit, consumers are willing to pay a maximum of: a. $2.00. b. $2.50. c. $3.00. d. $4.00. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 73. Figure: Effects of Price Ceilings
At a price ceiling of $2: a. bribes of $1 per unit may be common. b. seller discounts of $1 may be common. c. bribes of $3 per unit may be common. d. seller discounts of $3 per unit may be common. ANSWER: a 74. Figure: Effects of Price Ceilings
Suppose that the data represents the retail gasoline market. At a price ceiling of $2, the total value of wasted time from waiting in line is: a. $5. b. $10. c. $15. d. $20. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: b 75. Table: Gasoline Market Free Market Price per gallon of gas $4.00 Value of time $20/hour Waiting time to buy 20 gallons of 0 hours gas
Price Ceiling $3.00 $20/hour 1.5 hours
The total cost of purchasing 20 gallons of gas at the free market price and the price ceiling is _____ and _____, respectively. a. $100; $80 b. $80; $90 c. $60; $75 d. $40; $60 ANSWER: b 76. Which statement(s) about price ceilings is TRUE? I. Price ceilings cause quantity demanded to exceed quantity supplied. II. When including time costs and bribes, consumers pay a total price in excess of the price ceiling. III. All else equal, it is more wasteful to allocate goods based on bribes than on waiting time costs. a. I only b. II and III only c. I and II only d. I, II, and III ANSWER: c 77. Using a first-come, first-served system to allocate products with long lines is: a. the only way scarce goods can be allocated. b. necessary when waiting is a costless exercise. c. efficient, since people who are willing to wait the longest get the products. d. inefficient because waiting wastes time. ANSWER: d 78. Which would be the LEAST likely result of a price ceiling imposed in the market for gasoline? a. Buyers will line up to buy gasoline. b. Buyers will bribe station attendants to fill up their tanks. c. Some buyers will get less gasoline than they want. d. Competition in the market will be eliminated. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 79. Figure: Price Ceiling of Ps
Suppose a price ceiling of Ps is imposed. As a result: a. the quantity supplied in the market is Qs. b. buyers' willingness to pay for the good is Pd. c. the quantity demanded in the market is Qd. d. All of the answers are correct. ANSWER: d 80. Figure: Price Ceiling of Ps
Suppose a price ceiling of Ps is imposed. The shaded area may likely represent all of the following EXCEPT: a. the value of wasted time. b. the amount that buyers bribe sellers. c. the amount of corruption. d. consumer surplus. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: d 81. If a price ceiling on gasoline is imposed, the total price of gasoline a buyer pays is likely to equal the legal price: a. minus the value of wasted time. b. minus the value of bribery. c. plus the value of consumer surplus. d. plus the value of corruption. ANSWER: d 82. Shortages in economic markets are inefficient because: a. time spent waiting in line is wasted time and hence a wasted resource. b. demanders are willing to pay more for the good, but suppliers are unwilling to supply any more of the good even at higher prices. c. consumers’ willingness to pay is less than the controlled price. d. they lead to increases in quality over and above what would be present in an uncontrolled market. ANSWER: a 83. What do price ceilings NOT cause? a. waiting in line b. speculation c. bribes d. search costs ANSWER: b 84. Figure: Supply and Demand 1
If the government sets the price at $8, demanders are willing to pay _____ per unit for _____ units. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. $8; 12 b. $8; 6 c. $14; 12 d. $14; 6 ANSWER: d 85. Figure: Supply and Demand 1
If the government sets the price at $8, the total value of the wasted time is: a. $36. b. $48. c. $64. d. $8. ANSWER: a 86. A major hurricane damages many oil refineries, which increases the market price of gasoline from $3.50 to $5.00 per gallon. The attorney general threatens legal action against gas station owners who raise prices above prehurricane levels, causing gas station owners to reluctantly sell gas for $3.50 per gallon. At $3.50 per gallon, shortages cause buyers to wait in line for 2 hours. If the average purchase is 15 gallons and buyers value their time at $20 an hour, is the attorney general helping? a. No, paying $92.50 at $3.50 per gallon is more expensive than $75 at $5.00 per gallon. b. Yes, paying $52.50 at $3.50 per gallon is cheaper than $75 at $5.00 per gallon. c. Yes, gas is cheaper at $3.50 per gallon because the waiting costs keep gas prices low. d. No, $5.00 per gallon would ensure that buyers could always buy as much as they want. ANSWER: a 87. Suppose a major hurricane damages many trees in a coastal town, increasing the market price of tree removal from $1,000 per tree to $1,250 per tree. The attorney general threatens legal action against tree removal Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 services who raise their prices above prehurricane levels. If the average consumer is willing to pay up to $1,300 for such tree removal services, is the attorney general helping the consumer? a. No, consumers value tree removal services at a price higher than they are being charged. b. Yes, it is unfair to raise prices after a hurricane. c. No, the price of tree removal services is always at $1,250 per tree. d. Yes, other tree removal services will come to the area if the price remains at $1,000 per tree. ANSWER: a 88. The statement “Price controls do not eliminate competition”: a. is false because price controls prevent rich consumers from outbidding poor consumers for goods and services. b. is false because firms are no longer allowed to exploit consumers by charging higher prices after hurricanes or major snowstorms. c. reflects the idea that consumers will compete for price-controlled products by waiting in line and offering bribes to sellers. d. means that sellers will increase the quality of their product when they cannot legally increase their prices. ANSWER: c 89. Figure: Losses from Price Ceilings
A price ceiling of $1 causes lost consumer surplus equal to area _____ and lost producer surplus equal to area _____. a. c; e b. bc; de c. a; f d. d; b ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 90. Figure: Losses from Price Ceilings
At a price ceiling of $1, the area representing the total value of wasted time is _____, and the area of the deadweight loss is _____. a. ab; de b. bd; ce c. abdf; ce d. bc; de ANSWER: b 91. At a price ceiling of $1 per loaf of bread, quantity supplied is 99 loaves, which is less than quantity demanded. What must be true for the 100th loaf of bread? a. Consumers do not value the 100th loaf of bread. b. The cost of producing the 100th loaf of bread is less than $1.00. c. Consumers value the 100th loaf of bread at less than $1.00. d. Consumers value the 100th loaf of bread more than it costs producers to make it. ANSWER: d 92. Which statement about price ceilings is correct? a. Whether a price ceiling is placed below or above the equilibrium price, it will always cause deadweight loss. b. A price ceiling will cause deadweight loss only if it is placed above the equilibrium price. c. A price ceiling will cause deadweight loss only if it is placed below the equilibrium price. d. Whether a price ceiling is placed below or above the equilibrium price, it will always cause a shortage of the good. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 93. Which statement is TRUE in a market with a price ceiling? a. Buyers and sellers experience lost gains from trade. b. Resources are allocated to their most efficient uses. c. The supply of goods is sold by the sellers with the lowest costs. d. The supply of goods is bought by the buyers with the highest willingness to pay. ANSWER: a 94. A deadweight loss is the total of: a. consumer and producer surplus when all mutually profitable gains from trade are exploited. b. consumer and producer surplus when all mutually profitable gains from trade are not exploited. c. lost consumer and producer surplus when all mutually profitable gains from trade are exploited. d. lost consumer and producer surplus when all mutually profitable gains from trade are not exploited. ANSWER: d 95. A market with price ceilings fails to maximize all of the following EXCEPT: a. the gains from trade. b. consumer surplus. c. excess supply. d. producer surplus. ANSWER: c 96. A free market maximizes the gains from trade, the sum of consumer and producer surplus, meeting all of the following conditions EXCEPT: a. all buyers who are willing to pay positive prices are able to receive goods from trade. b. the supply of goods is bought by the buyers with the highest willingness to pay. c. the supply of goods is sold by the sellers with the lowest costs. d. there are no unexploited gains from trade between buyers and sellers. ANSWER: a 97. Which of these statements explains why price ceilings result in lost gains from trade? a. Buyers and sellers want to trade, but the threat of fines or jail time prevents them from doing so. b. Sellers want to trade, but buyers prefer the lower prices. c. Buyers want to trade, but sellers are indifferent at the lower prices. d. Neither buyers nor sellers want to trade subject to a price ceiling that results in lost gains from trade. ANSWER: a 98. Deadweight loss is: a. necessary to ensure that resources are channeled to their highest-value use. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. the loss to the economy from firms going out of business due to competition. c. usually offset by deadweight gains. d. the total of lost consumer and producer surplus when not all mutually profitable gains from trade are exploited. ANSWER: d 99. When a price ceiling is in effect: a. some mutually beneficial trades between buyers and sellers do not occur. b. no mutually beneficial trades between buyers and sellers occur. c. all mutually beneficial trades between buyers and sellers occur. d. it is impossible to say if any, some, or all beneficial trades between buyers or sellers fail to occur. ANSWER: a 100. In the late 1500s, the city of Antwerp was under siege by the Duke of Parma. The siege caused the price of food to rise, so the government of Antwerp established a price ceiling set at a value similar to that before the siege. (This bears a striking resemblance to modern antigouging laws used in times of disaster.) Merchants, fearing the duke's ability to sink their ships, refused to ferry food into the city that they could sell only at a normal price. Which important effect of a price control BEST describes this story? a. reduction of product quality b. wasteful lines c. a loss in gains from trade d. a misallocation of resources ANSWER: c 101. The U.S. government establishes a price floor of $1,000 on personal computers. The market price for netbooks (personal computers that specialize in Internet and other basic computer functions) is about $500. How would this price control affect the netbook market? a. Consumers would have a harder time finding conventional netbooks since MOST would be too powerful. b. There would be long lines for netbooks. c. Producers would leave the market for netbooks. d. There would be no notable effect. ANSWER: a 102. Deadweight loss occurs when: a. consumer surplus transforms into producer surplus. b. there is a shortage of a good or service. c. consumer and/or producer surplus decrease without the surplus going to anyone. d. the gains from trade are lowered due to shifts in the supply or demand curve. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: c 103. Figure: Water Market
If a price floor gets set at $8 per gallon, how big is the shortage or surplus? a. 60,000 gallons in surplus b. 120,000 gallons in surplus c. 60,000 gallons in shortage d. 12,000 gallons in shortage ANSWER: a 104. Figure: Water Market
If a price floor gets set at $8 per gallon, what is the deadweight loss? a. $30,000 b. $60,000 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 c. $240,000 d. $480,000 ANSWER: a 105. Figure: Water Market
If a price floor gets set at $8 per gallon, what is the quality waste? a. $90,000 b. $180,000 c. $480,000 d. $960,000 ANSWER: b 106. Price ceilings: a. increase the gains from trade because lower prices encourage consumers to buy more. b. reduce the size of the market, shrinking both consumer and producer surplus. c. help reduce the deadweight losses owing to taxation. d. increase market output to the point where consumer surplus equals producer surplus. ANSWER: b 107. Figure: Supply and Demand 2
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Chapter 5
If the government sets a price ceiling at $8, it will create a deadweight loss of: a. $6. b. $36. c. $12. d. $24. ANSWER: c 108. Do price ceilings misallocate resources? a. Yes, because people who value the good the most are unable to bid it away from low-valued uses. b. Yes, because people who value the good the least are unable to afford the good. c. No, because the good is still allocated based on willingness to pay. d. No, because the rich and poor alike stand an equal chance of getting the good. ANSWER: a 109. Suppose that New York sets a price ceiling on electricity but New Jersey does not. Also suppose that swimming pools in New Jersey are heated but swimming pools in New York are not. This is an example of a(n): a. misallocation of resources caused by price controls. b. market failure caused by speculators. c. market inefficiency caused by monopoly oil companies. d. excess supply of oil caused by the business cycle. ANSWER: a 110. When an effective price ceiling causes a shortage, some of the buyers who value the good the most may not be able to get the good. Why does this occur? a. The consumers with higher valuations cannot outbid the lower-value users and so the seller cannot distinguish between them. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. The consumers with higher valuations are eliminated from the market due to the price ceiling. c. The price ceiling causes the price to rise so high that even the highest-value users cannot afford the good. d. The government purchases most of the goods. ANSWER: a 111. When a price ceiling is binding, the goods that are on sale are allocated to buyers using a method: a. of random allocation. b. whereby the highest bidder wins. c. whereby the lowest bidder wins. d. whereby buyers purchase lottery tickets to see who will be able to buy the product. ANSWER: a 112. Price controls cause resources to be _____ not just geographically but also across different _____ those resources. a. overutilized; types of b. properly allocated; demands for c. cheaper; uses for d. misallocated; uses for ANSWER: d 113. Price controls cause resources to be misallocated by: a. distorting the signals of suppliers' willingness to supply and eliminating the incentives for demanders to pay. b. distorting the signals of demanders' willingness to pay and eliminating the incentives for suppliers to supply. c. distorting the incentives for suppliers to supply and eliminating the signals of demanders' willingness to pay. d. distorting the incentives for demanders to pay and eliminating the signals of suppliers' willingness to supply. ANSWER: b 114. Figure: Value of Uses
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Chapter 5
The sections labeled A, B, and C represent, respectively, the: a. highest-valued uses, lower-valued uses, and least-valued uses. b. highest-valued uses, least-valued uses, and lower-valued uses. c. least-valued uses, lower-valued uses, and highest-valued uses. d. lower-valued uses, highest-valued uses, and least-valued uses. ANSWER: a 115. Figure: Price Ceilings and Consumer Surplus
There is a price ceiling of $20. What is the value of consumer surplus if all units of the good are allocated to the highest-valued uses? a. $40 b. $120 c. $200 d. $210 ANSWER: c 116. Figure: Price Ceilings and Consumer Surplus Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
There is a price ceiling of $20. What is the value of consumer surplus if all the goods are allocated randomly? a. $120 b. $180 c. $80 d. None of the answers are correct. ANSWER: a 117. Figure: Price Ceilings and Valuation of Uses
The single highest value a user is willing to pay is how many dollars for the product? a. $15 b. $25 c. $45 d. $35 ANSWER: c 118. Figure: Price Ceilings and Valuation of Uses
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Chapter 5
Suppose a price ceiling of $15 goes into effect. If the goods are allocated only to the highest-valued uses, the total consumer surplus in the market will be: a. $3,000. b. $500. c. $2,500. d. $1,000. ANSWER: c 119. Figure: Price Ceilings and Valuation of Uses
Suppose a price ceiling of $15 goes into effect. If the highest-valued use and the lowest-valued use are equally likely to be satisfied, then the average value of the product is: a. $45. b. $30. c. $25. d. $35. ANSWER: b 120. Figure: Price Ceilings and Consumer Valuation
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Chapter 5
Suppose a price ceiling of $3 goes into effect. If the goods sold are allocated only to the consumers with the highest valuations, the total consumer surplus in the market will be: a. $180. b. $30. c. $120. d. $150. ANSWER: d 121. Figure: Price Ceilings and Consumer Valuation
Suppose a price ceiling of $3 goes into effect. If the goods sold are allocated to buyers randomly, what is the total consumer surplus in this market? a. $90 b. $120 c. $30 d. $150 ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 122. Figure: Price Ceilings and Consumer Valuation
Suppose a price ceiling of $3 goes into effect. What is the loss of consumer surplus due to the random allocation of price-controlled goods compared to the allocation only to the highest-valued uses? a. $90 b. $60 c. $150 d. $30 ANSWER: b 123. Figure: Price Ceilings and Lost Consumer Surplus
The figure measures the consumer surplus associated with a price ceiling, assuming: a. the worst-case scenario. b. the best-case scenario. c. random allocation of the product between highest-valued and lowest-valued uses. d. that total consumer surplus is maximized in the market. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 124. Figure: Price Ceilings and Random Allocation
When a controlled price is imposed and the quantity of goods is allocated randomly between the highest-valued uses and lowest-valued uses, total consumer surplus under random allocation is represented by area: a. A. b. B. c. C. d. D. ANSWER: b 125. Figure: Price Ceilings and Random Allocation
When a controlled price is imposed and the quantity of goods is allocated randomly between the highest-valued uses and lowest-valued uses, loss due to random allocation instead of allocation to the highest-valued use is represented by area: a. A. b. B. c. C. d. D. ANSWER: a 126. The effects of price ceilings: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. are limited to the price-controlled market. b. weaken over time. c. extend beyond the price-controlled market. d. encourage the entry of new firms. ANSWER: c 127. During the energy crisis of the 1970s, President Nixon ordered gas stations to close between 9:00 PM Saturday and 12:01 AM Monday in an attempt to prevent wasteful and unnecessary Sunday driving. This policy: a. proved effective in reducing the shortage of gasoline. b. gave people the incentive to fill up their tanks earlier in the week. c. indirectly caused many churches to close on Sunday. d. All of the answers are correct. ANSWER: b 128. Which of the following events occurred during the 1973–1974 oil crisis in the United States? a. Gas stations were ordered to be closed between 9 PM on Saturday and 12:01 AM on Monday. b. Daylight savings time was implemented. c. There were shortages of steel drilling equipment. d. All of the answers are correct. ANSWER: d 129. Which events occurred during the 1973–1974 oil crisis in the United States? I. Gas stations were ordered to be closed between 9 PM on Saturday and 12:01 AM on Monday. II. The government decided to allocate oil by command. III. The 55-mph speed limit was repealed. IV. Daylight savings time was implemented. a. I and IV only b. I, II, and III only c. I, II, and IV only d. I, III, and IV only ANSWER: c 130. Economists blame the long lines at gasoline stations in the United States during the 1970s, as well as the long delays in construction projects, on: a. consumers who bought gas too frequently. b. the Organization of Petroleum Exporting Countries (OPEC). c. major oil companies operating in the United States. d. U.S. government regulation of gasoline prices. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 131. Which of the following best represents the misallocation of resources that would occur under a price ceiling on bottled water following a major hurricane? a. Bottles of water sit on the shelves because nobody can afford them. b. A family in a distant state takes time off work to bring bottled water to the hurricane-ravaged area. c. A family in a distant state gives bottled water to its dog, but a family in the hurricane area cannot find bottled water to drink. d. Families in the hurricane area brush their teeth with bottled water but cannot find enough to drink. ANSWER: c 132. Flexible prices ensure that: a. resources are allocated to their highest-valued uses. b. suppliers will always profit from necessity goods. c. self-interested individuals will not interfere with the efficiency of the market. d. prices will always be minimized. ANSWER: a 133. When a price ceiling is in effect, goods and services: a. are still allocated efficiently. b. are not necessarily supplied by their lowest-cost producer. c. do not necessarily flow to their highest-valued use. d. are not necessarily supplied by their lowest-cost producer, nor do they flow to their highest-valued use. ANSWER: c 134. If a price ceiling on gasoline results in long lines at the gas station and a rich businessman and an elderly retiree both need gasoline, who would have the higher-valued use for gasoline, and who would have the lower opportunity cost of waiting in line? a. The businessman would have the higher-valued use and the lower opportunity cost. b. The businessman would have the higher-valued use, and the retiree would have the lower opportunity cost. c. The retiree would have the higher-valued use and the lower opportunity cost. d. The retiree would have the higher-valued use, and the businessman would have the lower opportunity cost. ANSWER: b 135. If there are 100 tickets to a concert and 200 fans who would like to go to the concert, each placing a slightly different value on the tickets, is it more efficient to hold an auction for the tickets or to hold a random drawing for the tickets? a. hold an auction Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. hold a random drawing c. Both are equally efficient. d. It is impossible to say which is more efficient. ANSWER: a 136. Universal price controls in the Soviet Union: a. led to widespread prosperity. b. harmed powerful interests in the short run. c. caused never-ending shortages and misallocations. d. meant that no one ever had to wait in line. ANSWER: c 137. Price ceilings: a. improve the allocation of resources because consumers with the greatest need for the product are more likely to be able to afford the product. b. misallocate resources because consumers who buy the product may not be the ones who value it the most. c. misallocate resources because they allow consumers to compete against one another by offering sellers higher prices. d. improve the allocation of resources because consumers are prevented from bidding up the price of products. ANSWER: b 138. Impeding price signals by imposing price ceilings can have serious consequences. Which of the following is such a consequence? a. improved product quality b. gains from trade c. surpluses d. misallocation of resources ANSWER: d 139. For a given demand curve, the high-valued uses are at the _____, and the low-valued uses are at the _____. a. top; bottom b. bottom; top c. top; top d. bottom; bottom ANSWER: a 140. Figure: Supply and Demand 3 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
If the good is randomly allocated between those with the highest and lowest willingness to pay, what is the value of consumer surplus at the price ceiling of $8? a. $54 b. $136 c. $36 d. $45 ANSWER: c 141. Figure: Price Ceiling in a Generic Market
If the government imposes a price ceiling at the price of $4, the result will be a: a. surplus of 40 units. b. shortage of 40 units c. surplus of 20 units. d. shortage of 20 units. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 142. Which president ended the price controls on oil? a. Richard Nixon b. Gerald Ford c. Jimmy Carter d. Ronald Reagan ANSWER: d 143. What happened as a result of the elimination of price controls on oil and gasoline in 1981? a. The supply of gas and oil declined. b. The shortage of gasoline was eliminated nearly overnight. c. The price of oil increased dramatically and stayed high until the early 1990s. d. The shortage of gasoline was eliminated, but it took several years. ANSWER: b 144. After President Reagan repealed the price controls on gasoline: a. the supply of gasoline fell dramatically. b. the market experienced a period of vast surpluses as a result of the lack of regulation. c. prices rose a little at first, but supply quickly began to increase and prices fell. d. prices rose dramatically as a result of the repealed legislation. ANSWER: c 145. Ultimately, repealing the price controls on gasoline and oil: a. led to permanently higher gasoline prices. b. led to a higher supply of gasoline and lower prices. c. was disastrous, since the market collapsed due to a lack of government regulation. d. was not able to eliminate the shortages of gasoline in the United States. ANSWER: b 146. When the price ceilings on oil and gas were lifted in January 1981: I. the price of oil rose immediately. II. the price of oil continued to rise more than 2 years after the controls were eliminated. III. higher prices gave an incentive to suppliers to increase supply, thus leading eventually to lower prices. a. I only b. I and II only c. I and III only d. I, II, and III ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 147. The shortage of oil ended when: a. Ronald Reagan eliminated price controls on oil in January 1981. b. the government instituted minimum miles-per-gallon requirements for cars. c. Congress passed the Energy Saver Act of 1985. d. the U.S. Senate began regulating oil industry profits. ANSWER: a 148. Uber uses information about the supply and demand for rides when setting prices. This means that rates following a concert at Madison Square Garden will: a. increase to reflect higher demand and encourage more drivers to drive and satisfy the increase in demand. b. be equal to the rates charged by taxis. c. decrease and there will be more taxis around the venue. d. remain the same, but more drivers will be willing to work after the concert. ANSWER: a 149. Uber introduced surge pricing, by which an increase in demand causes an increase in price, to: a. encourage more drivers to drive and satisfy the increase in demand. b. encourage riders to take Uber during peak times. c. encourage governments to enact price controls. d. discourage new drivers seeking to drive for Uber. ANSWER: a 150. Which statement about price controls is most correct? a. Price controls often hurt the people they are designed to help. b. Price controls always help the people they are designed to help. c. Price controls have minimal adverse effects. d. Price controls make economic sense even if they have adverse effects. ANSWER: a 151. Rent controls are: a. an efficient and equitable way to help the poor. b. inefficient but a pretty good way to solve a serious social problem. c. an inefficient way to help the poor in raising their standard of living. d. an efficient way to allocate housing. ANSWER: c 152. A rent control is a regulation that: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. ensures that there are apartments available for rent. b. controls rents at constant levels. c. upholds rents to above equilibrium levels. d. prevents rents from rising to equilibrium levels. ANSWER: d 153. Rent controls are: a. price floors on rental housing. b. price ceilings on rental housing. c. quality freezes on rental housing. d. quantity freezes on rental housing. ANSWER: b 154. Which is the MOST correct statement about the impact of rent controls? a. The short-run supply curve for apartments is inelastic, so rent controls create larger shortages in the short run than in the long run. b. The short-run supply curve for apartments is inelastic, so rent controls create smaller shortages in the short run than in the long run. c. The long-run supply curve for apartments is inelastic, so rent controls create larger shortages in the long run than in the short run. d. The long-run supply curve for apartments is inelastic, so rent controls create smaller shortages in the long run than in the short run. ANSWER: b 155. Over time, housing shortages caused by rent control _____ because the supply of housing is _____ elastic in the long run. a. increase; less b. increase; more c. decrease; less d. decrease; more ANSWER: b 156. Figure: Short- and Long-Run Shortages
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Chapter 5
At a rent-controlled price of $800, the short-run shortage of apartments is _____, and the long-run shortage is _____. a. 12,000; 4,000 b. 4,000; 12,000 c. 8,000; 4,000 d. 8,000; 12,000 ANSWER: b 157. Why is the long-run supply curve of rent-controlled apartments typically more elastic than the short-run supply curve? a. In the long run, fewer new apartments are built, and older apartments are torn down or turned into condominiums. b. In the long run, many more new apartments are built, and this increases the supply of rent-controlled apartments. c. In the long run, rent controls are always removed. d. In the long run, the shortage of rent-controlled apartments becomes significantly less. ANSWER: a 158. How did economists try to prove that reductions in new apartment building in Ontario, Canada, during the 1970–1975 period were a result of debates on rent control? a. They showed that the economy was declining during this period. b. They pointed to the fact that the OPEC oil crisis occurred at this time. c. They showed that apartment building was declining while new house building was rising, in the same state of the economy. d. They pointed to the fact that rent controls had not been implemented during the OPEC oil crisis. ANSWER: c 159. A rent control is a price: a. floor on car rentals. b. ceiling on car rentals. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 c. floor on rental housing. d. ceiling on rental housing. ANSWER: d 160. Rent controls create all of the following EXCEPT: a. shortages. b. search costs. c. wasteful quality increases. d. resource misallocations. ANSWER: c 161. New housing takes some time to build, so rent control creates larger shortages in the: a. long run than in the short run because short-run supply is more elastic. b. long run than in the short run because long-run supply is more elastic. c. short run than in the long run because short-run supply is more elastic. d. short run than in the long run because long-run supply is more elastic. ANSWER: b 162. Some economists compare the destructiveness of rent control to that of aerial bombardment because it causes: a. landlords to neglect their buildings, allowing them to deteriorate over time. b. high search costs in apartment hunting. c. there to be unexploited gains from trade. d. apartments to go to renters who do not have the highest-valued use of the apartments. ANSWER: a 163. In your city, it is illegal to charge more than a certain amount of money for an apartment. People have been signing leases for the highest legal amount but also agreeing to pay a monthly bribe “on the side” to their landlord in order to get the apartment in the first place and to get timely maintenance. What is the effect of the bribes? a. The bribes make it harder to find an apartment. b. The bribes cause there to be unexploited gains from trade. c. The bribes cause apartments to be allocated to renters who do not have the highest-valued use of the apartments. d. The bribes minimize the damage from the rent control. ANSWER: d 164. Figure: Supply and Demand 4 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
In this market for apartments, a rent-controlled price of $800 will cause: a. a short-run shortage of 6,000 apartments. b. a short-run shortage of 8,000 apartments. c. a short-run shortage of 3,000 apartments. d. a short-run surplus of 14,000 apartments. ANSWER: c 165. Figure: Supply and Demand 4
In this market for apartments, with a rent-controlled price of $800, the long-run supply curve will be _____ elastic than the short-run supply curve, causing the _____. a. more; shortage to increase to 6,000 apartments b. more; shortage to decrease to 3,000 apartments c. less; shortage to increase to 6,000 apartments d. less; surplus to decrease to 8,000 apartments ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 166. Which statement(s) is(are) TRUE? I. In the long run, rent control laws create incentives to turn apartments into hotels or parking garages. II. Apartment owners are less likely to do routine maintenance when the government controls apartment rents. III. Rent-controlled apartments are more likely to be allocated by discrimination than non–rent-controlled apartments. a. I, II, and III b. I and II c. I only d. II only ANSWER: a 167. Under a policy of rent control, the short-run shortage _____ the long-run shortage. a. is smaller than b. is larger than c. is equal to d. overshadows ANSWER: a 168. Rent control is an example of a: a. price ceiling. b. price floor. c. tax. d. quota. ANSWER: a 169. Vietnam's foreign minister said, “The Americans couldn't destroy Hanoi, but we have destroyed our city by very low rents.” He was referring to the fact that: a. very low rents provided very little income for carrying out warfare. b. very low rents turned portions of city housing into a state of disrepair and slum-like conditions. c. the Americans did not install proper city housing codes in Hanoi. d. bombing a city is always worse than using rent control. ANSWER: b 170. Under rent control, tenants can expect: a. lower rent and higher-quality housing. b. lower rent and lower-quality housing. c. higher rent and a shortage of housing. d. higher rent and a surplus of housing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: b 171. Which is NOT a result of rent control? a. higher-quality housing b. bribery c. fewer new apartments offered for rent d. less maintenance provided by landlords ANSWER: a 172. Which would be the LEAST likely result of a price ceiling imposed in the market for rental cars? a. slow replacement of old rental cars with new ones b. poor maintenance of rental cars c. dirtier exteriors and interiors of rental cars d. free gasoline given to people as an incentive to rent a car ANSWER: d 173. Because rent controls on apartments reduce profits: a. developers build and rent more apartments to make up for lost profit. b. condominiums are converted into apartments. c. landlords are less likely to discriminate against minorities when renting out apartments. d. apartment managers will give less consideration to renters' complaints. ANSWER: d 174. Under rent control, bribery is used to: a. allocate housing to the most deserving tenants. b. make the total price of a rental property (including the bribe) less than the market price that would prevail without rent controls. c. make the total price of a rental property (including the bribe) closer to the market price that would prevail without rent controls. d. allocate the housing to the poorest individuals in the market. ANSWER: c 175. Rent control in New York City has resulted in: a. people living in luxury apartments and paying low rents. b. people having to bribe landlords to get apartments. c. people having difficulty finding apartments. d. All of the answers are correct. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 176. From an efficiency standpoint, rent controls: a. increase efficiency by allowing those households who could not afford high rents before to be able to purchase housing. b. increase efficiency by increasing consumer surplus. c. decrease efficiency because both buyers and sellers would be better off if the price of rents were allowed to rise. d. decrease efficiency because they make it illegal to trade. ANSWER: c 177. Under rent controls: a. some mutually profitable trades are illegal and therefore the benefits are never realized. b. producer surplus is zero. c. the quantity demanded of apartments is typically less than the quantity supplied. d. buyers are better off at the expense of sellers. ANSWER: a 178. Which statement would be the LEAST likely result of rent controls? a. Landlords are more selective with respect to the people they rent apartments to. b. Landlords provide less maintenance on the apartments. c. More new apartments are available for rent. d. More people look for apartments for rent than the number of apartments available. ANSWER: c 179. Which statement(s) is(are) TRUE? I. Rent controls prevent apartments from being allocated to people who value them the most. II. With a system of rent controls, landlords are more likely to make needed repairs to their properties as a way of attracting renters. III. Although inefficient, rent controls are the best way to help the poor afford housing. a. I only b. I and III only c. I, II, and III d. II and III only ANSWER: a 180. An alternative to rent control that has been used in some cities since the 1990s is: a. confiscation of property from landlords. b. policies that prevent evictions. c. rent regulation that limits the rate of increase in rent. d. higher taxes on the rental income of landlords. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: c 181. Which statement(s) is(are) TRUE? I. Regulations that limit the rate of increase in rents are equally as inefficient as rent controls. II. Rent regulations reduce the incentive for landlords to cut back on maintenance. III. Regulations that limit the rate of increase in rents allow the price of rental housing to respond to market forces. a. I only b. I and III only c. I, II, and III d. II and III only ANSWER: d 182. The BEST way to help the poor afford housing is by: a. using rent control. b. raising the minimum wage. c. issuing housing vouchers. d. raising payroll taxes. ANSWER: c 183. Housing vouchers are a better option than rent controls when a government is attempting to make housing affordable for the poor. The reason is that the housing voucher entitles the tenants to: a. live in a rent-controlled apartment. b. free maintenance of their apartment. c. a certain dollar amount off the rent of any apartment they choose. d. live in a luxury apartment of their choice. ANSWER: c 184. An alternative to rent controls that increases the quantity of housing and targets consumers that need lowcost rental property is: a. tax credits. b. vouchers. c. subsidies to landlords. d. not available. ANSWER: b 185. If affordable housing is a concern, then a better policy than rent controls may be for the government to provide: a. subsidized housing. b. additional jobs. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 c. housing vouchers. d. mortgage discounts. ANSWER: c 186. Which statement is FALSE? a. A frost that destroys half the orange crop will create a surplus of oranges. b. It is possible to have a shortage of a good even if its supplies are abundant. c. Politicians often blame speculators and profiteers, rather than changes in supply and demand, for rising prices. d. To eliminate a shortage, prices must rise. ANSWER: a 187. If price controls are so harmful, why would a country ever impose them? a. No one really knows. b. Price controls are usually thought to be beneficial. c. Politicians have strong incentives to respond to public opinion with price controls when prices increase sharply. d. People usually see the consequences of price controls but think they will be a good policy. ANSWER: c 188. Price controls are usually imposed in response to an: a. expected increase in prices. b. expected decrease in prices. c. unexpected increase in prices. d. unexpected decrease in prices. ANSWER: c 189. The shortages that result from imposing price controls: a. are rarely recognized by the public as a result of the price controls themselves. b. typically lead the public to lobby politicians to repeal the price controls. c. last for only a short while until markets can adjust to the new lower prices. d. create higher prices. ANSWER: a 190. Dramatic price increases, such as those seen in the markets for gas and oil in the 1970s, are typically the result of: a. price gouging by big businesses. b. shortages. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 c. reductions in supply. d. foreign intervention in markets. ANSWER: c 191. Why do many consumers and politicians advocate for price controls? a. Price controls are the only way for the poor to obtain certain goods when prices rise. b. Most consumers and politicians do not advocate for price controls because they understand their negative consequences. c. Price controls appear to be a straightforward response to the problem of price increases. d. The gains in consumer surplus typically outweigh the loss in producer profits. ANSWER: c 192. Ancient Athens had strict controls on the price of wheat, and punishment for violation of the price control was death. The speech by a politician imploring a jury to convict an alleged violator of the law survives to this day: “And consider that in consequence of this vocation, very many have already stood trial for their lives; and so great the [earnings] which they are able to derive from it that they prefer to risk their life every day, rather than cease to draw from, the public, their improper profits.” Which of the following is the MOST likely reason merchants were willing to risk their lives to charge more than the legal price? a. Merchants were irrationally blinded by greed. b. Merchants were not aware of the law, since it was not publicly declared. c. Merchants could not stay in business if they didn't raise prices. d. Merchants did not like the general public, who approved of these laws, and this is how some chose their revenge. ANSWER: c 193. After a hurricane, the prices of many items rise. How BEST might the government help poor people afford to buy goods and services? a. institute price controls at prehurricane prices b. set prices at zero so that consumers can buy what they need without financial distress c. give poor people debit cards for use in purchasing essential items, while leaving prices unregulated d. institute a wage freeze to keep the costs of production from rising too rapidly ANSWER: c 194. An economy with permanent, universal price controls is in essence a: a. market economy. b. social economy. c. free economy. d. command economy. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 195. The blat economy described in the text results when price controls are: a. extensive and cause chronic shortages in the economy. b. extensive, but the causes of shortages in the economy are only temporary. c. short lasting but cause chronic shortages in the economy. d. short lasting and cause only temporary shortages in the economy. ANSWER: a 196. What does the Russian concept of blat refer to? a. a Russian brand of vodka b. having connections that enable one to obtain favors c. the amount of time people spend waiting in lines to buy things d. There is no such word. ANSWER: b 197. To what does the Russian concept of blat refer? a. the barter system that developed in Russia as a result of the shortages of goods b. the command economy system that was instituted in Russia c. the act of standing in lines to buy goods d. having connections that one can use to get favors ANSWER: d 198. Which scenario shows how the Russian concept of blat works during a beef shortage? a. A politician acquires some steak through his friendship with the owner of the beef factory. b. A beef factory owner hoards some steak at his own house. c. A beef factory owner realizes that there is a surplus of plastic wrapping. d. More people than usual stand in line to try to buy steak. ANSWER: a 199. The chronic shortages of goods in the Soviet Union were: a. caused by the CIA's manipulation of the Soviet currency. b. limited to luxury items, like yachts and airplanes. c. the result of too much defense spending that hoarded resources away from the production of consumer goods. d. beneficial to the party elite, who traded scarce goods for favors and other scarce goods. ANSWER: d 200. What is blat? a. a long line Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. the time costs associated with buying price-controlled goods c. the use of political connections to get favors d. a dilapidated rent-controlled apartment. ANSWER: c 201. Likely the MOST SIGNIFICANT example of federal price controls in the United States came in the market for: a. coal. b. housing. c. automobiles. d. oil. ANSWER: d 202. Which is NOT a cost of binding price controls? a. misallocation b. deadweight loss c. search costs d. equity costs ANSWER: d 203. Likely the most significant example of federal price controls in the United States came under President: a. Barack Obama. b. Richard Nixon. c. Bill Clinton. d. Ronald Reagan. ANSWER: b 204. Airlines in the United States were subject to _____ regulation from 1938 to 1978. a. binding price ceiling b. binding price floor c. nonbinding price ceiling d. nonbinding price floor ANSWER: b 205. Which statement(s) is(are) TRUE? Price floors set above the equilibrium price cause: I. shortages. II. surpluses. III. deadweight losses. a. I and III only Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. II and III only c. III only d. I is true if demand is elastic; however, II is true if demand is inelastic. ANSWER: b 206. The presence of price floors in a market is usually an indication that: a. there is an insufficient quantity of a good or service being produced. b. the forces of supply and demand are unable to establish an equilibrium price. c. the sellers of the good or service outnumber the buyers. d. policymakers believe the price floor does not involve inequities. ANSWER: c 207. A price floor is: a. a maximum price allowed by law. b. a minimum price allowed by law. c. able to produce an efficient outcome. d. a tool used to increase government revenues. ANSWER: b 208. The most common example of a price being controlled above market levels involves a good for which the: a. sellers outnumber the buyers. b. buyers outnumber the sellers. c. market is controlled by a monopolist. d. market is controlled by the government. ANSWER: a 209. When the minimum price that can be legally charged is above the market price, we say there is a price: a. support. b. stability. c. ceiling. d. floor. ANSWER: d 210. Figure: Price Floors
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $8. What will be the effect of this wage floor? a. There will be a shortage of 6,000 workers. b. There will be a surplus of 6,000 workers. c. There will be a shortage of 3,000 workers. d. The wage floor will have no effect on the market. ANSWER: d 211. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What will be the effect of this wage floor? a. There will be a shortage of 7,000 workers. b. There will be a surplus of 7,000 workers. c. There will be a shortage of 4,000 workers. d. The wage floor will have no effect on the market. ANSWER: b 212. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What is the lost consumer surplus from the wage floor? a. area ABC b. area C c. area F d. area A ANSWER: b 213. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What is the lost producer surplus from the wage floor? a. area ABC b. area C c. area F d. area A ANSWER: c 214. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What is the quality waste from the wage floor? a. area ABC b. area C c. area BE d. area ABEI ANSWER: c 215. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What are the lost gains from trade from the wage floor? a. area ABC b. area CF c. area BE d. area ABEJ ANSWER: b 216. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What does area EB represent? a. quality waste b. lost gains from trade c. lost consumer surplus d. lost producer surplus ANSWER: a 217. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What does area C represent? a. quality waste b. lost gains from trade c. lost consumer surplus d. lost producer surplus ANSWER: c 218. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What does area F represent? a. quality waste b. lost gains from trade c. lost consumer surplus d. lost producer surplus ANSWER: d 219. Figure: Price Floors Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5
Suppose the town of Drippling Springs enacts a wage floor of $20. What does area CF represent? a. quality waste b. lost gains from trade c. lost consumer surplus d. lost producer surplus ANSWER: b 220. Price floors would create all of the following effects EXCEPT: a. surpluses. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. deadweight loss. c. wasteful decreases in product quality. d. misallocation of resources. ANSWER: c 221. A price floor: a. is a maximum price allowed by law. b. is a minimum price allowed by law. c. has an effect only when it is set below the market price. d. has little effect on market activity. ANSWER: b 222. Which would NOT happen as the result of a price floor? a. a surplus of the good b. lost gains from trade c. misallocation of resources d. decreases in product quality ANSWER: d 223. Raising the minimum wage is NOT an effective way to eliminate poverty because increases in the minimum wage: a. do not increase incomes. b. create incentives for workers to exit the labor force. c. create higher unemployment. d. tend to simply increase birth rates among low-income households. ANSWER: c 224. Suppose Los Angeles introduces a price floor on taxi rides. Which of the following will likely happen in the market for taxi rides? a. Taxi owners will increase the number of taxis in operation. b. Riders will increase their demand for taxi rides. c. Taxi owners will increase the quality of the ride by improving the interior of their taxis. d. Taxi owners will decrease the quality of the ride by allowing the interior of their taxis to deteriorate. ANSWER: c 225. Suppose Los Angeles introduces a price floor on taxi rides. Which of the following will likely happen in the market for taxi rides? a. There will be lost gains from trade as there will be a surplus of rides available. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. There will be lost gains from trade as there will be a shortage of rides available. c. Taxi drivers competing for rides will be of a lower quality. d. Taxi drivers will choose not to operate in the market. ANSWER: a 226. Which statement(s) is(are) TRUE? I. Price floors are legally established minimum prices for goods and services. II. Price floors create surpluses, whereas price ceilings create shortages. III. Price floors reduce the quality of goods and services. a. I and II only b. II only c. I, II, and III d. I only ANSWER: a 227. In the case of a binding price floor, the price paid in the market will be: a. greater than the free market equilibrium price. b. less than the free market equilibrium price. c. equal to the free market equilibrium price. d. unable to be compared with the free market equilibrium price. ANSWER: a 228. When airlines were regulated, many offered wider seats and fancy meals. This is an example of: a. quality waste. b. consumer surplus. c. producer surplus. d. lost gains from trade. ANSWER: a 229. The minimum wage: a. has very little influence on the American economy because a majority of workers earn more than the minimum wage. b. improves the American economy because a majority of workers earn more because of the minimum wage. c. improves the American economy because a majority of workers are able to work because of the higher wage. d. hurts the American economy because a majority of workers would work for less than the minimum wage but cannot find a job. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 230. The regulation of airline fares resulted in which of the following? I. Low-cost airlines were limited to flying across state lines. II. Airlines offered wider seats and fancy meals to compete for fliers. III. Fewer new airlines entered the market. IV. Low-quality airlines went out of business. a. I and II only b. I, II, and IV only c. I, II, and III only d. I and IV only ANSWER: c 231. In the case of a nonbinding price floor, the price paid in the market will be: a. more than a free market equilibrium price. b. less than a free market equilibrium price. c. equal to a free market equilibrium price. d. unable to be compared with a free market equilibrium price. ANSWER: c 232. A binding price floor leads to a(n): a. shortage. b. surplus. c. equilibrium quantity. d. quantity of zero units. ANSWER: b 233. A nonbinding price floor leads to a(n): a. shortage. b. surplus. c. equilibrium quantity. d. quantity of zero units. ANSWER: c 234. The quantity exchanged of a good _____ under a binding price floor. a. rises b. remains the same c. falls d. changes in an indeterminate direction ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 235. Figure: Price Controls
P* represents a price floor enacted by the government. Which graph shows an effective price floor? a. Figure A b. Figure B c. Figure C Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 d. Figures B and C ANSWER: b 236. Figure: Price Controls
P* represents a price floor enacted by the government. Which graph shows an ineffective price floor? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. Figure A only b. Figure B only c. Figures B and C d. Figures A and C ANSWER: d 237. When a price floor is in effect: a. demanders get too strong of a signal from suppliers about product availability. b. suppliers have no incentive to signal product availability to demanders. c. all of the suppliers' product is purchased at the lower price, so there is no need to signal anything to demanders. d. suppliers cannot signal their product availability to demanders. ANSWER: d 238. If an American teenager will work for $5.00 an hour and an employer is willing to pay that wage, but the minimum wage is $7.25 an hour and the employer is not willing to pay that much, the teenager goes unemployed and the market experiences: a. lost gains from trade. b. wasteful increases in quality. c. resource misallocations. d. reductions in product quality. ANSWER: a 239. Which of the following statements are TRUE? I. The majority of workers earning the minimum wage are above the age of 25 years. II. The majority of workers earning the minimum wage are below the age of 25 years. III. Most workers less than 25 years old make more than the minimum wage. IV. Most workers less than 25 years old make just the minimum wage. a. I and II b. I and IV c. II and III d. II and IV ANSWER: c 240. Which statement(s) is(are) NOT true? I. An increase in the minimum wage will not affect employment. II. About 15% of all hourly workers in the United States earn the minimum wage. III. Raising the minimum wage is an effective method to combat poverty. IV. Raising the minimum wage decreases employment of low-skilled workers. a. I and II only Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. II and III only c. I and IV only d. IV only ANSWER: c 241. Figure: Minimum Wage
At a minimum wage of $8, firms are willing to hire _____ workers. a. 45 b. 25 c. 35 d. more than 45 ANSWER: b 242. Figure: Minimum Wage
How many workers are unemployed at a minimum wage of $8? a. 10 b. 20 c. 25 d. 35 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: b 243. Figure: Unskilled Labor Market
Based on the figure, what is the number of unemployed workers if a minimum wage of $6 is set in this market for unskilled labor? a. 40 b. 55 c. 20 d. 95 ANSWER: a 244. The federal minimum wage causes unemployment MOSTLY among: a. middle-class workers. b. young, unskilled workers. c. college graduates. d. highly skilled workers. ANSWER: b 245. For a price floor to prevent market forces from finding the equilibrium price, it must be set: a. above the equilibrium price, causing a market shortage. b. below the equilibrium price, causing a market shortage. c. below the equilibrium price, causing a market surplus. d. above the equilibrium price, causing a market surplus. ANSWER: d 246. A price floor causes: a. excess demand. b. a shortage. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 c. a surplus. d. quantity demanded to exceed quantity supplied. ANSWER: c 247. The minimum wage is an example of a(n): a. price ceiling. b. price floor. c. wage subsidy. d. efficient policy. ANSWER: b 248. Figure: Labor Market 1
Which statement is correct? a. A price floor set at W1 would cause a labor surplus best labeled by A. b. A price floor set at W1 would cause a labor surplus best labeled by B. c. A price floor set at W2 would cause a labor surplus best labeled by A. d. A price floor set at W2 would cause a labor surplus best labeled by B. ANSWER: c 249. If a minimum wage is posted in the labor market: a. the demand for labor will increase. b. the supply of labor will decrease. c. a surplus of labor will develop. d. All of the answers are correct. ANSWER: c 250. An increase in the minimum wage would likely increase unemployment among which group of workers? a. college graduates b. unskilled workers Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 c. female workers d. older workers ANSWER: b 251. Figure: Labor Market 2
There will be six unemployed workers at a minimum wage of: a. $4. b. $6. c. $8. d. $7. ANSWER: c 252. The higher the minimum wage is above the equilibrium wage, the: a. greater is the number of low-skilled unemployed workers. b. smaller is the labor surplus among teenagers. c. smaller is the number of low-skilled unemployed workers. d. more likely it is for students to stay in high school and receive their diploma. ANSWER: a 253. Minimum wage laws cause _____ low-skilled employment. a. an increase in b. a decrease in c. no change in d. an indeterminate change in ANSWER: b 254. In the case of a binding price floor, economists expect the quality level of a good to: a. rise. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. remain the same. c. fall. d. change in an indeterminate direction. ANSWER: a 255. We commonly associate _____ with agricultural products. a. price ceilings b. price floors c. unregulated markets d. rent control ANSWER: b 256. If, under price control, quantity supplied equals 50 units and quantity demanded equals 40 units, then the price control is a: a. binding price ceiling. b. binding price floor. c. market equilibrium. d. nonbinding price floor. ANSWER: b 257. Minimum Wage for Country A
The deadweight loss from the $8 minimum wage is area: a. bc. b. ad. c. ce. d. bd. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: c 258. Ben is willing to work for $4/hour, and an employer is willing to hire Ben for $7/hour. Which statement is TRUE? a. A minimum wage of $7.50/hour would prevent this mutually beneficial exchange. b. Minimum wages do not prevent mutually beneficial exchanges. c. A minimum wage of $4.50/hour would prevent this mutually beneficial exchange. d. A minimum wage of $3.50/hour would prevent this mutually beneficial exchange. ANSWER: a 259. Figure: Price Floor
How much unemployment results from the imposition of a price floor set at $10? a. 100 units b. 310 units c. 50 units d. 210 units ANSWER: a 260. Figure: Price Floor
What are the lost gains from trade as a result of the imposition of the price floor? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. area BC b. area D c. area CF d. area BE ANSWER: c 261. Figure: Deadweight Loss
What areas represent the deadweight losses in the labor market as a result of the imposition of a minimum wage at $4? a. CF b. BC c. D d. There is no deadweight loss in this market as a result of the $4 minimum wage. ANSWER: d 262. The U.S. Congress first instituted the minimum wage in: a. 1914. b. 1974. c. 1938. d. 1925. ANSWER: c 263. If the minimum wage were lowered to be closer to the market level, the: a. gains from trade would decrease, compared to a higher minimum wage. b. gains from trade would increase, compared to a higher minimum wage. c. lost gains from trade would increase, compared to a higher minimum wage. d. deadweight loss would increase, compared to a higher minimum wage. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 264. The influence of the minimum wage in the American economy is very small because MOST workers earn: a. more than the minimum wage. b. less than the minimum wage. c. more or less than the minimum wage. d. near the minimum wage. ANSWER: a 265. Which of these cases would likely result from an increase in minimum wage? a. an increase in the price of hamburgers b. an increase in unemployment among teenagers c. increased incomes for those who keep minimum wage jobs d. All of the answers are correct. ANSWER: d 266. Figure: Labor Market 3
A minimum wage of $7 causes a deadweight loss of: a. WX. b. XZ. c. VY. d. YW. ANSWER: b 267. Minimum wages cause: a. loss of gains from trade. b. excessive quality of products. c. shortages of labor. d. a higher supply of the goods that labor produces. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 268. Price floors encourage firms to provide _____ quality. a. too little b. too much c. the right amount of d. no ANSWER: b 269. The deregulation of the airline industry caused: a. lower prices and more flights. b. higher prices and fewer flights. c. higher prices and more flights. d. lower prices and fewer flights. ANSWER: a 270. The price floor regulation of the airline industry: a. was the leading factor in the development of low-cost airlines. b. led to a misallocation of resources by preventing the entry of innovative airlines. c. gave the middle class the opportunity to fly at reduced rates. d. was based on the principle of low prices and low quality. ANSWER: b 271. What would be the LEAST likely result of a price floor in the market for airline travel? a. rapid replacement of old airliners with new aircraft b. narrow seats and basic meals like peanuts or chips with a coffee or soda c. special incentives like airline mileage clubs to attract customers d. excellent engine maintenance ANSWER: b 272. Deregulation of the airline markets reduced waste, increased efficiency, and: a. eliminated competition. b. improved allocation of resources. c. raised prices. d. caused an increase in costs. ANSWER: b 273. Figure: Airline Industry
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Chapter 5
Suppose that airlines are regulated and prices are kept above the market level. The areas A and B represent, respectively, the: a. deadweight loss and quality waste. b. deadweight loss and consumer surplus. c. quality waste and deadweight loss. d. quality waste and consumer surplus. ANSWER: c 274. Price floors make it illegal to compete for more customers by lowering prices, so firms compete by offering customers: a. various options. b. more quantity. c. more discount. d. higher quality. ANSWER: d 275. If firms are unable to lower prices because of a legally mandated price floor: a. firms are better off (have higher profits) at the expense of consumers. b. firms will often compete by offering higher-quality goods than consumers are willing to pay for. c. consumers will decrease their demand due to the high prices. d. quantity supplied will be less than quantity demanded. ANSWER: b 276. An employer has work that can be done in the same time by one high-skilled worker paid $50.00 an hour or by eight low-skilled workers paid $5.00 an hour each, and the minimum wage is $7.25 an hour. In this scenario, who benefits from the minimum wage, the high-skilled worker or the low-skilled workers? (Hint: Whom would you hire for the job?) a. the high-skilled worker b. the low-skilled workers c. Both benefit equally. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 d. It is impossible to say who benefits more. ANSWER: a 277. Price floors on airlines: a. kept ticket prices much lower than unregulated ticket prices. b. caused airlines to compete by offering customers higher-quality services, such as better meals and wider seats. c. reduced the quality of airline services (e.g., less frequent flights, peanuts instead of meals). d. gave airlines an incentive to lower ticket prices to increase ticket sales. ANSWER: b 278. A “quality waste” refers to: a. an increase in quality under a price ceiling. b. an increase in quality under a price floor. c. a decrease in quality under a price ceiling. d. a decrease in quality under a price floor. ANSWER: b 279. In 1974, there were _____ airline firms operating in the United States. a. 10 b. 79 c. 38 d. 16 ANSWER: a 280. Southwest Airlines was able to enter the national market in 1978 as a result of: a. winning a series of lawsuits. b. accumulating market share. c. airline deregulation. d. establishment of new price controls. ANSWER: c 281. Which is NOT an effect of a price floor? a. misallocation of resources b. deregulation c. surpluses d. wasteful increases in quality ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 282. One of the virtues of the market process is that it is open to new ideas, innovations, and: a. reallocation of property. b. central planning by government. c. profits. d. experiments. ANSWER: d 283. Deregulation of the airline industry has led to: a. an increase in the quality and safety of air travel. b. increases in the costs of production in air travel. c. more firms providing air travel services. d. fewer firms providing air travel services. ANSWER: c 284. Which statement is CORRECT regarding the restrictions on entry into the airline industry? a. Resources were equally allocated because new airlines were kept out of the industry. b. Resources were misallocated because low-cost airlines were kept out of the industry. c. Resources were efficiently allocated because high-cost airlines were kept out of the industry. d. Resources were reallocated because only low-cost airlines were allowed to enter the industry. ANSWER: b 285. Deregulation improves the allocation of resources by: a. allocating more resources to the firms. b. decreasing the number of firms in the market. c. allowing low-cost, innovative firms to enter the market. d. creating more market opportunities for firms. ANSWER: c 286. Airline regulation from 1938 to 1978 was successful in keeping prices high because: a. it controlled price but not entry into the airline market. b. it controlled both price and entry into the airline market. c. it listened to the requests of suppliers during this time at the expense of consumers. d. of declining production costs. ANSWER: b 287. Labor unions are composed of high-skilled workers but generally support minimum wage laws that typically affect only low-skilled workers. Their support makes more sense if one considers that low-skilled labor is a _____ high-skilled labor and minimum wages _____ the quantity demanded of low-skilled labor. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. complement to; increase b. complement to; decrease c. substitute for; increase d. substitute for; decrease ANSWER: d 288. When price floors are in effect, goods and services: a. are still allocated efficiently. b. are not necessarily supplied by their lowest-cost producer. c. do not necessarily flow to their highest-valued use. d. are neither necessarily supplied by their lowest-cost producer nor flow to their highest-valued use. ANSWER: b 289. Regulation of airline fares under the Civil Aeronautics Board: a. meant that the government prevented the entry of new competitors to maintain high ticket prices. b. led to greater innovation in the airline industry at the cost of higher ticket prices. c. created incentives for optimal resource allocation. d. made it possible for lower-income Americans to afford air travel for the first time. ANSWER: a 290. In a market, the equilibrium price is $20. A price ceiling of $15 creates a bigger shortage than a price ceiling of $10. a. True b. False ANSWER: b 291. A price ceiling is a legal maximum on the price of a good or service. a. True b. False ANSWER: a 292. Most economists favor price controls as a way of allocating resources. a. True b. False ANSWER: b 293. A price ceiling is a minimum price below the market price that can be legally charged. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. False ANSWER: b 294. A price ceiling set below the equilibrium price always results in a shortage. a. True b. False ANSWER: a 295. If a price ceiling is below equilibrium price, the willingness to pay for the quantity provided will be above equilibrium price. a. True b. False ANSWER: a 296. President Richard Nixon froze all prices and wages in 1971, which led to shortages of goods throughout the economy. a. True b. False ANSWER: a 297. Businesses may respond to price ceilings by closing down, reducing product quality, and accepting bribes to sell their product. a. True b. False ANSWER: a 298. Rent control laws are most commonly a form of price ceiling. a. True b. False ANSWER: a 299. Minimum wage laws are an example of price ceilings. a. True b. False ANSWER: b 300. Minimum wage laws are sometimes a price floor and sometimes a price ceiling. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. False ANSWER: b 301. Price ceilings are always good for consumer welfare. a. True b. False ANSWER: b 302. Suppose that supply is fixed at 100 units and demand is Q = 500 – P. A price ceiling of $100 creates a shortage of 400 units. a. True b. False ANSWER: b 303. Price ceilings cause the quantity demanded to be less than the quantity supplied. a. True b. False ANSWER: b 304. Even though shortages typically result from the imposition of price ceilings, the overall gains in economic efficiency outweigh the costs. a. True b. False ANSWER: b 305. Price controls such as those instituted by President Richard Nixon in 1971 led to severe shortages in many markets across the United States. a. True b. False ANSWER: a 306. When he was president, Richard Nixon froze all prices and wages in the United States. a. True b. False ANSWER: a 307. If price ceilings do not allow prices to rise, then demanders will be unable to signal their needs to suppliers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. True b. False ANSWER: a 308. Once one accounts for time costs and bribes, it may be more expensive to make purchases at the government-controlled price than at the free market price. a. True b. False ANSWER: a 309. Suppose a $3 per gallon price ceiling is imposed on gasoline and the equilibrium price of gasoline is $2 per gallon. Such a price ceiling would lead to long lines at gas stations. a. True b. False ANSWER: b 310. One benefit of shortages is that they eliminate competition, since buyers cannot compete for goods by paying higher prices. a. True b. False ANSWER: b 311. Once search and waiting costs are taken into account, price ceilings can cause consumers to spend more for a good than if prices were unregulated. a. True b. False ANSWER: a 312. The producer and consumer surplus lost as a result of price ceilings is often referred to as deadweight loss. a. True b. False ANSWER: a 313. The minimum wage causes unemployment mainly among poor, unskilled workers. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 314. The quantity traded with a binding price ceiling is lower than the quantity traded without a price ceiling, which means that price ceilings create lost gains from trade. a. True b. False ANSWER: a 315. If price controls are imposed, gains from trade, including consumer and producer surplus, are likely to increase. a. True b. False ANSWER: b 316. When prices are not allowed to rise, there is no incentive for suppliers to ship resources to where they are needed most. a. True b. False ANSWER: a 317. Under airline regulation, within-state flights were cheaper than interstate flights of comparable length. a. True b. False ANSWER: a 318. Price ceilings misallocate resources because resources are not necessarily allocated to their highest-valued use. a. True b. False ANSWER: a 319. When price ceilings are effective, gains from trade are usually lower than if the available goods are allocated to the highest-valued uses. a. True b. False ANSWER: a 320. Effective price ceilings cause misallocation of resources because scarce resources are usually not allocated to their highest-valued uses. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: a 321. Housing shortages caused by rent controls are larger in the long run because the supply of housing is more elastic in the long run. a. True b. False ANSWER: a 322. When a crisis in the Middle East reduces the supply of oil, the price system rationally responds by reallocating oil from highest-valued uses to lower-valued uses. a. True b. False ANSWER: b 323. When a price ceiling exists in the oil market, suppliers cannot move oil from low-valued uses to highvalued uses. a. True b. False ANSWER: a 324. Rent controls create large shortages in the long run rather than the short run because the long-run supply curve for apartments is inelastic. a. True b. False ANSWER: b 325. The long-run supply curve for rent-controlled apartments is generally more inelastic than the short-run supply curve. a. True b. False ANSWER: b 326. The poor state of the economy was the dominant factor that caused the fall in the number of new apartments built in Ontario, Canada, during the first half of the 1970s. a. True b. False ANSWER: b 327. People typically blame price controls for the problems caused by price controls. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. True b. False ANSWER: b 328. The Soviet Union's experience with price controls demonstrated that, with careful planning, shortages and surpluses were a rare event. a. True b. False ANSWER: b 329. When the maximum price that can be legally charged is above the market price, we say that there is a price floor. a. True b. False ANSWER: b 330. A price floor is a legal maximum on the price of a good or service. a. True b. False ANSWER: b 331. If a price floor is above the equilibrium price, it will have no effect in the market. a. True b. False ANSWER: b 332. If a price floor is below the equilibrium price, a shortage will result. a. True b. False ANSWER: b 333. The minimum wage is an example of a price floor in the labor market. a. True b. False ANSWER: a 334. A minimum wage mostly creates unemployment among older workers. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 b. False ANSWER: b 335. Although a minimum wage increases unemployment, it doesn't create a deadweight loss. a. True b. False ANSWER: b 336. A price floor makes it illegal for firms to compete for more customers by lowering prices, causing firms to compete by offering customers higher quality. a. True b. False ANSWER: a 337. The Civil Aeronautics Board regulated airline fares above the free market rates, which led airlines to compete by offering fancy meals, wide seats, and frequent flights. a. True b. False ANSWER: a 338. Price floors and price ceilings both result in lost gains from trade and decreases in the quality of the product. a. True b. False ANSWER: b 339. Regulation of entry into the airline industry increased costs and reduced innovation. a. True b. False ANSWER: a 340. Price floors set above equilibrium encourage quality waste and wasteful lines. a. True b. False ANSWER: b 341. If the equilibrium wage is $10 an hour and the government sets a minimum wage of $8, there will be a shortage of labor. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 a. True b. False ANSWER: b 342. Minimum wage laws are an example of price floors. a. True b. False ANSWER: a 343. In the presence of a price floor, some suppliers are willing to take a lower price for their goods, but these trades never take place because they are illegal. This illustrates the problem of misallocation of resources. a. True b. False ANSWER: b 344. Briefly discuss the U.S. experience with price ceilings during the early 1970s. What effects of the price ceilings became apparent during this period, and how did that period eventually end? ANSWER: In August 1971, President Richard Nixon froze all wages and prices. Shortages began to appear soon after in industries such as lumber, steel, aluminum, paper, and clothing. Since prices could not be raised, sellers began to lower the quality of products and service. For example, the full-service gas station disappeared during this time. The most serious shortage was the shortage of oil. Goods are typically allocated randomly during a shortage, and gas was no exception. In 1974, Business Week reported that while consumers waited 3 hours in line for gasoline in some states, consumers were getting easy access to gas in other states. When the shortages grew worse, President Nixon even ordered the closures of schools and factories. Daylight savings time and the 55-mph limit were instituted. Price controls for most goods were lifted by 1974, but price controls on oil lingered to a certain extent. Eventually, President Ronald Reagan lifted all controls on oil prices when he took office in 1981. 345. Assume that a market is defined by two equations: the demand equation is Qd = 60 – 5P, and the supply equation is Qs = 5P. Now suppose that a price ceiling is instituted at $3. Use this information to answer the questions below. a. What are the equilibrium price and quantity in this market? b. What is the amount of the shortage at the price ceiling? c. What is the total value of time wasted by consumers standing in line? ANSWER: a. Equilibrium P = $6, and equilibrium Q = 30 units. b. Qd = 60 – 5(3) = 45. Qs = 5(3) = 15. Shortage = 30 units. c. The price associated with a Qd of 15 units can be found by substituting the quantity back into the demand equation. 15 = 60 – 5P. P = $9. Therefore, the total value of time wasted standing in line is $6 × 15 = $90. 346. Illustrate on a supply and demand diagram how price ceilings may distort the market outcome, and specify Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 what secondary effects price ceilings can create. ANSWER:
When the maximum price that can be legally charged is below the market price, we say that there is a price ceiling. Price ceilings create five important effects: shortages, reduction in product quality, wasteful lineups and other search costs, a loss of gains from trade, and a misallocation of resources. 347. A market's demand and supply curves are given by: Qd = 400 – 3P Qs = 100 + 2P where Qd is quantity demanded, Qs is quantity supplied, and P is the price. a. Suppose the government enacts a price ceiling of $60. What are the quantity demanded and quantity supplied? Is the market characterized by a shortage? b. Suppose that supply conditions in the market change to Qs = 80 + 2P. Given the price ceiling of $60, what happens to quantity demanded and quantity supplied? Is the market characterized by a shortage? How much are consumers willing to pay per unit for the quantity transacted? ANSWER: a. Qd = 400 – 3(60) = 220; Qs = 100 + 2(60) = 220. The market is in equilibrium, so there is no shortage. b. Qd = 400 – 3(60) = 220; Qs = 80 + 2(60) = 200. There is a shortage of 20 units. The quantity transacted is 200. Willingness to pay for 200 units: 200 = 400 – 3P; 3P= 200; P = 200/3 = $66.67. 348. When the price of gasoline rose to $4 per gallon in the summer of 2008, many people were outraged at how gas companies were “price gouging” individuals and called for price controls on gasoline. If the government had agreed to legally cap the price of gasoline, would this have lowered the cost to consumers? Explain. ANSWER: No, this would not have decreased the total cost to consumers. Since the price ceiling on gasoline would have caused a shortage of gasoline, consumers would have had to expend additional time waiting in line or possibly even additional money on bribes and so on. Price controls do not eliminate competition; they merely change the form of competition. Therefore, in the end, these price controls would not have been successful in lowering costs to consumers. 349. Using a supply and demand diagram as a reference, discuss the way a price ceiling causes a reduction in gains from trade.
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Chapter 5 ANSWER:
The diagram is a rough copy of Figure 8.3 in the text. Students should identify the price ceiling, the shortage, and the losses in consumer and producer surplus. They should identify these areas on the diagram to indicate the loss in gains from trade. 350. Many times after natural disasters such as hurricanes, prices are controlled so that it is illegal to charge any price greater than prehurricane levels. For consumers who value these goods very highly, is this a good policy? If prices were allowed to increase, what do you think would happen to the supply of these highly valued goods? Explain. ANSWER: For consumers who value these goods (e.g., bottled water and generators) very highly, this is not a good policy. The price controls create large shortages of these goods, and many times these consumers are unable to (legally) obtain these goods, since they are unable to signal their high value by offering to pay more. In addition, with prices fixed at artificially low levels, there is no incentive for suppliers of these goods to increase supply. If prices were allowed to rise, this would entice new (or existing) suppliers to enter this market and hence the supply of these goods would rise; price controls, however, remove the incentive to respond rationally. 351. Figure: Allocating Goods Under Price Ceilings
Refer to the figure and answer the following questions: a. If the goods are allocated to only the highest-valued uses, find the total dollar amount of consumer surplus. b. If the goods are allocated randomly between the high-valued uses and the low-valued uses, then what is the average value of the good? c. If goods are allocated randomly, what is the total dollar amount of consumer surplus? ANSWER: a. If the goods are allocated to only the highest-valued uses, consumer surplus would be the total Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 area (A + B + C + D) = $1,560. b. $13 = (20 + 6)/2 c. If the goods are allocated randomly, consumer surplus will be the total area (C + D) = $840. Alternatively, consumer surplus is also (13 – 6)120 = $840. 352. Figure: Random Allocation Under Price Ceilings
Refer to the figure. The government enacted a price ceiling of $6 per unit. Calculate the following: a. If the goods are allocated randomly between the high-valued uses and the low-valued uses, what is the total amount of consumer surplus in dollars? b. What is the lost amount of consumer surplus when goods are allocated randomly, when compared to a situation in which the goods are allocated only to the highest-valued uses? ANSWER: a. Consumer surplus, if the goods are allocated randomly, would be the total of areas C + D. This is $12,000. b. A + B are lost if the goods are allocated randomly. This is $8,400. 353. Rent controls are typically implemented as a means of helping low-income families afford housing. Is this a good way to help poor families in general? Explain why or why not. ANSWER: No, this is not a good means of helping. In general, rent controls create shortages that make it hard for poor families to even find suitable housing. In addition, they lead to decreased quality of housing, as owners attempt to offset losses from the lower prices by cutting their costs. With rent controls also come high search costs, which can be especially costly for the people that landlords think are not “ideal renters” (unfortunately, many minorities and low-income households fall into this category). In short, most of the time rent controls end up making poor families worse off. 354. Do shortages caused by rent controls tend to be larger in the short run or the long run? Use a supply and demand diagram to help illustrate your answer. ANSWER: Rent control creates larger shortages in the long run than in the short run. The short-run shortage is small, since the apartment units are already built. In the long run, fewer new units are built and old apartments are converted into condominiums or torn down, so the shortage grows over time.
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Chapter 5
355. Rent controls have five important effects on the market for apartments. List and provide an example of each effect. ANSWER: 1) Shortages: Since the rent-controlled price is below the equilibrium price, the quantity demanded of apartments will exceed the quantity supplied. The shortage will worsen over time as apartments are converted into office space, parking garages, and condominiums. Some apartments may even be abandoned or set on fire as a way to collect insurance money. 2) Reductions in product quality: Because rent control reduces profits, landlords cut back on routine maintenance. Tenant complaints can more easily be ignored when there is a long line of potential renters who are seeking apartments. 3) Wasteful lines and search costs: People may have to wait months to find a suitable apartment because of the shortage. When an apartment becomes available, landlords might require tenants to spend thousands of dollars purchasing worthless furniture. Some people may be discriminated against when trying to get an apartment. Landlords might prefer tenants without foreign accents or tenants without children. When resources are not allocated based on willingness to pay, they will frequently get allocated based on other criteria such as skin color or nationality. 4) Lost gains from trade: At the rent-controlled price, numerous people are willing to pay more for an apartment than the minimum required by a landlord, but these trades will not take place because the price cannot be bid above the controlled price. 5) Misallocation of resources: People living in rent-controlled apartments may prefer a bigger or smaller apartment but are reluctant to move because of the difficulty in finding available apartments. People with the highest willingness to pay may not be those who are actually renting the apartments. 356. Specify the argument in favor of rent controls and the arguments against rent controls. Explain what other possible policies can create affordable housing. ANSWER: Without rent controls, some people may not be able to afford appropriate housing. If rent controls are the only way to help the poor, then this would be an argument in favor of price controls. However, rent controls create shortages and lower the quality of apartments and so are rarely the best way to help the poor. A better policy than rent controls is for the government to provide housing vouchers, which would give qualifying consumers a voucher that can be applied to any unit Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 of housing. Unlike rent controls, which create shortages, vouchers increase the supply of housing. Unlike rent controls, vouchers can also be targeted to consumers who need them. 357. Would you expect shortages due to rent controls to be more or less severe in the short run or in the long run? Does the elasticity of supply have a role to play? ANSWER: Since apartments cannot easily be moved, landlords are generally “stuck,” and supply is more inelastic in the short run. Landlords cannot easily pick up their apartments or convert them to other uses in the short run, so immediately after the institution of rent controls, shortages are less severe. In the long run, however, fewer new buildings are built and older buildings are either torn down or converted to condominiums, thereby increasing the severity of the shortage in the long run and resulting in a more elastic long-run supply. 358. Illustrate on a demand and supply diagram how the existence of a price floor would distort the market outcome, and specify what effect (i.e., shortage or surplus) the price floor may create. ANSWER: When the minimum price that can be legally charged is above the market price, we say that there is a price floor. Price floors create four important effects: surpluses, a loss of gains from trade, wasteful increases in quality, and a misallocation of resources.
359. The demand and supply of labor are given by: Qd = 1,000 – 10W Qs = 800 + 40W where Qd is the quantity demanded of labor, Qs is the quantity supplied of labor, and W is the hourly wage. a. What are the equilibrium wage and level of employment? b. Suppose the government mandates a minimum wage of $7. How many workers will firms employ? c. How many workers are unemployed because of the minimum wage of $7? ANSWER: a. Qd = Qs, 1,000 – 10W = 800 + 40W, W = $4. The level of employment is 1,000 – 10 × 4 = 960. b. Qd = 1,000 – 10 × 7 = 930 c. Unemployed = Qs – Qd = (800 + 40 × 7) – (1,000 – 10 × 7) = 150 360. Currently, the federal minimum wage is set at $7.25 per hour. A survey conducted by Newsweek magazine (June 27, 2011) indicated that many Americans would be willing to work for far less than the minimum wage— some as low as 25¢ per hour! What would happen if the U.S. government eliminated the minimum wage and instead let wages be set by the marketplace? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 5 ANSWER: Most likely, the wage for low-skilled jobs/workers would fall immediately. Employment would increase as the quantity of workers hired rose as a result of the lower wages. In the long run, lower domestic wages might even entice more U.S. companies to locate more factories in the United States as a result of the lower wages, ultimately increasing demand for labor in the United States and raising wages. 361. Graphically illustrate supply and demand in a market where a price floor has been instituted above the equilibrium price. Is there a shortage or a surplus of this good because of the price floor? On your graph, shade in the area of lost gains from trade and explain why a price floor results in market inefficiency. ANSWER: A price floor instituted above the equilibrium price will result in a surplus of the good. This results in lost gains from trade and market inefficiency because there are some suppliers of the good who would be willing to trade at a lower price (and, of course, buyers willing to pay a lower price). But because they are illegal, these mutually beneficial trades do not happen.
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Chapter 6 1. Which of the following is the best measure of a country's standard of living? a. nominal GDP b. real GDP c. nominal GDP per capita d. real GDP per capita ANSWER: d 2. Real GDP per capita is calculated as the total real GDP divided by the: a. GDP deflator. b. nominal GDP. c. total population. d. price level. ANSWER: c 3. Table: Small-Town GDP Town Real GDP (U.S. Population dollars) A 4,859,307 250 B 10,000,050 175 C 6,000,000 320 D 3,549,289 90 Which of the four towns has the highest standard of living? a. town A b. town B c. town C d. town D ANSWER: b 4. Table: Small-Town GDP Town Real GDP (U.S. Population dollars) A 4,859,307 250 B 10,000,050 175 C 6,000,000 320 D 3,549,289 90 Which of the four towns has the lowest standard of living? a. town A b. town B c. town C Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. town D ANSWER: c 5. A rough measure of the standard of living in a country is its: a. GDP. b. real GDP. c. growth GDP. d. real GDP per capita. ANSWER: d 6. China has the largest _____ of any country in the world, but the United States has a larger _____. a. GDP; GDP per capita b. population; GDP c. GDP per capita; GDP d. GDP; population ANSWER: a 7. GDP per capita is GDP divided by: a. population. b. the price level. c. the inflation rate. d. the unemployment rate. ANSWER: a 8. Gross domestic product is the market value of all: a. goods and services sold within a country in a year. b. finished goods and services produced within a country in a year. c. goods and services produced within a country in a year. d. finished goods and services produced by a country's permanent residents, wherever located, in a year. ANSWER: b 9. Which of the following would be included in GDP for the United States? a. Toyota, a Japanese car company, producing cars in the United States b. a U.S. professor taking a year off to teach at the London School of Economics c. a tire manufacturer making and selling tires to Ford to be used in its new cars d. Jane's purchase of a used car after her old car is destroyed in an accident ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 10. Which of the following would NOT be included in GDP for the United States? a. Toyota, a Japanese car company, producing cars in the United States b. an immigrant from Mexico working legally in the United States as a nanny for a U.S. family c. Chrysler manufacturing cars in the United States d. Matt purchasing an antique desk for his new home office ANSWER: d 11. Gross domestic product (GDP) is the market value of: a. all finished goods and services produced within a country in a year. b. both intermediate and finished goods and services produced within a country in a year. c. all finished goods, but not services produced, within a country in a year. d. both intermediate and finished goods, but not services produced, within a country in a year. ANSWER: a 12. GNP measures: a. the same things as GDP, but also includes financial assets. b. production by U.S. citizens wherever they work in the world. c. the production of both intermediate and finished goods and services. d. goods and services produced by foreign businesses inside U.S. borders. ANSWER: b 13. National wealth refers to the value of a nation's entire stock of: a. assets. b. savings. c. gold. d. currency. ANSWER: a 14. What makes a bigger contribution to GDP, 12 million cars sold at $28,000 each or 20 million computers sold at $1,000 each? a. 12 million cars b. 20 million computers c. Both make the same contribution. d. It is impossible to say without knowing the costs of production. ANSWER: a 15. The difference between a finished good and an intermediate good is that: a. finished goods are not counted as part of GDP. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 b. intermediate goods are of lower quality than finished goods. c. an intermediate good is sold for use as a component in a finished good. d. a finished good is sold for use as a component of an intermediate good. ANSWER: c 16. Suppose a doctor spends half of the year in the United States and the other half in Canada and works in both places. How does his production get allocated between U.S. and Canadian GDP? a. Half of the doctor's income counts toward U.S. GDP and half toward Canadian GDP. b. The full income is counted in the GDP of the country in which the doctor is a permanent resident. c. The full income gets counted in both U.S. GDP and Canadian GDP. d. The value of the services produced in the United States gets counted in U.S. GDP and the value of the services produced in Canada gets counted in Canadian GDP. ANSWER: d 17. Suppose a doctor spends half of the year in the United States and the other half in Canada and works in both places. How is his production allocated between U.S. and Canadian GNP? a. Half of the doctor's income counts toward U.S. GNP and half toward Canadian GNP. b. It depends on whether the doctor is a permanent resident of the United States or Canada. c. The full income gets counted in both U.S. GNP and Canadian GNP. d. The value of the services produced in the United States is counted in U.S. GNP and the value of the services produced in Canada is counted in Canadian GNP. ANSWER: b 18. GDP: a. is a measure of national wealth. b. measures the stock of assets, while national wealth measures production in a year. c. measures the value of production in a year, while national wealth measures a stock of assets. d. is usually higher than national wealth. ANSWER: c 19. The most common measure of the size of an economy is its: a. national wealth. b. GDP. c. GDP per capita. d. population. ANSWER: b 20. If a country produced nothing but 20 smartphones and 10 Blu-ray players in 2017, priced at $100 per smartphone and $200 per Blu-ray player, its GDP in 2017 would be: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. $1,000. b. $2,000. c. $4,000. d. $5,000. ANSWER: c 21. A set of tires installed on a vehicle produced by an automobile factory is counted as: a. a finished good and its market price is part of GDP. b. a finished good and its market price is not part of GDP. c. an intermediate good and its market price is part of GDP. d. an intermediate good and its market price is not part of GDP. ANSWER: d 22. The market value of all finished goods and services produced by a country's residents in a year, whether at home or abroad, is called: a. GDP. b. GNP. c. GDI. d. FDI. ANSWER: b 23. GDP includes the: a. current market value of government purchases of goods and services. b. sales of stocks and bonds at current market prices. c. current market value of used cars. d. current market value of all existing homes, regardless of when they were built. ANSWER: a 24. When a German firm produces a vehicle in the United States, the production is part of: a. U.S. GDP but not GNP. b. U.S. GNP but not GDP. c. both U.S. GDP and GNP. d. neither U.S. GDP nor GNP. ANSWER: a 25. Suppose you spent $10,000 in 2016 remodeling your house, which you originally built for $200,000 in 2000. As a result, GDP in 2016 would: a. not change. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 b. increase by $10,000. c. increase by $200,000. d. increase by $210,000. ANSWER: b 26. The market value of all finished goods and services produced within a given country in a year divided by the country's population is: a. GNP. b. GNP per capita. c. GDP. d. GDP per capita. ANSWER: d 27. The market value of all finished goods and services produced by a country's permanent residents in a year, regardless of where the production takes place, divided by the country's population, is: a. GNP. b. GNP per capita. c. GDP. d. GDP per capita. ANSWER: b 28. The value of a car produced and sold in 2015 and sold again in 2017 is included in: a. 2015's GDP only. b. 2017's GDP only. c. both 2015's GDP and 2017's GDP. d. neither 2015's nor 2017's GDP. ANSWER: a 29. Which of the following would be included in 2017's GDP? a. the 2017 resale of a house built in 2015 b. the sale of bonds in 2017 c. the sale of stocks in 2017 d. the real estate agent's commission on the 2017 resale of a house built in 2015 ANSWER: d 30. When GDP is calculated, goods are valued using: a. the cost of all inputs used in the production. b. the consumer price index. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 c. the producer price index. d. the current market price. ANSWER: d 31. To avoid double accounting, the value of: a. finished goods, but not intermediate goods, is included in GDP. b. intermediate goods only is included in GDP. c. both finished good and intermediate goods is included in GDP. d. neither finished goods nor intermediate goods is included in GDP. ANSWER: a 32. The value of production by a U.S. worker employed by a firm located in Canada is included in: a. Canada's GDP only. b. U.S. GDP only. c. GDP for both Canada and the United States. d. neither country's GDP. ANSWER: a 33. The value of production by a U.S. worker employed by a firm located in Canada is included in: a. both Canada's GDP and Canada's GNP. b. both U.S. GDP and U.S. GNP. c. Canada's GDP and U.S. GNP. d. U.S. GDP and Canada's GNP. ANSWER: c 34. Which of the following is a finished good and should be included in GDP? a. antivirus software preloaded on computers b. computer chips c. notebook computers d. power cords packaged with new computers ANSWER: c 35. GNP is the market value of all finished goods and services produced: a. within a country's borders in a year. b. within a country's borders over time. c. by a country's permanent residents within the country's borders in a year. d. by a country's permanent residents, wherever they are located, in a year. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: d 36. Akemi, who is a Japanese citizen, works in the United States as a computer programmer. The value of her output is included in: a. both U.S. and Japan's GDP. b. both U.S. and Japan's GNP. c. U.S. GDP and Japan's GNP. d. U.S. GNP and Japan's GDP. ANSWER: c 37. The value of a country's GDP exceeds that of the country's GNP if the value of the: a. country's exports exceeds the value of its imports. b. country's imports exceeds the value of its exports. c. output produced by foreign workers in the country exceeds the value of output produced by the country's permanent residents in other countries. d. output produced by the country's permanent residents in other countries exceeds the value of output produced by foreign workers in the country. ANSWER: c 38. A tractor built in 2001 and still in operation today is: a. part of today's national wealth and GDP. b. part of today's national wealth but not part of today's GDP. c. part of today's GDP but not part of today's national wealth. d. neither part of today's national wealth nor today's GDP. ANSWER: b 39. National wealth refers to the value of a nation's entire stock of: a. physical assets accumulated over time. b. physical assets produced in a given year. c. financial assets accumulated over time. d. financial assets sold in a given year. ANSWER: a 40. GDP is calculated by: a. adding the quantities of all goods and services that exist in an economy. b. adding the prices of all goods and services that exist in an economy. c. dividing the quantity of all goods and services produced that year by their prices and adding together the results. d. multiplying the quantity of all goods and services produced that year by their prices and adding Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 together the results. ANSWER: d 41. What data are needed to calculate GDP? a. only the quantities of goods and services produced b. only the prices of goods and services produced c. both quantities and prices of goods and services produced d. only the costs of producing goods and services ANSWER: c 42. Table: Prices and Quantities in a Four-Good Economy Product Price Quantity Shovels $20 50 Books 50 100 Tomatoes 1 500 Pizzas 10 120 Suppose an economy produces only the four goods listed. What is the GDP in this country? a. $6,200 b. $6,700 c. $7,200 d. $7,700 ANSWER: d 43. The calculation of GDP includes: a. neither finished goods nor intermediate goods. b. only intermediate goods. c. only finished goods. d. both intermediate and finished goods. ANSWER: c 44. Which of these goods is an intermediate good that would NOT be counted in GDP in the year it is produced? a. a tractor b. wood used for making furniture c. an oven for installation in a bakery d. flour sold in a grocery store ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 45. Which of these goods is a finished good that would be counted in GDP in the year it is produced? a. tomatoes used by an Italian restaurant b. wood used for making furniture c. an oven for installation in a bakery d. a computer chip used in a laptop computer ANSWER: c 46. A sound system produced by a supplier to Ford Motor Company is an example of: a. an inferior good. b. a finished good. c. a public good. d. an intermediate good. ANSWER: d 47. The sale of sugar will contribute to GDP when the buyer is: a. Krispy Kreme Doughnuts. b. a mother who is baking cookies at home. c. a Mexican food restaurant. d. a grocery store chain. ANSWER: b 48. Birmingham Steel sells steel to Winston Golf Club Manufacturers for $300,000. Winston sells its golf clubs to Academy Sports for $1,000,000. Academy Sports sells these golf clubs to consumers for $1,500,000. How much is added to GDP? a. $1,000,000 b. $1,500,000 c. $2,500,000 d. $2,800,000 ANSWER: b 49. Finished goods are goods: a. used to produce other goods. b. consumed or held in inventories. c. used up in the production process. d. that cannot be exported. ANSWER: b 50. Intermediate goods are goods: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. used in production as parts of other goods. b. consumed or held in inventories. c. used as equipment in the production process. d. that cannot be exported. ANSWER: a 51. A computer chip sold to Dell is an example of: a. a finished good. b. an intermediate good. c. a service. d. an inferior good. ANSWER: b 52. A computer chip that you purchase to repair your home computer is an example of: a. a finished good. b. an intermediate good. c. a service. d. an inferior good. ANSWER: a 53. Orrin mines iron ore, which he sells to Thorin, who turns iron ore into steel. The steel is sold to Gorin, who turns the steel into battle axes. The battle axes are sold by a merchant in the city to adventurers. Which of the following would be considered a finished good? a. the iron ore b. the steel c. the battle axes sold to the merchant d. the battle axes sold to the adventurers ANSWER: d 54. Imagine that Jack and Jill buy $500 worth of milk and $200 worth of crayons and coloring books each year for use in their day-care business. Jack and Jill also hire a day-care attendant at a salary of $14,000 per year. If Jack and Jill sell $100,000 worth of day care to parents each year, what is the contribution to GDP by Jack and Jill's Day Care? a. $700 b. $100,000 c. $100,700 d. $114,700 ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 55. Table: Prices and Quantities in a Four-Good Economy Product Price Quantity Shovels $20 50 Books 50 100 Tomatoes 1 500 Pizzas 10 120 Suppose an economy produces only the four goods listed. All of the country's tomatoes are used in the production of pizzas. What is the GDP in this country? a. $6,200 b. $6,700 c. $7,200 d. $7,700 ANSWER: c 56. Since 1950, the portion of U.S. GDP created by services has: a. remained relatively constant. b. fallen by a half. c. risen from less than 50% to nearly 70% of U.S. GDP. d. increased slightly. ANSWER: c 57. The calculation of GDP includes: a. both goods and services. b. goods, but not services. c. services, but not goods. d. neither goods nor services. ANSWER: a 58. An increase in the price you pay for a haircut will: a. contribute to GDP as a purchase of a good. b. contribute to GDP as a purchase of a service. c. not contribute to GDP. d. contribute to GDP only if your hair stylist is a U.S. citizen. ANSWER: b 59. Services involve production that provides: a. a benefit along with the production of a tangible physical product. b. a benefit without the production of a tangible physical product. c. no benefit to the producer. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. no benefit to the consumer. ANSWER: b 60. The value of a car produced and sold in 2000 and sold again to a second owner in 2008 would be included in GDP for: a. 2000 only. b. 2008 only. c. both 2000 and 2008. d. either 2000 or 2008, but not both. ANSWER: a 61. Which of these transactions occurring in 2017 would contribute to GDP for 2017? a. A contractor sells a new house that was built in 2009. b. Mario sells his used car for a profit. c. Sally buys $10,000 worth of U.S. government bonds as an investment. d. Boeing sells a 787 aircraft produced in 2017 to a Korean airline. ANSWER: d 62. Which transaction will be included in GDP? a. the purchase of a used bicycle on eBay b. the purchase of a home built in 1957 c. the purchase of a real estate agent's services d. the purchase of 1,000 shares of IBM stock ANSWER: c 63. You sell your old bedroom set to your roommate for $1,800 and buy new custom-built furniture for $6,000. How much is added to GDP? a. $1,800 b. $4,200 c. $6,000 d. $7,800 ANSWER: c 64. Tim buys a house from Betty in 2017 for $200,000. Betty receives $185,000 and $15,000 goes to Mary, the real estate agent. Betty originally purchased the house in 2007 for $240,000. What value is added to GDP in 2017 for this transaction? a. –$40,000 b. $15,000 c. $185,000 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. $200,000 ANSWER: b 65. A car produced by the American company GM in a plant located in Canada would be included in: a. U.S. GDP, but not U.S. GNP. b. U.S. GNP, but not U.S. GDP. c. both U.S. GDP and U.S. GNP. d. neither U.S. GDP nor U.S. GNP. ANSWER: b 66. A car produced by the Japanese company Honda in a plant located in Ohio would be included in: a. U.S. GDP, but not U.S. GNP. b. U.S. GNP, but not U.S. GDP. c. both U.S. GDP and U.S. GNP. d. neither U.S. GDP nor U.S. GNP. ANSWER: a 67. Which of the following would be included in U.S. GDP? a. the purchase of stocks and bonds by a retiree living in Florida b. wages earned by an American working on an oil rig in Mexico c. cars produced in a Honda (a Japanese company) plant in Marysville, Ohio d. cars produced in a GM plant located in Canada ANSWER: c 68. Which of the following would be included in U.S. GNP? a. the purchase of stocks and bonds by a retiree living in Florida b. wages earned by a Canadian teaching at an American university c. cars produced in a Honda (a Japanese company) plant in Marysville, Ohio d. cars produced in a Ford (a U.S. company) plant located in Canada ANSWER: d 69. This summer, a U.S. citizen has a paid internship at the South Korean carmaker Kia Motors at its offices located in Canada. The intern’s work contributes to the GDP of which nation(s)? a. United States b. Canada c. South Korea d. Canada, South Korea, and the United States ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 70. Gross domestic product (GDP) differs from gross national product (GNP) in that: a. GNP measures the production of a country's permanent residents and property wherever in the world they are located. b. GNP measures the production of both permanent residents and foreign workers within a country's borders. c. GNP measures the production of a country's permanent residents and property within a country's borders. d. GNP measures only the production of foreign workers within a country's borders. ANSWER: a 71. If a U.S. citizen accepts a job in Mexico after college, the U.S. citizen’s income will be part of GDP in: a. Mexico only. b. the United States only. c. both Mexico and the United States. d. neither Mexico nor the United States. ANSWER: a 72. If an American citizen or permanent resident accepts a job in Mexico after college, that person’s income will be part of GNP in: a. Mexico only. b. the United States only. c. both Mexico and the United States. d. neither Mexico nor the United States. ANSWER: b 73. GDP tells us: a. the value of production within a nation in a year. b. how much wealth the nation has accumulated in its entire history. c. the value of the nation's entire stock of assets, excluding financial assets. d. the value of the nation's entire stock of assets, excluding natural resources. ANSWER: a 74. In general, during any given year: a. GDP in the United States will exceed wealth in the United States. b. wealth in the United States will exceed GDP in the United States. c. U.S. wealth and U.S. GDP will be approximately equal. d. U.S. wealth and U.S. GDP will be unrelated. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 75. GDP is calculated by the: a. Council of Economic Advisors. b. Federal Reserve Board. c. Bureau of Economic Analysis. d. U.S. Treasury. ANSWER: c 76. How often is GDP reported for the U.S. economy? a. weekly b. monthly c. quarterly d. annually ANSWER: c 77. What is the term for the value of a nation's entire stock of assets? a. gross domestic product b. gross national product c. national wealth d. real gross domestic product ANSWER: c 78. If an economy’s total production consisted of 6 computers with a price of $800 each, 10 cars with a price of $30,000 each, and 1,000 pounds of potatoes with a price of $1 per pound, its GDP would be equal to: a. $1,016. b. $30,801. c. $305,800. d. $34,137,713. ANSWER: c 79. Goods and services that are more highly valued have greater weight in the calculation of GDP due to the use of: a. population surveys. b. product sales quantities. c. prices. d. reviews. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 80. The basic concept of GDP is _____ for all goods and services produced in an economy. a. the sum of the quantity b. the sum of the price times the quantity c. the quantity plus the price d. the average price times the average quantity ANSWER: b 81. Which would not be directly included in the computation of GDP? a. the price of a haircut b. the price of tomatoes bought at a farmer’s market c. the value of shoelaces in a pair of running shoes d. the value of a meal purchased at a restaurant ANSWER: c 82. The value of which home would be included in GDP? a. a home that a young adult inherits from her grandmother’s estate b. a year-old condominium purchased by a retiree c. a 10-year-old home bought by a young adult d. a new, custom-built home ANSWER: d 83. The computation of GDP avoids double counting of output because _____ are included. a. only finished goods b. only intermediate goods c. both finished and intermediate goods d. finished, intermediate, and used goods ANSWER: a 84. Which would NOT be included in the calculation of GDP? a. a new car purchased at an automobile dealership b. a haircut obtained from a barbershop c. shares of stock traded on a stock exchange d. a new tractor purchased by a farmer ANSWER: c 85. The main difference between GDP and GNP is that GDP includes the output produced _____ and GNP includes the output produced _____. a. by the country’s labor and capital regardless of location; within the geographical boundaries of the Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 country b. within the geographical boundaries of the country; by the country’s labor and capital regardless of location c. for inputs and finished products; for inputs only d. for inputs only; for inputs and finished products ANSWER: b 86. If a French citizen designs custom-sewn garments in Canada, the value of the design work is included in: a. Canada’s GDP and France’s GNP. b. Canada’s GNP and France’s GDP. c. Canada’s GNP but not France’s GNP. d. the GDP of both Canada and France. ANSWER: a 87. Which would be included in Thailand’s GNP but not its GDP? a. the value of the sale of shares of stock in Thailand’s stock market b. the value of intermediate goods produced in Thailand c. the output of a Malaysian-owned factory that is located in Thailand d. the output of a Thailand-owned factory that is located in Malaysia ANSWER: d 88. GDP measures the value of a country’s: a. gross debts accumulated over a year. b. accumulated wealth. c. output during a given year. d. production at home and abroad during a year. ANSWER: c 89. The measure of the value of finished output produced within a country over a year’s time is the country’s: a. GNP. b. GDP. c. real GNP. d. real GDP. ANSWER: b 90. GDP per capita is calculated as GDP: a. multiplied by the average price level. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 b. multiplied by the capital investment rate. c. divided by capital investment. d. divided by the population. ANSWER: d 91. Which is false regarding GDP? a. GDP measures the value of the production from labor and capital of a certain country. b. GDP does not include the value of used items that are sold. c. GDP does not add in the value of intermediate goods. d. GDP reflects both the quantity and value of production in a certain country. ANSWER: a 92. The growth rate of real GDP tells how rapidly the country's level of _____ is rising or falling over time. a. debt b. trade activity c. investment d. production ANSWER: d 93. A country's GDP (in billions) was $5,690 in 2016 and $5,899 in 2017. What was the growth rate of GDP? a. 1.03% b. 3.54% c. 3.67% d. 9.64% ANSWER: c 94. A country had a 2016 GDP growth rate of 4.2% and a 2015 GDP of $8,222 (in billions). What was the GDP in 2016? a. $7,876 b. $8,355 c. $8,567 d. $8,635 ANSWER: c 95. If nominal GDP in 2016 was $5.43 (in trillions) and in 2017 the level of nominal GDP rose to $6.11 (in trillions), what was the 2017 growth rate of nominal GDP? a. –11.1% b. –12.5% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 c. 11.1% d. 12.5% ANSWER: d 96. GDP in the United States was $14,119 billion in 2014 and grew to $14,660.4 billion in 2015. This represents an annual growth rate of: a. $541.4 billion. b. 1.04%. c. 3.7%. d. 3.8%. ANSWER: d 97. Given the GDP at the end of both 2004 and 2005, the growth rate of GDP for 2005 is calculated as: a. (GDP2005 – GDP2004) divided by GDP2005 × 100. b. (GDP2004 – GDP2005) divided by GDP2005 × 100. c. (GDP2005 – GDP2004) divided by GDP2004 × 100. d. (GDP2004 – GDP2005) divided by GDP2004 × 100. ANSWER: c 98. If GDP was $10 billion in 2016 and $11 billion in 2017 and the population grew 5% between 2016 and 2017, the growth rate of GDP per capita between 2016 and 2017 was: a. –10%. b. –5%. c. 5%. d. 10%. ANSWER: c 99. Table: Wheat and Corn Year Price of Wheat (per Quantity of Wheat bushel) (million bushels) 2005 $56 1,250 2006 64 1,360 2007 72 1,420 2008 80 1,500
Price of Corn (per bushel) $44 52 55 62
Quantity of Corn (million tons) 940 1,050 1,120 1,260
Consider a country that produces only wheat and corn. Based on the data in the table, the growth rate of nominal GDP from 2005 to 2006 was: a. 8%. b. 16%. c. 21%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. 27%. ANSWER: d 100. Table: Wheat and Corn Year Price of Wheat (per Quantity of Wheat bushel) (million bushels) 2005 $56 1,250 2006 64 1,360 2007 72 1,420 2008 80 1,500
Price of Corn (per bushel) $44 52 55 62
Quantity of Corn (million tons) 940 1,050 1,120 1,260
Consider a country that produces only wheat and corn. Based on the data in the table, the growth rate of real GDP from 2007 to 2008 (in 2005 dollars) was: a. 8.3%. b. 15.7%. c. 25.2%. d. 27%. ANSWER: a 101. Table: GDP in Millions I 2018 2019 $2,000 $2,120 GDP in millions
2020 $2,226
The growth rate in 2019 was: a. 5.0%. b. 6.0%. c. 10.7%. d. 11.3%. ANSWER: b 102. Table: GDP in Millions II 2017 2018 $1,650 GDP in millions $1,600
2019 $1,720
The growth rate in 2018 was: a. 3.030%. b. 3.125%. c. 4.242%. d. 7.273%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: b 103. What is the formula for computing a certain country’s GDP growth rate for 2017? a. (GDP2018 + GDP2017) / GDP2016 b. (GDP2018 – GDP2017) / GDP2017 c. (GDP2017 – GDP2016) / GDP2016 d. (GDP2017 – GDP2016) / GDP2017 ANSWER: c 104. What is the term for GDP when price levels are held constant? a. annual GDP b. nominal GDP c. real GDP d. aggregate GDP ANSWER: c 105. The measure of GDP that is based on each year’s prices is called: a. annual GDP. b. nominal GDP. c. real GDP. d. aggregate GDP. ANSWER: b 106. The measure of GDP that has been adjusted for changes in prices is called: a. annual GDP. b. nominal GDP. c. real GDP. d. aggregate GDP. ANSWER: c 107. Nominal GDP is calculated using: a. prices at the time of sale. b. the cost of production. c. the same prices in all years. d. a correction for inflation. ANSWER: a 108. Real GDP is calculated using: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. prices at the time of sale. b. the cost of production. c. the same prices in all years. d. a correction for intermediate goods. ANSWER: c 109. A real variable is one that: a. uses prices at the time of sale. b. uses the cost of production. c. has not been adjusted for inflation. d. includes an adjustment for inflation. ANSWER: d 110. A nominal variable is one that: a. uses prices in a base year. b. uses the cost of production. c. has not been adjusted for inflation. d. includes a correction for inflation. ANSWER: c 111. Table: Three-Good Economy 1 Product Quantity (2008) Computers 25 Pizzas 90 Burgers 180
Price (2008) $800.00 9.00 1.80
Quantity (2009) 30 100 200
Price (2009) $1,000.00 10.00 2.00
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. What was the nominal GDP in 2008? a. $20,134 b. $21,134 c. $25,260 d. $26,260 ANSWER: b 112. Table: Three-Good Economy 1 Product Quantity (2008) Computers 25 Pizzas 90 Burgers 180
Price (2008) $800.00 9.00 1.80
Quantity (2009) 30 100 200
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Chapter 6 Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and price of goods sold in 2008 and 2009. What was the nominal GDP in 2009? a. $20,134 b. $21,134 c. $26,260 d. $31,400 ANSWER: d 113. Table: Three-Good Economy 1 Product Quantity (2008) Computers 25 Pizzas 90 Burgers 180
Price (2008) $800.00 9.00 1.80
Quantity (2009) 30 100 200
Price (2009) $1,000.00 10.00 2.00
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. If prices in 2008 are used to calculate real GDP, what was the real GDP in 2008? a. $20,134 b. $21,134 c. $25,260 d. $26,260 ANSWER: b 114. Table: Three-Good Economy 1 Product Quantity (2008) Computers 25 Pizzas 90 Burgers 180
Price (2008) $800.00 9.00 1.80
Quantity (2009) 30 100 200
Price (2009) $1,000.00 10.00 2.00
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. If prices in 2008 are used to calculate real GDP, what was the real GDP in 2009? a. $20,134 b. $21,134 c. $25,260 d. $31,400 ANSWER: c 115. Table: Three-Good Economy 1 Product Quantity (2008) Computers 25 Pizzas 90
Price (2008) $800.00 9.00
Quantity (2009) 30 100
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Chapter 6 Burgers
180
1.80
200
2.00
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. If prices in 2008 are used to calculate real GDP, what was the growth rate of real GDP in 2009? a. 4.0% b. 19.5% c. 24.3% d. 48.6% ANSWER: b 116. Table: Three-Good Economy 2 Product Quantity (2008) Computers 30 Pizzas 100 Burgers 200
Price (2008) $1,000 10 20
Quantity (2009) 28 150 210
Price (2009) $995 15 20
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. What was the growth rate of real GDP in 2009 if 2008 prices are used in the calculation of real GDP? a. –3.71% b. –5.62% c. 1.00% d. 2.94% ANSWER: a 117. Table: Three-Good Economy 2 Product Quantity (2008) Computers 30 Pizzas 100 Burgers 200
Price (2008) $1,000 10 20
Quantity (2009) 28 150 210
Price (2009) $995 15 20
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. If 2008 prices are used in the calculation of real GDP, then nominal GDP in 2009 was _____ and real GDP in 2009 was _____. a. $34,310; $33,700 b. $35,350; $34,310 c. $33,700; $35,000 d. $35,000; $33,700 ANSWER: a 118. Table: Three-Good Economy 2 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 Product Computers Pizzas Burgers
Quantity (2008) 30 100 200
Price (2008) $1,000 10 20
Quantity (2009) 28 150 210
Price (2009) $995 15 20
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. What was the growth rate of real GDP in 2009 if 2009 prices are used in the calculation of real GDP? a. –3.71% b. –2.94% c. –1.97% d. 1.00% ANSWER: b 119. Table: Three-Good Economy 2 Product Quantity (2008) Computers 30 Pizzas 100 Burgers 200
Price (2008) $1,000 10 20
Quantity (2009) 28 150 210
Price (2009) $995 15 20
Suppose an economy produces only the three finished goods shown in the table. The table gives information on the quantities produced and the prices of goods sold in 2008 and 2009. What was the real GDP in 2009 if 2009 prices are used in the calculation of real GDP? a. $33,700 b. $35,000 c. $34,310 d. $35,350 ANSWER: c 120. Growth in nominal GDP can be caused by: a. only an increase in prices over time. b. only an increase in production over time. c. an increase in either prices or production over time. d. neither an increase in prices nor an increase in production over time. ANSWER: c 121. For an industrialized country experiencing a 3% growth rate in real GDP, what is the most likely reason that real GDP per capita is decreasing? a. The country's population is growing faster than the growth of real GDP. b. The country's government is hoarding large amounts of the country's production. c. The country's population is growing slower than the growth of nominal GDP. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. The country's nominal GDP is growing slower than its real GDP. ANSWER: a 122. Increases in real GDP per capita are considered the best measure of increases in living standards because they measure: a. only increases in prices. b. only increases in production. c. both increases in prices and increases in production. d. only increases in the cost of living. ANSWER: b 123. Increases in _____ are considered the best measure of increases in living standards because they measure increases in production. a. national wealth b. consumer spending c. nominal GDP d. real GDP per capita ANSWER: d 124. If 2009 prices are used in the calculation of real GDP, then nominal GDP will be ____ real GDP in 2009. a. greater than b. less than c. equal to d. unrelated to ANSWER: c 125. If 2016 prices are used in the calculation of real GDP and inflation occurs between 2016 and 2017, then nominal GDP will be ____ real GDP in 2017. a. greater than b. less than c. equal to d. unrelated to ANSWER: a 126. Economists prefer using real GDP per capita as a measure of average individual prosperity because, other things held constant, increases in _____ represent true increases in the standard of living. a. per person production b. prices c. inflation Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. consumer spending ANSWER: a 127. If real GDP rose in 2016, we can conclude that: a. production rose in 2016. b. the price level rose in 2016. c. either production or the price level, or both, rose in 2016. d. neither production nor the price level rose in 2016. ANSWER: a 128. If nominal GDP rose in 2016, we can conclude that: a. production rose in 2016. b. the price level rose in 2016. c. either production or the price level, or both, rose in 2016. d. neither production nor the price level rose in 2016. ANSWER: c 129. The difference between nominal GDP and real GDP is that nominal GDP: a. measures the total value of only finished goods and services, whereas real GDP measures the value of all goods and services, both intermediate and finished. b. measures a country's production of finished goods and services at current market prices, whereas real GDP measures a country's production of finished goods and services at the same prices in all years. c. is measured in terms of numbers of goods and services produced, whereas real GDP is measured in dollar terms. d. measures a country's production of finished goods and services at fixed prices, whereas real GDP measures a country's production of all finished goods and services at current market prices. ANSWER: b 130. Which statement is TRUE? a. Nominal GDP is always larger than real GDP. b. Nominal GDP can rise from one year to the next only because of price increases. c. Nominal GDP can rise from one year to the next only because of production increases. d. Nominal GDP can rise from one year to the next because of price increases or because of production increases, or both. ANSWER: d 131. If a country is experiencing inflation, it means that: a. nominal GDP and real GDP are growing at the same rate. b. nominal GDP is growing faster than real GDP. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 c. real GDP is growing faster than nominal GDP. d. nominal GDP is growing and real GDP is falling. ANSWER: b 132. Table: GDP Data 2000 GDP in 2000 dollars 1995 GDP in 2000 dollars 1995 GDP in 1995 dollars
$11.6 trillion $10 trillion $8.8 trillion
Using the GDP data in the table, how much did nominal GDP grow between 1995 and 2000? a. –14.50% b. 16.00% c. 13.63% d. 31.80% ANSWER: d 133. Table: GDP Data 2000 GDP in 2000 dollars 1995 GDP in 2000 dollars 1995 GDP in 1995 dollars
$11.6 trillion $10 trillion $8.8 trillion
Using the GDP data in the table, how much did real GDP grow between 1995 and 2000, in 2000 dollars? a. –14.50% b. 16.00% c. 13.63% d. 31.80% ANSWER: b 134. Table: Wheat and Corn Year Price of Wheat (per Quantity of Wheat bushel) (million bushels) 2005 $56 1,250 2006 64 1,360 2007 72 1,420 2008 80 1,500
Price of Corn (per bushel) $44 52 55 62
Quantity of Corn (million tons) 940 1,050 1,120 1,260
Consider a country that produces only wheat and corn. Based on the data in the table, the country's nominal GDP for year 2008 was: a. $111,360 million. b. $141,640 million. c. $163,840 million. d. $198,120 million. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: d 135. Table: Wheat and Corn Year Price of Wheat (per Quantity of Wheat bushel) (million bushels) 2005 $56 1,250 2006 64 1,360 2007 72 1,420 2008 80 1,500
Price of Corn (per bushel) $44 52 55 62
Quantity of Corn (million tons) 940 1,050 1,120 1,260
Consider a country that produces only wheat and corn. Based on the data in the table, the country's real GDP for year 2008 (in 2005 dollars) was: a. $111,360 million. b. $128,800 million. c. $139,440 million. d. $141,640 million. ANSWER: c 136. Table: Wheat and Corn Year Price of Wheat (per Quantity of Wheat bushel) (million bushels) 2005 $56 1,250 2006 64 1,360 2007 72 1,420 2008 80 1,500
Price of Corn (per bushel) $44 52 55 62
Quantity of Corn (million tons) 940 1,050 1,120 1,260
Consider a country that produces only wheat and corn. Based on the data in the table, the country's GDP deflator for 2008 (using 2005 prices for the calculation of real GDP) was: a. 100. b. 116. c. 127. d. 142. ANSWER: d 137. To compare levels of production from different years, the appropriate measure to use is: a. nominal GDP. b. real GDP. c. GDP – GNP. d. the GDP deflator. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 138. Real GDP for the year 2000 (measured in 2005 dollars) is equal to: a. 2000 prices × 2000 quantities. b. 2005 prices × 2000 quantities. c. 2000 prices × 2005 quantities. d. 2005 prices × 2005 quantities. ANSWER: b 139. A real variable is one that corrects for: a. sales outside of a country's borders. b. inflation. c. population growth. d. unemployment. ANSWER: b 140. Table: iPhones Year Quantity Produced 2000 100 2010 90
Price $100 110
This table shows data for a country producing only iPhones. Its nominal GDP in 2010 was: a. $9,000. b. $9,900. c. $10,000. d. $10,800. ANSWER: b 141. Table: iPhones Year Quantity Produced 2000 100 2010 90
Price $100 110
This table shows data for a country producing only iPhones. Its real GDP in 2010 (in 2000 dollars) was: a. $9,000. b. $9,900. c. $10,000. d. $10,800. ANSWER: a 142. Table: iPhones Year Quantity Produced
Price
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Chapter 6 2000 2010
100 90
$100 110
This table shows data for a country producing only iPhones. The growth rate of real GDP between 2000 and 2010 (in 2000 dollars) was: a. –10%. b. 0%. c. 8%. d. 10%. ANSWER: a 143. Table: iPhones Year Quantity Produced 2000 100 2010 90
Price $100 110
This table shows data for a country producing only iPhones. If 2000 prices are used in the calculation of real GDP, the GDP deflator for 2010 was: a. 10.0. b. 90.9. c. 110.0. d. 900.0. ANSWER: c 144. Table: iPhones Year Quantity Produced 2000 100 2010 90
Price $100 110
This table shows data for a country producing only iPhones. Based on the GDP deflator, the increase in prices between 2000 and 2010 was: a. 1.0%. b. 9.9%. c. 10.0%. d. 110.0%. ANSWER: c 145. If in 2010 nominal GDP was $220 million and real GDP was $200 million, the GDP deflator in 2010 was: a. 88. b. 91. c. 100. d. 110. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: d 146. If a country's nominal GDP increases by 5% between two years while its GDP deflator increases by 4%, the country's real GDP: a. increases by 9%. b. increases by 1%. c. decreases by 1%. d. decreases by 9%. ANSWER: b 147. The GDP deflator is a price index that can be used to measure: a. changes in the standard of living. b. inflation. c. changes in population. d. changes in GDP. ANSWER: b 148. The GDP deflator is _____ multiplied by 100. a. real GDP divided by nominal GDP b. nominal GDP divided by real GDP c. real GDP divided by the population d. nominal GDP divided by the population ANSWER: b 149. In 2010, real GDP was $13.2 trillion and nominal GDP was $14.6 trillion. What was the GDP deflator for that year? a. 90.4 b. 110.6 c. 192.7 d. 140.0 ANSWER: b 150. In 2016, real GDP was $13.2 trillion and the GDP deflator was 110.6. What was nominal GDP for that year? a. $14.6 trillion b. $14.3 trillion c. $12.1 trillion d. $11.9 trillion Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: a 151. In 2017, nominal GDP was $14.6 trillion and the GDP deflator was 110.6. What was real GDP for that year? a. $16.1 trillion b. $14.3 trillion c. $13.2 trillion d. $12.1 trillion ANSWER: c 152. In 2010, real GDP was $13.2 trillion (using 2005 prices) and nominal GDP was $14.6 trillion. Based on the GDP deflator, prices in 2010 were about _____ than prices in 2005. a. 9.6% lower b. 9.6% higher c. 10.6% lower d. 10.6% higher ANSWER: d 153. What will cause a country’s GDP to change? a. a change in output but not a change in prices b. a change in prices but not a change in output c. changes in output, prices, or both output and prices d. changes in the population ANSWER: c 154. Nominal GDP for 2019 is calculated using the prices in: a. a designated base year. b. 2018. c. 2019. d. the average of the previous decade. ANSWER: c 155. Real GDP for 2019 is calculated using the prices in: a. a designated base year. b. 2018. c. 2019. d. the average of the previous decade. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 156. If real GDP increases in a certain country, what has also definitely increased? a. investment b. population c. prices d. output ANSWER: d 157. When inflation is occurring in a certain country, its _____ will rise faster than its _____. a. nominal GDP; per capita GDP b. per capita GDP; nominal GDP c. nominal GDP; real GDP d. real GDP; nominal GDP ANSWER: c 158. What is the GDP deflator if nominal GDP = $20 trillion and real GDP = $18.4 trillion? a. 76.1 b. 80.0 c. 92.0 d. 108.7 ANSWER: d 159. If nominal GDP = $20 trillion and real GDP = $19 trillion, prices are: a. rising. b. falling. c. constant. d. unpredictable. ANSWER: a 160. What does a real GDP growth rate of 3% mean? a. The value of output is rising by 3%. b. Output is rising by 3%. c. The value of output per person is rising by 3%. d. Output per person is rising by 3%. ANSWER: b 161. In a certain year, the GDP growth rate was 5% and the real GDP growth rate was 2%. What does this mean? a. The market value of output rose by 2% and prices rose by 3%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 b. The market value of output rose by 3% and prices rose by 5%. c. Output rose by 2% and prices rose by 3%. d. Output rose by 3% and prices rose by 5%. ANSWER: c 162. Population Growth Rates Country GDP Growth GDP per Capita Real GDP Real GDP per Rate Growth Rate Growth Rate Capita Growth Rate A 6% 3% 3% 0% B 5 4 3 1 C 4 3 3 2 D 3 2 2 1 Which country, on average, is experiencing the most rapid increase in prosperity across its population? a. country A b. country B c. country C d. country D ANSWER: c 163. Population Growth Rates Real GDP growth rate Population growth rate
Country A 6% 4
Country B 5% 3
Country C Country D 4% 3% 1 1
In which country is prosperity of the average person rising most rapidly? a. country A b. country B c. country C d. country D ANSWER: c 164. Since World War II, the long-term average rate of real GDP growth in the United States has been about: a. 1.35%. b. 3.20%. c. 6.50%. d. 13.50%. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 165. Most economists prefer _____ as the best indicator of current economic performance. a. the GDP deflator b. consumer spending c. nominal GDP growth d. real GDP growth ANSWER: d 166. Most economists prefer _____ as the best indicator of changing living standards in a country. a. real GDP growth per capita b. real GDP growth c. real GDP per capita d. real GDP ANSWER: a 167. Between 1993 and 2003, Guatemala experienced real GDP growth of about 3.6% a year. Over that same period, population grew at 2.8% a year, so real GDP per capita in Guatemala grew at: a. 0.8% a year. b. 2.8% a year. c. 3.2% a year. d. 6.4% a year. ANSWER: a 168. If a country has 5% real GDP growth and 5% population growth, what is the growth rate of real GDP per capita? a. 0% b. 1% c. 5% d. 10% ANSWER: a 169. Which statement is TRUE about a recession? a. It can be concentrated only in a single geographic area, but it must be widespread across many sectors of the economy within that area. b. It must be a significant decline in economic activity that lasts for at least 3 years in a row. c. It is a significant decline in economic activity lasting more than a few months and must be widespread geographically. d. It can be a significant and widespread decline lasting only a month or two. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 170. Which of the following is the best definition of a recession? a. a period of general apprehension about job security and future economic success as measured by polls and studies conducted by the government b. a period of significant, widespread decline in real income and employment lasting more than a few months c. a decline in the stock market of 10% or more over a period of one year d. a period of increasing unemployment rates lasting more than a year ANSWER: b 171. Business cycles are short-term movements in: a. real GDP around its long-term trend. b. nominal GDP around its long-term trend. c. the unemployment rate above and below zero. d. inflation around its long-term trend. ANSWER: a 172. The single best indicator of a recession is: a. negative real GDP growth. b. negative nominal GDP growth. c. increasing unemployment. d. falling prices. ANSWER: a 173. An expansion is a period of significant, widespread increases in: a. real income and employment. b. real income and unemployment. c. exports and imports. d. inflation and unemployment. ANSWER: a 174. A recession is a period of significant, widespread declines in: a. real income and employment. b. real income and unemployment. c. exports and imports. d. inflation and unemployment. ANSWER: a 175. When a country’s real GDP rises and falls for more than a few months at a time around its long-term trend, the country is experiencing: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. a factor income approach. b. underground growth. c. deflator measurements. d. business cycles. ANSWER: d 176. A country that sees a significant widespread decline in economic activity that lasts for more than a few months is said to experiencing: a. a recession. b. deflation. c. a nominal to real conversion. d. business fluctuations. ANSWER: d 177. It can be difficult to identify when an economy enters a recession for all the reasons below EXCEPT that: a. quarterly GDP data are released a month after the quarter ends. b. quarterly GDP data may be revised several times after initial publication. c. recessions must be widespread across the economy. d. recessions can be masked by inflated prices. ANSWER: d 178. In the national spending approach to GDP, investment spending involves the acquisition of which of the following? a. capital goods b. stocks and bonds c. money d. any of a number of financial instruments ANSWER: a 179. Most investment spending is carried out by: a. consumers. b. businesses. c. government. d. foreigners. ANSWER: b 180. Which of the following is considered investment according to the national spending approach? a. depositing $1,000 into a savings account Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 b. buying $1,000 worth of stocks and bonds c. spending $1,000 on college tuition d. spending $1,000 on a new piece of farming equipment ANSWER: d 181. According to the national spending approach, which of the following is counted in investment? a. A restaurant buys a new wood-fired oven for baking pizzas. b. A college graduate buys a new car after graduating. c. A student pays for tuition at a university. d. A retiree buys newly issued U.S. government bonds. ANSWER: a 182. In the national spending approach, government purchases include spending by: a. the federal government only, including transfer payments. b. the federal government only, not including transfer payments. c. all levels of government, including transfer payments. d. all levels of government, not including transfer payments. ANSWER: d 183. Which of the following is NOT considered a government purchase? a. new rifles for the military b. unemployment checks c. salaries for public school teachers d. a bridge built by the United States Army Corps of Engineers ANSWER: b 184. What are the components of the national spending approach to splitting GDP? a. consumption expenditures, transfer payments, and government investment b. private investment, sale of new and used goods, net exports, and transfer payments c. consumption, investment goods, government purchases, and net exports d. wages, rent, interest, and profit ANSWER: c 185. In the national spending approach, consumption expenditures refer to: a. government and private spending on finished goods and services. b. private spending during all stages of production of goods and services. c. private spending on all finished goods and services. d. private spending on tools, plants, and equipment used for future production. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: c 186. Why are transfer payments NOT counted as part of GDP? a. Transfer payments do not involve the purchase of a finished good or service. b. Transfer payments are not spent within the United States. c. Spending by the unemployed and senior citizens is not included in GDP. d. Transfer payments are not counted because they must ultimately be paid back. ANSWER: a 187. Which of the following government outlays is a transfer payment that would NOT be included in GDP? a. The Veteran's Administration pays a doctor to care for a wounded veteran. b. The National Security Agency builds a new building for its headquarters. c. The Social Security program sends a monthly payment to a senior citizen. d. The Defense Department buys a new aircraft carrier. ANSWER: c 188. In the national spending approach, net exports refers to: a. U.S. purchases of imported goods only. b. foreign purchases of exported goods only. c. exports minus imports. d. exports plus imports. ANSWER: c 189. Which statement is NOT true about net exports? a. Net exports will be negative if imports exceed exports. b. Spending on imports in the United States cannot contribute to the GDP of other nations. c. Spending on imports in the United States contributes to U.S. GDP. d. Foreign spending on U.S. exports contributes to U.S. GDP. ANSWER: c 190. GDP is equal to: a. consumption + investment – net exports. b. consumption + investment + wages + profits. c. consumption + investment + government purchases – net exports. d. consumption + investment + government purchases + net exports. ANSWER: d 191. Private spending on finished goods and services is part of: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. consumption. b. investment. c. government purchases. d. net exports. ANSWER: a 192. Private spending on tools, plant, and equipment that are used to produce future output is called: a. consumption. b. investment. c. government purchases. d. net exports. ANSWER: b 193. The most volatile spending component of GDP in the United States is: a. consumption. b. investment. c. government purchases. d. net exports. ANSWER: b 194. The largest spending component of GDP in the United States is: a. consumption. b. investment. c. government purchases. d. net exports. ANSWER: a 195. An economy has $10 trillion in consumption, $2.5 trillion in investment, $3 trillion in government purchases, $1 trillion in exports, and $1.5 trillion in imports. What is GDP in this economy? a. $15.0 trillion b. $15.5 trillion c. $16.5 trillion d. $18.0 trillion ANSWER: a 196. Table: Economic Data Component of GDP Amount Consumption $875.50 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 Investment Wages and salaries Rent Profit Government purchases Interest Exports Imports
415.50 794.80 300.20 391.00 380.00 345.00 520.00 360.00
Based on the data in the table, what is the level of net exports in this economy? a. $160 b. $520 c. $880 d. $1,831 ANSWER: a 197. Table: Economic Data Component of GDP Amount Consumption $875.50 Investment 415.50 Wages and salaries 794.80 Rent 300.20 Profit 391.00 Government purchases 380.00 Interest 345.00 Exports 520.00 Imports 360.00 Based on the data in the table, what is the GDP for this economy, based on the national spending approach? a. $1,831.0 b. $2,120.5 c. $2,191.0 d. $2,551.0 ANSWER: a 198. Table: Economic Data Component of GDP Amount Consumption $875.50 Investment 415.50 Wages and salaries 794.80 Rent 300.20 Profit 391.00 Government purchases 380.00 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 Interest Exports Imports
345.00 520.00 360.00
Based on the data in the table, what is the GDP for this economy based on the factor income approach? a. $1,486.0 b. $1,831.0 c. $1,901.5 d. $2,246.5 ANSWER: b 199. According to the factor income approach, GDP is the sum of: a. consumption, investment, government purchases, and exports. b. consumption, investment, government purchases, and net exports. c. wages, interest, rent, and profit. d. wages, investment, rent, and profit. ANSWER: c 200. Table: Data from Europia Account Amount Consumption expenditures $9,000 Business profits 2,500 Exports 800 Imports 1,000 Wages and salaries 8,000 Government purchases 3,000 Rent receipts 500 Investment expenditures 2,000 Based on the data in the table, what is GDP in the economy of Europia? a. $13,000 b. $13,800 c. $14,800 d. $15,800 ANSWER: b 201. Table: Data from Europia Account Amount Consumption expenditures $9,000 Business profits 2,500 Exports 800 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 Imports Wages and salaries Government purchases Rent receipts Investment expenditures
1,000 8,000 3,000 500 2,000
Based on the data in the table, what is net exports in the economy of Europia? a. –$1,800 b. –$200 c. $1,000 d. $2,800 ANSWER: b 202. Table: Data from Europia Account Amount Consumption expenditures $9,000 Business profits 2,500 Exports 800 Imports 1,000 Wages and salaries 8,000 Government purchases 3,000 Rent receipts 500 Investment expenditures 2,000 Based on the data in the table, what is interest income in the economy of Europia? a. –$1,800 b. $2,000 c. $2,800 d. $3,000 ANSWER: c 203. Which approach measures GDP by adding together wages, rent, interest, and profit earnings? a. the national spending approach b. the factor income approach c. the product approach d. the value-added approach ANSWER: b 204. Which approach measures GDP by adding together consumption, investment, government purchases, and net exports? a. the national spending approach Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 b. the factor income approach c. the product approach d. the value-added approach ANSWER: a 205. The national spending approach to calculating GDP states that GDP is equal to: a. consumption + investment + government purchases + net exports. b. wages + rent + interest + profit. c. wages + profit. d. consumption + investment + government purchases + net exports – imports. ANSWER: a 206. The factor income approach to calculating GDP states that GDP is equal to: a. consumption + investment + government purchases + net exports. b. investment + wages + rent + profit. c. investment + profit. d. wages + rent + interest + profit. ANSWER: d 207. Which of the following represents the national spending approach to splitting GDP? a. Y = C + G + NX – M b. Y = C + I + G c. Y = C + I + G + NX d. Y = C + I + G – NX ANSWER: c 208. Which of the following represents the factor income approach to splitting GDP? a. GDP = wages + profit b. GDP = wages + rent + interest c. GDP = wages + rent + profit d. GDP = wages + rent + interest + profit ANSWER: d 209. Which of the following would NOT be included in this year's GDP for the United States? a. A U.S. business spends $100 million to build a new factory in South Carolina. b. The U.S. government distributes $10 million in Social Security payments. c. A foreign country purchases $2 billion worth of U.S. exports. d. U.S. consumers spend $40 million on domestically produced medical services. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: b 210. Table: Components of GDP Private investment $1,640 billion Government spending 2,872 billion Profits 1,565 billion Consumption spending 9,913 billion Wages 3,574 billion Exports 1,520 billion Imports 1,890 billion Use the data in this table to calculate GDP. a. $11,171 billion b. $14,055 billion c. $15,945 billion d. $19,519 billion ANSWER: b 211. Table: Components of GDP Private investment $1,640 billion Government spending 2,872 billion Profits 1,565 billion Consumption spending 9,913 billion Wages 3,574 billion Exports 1,520 billion Imports 1,890 billion Use the data in this table to calculate the contribution of rent and interest income to GDP. a. $6,032 billion b. $8,916 billion c. $10,806 billion d. $14,380 billion ANSWER: b 212. Which of the following would NOT be included in the calculation of GDP as an investment expenditure? a. A contractor purchases a new circular saw. b. Ford Motor Company builds a new manufacturing plant. c. A community college spends $200,000 to upgrade its computer labs. d. An individual purchases $5,000 in shares of Apple stock. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 213. Which of the following would NOT be included in the calculation of GDP as a government purchase? a. military payrolls b. distribution of food stamps c. purchase of 100 new C-5A aircraft d. hiring 1,000 workers to build a new interstate roadway ANSWER: b 214. Using the national spending approach to measuring GDP, if Tyler buys 50 shares of Apple stock, it is included in GDP as part of: a. consumption. b. investment. c. government purchases. d. nothing; it is not included as part of GDP. ANSWER: d 215. Using the national spending approach to measuring GDP, the Social Security checks the government sends retirees each month get included in GDP as part of: a. consumption. b. investment. c. government purchases. d. nothing; they are not included as part of GDP. ANSWER: d 216. Economists call household spending on finished goods and services: a. net exports. b. government purchases. c. investment. d. consumption. ANSWER: d 217. Economists call private spending on the tools, plant, and equipment used to produce future output: a. net exports. b. government purchases. c. investment. d. consumption. ANSWER: c 218. Economists call spending by all levels of government on finished goods and services: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. net exports. b. government purchases. c. investment. d. consumption. ANSWER: b 219. Economists call the value of exports minus imports: a. net exports. b. government purchases. c. investment. d. consumption. ANSWER: a 220. Spending on goods imported into the United States is included in the GDP of: a. the United States. b. the country that produced the goods. c. both the United States and the country that produced the goods. d. no country. ANSWER: b 221. The value of goods exported from the United States to other countries is included in the GDP of: a. the United States. b. the country that purchases the goods. c. both the United States and the country that produces the goods. d. no country. ANSWER: a 222. Which of the following activities is NOT considered an investment for calculating GDP? a. A farmer buys a new tractor. b. An investor purchases 100 shares of IBM stock. c. A family builds a new house. d. A college builds a new lab. ANSWER: b 223. Which of the following is NOT included in the consumption component of GDP? a. monthly rent for a two-bedroom apartment b. spending on health care c. payment for college tuition Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. the purchase of a new house ANSWER: d 224. The national spending approach to calculating GDP divides total spending into the categories of: a. consumption, investment, government purchases, and net exports. b. employee compensation, rent, interest, and profits. c. consumption, interest, government purchases, and compensation. d. employee compensation, investment, rent, and net exports. ANSWER: a 225. The factor income approach divides GDP into the categories of: a. consumption, investment, government purchases, and net exports. b. employee compensation, rent, interest, and profits. c. consumption, interest, government purchases, and compensation. d. employee compensation, investment, rent, and net exports. ANSWER: b 226. Government transfer payments _____ included in the national spending approach to GDP because transfer payments are _____. a. are; part of total government purchases of production b. are; payments for production rather than government benefit checks c. are not; payments for services rather than tangible goods d. are not; like government benefit checks rather than a payment for production ANSWER: d 227. Net exports refer to the market value of exports: a. minus the value of exports that were produced abroad. b. adjusted for differences in price levels abroad. c. minus the market value of imports. d. adjusted for changes in the country’s price level. ANSWER: c 228. If a consumer purchases a foreign-produced hair dryer at a department store, the value of the hair dryer is: a. included in both consumer purchases and exports. b. added to capital investment in equipment but then subtracted from consumer purchases. c. included in consumer purchases but then subtracted as part of imports. d. added to imports but then subtracted as part of exports. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: c 229. Either the national spending approach or the factor income approach can be used to calculate GDP. This equivalence is based in the idea that: a. purchases of goods and services cause a reduction in income. b. when taxes rise, government purchases rise. c. money used for the purchases of goods and services comes from income. d. income is the primary source of savings. ANSWER: c 230. The share of income going to labor through employee compensation in the United States has been _____ over time. a. increasing steadily b. decreasing steadily c. relatively stable d. varying unpredictably ANSWER: c 231. Which of the following is counted as part of GDP? a. The government sends a Social Security check to a retiree. b. Bob mows his lawn. c. People in a country are healthy and happy. d. A state government hires workers to repave the streets. ANSWER: d 232. What is an adjustment that must be made when calculating GDP by the factor income approach? a. sales taxes b. imports c. prices d. quantity of output ANSWER: a 233. GDP provides a measure of: a. economic welfare and income equity. b. well-being that includes the value of both production and leisure. c. the impact of production on the environment. d. the total value of various types of legally earned income. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 234. In nations that have large underground, or illegal, sectors: a. GDP will overestimate total production in the economy. b. GDP will underestimate total production in the economy. c. GDP will provide an accurate account of production in the economy. d. poverty will be significantly greater than in countries with fewer illegal market activities. ANSWER: b 235. GDP calculations account for: a. medical services. b. health of nations. c. pollution. d. the distribution of income. ANSWER: a 236. The presence of illegal and off-the-books activities causes measured GDP to _____ the value of production within the country. a. overstate b. understate c. correctly state d. be more volatile than ANSWER: b 237. Which of the following activities is counted as part of U.S. GDP? a. John purchases a counterfeit DVD. b. Joe watches a free video on YouTube. c. Jake takes a vacation at a Caribbean resort. d. Jeff stays in a hotel in Colorado while on a skiing trip. ANSWER: d 238. Which of the following would NOT be included in this year's GDP? a. Tom and Amy pay $75 for a meal in a restaurant. b. Sarah pays her accountant $200 to do her taxes. c. Jim mows his neighbor's lawn as a favor. d. Megan buys a new Coach purse. ANSWER: c 239. Nonmarket production is not counted in GDP because these activities: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. are not priced. b. are considered intermediate goods. c. do not contribute to economic activity. d. happen inside the home. ANSWER: a 240. In the past 100 years, there has been a decline in the use of unpaid child labor on family farms. Therefore: a. changes in GDP overstate the true increase in production over the past 100 years. b. changes in GDP understate the true increase in production over the past 100 years. c. there has been no change in GDP over the past 100 years. d. there has been no change in production over the past 100 years. ANSWER: a 241. Programmers produce a large amount of software on an unpaid, open-source basis. As a result: a. GDP double-counts some software production. b. GDP undercounts some software production. c. no software should be counted in GDP. d. GDP is a good measure of software productivity. ANSWER: b 242. Which of the following are underground goods or services that would NOT be counted in GDP? a. illegal prostitution activities in Atlanta b. legal sales of medical marijuana in California c. legal strip clubs on Bourbon Street in New Orleans d. massages given in a resort spa ANSWER: a 243. The portion of women in the workforce has nearly doubled since 1950. As a result, fewer mothers are providing home and child care services. How has this trend affected GDP? a. This trend has had no predictable effect on GDP. b. The GDP in 1950 is underestimated relative to today. c. The GDP in 1950 is overestimated relative to today. d. The share of GDP attributable to women has declined. ANSWER: b 244. The value of volunteer services is: a. included in GDP, but should not be because nothing tangible is produced. b. not included in GDP, but should be because a service is produced. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 c. included in GDP and should be because a service is produced. d. not included in GDP and should not be because nothing tangible is produced. ANSWER: b 245. Which of the following is TRUE in the calculation of GDP? a. GDP is positively adjusted to include production in the underground economy. b. GDP is negatively adjusted to account for environmental damage caused by businesses. c. GDP does not include goods and services produced privately inside the home. d. GDP includes a positive adjustment for leisure activities, even if no purchase is required. ANSWER: c 246. Which of the following would most likely NOT be counted in GDP? a. Marijuana is legally sold for medical purposes in the state of California. b. You build a shed in your back yard with scraps of wood to store your lawn mower. c. An outside company is hired to clean up a chemical spill at a local factory. d. You pay a fee to snorkel with manatees while on vacation in Florida. ANSWER: b 247. Which of these services most likely would NOT be counted in GDP? a. You hire a real estate agent to sell a house you have owned for 10 years. b. You pay commission to the salesperson on the purchase of a used car. c. You pay your neighbor's teenage son to cut your grass while you are away on vacation. d. You hire a painting company to paint your 10-year-old house. ANSWER: c 248. Suppose you spend half the summer building a garage in your back yard. You purchase tools that cost $350 and wood that costs $4,000. A contractor would charge $25 per hour for the 40 hours of work necessary to build the garage. After you build the garage, your mother gives you a present of $500 in stocks. How much will GDP rise as a result of these activities? a. $5,350 b. $5,850 c. $4,350 d. $4,850 ANSWER: c 249. Which of the following statements is TRUE about GDP? a. GDP includes all known goods and services in the underground economy. b. GDP includes a negative adjustment for damage caused by pollution. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 c. GDP does not account for the distribution of income in a country. d. GDP includes a positive adjustment for the value of leisure and well-being. ANSWER: c 250. When people can purchase more goods and services, _____ become(s) more important. a. health and longevity b. fewer goods and services produced c. wealth d. increased wages ANSWER: a 251. The cost of negative externalities that harm the environment, such as pollution costs: a. negatively affect the level of GDP by the full amount of the damage. b. cause GDP to decline, but by only the cost of cleanup. c. cause GDP to underestimate true welfare in the economy. d. are not included in GDP. ANSWER: d 252. Imagine a nation that has automobile factories that emit pollution, grows (illegal) marijuana, and does not allow its women to work outside the home. Which activities will be counted in GDP? a. the sale of automobiles and marijuana b. the sale of automobiles and marijuana, and the value of the women's work c. the sale of automobiles minus the damage from pollution d. the sale of automobiles ANSWER: d 253. When GDP per capita goes up by 10%: a. everyone's income goes up by 10%. b. only the most wealthy peoples' incomes will go up by 10%. c. no one's income goes up by 10%. d. the distribution of the increase in incomes may vary. ANSWER: d 254. If a country's GDP per capita rises, this means that: a. everyone in the country has less wealth. b. the country has fewer poor people. c. at least some people in the country have more wealth. d. everyone in the country has more wealth. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: c 255. Which is NOT a reason that GDP is an inaccurate measure of the total value of output within a country in a year? a. GDP does not reflect the level of health of the population. b. GDP includes imports, which are produced abroad. c. GDP is not adjusted for harm done to the environment. d. GDP excludes output sold in the underground economy. ANSWER: b 256. A college student spends $5 on ingredients to bake cookies instead of spending $12 to buy cookies from a bakery. How much is GDP impacted by the college student’s production of cookies? a. $5 b. $7 c. $12 d. $17 ANSWER: a 257. A mother earns $500 during the year by babysitting to supplement her household income but does not report this income when she completes her annual tax return. The production of $500 worth of child care services in this example will: a. increase GDP by $500. b. decrease GDP by $500. c. have no impact on GDP. d. increase GDP by $500 minus taxes paid on income. ANSWER: c 258. The distribution of income deals with: a. how the price level impacts the purchasing power of income. b. the proportions of total income that go to employee compensation, interest, rent, and profit. c. the methods used by employers to transfer pay to employees. d. how equally or unequally income is spread across a population. ANSWER: d 259. A country’s real GDP per capita rises by 5%. This would increase the prosperity of each member of the country’s population by 5% ONLY if: a. the population grew by 5%. b. income was distributed equally. c. there was no harm done to the environment associated with the production of goods and services. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 d. prices were constant. ANSWER: b 260. Which situation will cause a country’s GDP to rise by $100? a. Counterfeit goods are produced and sold for $100 in the underground economy. b. A mother spends an extra $100 at a child care center to not be interrupted while studying for her final exams. c. The average health-care expenditure in a country falls by $100 per person. d. The average income in a country rises by $100. ANSWER: b 261. China has a larger economy than the United Kingdom (Great Britain), but the British are still better off in terms of living standards. a. True b. False ANSWER: a 262. Real GDP per capita in China is higher than real GDP per capita in the United States. a. True b. False ANSWER: b 263. Based on the level of GDP, India is one of the five largest economies in the world. a. True b. False ANSWER: a 264. Currently, India's growth rate is low compared to that of most countries. a. True b. False ANSWER: b 265. Purchases of lumber, such as a sheet of plywood, are always considered intermediate goods and those transactions are not counted in GDP. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 266. GDP can be calculated by adding up the physical quantities of goods and services produced in a given year. a. True b. False ANSWER: b 267. Goods that have higher prices have greater weight in calculated GDP. a. True b. False ANSWER: a 268. GDP measures the total value of production within a country in a year. a. True b. False ANSWER: a 269. GDP is the market value of all finished goods and services produced within a country in a year. a. True b. False ANSWER: a 270. GDP is the market value of all finished goods and services produced by a country's permanent residents, wherever located, in a year. a. True b. False ANSWER: b 271. GNP is the market value of all finished goods and services produced by a country's permanent residents, wherever located, in a year. a. True b. False ANSWER: a 272. A computer chip is one example of a finished good. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 273. GDP includes total spending on all goods in different stages of production. a. True b. False ANSWER: b 274. Total production of services in the United State is almost 70% of GDP. a. True b. False ANSWER: a 275. National wealth and GDP are two names for the same thing. a. True b. False ANSWER: b 276. GDP is meant to measure spending, so sales of used goods are included in GDP. a. True b. False ANSWER: b 277. The value of a car produced by Ford (an American company) in a factory located in Europe would be included in U.S. GDP. a. True b. False ANSWER: b 278. The value of a car produced by Ford (an American company) in a factory located in Europe would be included in U.S. GNP. a. True b. False ANSWER: a 279. The value of a car produced by Kia (a South Korean company) in a factory located in Tennessee would be included in U.S. GDP. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 280. The value of a car produced by Kia (a South Korean company) in a factory located in Tennessee would be included in U.S. GNP. a. True b. False ANSWER: b 281. Nominal GDP measures the value of production in current-year prices. a. True b. False ANSWER: a 282. Real GDP measures the value of production in current-year prices. a. True b. False ANSWER: b 283. Real GDP is calculated using the same prices in all years. a. True b. False ANSWER: a 284. Suppose nominal GDP in a country grew by 6.37% from 1998 to 1999. This means that there was an increase in production and living standards from 1998 to 1999. a. True b. False ANSWER: b 285. Real GDP is equal to nominal GDP adjusted for changes in prices over time. a. True b. False ANSWER: a 286. Nominal GDP always grows faster than real GDP. a. True b. False ANSWER: b 287. Nominal GDP will grow more slowly than real GDP only when there is deflation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 a. True b. False ANSWER: a 288. Nominal GDP will grow faster than real GDP only when there is inflation. a. True b. False ANSWER: a 289. Real GDP per capita is the measure of a country's standard of living preferred by most economists. a. True b. False ANSWER: a 290. When comparing living standards across time, one should use nominal GDP rather than real GDP. a. True b. False ANSWER: b 291. The GDP deflator is the ratio of real to nominal GDP (multiplied by 100). a. True b. False ANSWER: b 292. If real GDP grows by 3% and the GDP deflator grows by 2%, then nominal GDP must grow by 5%. a. True b. False ANSWER: a 293. If nominal GDP grows by 3% and the GDP deflator grows by 2%, then real GDP must grow by 5%. a. True b. False ANSWER: b 294. If pressed to choose a single indicator of current economic performance, most economists would probably choose nominal GDP growth. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: b 295. If pressed to choose a single indicator of current economic performance, most economists would probably choose real GDP growth. a. True b. False ANSWER: a 296. If pressed to choose a single indicator of changing living standards, most economists would probably choose real GDP growth per capita. a. True b. False ANSWER: a 297. If pressed to choose a single indicator of changing living standards, most economists would probably choose nominal GDP growth per capita. a. True b. False ANSWER: b 298. Economic growth has been the normal state of affairs throughout most of human history. a. True b. False ANSWER: b 299. A recession is typically defined as any decrease in real GDP. a. True b. False ANSWER: b 300. A recession is a significant, widespread decline in real income and employment. a. True b. False ANSWER: a 301. Once economic data are released in the United States, they are never revised. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: b 302. A decline in nominal GDP is the single best indicator of a recession. a. True b. False ANSWER: b 303. A recession can be as short as 1 or 2 months. a. True b. False ANSWER: b 304. A recession can be concentrated in one geographical part of the economy, even while other parts of the economy flourish. a. True b. False ANSWER: b 305. A common indicator of a recession would be negative growth in real GDP lasting more than a few months. a. True b. False ANSWER: a 306. An economic expansion is a period of significant, widespread increases in income and employment. a. True b. False ANSWER: a 307. Business cycles are fluctuations of real GDP around its long-term trend. a. True b. False ANSWER: a 308. The causes of business cycles are well understood, and their beginning and ending points are easily predicted. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: b 309. Since 1982, recessions have become less frequent. a. True b. False ANSWER: a 310. Imported goods purchased in the United States are counted as part of U.S. GDP. a. True b. False ANSWER: b 311. The purchase of a new home is considered a personal consumption expenditure. a. True b. False ANSWER: b 312. The purchase of a new home is considered an investment expenditure. a. True b. False ANSWER: a 313. According to the national spending approach, education is classified as a consumption expenditure when splitting GDP. a. True b. False ANSWER: a 314. The purchase of stocks and bonds is considered an investment expenditure for calculating GDP. a. True b. False ANSWER: b 315. A farmer's purchase of a new tractor counts as consumption in the national spending approach to measuring GDP. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 316. A farmer's purchase of a new tractor counts as investment in the national spending approach to measuring GDP. a. True b. False ANSWER: a 317. The factor income approach classifies all of the spending in a nation as consumption, investment, government purchases, or net exports. a. True b. False ANSWER: b 318. The factor income approach splits GDP into consumption, investment, interest, and rent. a. True b. False ANSWER: b 319. The national spending approach classifies all of the spending in a nation as consumption, investment, government purchases, or net exports. a. True b. False ANSWER: a 320. The factor income approach splits GDP into wages, profit, interest, and rent. a. True b. False ANSWER: a 321. Spending on goods imported into the United States would be included in U.S. GNP, but not in U.S. GDP. a. True b. False ANSWER: b 322. According to the national spending approach, net exports must be subtracted from all other spending in the economy in the calculation of GDP. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: b 323. According to the national spending approach, imports must be subtracted from all other spending in the economy in the calculation of GDP. a. True b. False ANSWER: a 324. In calculating GDP with the national spending approach, the total value of exports is subtracted from the sum of all other spending components. a. True b. False ANSWER: b 325. Government spending, including transfer payments, is included in the calculation of GDP. a. True b. False ANSWER: b 326. Transfer payments are not included in government purchases in the calculation of GDP. a. True b. False ANSWER: a 327. Social Security benefits paid to current retirees is an example of government purchases that would be included in GDP. a. True b. False ANSWER: b 328. Social Security benefits paid to current retirees is an example of a transfer payment that would NOT be included in GDP. a. True b. False ANSWER: a 329. A large part of what government does is transfer money from one citizen to another citizen. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: a 330. Personal consumption expenditure is the largest spending component in GDP. a. True b. False ANSWER: a 331. Government purchases of goods and services are the largest component of GDP in the national spending approach. a. True b. False ANSWER: b 332. None of the spending components of GDP (based on the national spending approach) can be negative values. a. True b. False ANSWER: b 333. None of the income components of GDP (based on the factor income approach) can be negative values. a. True b. False ANSWER: a 334. It is possible for net exports to be a negative value. a. True b. False ANSWER: a 335. Net exports will be negative if imports exceed exports. a. True b. False ANSWER: a 336. Net exports will be negative if exports exceed imports. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: b 337. Consumption spending tends to be more stable than investment spending in the U.S. economy. a. True b. False ANSWER: a 338. In the factor income approach, income to owners of capital is called rent. a. True b. False ANSWER: b 339. In the factor income approach, income to owners of capital is called interest. a. True b. False ANSWER: a 340. The national spending approach and the factor income approach are equivalent ways of measuring GDP because every dollar spent in the economy is ultimately received as income by someone. a. True b. False ANSWER: a 341. It is useful to have different approaches to measuring GDP (such as the national spending approach and the factor income approach) because each approach provides a different value of GDP. a. True b. False ANSWER: b 342. GDP measures the total spending on finished goods and services in a country. a. True b. False ANSWER: a 343. GDP measures the total income in a country. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 344. Large amounts of nonmarket production and illegal activities mean that a lot of Latin American countries are actually richer than their GDP suggests. a. True b. False ANSWER: a 345. GDP is an accurate measure of both the standard of living and the distribution of income within a country. a. True b. False ANSWER: b 346. GDP accounts for the health and longevity of the population. a. True b. False ANSWER: b 347. A beautiful sunrise is not counted in GDP. a. True b. False ANSWER: a 348. GDP does not count production in the underground economy. a. True b. False ANSWER: a 349. Nonpriced production is NOT included in GDP because these activities do not contribute to economic activity. a. True b. False ANSWER: b 350. Prostitution is legal in some parts of Nevada and illegal everywhere else in the United States. Therefore, prostitution is counted as part of GDP if it occurs in those parts of Nevada, but not elsewhere. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 351. Growing tomatoes in your back yard and making salsa for a Super Bowl party you are hosting will NOT be reflected in GDP. a. True b. False ANSWER: a 352. Environmental damage caused by pollution leaked into a river by a local factory will negatively impact GDP. a. True b. False ANSWER: b 353. The cost of hiring an outside company to clean up a chemical spill at a local factory will not be reflected in GDP. a. True b. False ANSWER: b 354. Anuradha is a recent immigrant from India to the United States who has become a U.S. citizen. She currently works as a software programmer in California's Silicon Valley. Are her earnings counted in India's GDP or the United States’ GDP? What about GNP? ANSWER: GDP is the market value of all finished goods and services produced within a country in a year. Because Anuradha is a recent immigrant to the United States, her earnings are counted as U.S. GDP. GNP is the market value of all finished goods and services produced by a country’s resident, wherever located, in a year. Since Anuradha is a recent immigrant to the United States, her earnings are not counted as part of India’s GDP or GNP. Her earnings are included in U.S. GNP. 355. Jeff buys a used truck from a rental agency to make deliveries from his new furniture store. Would this purchase be included in GDP? If so, would it be consumption or investment spending? ANSWER: Since the truck is used, it would not be included in GDP. It is merely a transfer of an existing asset from one party to another with no new production. If the truck had been purchased new, it would be counted in GDP as investment spending. 356. On your first day of a summer internship with a pharmaceutical sales company, your boss explains how the company is in the midst of examining its sales data over the past 25 years to identify trends of growth and decline. She asks for your opinion on whether the company should use real or nominal sales data. What would you say? ANSWER: To determine whether the quantity of sales has gone up or down over the past 25 years, the company should use real sales data, adjusted for any changes in prices, over the past 25 years. Nominal sales data, not adjusted for inflation, will be influenced by both price and quantity changes, which will disguise the true movement in quantity sold. 357. Explain the difference between real GDP and nominal GDP. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 ANSWER: Real GDP is adjusted for changes in the price level; nominal GDP is not. Real GDP evaluates the market value of goods and services produced at prices from a base year (i.e., uses the same prices in all years), while nominal GDP evaluates the market value of goods produced at prices for each year’s data. 358. Suppose nominal GDP was $12,623.0 billion in 2005 and was $13,377.2 billion in 2006. If the GDP deflator for 2006 (with a base year of 2005) was 103.237, what was the growth rate of real output between 2005 and 2006? Show your calculations. ANSWER: To calculate the growth rate of real output, first calculate real GDP in each year. Real GDP in 2005 (in 2005 dollars) is equal to nominal GDP in that year, $12,623.0 billion. Real GDP in 2006 is equal to nominal GDP in 2006 divided by the (GDP deflator ÷ 100) for 2006, $13,377.2 ÷ 1.03237 = $12,957.8. Using the formula for calculating growth rates, the growth rate of real GDP between 2005 and 2006 is [(12,957.8 – 12,623.0) ÷ 12,623.0] × 100 = 2.7%. Another way to approximate real GDP growth is to calculate nominal GDP growth and subtract the inflation rate implied by the GDP deflator. Nominal GDP growth is given by [(13,377.2 – 12,623.0) ÷ 12,623.0] × 100 = 5.97%. The GDP deflator implies that inflation between 2005 (the base year) and 2006 is 103.237 – 100 = 3.237%. Therefore, real GDP growth is 5.97 – 3.237 = 2.7%. 359. Table: Gross Domestic Product 2000 GDP in 2000 dollars $15 trillion 1995 GDP in 2000 dollars $13.8 trillion 1995 GDP in 1995 dollars $12.4 trillion Use the information in this table to answer the following questions: a. What was nominal GDP for the year 2000? b. How much did nominal GDP grow between the year 1995 and the year 2000? c. How much did real GDP grow between the year 1995 and the year 2000, in 2000 dollars? ANSWER: a. The nominal GDP for the year 2000 was the same as the given amount of $15 trillion. b. Nominal GDP for the year 1995 was the 1995 GDP in 1995 dollars amount of $12.4 trillion. Thus, the growth of nominal GDP between the two years was [(nominal GDP2000 – nominal GDP1995) ÷ nominal GDP1995] × 100 = 20.97%. c. Real GDP for the year 2000 was the same as the nominal GDP for the year 2000, since this is the base year for the calculation of real GDP in 1995 given in the table. Real GDP for the year 1995 in 2000 prices was $13.8 trillion. Thus, the growth of real GDP between the 2 years was [(real GDP2000 – real GDP1995) ÷ real GDP1995] × 100 = 8.7%. 360. Imagine an economy that produces only pizza and pretzels. In 2010, the price of pizza was $20 and the price of pretzels was $1. In 2011, the price of pizza was $22 and the price of pretzels was $1.10. If 100,000 pizzas and 1,000,000 pretzels were produced in 2010, and 110,000 pizzas and 1,100,000 pretzels were produced in 2011, what were the nominal GDP and real GDP (using 2010 prices) for this economy in 2010 and 2011? Calculate the growth rate of real GDP for this economy during this period. Why was the growth rate of real GDP different from the growth rate of nominal GDP over this period? Can you use the GDP data to calculate the inflation rate from 2010 to 2011? ANSWER: To calculate nominal GDP for 2010, use 2010 quantities and 2010 prices for pizzas and pretzels: (100,000 × $20) + (1,000,000 × $1) = $3,000,000. To calculate nominal GDP for 2011, use 2011 quantities and 2011 prices: (110,000 × $22) + (1,100,000 × $1.10) = $3,630,000. To calculate real Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 GDP using 2010 prices, 2010 prices will be used in the calculation of GDP for all years. For 2010, this would provide the same calculation as for 2010 nominal GDP shown above. Thus, real GDP for 2010 (using 2010 prices) was $3,000,000. To calculate real GDP for 2011 (using 2010 prices), use 2011 quantities and 2010 prices: (110,000 × $20) + (1,100,000 × $1) = $3,300,000. The growth rate of real GDP is calculated as follows: [(3,300,000 – 3,000,000) ÷ 3,000,000] × 100 = 10%. The growth rate of real GDP is less than the growth rate of nominal GDP (which is 21%; check for yourself) because the growth rate of nominal GDP includes the increase in prices that occurred from 2010 to 2011 in addition to the increase in production (which is 10%, as measured by real GDP growth). Inflation from 2010 to 2011 can be calculated using the GDP deflator for 2011: GDP deflator2011 = (nominal GDP2011 ÷ real GDP2011) × 100 = (3,630,000 ÷ 3,300,000) × 100 = 110. The GDP deflator of 110 implies an inflation rate of 110 – 100 = 10% between 2010 and 2011. 361. What is a recession, and how would a recession affect the level of real GDP and the growth rate of real GDP in a nation? ANSWER: A recession is a significant, widespread decline in economic activity. Since real GDP is a broad measure of economic activity in a nation, a recession would cause a decline in the level of real GDP as well as its growth rate. The growth rate of real GDP is typically negative during a recession. 362. Would a significant decline in the economic activity of construction workers qualify as a recession? ANSWER: A recession is defined as a significant, widespread decline in economic activity. So, no, a decline of economic activity in the construction sector alone would not constitute a recession. But if the decline in construction is accompanied by declines in other sectors such as banking, retail, and manufacturing, this would meet the “widespread” criteria required for a recession. 363. What is the formula for calculating GDP using the national spending approach? ANSWER: GDP = C + I + G + NX 364. Calculate GDP for an economy that has consumer purchases of $6,000, investment purchases of $1,000, government purchases of $2,500, total exports of $1,000, and total imports of $500. ANSWER: GDP = C + I + G + (exports – imports) = $6,000 + $1,000 + $2,500 + ($1,000 – $500) = $10,000 365. What is the formula for calculating GDP using the factor income approach? ANSWER: GDP = wages + profit + rent + interest 366. List and briefly discuss the various components of the national spending approach to calculating GDP. ANSWER: The national spending approach to GDP is summarized by the following equation: GDP = C + I + G + NX. These are the different types of expenditure by different agents within a country. Consumption (C) is the total expenditure by households on goods such as food, computers, and gasoline, and services such as medical care and haircuts. Investment (I) is spending by firms on factories, machinery, and so on to be used for future production, as well as residential home construction and changes in inventories. Government purchases (G) are spending by all governments on finished goods and services (not including transfer payments of money from one person to another). What consumers, businesses, and governments spend on imports represents foreign production and should not be included in this nation's GDP, so imports (IM) are subtracted out. But goods and services were produced in the nation and were exported to other countries and bought by foreign consumers, businesses, and governments. Those goods and services are part of Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 domestic production, but since they were not bought by a domestic consumer, business, or government, they will be missed by C, I, and G. So, we add in exports (EX). Net exports (NX) is calculated as the difference between exports (EX) and imports (IM). In other words, NX = EX – IM. 367. List and briefly discuss the various components of the factor income approach to calculating GDP. ANSWER: The factor income approach to GDP is represented by the following equation: GDP = wages + rent + profit + interest. These are the different types of income earned by each of the different factors of production within a country. Wages are earned by labor, rent is earned by landlords, profit is earned by businesses, and interest is earned by capital owners. Since every dollar spent is a dollar earned, estimating total earning should give the same estimate of GDP as estimating total expenditures. 368. Table: Select Components of GDP Component of GDP Amount Consumption $375.56 Investment 115.68 Wages and salaries 394.80 Rent 100.20 Government purchases 180.00 Interest 66.00 Exports 100.00 Imports 120.00 Use the information in this table to answer the following questions: a. What is GDP according to the national spending approach? b. What is the dollar amount of profit earned in this economy? ANSWER: a. The spending approach is Y = C + I + G + NX. This is the sum of $[375.56 + 115.68 + 180 + (100 – 120)] = $651.24. b. Since the two approaches theoretically provide the same level of GDP, we already know total GDP from part a. The income approach is the sum of wages and rent and profit and interest. Thus, $(394.80 + 100.20 + 66 + profit) = $651.24. Solving for profit in this equation, it follows that profit income is $90.24. 369. List the different components of spending used to calculate GDP using the national spending approach, and give an example of each type of spending. ANSWER: The national spending approach measures GDP as consumption spending (C) + investment spending (I) + government purchases (G) + net exports (NX = exports – imports). Students' examples will vary. An example of consumption spending is buying a new sweater. An example of investment spending is a company purchasing a new piece of machinery. An example of government purchases is the government hiring workers to build a new road. Net exports equal exports minus imports. An export occurs if a family in Canada buys a car produced in the United States. An import occurs if someone in the United States buys a pair of shoes that were made in Italy. 370. How are GDP, total output, total spending, and total income related in an economy? Briefly explain. ANSWER: Total output (production), total spending, and total income are all equal in an economy, and GDP is a measure of all of these concepts. It is clear from the definition of GDP presented in the chapter that GDP is a measure of total production. Since all production is ultimately sold to someone, Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 production must equal spending. Finally, since spending generates income to all those who had a hand in producing the output initially, income will equal spending and production. So, we can think of GDP as representing all of these concepts. Note that the national spending approach builds on the total spending interpretation by splitting GDP into four spending components: consumption, investment, government purchases, and net exports (exports minus imports). The factor income approach builds on the total income interpretation by splitting GDP into four income components: wages, rent, interest, and profit. 371. Both intermediate goods and services and investment are used to produce finished goods and services. Describe how they differ. ANSWER: Intermediate goods and services are used as inputs in finished goods and services. For example, buttons are an input in tailored shirts. Investment includes capital, such as tools, plants, and equipment, that is used to produce future output but is not part of finished goods and services. For example, investing in a sewing machine allows tailored shirts to be manufactured, but the sewing machine itself is not part of tailored shirts. The sewing machine is only used to produce tailored shirts. Intermediate goods and services are used as inputs in finished goods and services, while investment is used in the production of finished goods and services but is not part of it. 372. According to the national spending approach, why are imports subtracted when GDP is split up? ANSWER: According to the national spending approach, GDP is split into the following types of spending: consumption + investment + government purchases + net exports. Net exports equal exports – imports. Imports are goods and services that are purchased by buyers in one country but produced in another country. The purchases of these goods and services are included in the consumption, investment, and government purchases. But because these purchases of imports do not represent domestic production, their value must be subtracted in the computation of GDP so that GDP represents the market value of only domestically produced goods and services. 373. Explain why GDP does not include the underground economy. ANSWER: GDP does not include economic activity in the underground economy because activity in the underground economy does not pass through an official market and is, therefore, impossible to value and observe in a valid, consistent manner. 374. Discuss four reasons that explain why GDP is not a perfect measure of economic activity in a country. ANSWER: GDP is not a good measure of economic activity because it does not include (1) economic activity in the underground economy and (2) nonmarket production. GDP, even GDP per capita, is not a good measure of well-being or happiness, since it does not account for (3) leisure, health, and longevity; (4) damage resulting from economic “bads” such as environmental pollution; (5) the negative impacts of crime (more crime could lead to higher GDP as people purchase new items to protect themselves and their property); and (6) income inequality, since GDP and GDP per capita are total and average figures, respectively. 375. What does GDP per capita tell us about a nation's economy? What issues does conventional GDP methodology exclude? ANSWER: GDP per capita provides an estimate of the standard of living in a nation. GDP excludes underground/illegal goods and services such as illegal drugs, prostitution, and transactions that are cash based and not reported. Also excluded are nonmarket or nonpriced goods and services that do Copyright Macmillan Learning. Powered by Cognero.
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Chapter 6 not include payment, such as care given to children by their parents or the production of volunteers. Leisure is not counted in GDP. More working hours would lead to higher levels of GDP but perhaps much less happy workers. “Bads” such as pollution or the extinction of a species of animal do not reduce GDP, but they do reduce well-being. And, since GDP per capita is only an average amount, it does not indicate how income is distributed in a nation. For the foregoing reasons, GDP and GDP per capita do not accurately reflect well-being. 376. Discuss how well GDP measures well-being. In your discussion, specifically define GDP and specifically state what it measures and what it does not measure. ANSWER: Gross domestic product (GDP) is the market value of all finished goods and services produced within a country in a year. While GDP can be useful for providing estimates of current economic performance and living standards in a country, it is not a perfect measure of welfare. Some things GDP does not include are health and longevity, the underground economy, the distribution of income, and damage to the environment caused by production. 377. Explain how the presence of pollution skews GDP measurements. ANSWER: GDP measures the value of all finished goods produced within the United States during a given year. As a byproduct of this production, some pollution is created. This pollution represents a “bad” for society and therefore reduces welfare. Because of this, the value of the pollution created should be counted as a “negative” or economic “bad” in terms of measuring welfare. However, this is not done. Hence, as a measure of welfare, measured GDP is overstated to the extent that such economic “bads” are produced. 378. Which of these provides the greatest insight into the prosperity of the average person in a country: GDP, real GDP, GDP per capita, or real GDP per capita? Why? ANSWER: Real GDP per capita provides the greatest insight into the prosperity of the average person in a country because it measures the value of output per person, holding prices constant. GDP measures the market value of output but does not average that output across the population. For example, two countries could have the same GDP, but if one country has twice the population of the other, output per person will be twice as high in the country with the smaller population. Per capita adjustment is important in understanding the situation of the average person in a country. On the other hand, adjusting for price levels is important in understanding prosperity. For example, if GDP doubles in a country, its increase is due to prices doubling, and the amount of goods and services available (and thus, the potential standard of living) has not changed. Adjusting for price changes allows production quantity to be measured. Real GDP per capita takes into account both changes in the population and the price level. When it rises, the amount of goods and services produced per person has risen.
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Chapter 7 1. Data from countries around the world suggest that “health and wealth” (measured by infant survival rates and real GDP per capita) are: a. positively related. b. negatively related. c. unrelated. d. constant. ANSWER: a 2. Wealthier countries have: a. more conflicts, such as riots and civil wars. b. higher infant mortality rates. c. fewer educational opportunities. d. more material goods. ANSWER: d 3. Which statement best describes the cross-country evidence on the relationship between a nation's GDP per capita and standard measures of societal well-being? a. GDP per capita is negatively related to measures of societal well-being. b. GDP per capita is positively related to measures of societal well-being. c. There is no relationship between GDP per capita and measures of societal well-being. d. The relationship between GDP per capita and societal well-being is positive at times and negative at times. ANSWER: b 4. There is: a. a strong positive correlation between per capita GDP and infant survival. b. a weak positive correlation between per capita GDP and infant survival. c. no correlation between per capita GDP and infant survival. d. a weak negative correlation between per capita GDP and infant survival. ANSWER: a 5. In general, increases in a country's wealth will cause infant survival rates to: a. increase. b. decrease. c. remain unchanged. d. become unpredictable. ANSWER: a 6. Every year, 1.8 million children in poor countries die of diarrhea. What is most effective in preventing these Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 deaths? a. government subsidies b. political reform c. economic growth d. humanitarian aid ANSWER: c 7. A country's GDP per capita and infant survival rates usually are: a. not correlated. b. somewhat correlated. c. strongly correlated. d. correlated only in poor countries. ANSWER: c 8. Piped water and flush toilets together can reduce infant mortality from diarrhea by approximately: a. 20%. b. 40%. c. 60%. d. 70% or more. ANSWER: d 9. The correlation between infant mortality and real GDP per capita is: a. zero. b. positive. c. negative. d. unpredictable. ANSWER: c 10. What is most needed to reduce infant deaths from diarrhea? a. new drugs b. economic growth c. scientific discoveries d. better medical devices ANSWER: b 11. Real GDP per capita is positively related to: a. inflation. b. closed markets. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. infant survival rate. d. the poverty rate. ANSWER: c 12. Wealthier nations tend to have: a. better educational opportunities. b. lower infant survival rates. c. lower life expectancy rates. d. fewer opportunities for leisure and entertainment. ANSWER: a 13. Which does NOT tend to be higher in wealthier nations? a. health b. infant survival c. leisure d. civil war ANSWER: d 14. When economists speak of “long-run economic growth,” they mean increasing the: a. real GDP of a country. b. per capita real GDP of a country. c. geographic size of a country. d. population of a country. ANSWER: b 15. For most of recorded human history, real GDP per capita has: a. increased at a rapid rate. b. increased at a modest rate. c. remained about the same. d. decreased at a modest rate. ANSWER: c 16. Beginning in the _____ century, economic growth became a clear trend in parts of the world. a. sixteenth b. seventeenth c. eighteenth d. nineteenth Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: d 17. If real GDP per capita in a country was $14,000 in year 1 and $14,280 in year 2, then the economic growth rate for this country from year 1 to year 2 was: a. 1%. b. 2%. c. 3%. d. 4%. ANSWER: b 18. If real GDP per capita in a country was $14,000 in year 1 and $14,560 in year 2, then the economic growth rate for this country from year 1 to year 2 was: a. 1%. b. 2%. c. 3%. d. 4%. ANSWER: d 19. If real GDP per capita in a country was $14,000 in year 1 and $14,140 in year 2, then the economic growth rate for this country from year 1 to year 2 was: a. 1%. b. 2%. c. 3%. d. 4%. ANSWER: a 20. If real GDP per capita in a country was $14,000 in year 1 and $14,420 in year 2, then the economic growth rate for this country from year 1 to year 2 was: a. 1%. b. 2%. c. 3%. d. 4%. ANSWER: c 21. Most of the world's population: a. is poor relative to the United States. b. is about as well off as the average person in the United States. c. is wealthy relative to the United States. d. cannot be compared to the United States. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: a 22. Around the world, about one _____ people have incomes of less than $3 per day. a. thousand b. million c. billion d. trillion ANSWER: c 23. Two thousand years ago, per capita GDP (in 2010 dollars) was: a. less than $1,000. b. about $10,000. c. more than $50,000. d. about the same as today. ANSWER: a 24. Today, real GDP per capita is about _____ as large in the richest countries as in the poorest countries. a. twice b. 10 times c. 20 times d. 50 times ANSWER: d 25. The world's poorest country is: a. Nigeria. b. Argentina. c. India. d. the Democratic Republic of the Congo. ANSWER: d 26. Roughly what percentage of the world's population live in countries with per capita GDP lower than the average world per capita GDP? a. 73% b. 52% c. 23% d. 10% ANSWER: a 27. Fully 73% of the world's population live in countries with a GDP: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. less than the world average. b. more than the world average. c. per capita less than the world average. d. per capita more than the world average. ANSWER: c 28. For most of recorded history, economic growth has been: a. about the same as today. b. virtually nonexistent. c. a source of continuously rising living standards. d. a way to equalize the distribution of wealth around the world. ANSWER: b 29. At an average growth rate of 4%, approximately how long would it take for an economy to double its GDP? a. 17.5 years b. 25 years c. 50 years d. 70 years ANSWER: a 30. If the average annual growth rate of a country increases from 2% to 3%, in how many years will its GDP double? a. 10 years b. 11 2/3 years c. 17 years d. 25 years ANSWER: b 31. At an annual growth rate of 2%, approximately how long does it take for real GDP per capita to increase from $30,000 to $60,000 in a country? a. 15 years b. 25 years c. 35 years d. 45 years ANSWER: c 32. At an annual growth rate of 0.7%, approximately how long does it take for real GDP per capita to increase from $30,000 to $60,000 in a country? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. 50 years b. 100 years c. 200 years d. 400 years ANSWER: b 33. At an annual growth rate of 1.4%, approximately how long does it take for real GDP per capita to increase from $30,000 to $60,000 in a country? a. 50 years b. 100 years c. 200 years d. 400 years ANSWER: a 34. At an annual growth rate of 3.5%, approximately how long does it take for real GDP per capita to increase from $30,000 to $60,000 in a country? a. 5 years b. 10 years c. 15 years d. 20 years ANSWER: d 35. If U.S. per capita GDP is $50,000 and grows at 2% per year, what will U.S. per capita GDP be in 70 years? a. $100,000 b. $200,000 c. $400,000 d. $800,000 ANSWER: b 36. If U.S. per capita GDP is $50,000 and grows at 3% per year, what will U.S. per capita GDP be in 70 years? a. $100,000 b. $200,000 c. $400,000 d. $800,000 ANSWER: c 37. If U.S. per capita GDP is $50,000 and grows at 5% per year, what will U.S. per capita GDP be in 70 years? a. $400,000 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. $800,000 c. $1.2 million d. $1.6 million ANSWER: d 38. One key fact about economic growth around the world is that: a. most poor countries lack natural resources. b. all countries used to be poor. c. growth has occurred throughout human history. d. the dispersion of GDP per capita has become more equal across countries over time. ANSWER: b 39. For most of recorded human history, long-run economic growth was: a. much higher than it has been in recent decades. b. the same as it is today. c. the highest during the Dark Ages. d. almost nonexistent. ANSWER: d 40. According to the rule of 70, a country with an annual growth rate of 10% will double its GDP per capita in: a. 70 years. b. 10 years. c. 7 years. d. less than 1 year. ANSWER: c 41. According to the rule of 70, a country with an annual growth rate of 7% will double its GDP per capita in: a. 70 years. b. 10 years. c. 7 years. d. less than 1 year. ANSWER: b 42. If the GDP of country X is 4 times the GDP of country Y and if the GDP of country X remains constant while the GDP of country Y grows at a rate of 7% per year, which of the following statements is TRUE? a. Country Y's GDP will be equal to country X's GDP in 10 years. b. Country Y's GDP will be equal to country X's GDP in 20 years. c. Country Y's GDP will be equal to country X's GDP in 40 years. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 d. Country Y's GDP will never catch up with country X's GDP. ANSWER: b 43. “Economic growth” refers to the growth rate of: a. real GNP per capita. b. GNP. c. GDP. d. real GDP per capita. ANSWER: d 44. Low rates of economic growth sustained over long periods produce: a. small changes in per capita GDP. b. large changes in per capita GDP. c. no changes in per capita GDP. d. unpredictable changes in GDP. ANSWER: b 45. The rule of 70 states that if the annual growth rate of a variable is x%, the necessary time for doubling is: a. 70 plus x. b. 70 minus x. c. 70 times x. d. 70 divided by x. ANSWER: d 46. The rule of 70 indicates that an increase in the growth rate of a variable will _____ the time needed to double the value of the variable itself. a. decrease b. increase c. have no effect on d. have an unpredictable effect on ANSWER: a 47. Economic growth is measured by the growth rate of: a. nominal GDP. b. real GDP. c. nominal GDP per capita. d. real GDP per capita. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 48. If a country's real GDP per capita in 1950 was $10,000 and it grew to $20,000 by year 2000, then the country's annual growth rate during this period would have been approximately: a. 1.4%. b. 1.8%. c. 2.0%. d. 2.2%. ANSWER: a 49. Suppose a country's real GDP per capita was $9,000 in 1990 and it grew to $18,000 by 2000. What was the annual growth rate of the country's real GDP per capita during this period? a. 7% b. 10% c. 20% d. 25% ANSWER: a 50. Suppose a country's annual growth rate of real GDP per capita is approximately 2%. By which year would the country double its real GDP per capita from $10,000 in 1950 to $20,000? a. 1970 b. 1985 c. 2000 d. 2005 ANSWER: b 51. Over the past 200 years, economic growth in the United States has been: a. among the slowest in the world. b. the fastest in the world. c. slow and consistent. d. volatile. ANSWER: c 52. Two countries that may be considered examples of growth miracles are: a. Mexico and China. b. the United States and Spain. c. Denmark and Luxembourg. d. South Korea and Japan. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 53. Relative to Japan, Argentina was _____ in 1950 and _____ in 2000. a. poor; poor b. rich; rich c. poor; rich d. rich; poor ANSWER: d 54. Relative to South Korea, Argentina was _____ in 1950 and _____ in 2000. a. poor; poor b. rich; rich c. poor; rich d. rich; poor ANSWER: d 55. Relative to the United States, Argentina was _____ in 1950 and _____ in 2000. a. poor; poor b. rich; rich c. poor; rich d. rich; poor ANSWER: a 56. Relative to China, Argentina was _____ in 1950 and _____ in 2007. a. poor; poor b. rich; rich c. poor; rich d. rich; poor ANSWER: b 57. Which statement best describes the economic growth patterns in the world since World War II? a. Japan and South Korea experienced rapid growth, while Argentina and Nigeria experienced slow growth. b. Japan and South Korea experienced slow growth, while Argentina and Nigeria experienced rapid growth. c. Most countries in the world experienced rapid growth. d. Most countries in the world except the United States experienced no growth at all. ANSWER: a 58. Which country had a growth miracle beginning in the late 1970s? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. United States b. Japan c. South Korea d. Nigeria ANSWER: c 59. From 1950 to 1970 Japan's growth rate was: a. high and positive. b. low and positive. c. approximately zero. d. negative. ANSWER: a 60. Between 1974 and 2005, Nigeria's growth rate was: a. high and positive. b. low and positive. c. approximately zero. d. negative. ANSWER: d 61. Figure: The Distribution of World Income
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Chapter 7
Based on the data in the figure, about how many times wealthier is the richest country when compared to the poorest countries in the world? a. 500 b. 100 c. 10 d. 30 ANSWER: b 62. Figure: The Distribution of World Income
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Chapter 7
Based on the data in the figure, living standards in the United States are about how many times higher than the world average? a. 3 b. 10 c. 40 d. 50 ANSWER: a 63. In the year 2014, the world's average per capita GDP was $14,517. What percentage of the world's population lived in a country with per capita GDP that was below $14,517? a. 21% b. 43% c. 56% d. 73% ANSWER: d 64. What percentage of the world's population lives in a country that has a GDP per capita above the world average? a. 12% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. 27% c. 51% d. 73% ANSWER: b 65. The world's average level of GDP per capita was $14,517 as of 2014. This was a little less than the living standard in which nation? a. China b. Mexico c. Nigeria d. India ANSWER: b 66. Figure: Economic Growth in Major World Regions
The figure shows real GDP per capita over time in different regions of the world. The figure shows that all regions of the world: a. were poor at one time. b. have been relatively rich throughout most of human history. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. have experienced moderate growth throughout most of human history. d. remain poor today. ANSWER: a 67. Figure: Economic Growth in Major World Regions
The figure shows real GDP per capita over time in different regions of the world. The figure shows that: a. all regions of the world eventually achieved significant growth. b. some regions of the world have always experienced growth. c. significant growth has occurred in some regions only since 1950. d. all regions of the world remain poor today. ANSWER: c 68. Figure: Economic Growth in Major World Regions
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Chapter 7
The figure shows real GDP per capita over time in different regions of the world. The figure shows that living standards in different regions began to _____ at the beginning of the nineteenth century. a. diverge b. converge c. equalize d. fall ANSWER: a 69. The United States and Western European countries began to experience accelerated economic growth during which century? a. twelfth b. sixteenth c. fifteenth d. nineteenth ANSWER: d 70. If real GDP in an economy increased from $20,000 billion to $20,200 billion from 2010 to 2011, what was the annual growth rate in this economy? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. 10.00% b. 5.00% c. 2.01% d. 1.00% ANSWER: d 71. If a country's initial real GDP is $60,000 and its annual growth rate is 5%, use the rule of 70 to determine approximately how many years it would take for this economy to double its GDP. a. 70 years b. 20 years c. 14 years d. 12 years ANSWER: c 72. Imagine an economy that has a growth rate of 2% per year. Use the rule of 70 to estimate how long it would take for this economy to quadruple its GDP per capita. a. 14 years b. 35 years c. 70 years d. 140 years ANSWER: c 73. Suppose economies A and B have the same initial level of GDP per capita at $15,000, and each economy begins with a constant growth rate of 1% per year. (Neither country has good institutions for economic growth at first.) Then country A enters an era of political stability, establishes property rights, and installs incentives for entrepreneurship. Country A's economic growth rate consequently improves to 5%. Assuming that population growth rates remain unaffected, how much longer will it take country B to double its per capita GDP level compared to country A? a. 70 years b. 14 years c. 56 years d. 28 years ANSWER: c 74. If a nation doubles its GDP per capita in 20 years, what is its annual growth rate? a. 3.5% b. 4.2% c. 6.5% d. 7.0% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: a 75. If you receive a constant annual rate of return of 7% on an investment of $10,000, how many years will it take before you have $20,000? a. 10 years b. 7 years c. 35 years d. 2.86 years ANSWER: a 76. If real GDP per capita in the United States is currently $50,000 and grows at 2.5% per year, it will take approximately how many years to reach $200,000? a. 28 years b. 56 years c. 84 years d. 112 years ANSWER: b 77. What is the most immediate (or direct) cause of growth in real GDP per capita? a. factors of production b. institutions c. the political system in the economy d. incentives ANSWER: a 78. Factors of production that contribute to growth in per capita GDP include: a. proximal and ultimate factors of production. b. physical capital, human capital, and technological knowledge. c. organization of resources. d. institutions. ANSWER: b 79. A rural village in a developing country has an economy based on agriculture. Then the government of the country provides the village with newly developed hybrid seeds that more than double the agricultural yield per acre. This story illustrates the growth of per capita GDP in the village through which factor(s) of production? a. physical capital b. human capital c. technological knowledge d. both human capital and technological knowledge Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: c 80. One measure of student output is the number of completed math problems produced. Using pen and paper only, a student can complete 50 math problems in 2 hours. Using pen, paper, and a calculator, the same student can complete 100 math problems in 2 hours. (The student is already familiar with, and knows how to use, the calculator.) This scenario illustrates the use of which factor of production? a. physical capital b. human capital c. technological knowledge d. both human capital and technological knowledge ANSWER: a 81. Which statement is TRUE about economic growth? a. All countries eventually grow rich. b. Once a country starts to grow, it will continue to grow. c. A country can grow and become wealthy, never grow, or grow and then begin to stagnate. d. Growth is a random process; in some years a country grows and in other years it doesn't. ANSWER: c 82. Which statement is FALSE? a. Historically, all people used to be poor. b. History shows that over time, prosperity occurs in all countries. c. GDP per capita varies significantly across countries. d. Economic growth rates vary across countries and over time. ANSWER: b 83. Which is a true statement about real GDP per capita across countries? a. Half of the world’s population has income below the world average real GDP per capita, and half of the world’s population has income above it. b. The majority of people in the world have income equal to the world average real GDP per capita. c. Most people live in countries where real GDP per capita is above the world average real GDP per capita. d. Most people live in countries where real GDP per capita is below the world average real GDP per capita. ANSWER: d 84. Individual incomes around the world vary _____ than the distribution of real GDP per capita across countries because _____. a. more; incomes vary significantly within each country b. more; tax policies in some countries reduce income variation Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. less; incomes vary little within each country d. less; focusing on averages skews the perception ANSWER: a 85. Between 1 and 1000 CE the trend line of real GDP per capita in the world was: a. rising. b. falling. c. flat. d. varying. ANSWER: c 86. The economic growth rate is the growth rate of: a. GDP. b. GDP per capita. c. real GDP. d. real GDP per capita. ANSWER: d 87. Table: GDP 2015–2018 2015 2016 2017 2018 Real GDP in 2015 dollars $4,000,000 $4,200,000 $4,300,000 $4,400,000 GDP per capita 40,000 42,400 43,860 44,614 Real GDP per capita in 2015 dollars 40,000 41,584 41,748 42,453 What was the economic growth rate in 2018? a. 1.66% b. 1.69% c. 1.72% d. 2.33% ANSWER: b 88. Table: GDP 2015–2018 2015 Real GDP in 2015 dollars $4,000,000 GDP per capita 40,000 Real GDP per capita in 2015 40,000 dollars
2016 $4,200,000 42,400 41,584
2017 $4,300,000 43,860 41,748
2018 $4,400,000 44,614 42,453
What was the economic growth rate in 2016? a. 0.41% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. 2.26% c. 3.96% d. 5.00% ANSWER: c 89. Growth becomes exponential due to: a. inflation. b. the business cycle. c. per capita computation. d. compounding. ANSWER: d 90. If a certain economy is growing at a rate of 1.75% annually, how many years will it take for the country’s real GDP per capita to double? a. 40.0 years b. 61.3 years c. 52.5 years d. 75.0 years ANSWER: a 91. If a country has an economic growth rate of 5.5%, its real GDP per capita will double in _____ years. a. 3.85 b. 12.73 c. 55.70 d. 78.55 ANSWER: b 92. Table: Growth Rates and Real GDP per Capita Country A Country B Real GDP per capita $5,000 $10,000 Economic growth rate 7% 6%
Country C $15,000 3%
Country D $20,000 2%
Which country will reach a real GDP per capita of $80,000 the most quickly if the growth rates in the table are maintained? a. country A b. country B c. country C d. country D ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 93. Table: Growth Rates and Real GDP per Capita Country A Country B Real GDP per capita $5,000 $10,000 Economic growth rate 7% 6%
Country C $15,000 3%
Country D $20,000 2%
Which country will reach a real GDP per capita of $80,000 the most slowly if the growth rates in the table are maintained? a. country A b. country B c. country C d. country D ANSWER: d 94. Which two countries transitioned from widespread poverty to comfortable prosperity for the average person within a time span of approximately 20 years? a. England and Japan b. United States and England c. South Korea and Argentina d. Japan and South Korea ANSWER: d 95. Two countries that have experienced relatively stagnant real GDP per capita for the past century are: a. China and Indonesia. b. Indonesia and Nigeria. c. Nigeria and Argentina. d. Argentina and China. ANSWER: c 96. Which is NOT consistent with historical records on economic growth? a. Essentially all people were poor for most of human history. b. Growth tends to occur evenly across the world. c. Some economies have seen basically no growth through recorded history. d. An economy can transition from poverty to prosperity within a few decades. ANSWER: b 97. Countries that have high per capita GDP tend to have: a. high levels of physical capital per worker. b. high levels of human capital per worker. c. high levels of technology per worker. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 d. high levels of all three factors of production. ANSWER: d 98. Physical capital is the: a. stock of tools, including machines, structures, and equipment, used to produce output. b. productive knowledge and skills that workers acquire through education, training, and experience. c. knowledge about how the world works that is used to produce goods and services. d. financial resources available to business owners. ANSWER: a 99. Human capital is the: a. stock of tools, including machines, structures, and equipment, used by workers to produce output. b. productive knowledge and skills that workers acquire through education, training, and experience. c. knowledge about how the world works that is used to produce goods and services. d. same thing as the overall population. ANSWER: b 100. Technological knowledge is the: a. stock of tools, including machines, structures, and equipment, used to produce output. b. productive knowledge and skills that workers acquire through education, training, and experience. c. knowledge about how the world works that is used to produce goods and services. d. organizational skills of business owners. ANSWER: c 101. Which are immediate causes of the wealth of nations? a. institutions and incentives b. technical knowledge and human capital c. customs, practices, and social norms d. property rights and honest government ANSWER: b 102. What are the four factors of production that combine to contribute to the wealth of nations? a. incentives, institutions, organization, technical knowledge b. international trading partners, natural resources, efficient government, low taxes c. human capital, physical capital, technical knowledge, organization d. property rights, honest government, political stability, a dependable legal system ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 103. Farmers who use tractors instead of horse-drawn plows have greater yields. Which factor of production explains this result? a. organizational skills b. natural resources c. technical knowledge d. physical capital ANSWER: d 104. A business that pays for its workers to attend a technical college is increasing its: a. physical capital. b. human capital. c. organizational skills. d. technical knowledge. ANSWER: b 105. Which is NOT an example of physical capital? a. tractor b. cell phone c. computer d. a share of Caterpillar, Inc. stock ANSWER: d 106. Increasing the amount of physical capital tends to _____ output per hour of workers and _____ the value of workers. a. increase; increase b. increase; decrease c. decrease; decrease d. decrease; increase ANSWER: a 107. Workers' ability to use various tools is known as: a. technological knowledge. b. human capital. c. knowledge. d. experience. ANSWER: b 108. Which of the following is NOT directly related to human capital? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. a calculator b. work experience c. schooling d. an understanding of chemistry ANSWER: a 109. A developing country could buy (or be given) _____ and _____ more easily than _____. a. technological knowledge; physical capital; human capital b. physical capital; human capital; technological knowledge c. human capital; technological knowledge; physical capital d. human capital; work experience; technological knowledge ANSWER: a 110. A country increases its technological knowledge by engaging in: a. research and development. b. education. c. programs that improve workers' health. d. investment in physical capital. ANSWER: a 111. A country increases its human capital by engaging in: a. research and development. b. education and training. c. programs that improve workers' health. d. investment in physical capital. ANSWER: b 112. A country increases its physical capital by engaging in: a. research and development. b. education and training. c. programs that improve workers' health. d. investment. ANSWER: d 113. High-income economies generally have _____ that incentivize individuals' self-interest by using _____. a. institutions; profit-seeking motives b. government mandates; legal penalties c. central planners; profit-seeking motives Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 d. institutions; legal penalties ANSWER: a 114. Countries with high GDP per capita tend to have a lot of: a. physical capital per worker but not high human capital per worker or technical knowledge per worker. b. human capital per worker but not high physical capital per worker or technical knowledge per worker. c. technological knowledge per worker but not high physical capital per worker or human capital per worker. d. physical capital per worker, human capital per worker, and technological knowledge per worker. ANSWER: d 115. Which is NOT an example of physical capital? a. cell phones b. tractors c. computers d. money ANSWER: d 116. Human capital is: a. something we are born with. b. the money spent on education and training. c. acquired only through investment of time and other resources. d. the same as technological knowledge. ANSWER: c 117. Technological knowledge: a. may continue to increase even if human capital remains relatively constant. b. is bounded by the limits of human capital. c. is the productive knowledge and skills that workers acquire through education and training. d. has remained relatively constant over time. ANSWER: a 118. Which is NOT an example of human capital? a. an understanding of mathematics b. a calculator c. computer programming skills Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 d. experience using computers ANSWER: b 119. A tractor is an example of: a. human capital. b. physical capital. c. production technology. d. technical knowledge. ANSWER: b 120. A FedEx truck is an example of: a. human capital. b. physical capital. c. production technology. d. technical knowledge. ANSWER: b 121. A typical worker in India works with _____ a typical worker in the United States. a. many times more physical capital than b. about the same amount of physical capital as c. much less physical capital than d. slightly more physical capital than ANSWER: c 122. Knowledge of the computer software used by a business is an example of: a. human capital. b. physical capital. c. production technology. d. technical knowledge. ANSWER: a 123. Development of new computer software that increases productivity is an example of: a. human capital. b. physical capital. c. production technology. d. technical knowledge. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 124. U.S. farms today produce _____ output using _____ land as they did in 1950. a. more; less b. about the same; less c. more; about the same amount of d. about the same; about the same amount of ANSWER: a 125. Which is NOT a factor of production? a. incentives b. human capital c. physical capital d. technological knowledge ANSWER: a 126. Which is considered an immediate cause of economic growth? a. good incentives b. the extent of government support in free markets c. physical capital d. good luck ANSWER: c 127. Which is considered an ultimate cause of economic growth? a. technological knowledge b. physical capital c. human capital d. institutions ANSWER: d 128. The stock of tools, including machines, structures, and equipment, used to produce output is called: a. physical capital. b. human capital. c. technological knowledge. d. real capital. ANSWER: a 129. The productive knowledge and skills that workers acquire through education, training, and experience is called: a. physical capital. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. human capital. c. technological knowledge. d. real capital. ANSWER: b 130. The knowledge about how the world works is called: a. physical capital. b. human capital. c. technological knowledge. d. real capital. ANSWER: c 131. Compared to workers in most of the world, U.S. workers have: a. a relatively large amount of physical capital. b. a relatively small amount of physical capital. c. roughly the same amount of physical capital. d. an unlimited supply of physical capital. ANSWER: a 132. _____ is the knowledge and skills that a worker needs to make productive use of technology, whereas _____ is knowledge about how the world works that is used to produce goods and services. a. Technological knowledge; human capital b. Human capital; technological knowledge c. Technological knowledge; organizational skills d. Organizational skills; technological knowledge ANSWER: b 133. Which best describes the growth process from its ultimate to its immediate causes? a. incentives institutions factors of production real GDP per capita b. institutions incentives factors of production real GDP per capita c. factors of production incentives institutions real GDP per capita d. factors of production institutions incentives real GDP per capita ANSWER: b 134. Physical capital refers to: a. funds that are invested in stocks and bonds. b. investments in gold and silver. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. structures and equipment used to produce goods and services. d. savings. ANSWER: c 135. Which is NOT considered a factor of production? a. human capital b. financial capital c. technological knowledge d. physical capital ANSWER: b 136. Which is an example of an advancement in technical knowledge? a. A machine is set on a higher speed setting so that it processes more units per hour. b. After a year on the job, a production line worker can process more units per hour than before. c. It is discovered that changing the temperature at which certain chemicals are combined results in a better product. d. A discovery is made that an ancient civilization used tools similar to those currently in use in a particular industry. ANSWER: c 137. Which is an example of an increase in human capital? a. Scientists develop a more effective, environmentally safe refrigerant for air conditioners. b. A new computer chip processes information more quickly than that of the previous generation. c. The average educational level in a country’s labor force rises from 8 years to 9 years. d. A worker’s productivity rises when using a more powerful piece of equipment. ANSWER: c 138. Which is an example of an increase in physical capital? a. Scientists develop a more effective, environmentally safe refrigerant for air conditioners. b. A new computer chip processes information more quickly than that of the previous generation. c. The average educational level in a country’s labor force rises from 8 years to 9 years. d. Five new schools are built. ANSWER: d 139. Which would be most effective in ensuring sustained long-term economic growth? a. increasing technological knowledge b. increasing human capital Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. increasing government control of land use d. increasing physical capital ANSWER: a 140. Institutions and incentives are _____ causes, and factors of productions are _____ causes of the wealth of nations. a. ultimate; immediate b. immediate; ultimate c. ultimate; indirect d. immediate; direct ANSWER: a 141. Why does South Korea have a higher level of real GDP per capita than North Korea? a. South Korea started with more human capital than North Korea. b. South Korea started with more physical capital than North Korea. c. South Korea has a better system of incentives than North Korea. d. South Korea has more natural resources than North Korea. ANSWER: c 142. Which is NOT an institution that leads to sustained long-term economic growth? a. a dependable legal system b. a stable political system c. an honest government d. a more equal income distribution ANSWER: d 143. Countries with high per capita GDP have institutions that make it in people's self-interest to invest in: a. physical capital. b. human capital. c. technology. d. all the factors of production. ANSWER: d 144. Institutions: a. are not important in market economies. b. structure economic incentives. c. matter only when backed by law. d. are important only in market economies. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: b 145. Which of the following defines the “rules of the game” that structure economic incentives? a. institutions b. economic laws c. factors of production d. technical knowledge ANSWER: a 146. Which of the following is (are) NOT an institution of economic growth? a. property rights b. a dependable legal system c. competitive and open markets d. free-riding behavior ANSWER: d 147. Which of the following is (are) NOT an institution of economic growth? a. property rights b. honest government c. labor unions d. competitive and open markets ANSWER: c 148. Which of the following has the greatest potential for solving free-rider problems? a. property rights b. a stable political system c. an honest government d. the rule of law ANSWER: a 149. Which of the following would be most effective in reducing “free riding” in a communal farming system? a. assigning property rights b. increasing supervision of workers c. increasing penalties for low production d. increasing physical capital ANSWER: a 150. Which scenario has the greatest potential for free riding? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. an unstable political system b. a system in which work effort and pay are not connected c. a dishonest government that promotes corruption d. secure property rights ANSWER: b 151. A country that has enforceable property rights, a noncorrupt political system, abundant factors of production, and a change in leadership and form of government every few years should suspect that economic growth will be _____ because _____. a. slow; of a lack of a dependable legal system b. slow; of uncertainty due to an unstable political system c. high; most of the institutions needed for growth are in place d. high; once a group comes to power all the institutions needed for growth exist ANSWER: b 152. When the Communist Party took over China, “The Great Leap Forward” was instituted as a system to encourage the growth of agricultural production in China. Yet, during this time, millions of people starved to death. Why did this occur? a. Farmers' self-interest was not aligned with social interest. b. The land and its output were controlled by a few wealthy individuals. c. The farmers violated government policy. d. The farmers were being jailed. ANSWER: a 153. Between 1978 and 1983, food production in China rose by 50% and 170 million people rose above the international poverty line. This occurred because of the: a. rising popularity of free-riding behavior in China. b. return to private property rights in farming. c. fall of communism in China. d. teachings of Mao Zedong. ANSWER: b 154. Agricultural productivity in China declined sharply during the country's experiment with communal farming. This was primarily a result of: a. a decade-long drought in China. b. the transition to open markets in China. c. a lack of property rights for farmland. d. political instability. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 155. Someone who consumes a resource without working or contributing to the resource's upkeep is called a(n): a. easy rider. b. free rider. c. double rider. d. outlaw. ANSWER: b 156. The most important factor that contributed to China's rapid growth at the end of the 1970s and early 1980s was: a. improvements in physical capital. b. increases in human capital. c. advances in technology. d. institutional reforms. ANSWER: d 157. Why did so many Chinese farmers and workers starve under “The Great Leap Forward”? a. The number of workers on communes was reduced. b. The Chinese people did not know how to farm in certain geographic areas. c. The incentive to work hard was low, since the rewards were so minimal. d. A long, severe drought drastically decreased agricultural production. ANSWER: c 158. Why do more corrupt countries have lower levels of GDP per capita? a. Corrupt countries have no rule of law. b. Corrupt countries have higher-than-average taxes. c. Corrupt countries provide less incentive to produce and create wealth. d. Corrupt countries follow the doctrine of communism. ANSWER: c 159. What is a result of a high level of government corruption? a. There are few entrepreneurs. b. Government officials have a low standard of living. c. Politicians hold little power over the market. d. The form of government tends toward communism. ANSWER: a 160. Corruption is like a “tax” on firms because: a. firms can file for a refund for the money paid as bribes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. bribes add to a firm's production costs. c. firms usually pay bribes to avoid paying corporate taxes. d. firms have to pay a certain percentage of their profits at the end of the fiscal year as bribes. ANSWER: b 161. Increases in the level of political stability in a country tend to: a. increase per capita GDP. b. decrease per capita GDP. c. have no impact on per capita GDP. d. increase per capita GDP at lower levels of stability, but decrease per capita GDP at higher levels of stability. ANSWER: a 162. Decreases in the level of political stability in a country tend to: a. increase per capita GDP. b. decrease per capita GDP. c. have no impact on per capita GDP. d. increase per capita GDP at lower levels of stability, but decrease per capita GDP at higher levels of stability. ANSWER: b 163. The ability to collect on a debt in a timely manner is due to: a. economies of scale. b. a good legal system. c. a highly educated workforce. d. investment in physical capital. ANSWER: b 164. Due to economies of scale, average costs decline as: a. production levels increase. b. physical capital increases. c. human capital increases. d. technology increases. ANSWER: a 165. When industries are limited by the size of the domestic market, opening trade to the world markets will likely lead to _____ and _____ real GDP per capita in the domestic country. a. economies of scale; increase Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. economies of scale; decrease c. diseconomies of scale; increase d. diseconomies of scale; decrease ANSWER: a 166. One of the best explanations for why some countries are rich and others are poor is that: a. technological knowledge is more advanced in rich countries than in poor countries. b. rich countries organize their factors of production more efficiently than poor countries do. c. rich countries may have simply gotten lucky and poor countries remain unlucky. d. rich countries have far greater natural resources than poor countries do. ANSWER: b 167. Good institutions: a. reward those who create value and increase efficiency with higher profits. b. distribute wealth evenly across the economy. c. result in growth rates approximately equal to those in countries with poor institutions. d. matter only if the country has a large amount of both physical and human capital. ANSWER: a 168. Someone who consumes a resource without contributing to its upkeep is referred to as a: a. nonsubscriber. b. freeloader. c. nonpayer. d. free rider. ANSWER: d 169. In North Korea, workers are rewarded for: a. providing goods and services of value to consumers. b. inventing new ideas for more efficient production. c. investing in human and physical capital. d. being loyal to the ruling Communist Party. ANSWER: d 170. The ultimate cause for the different economic performance in North Korea and South Korea is: a. more corruption in South Korea than in North Korea. b. better economic institutions in South Korea than in North Korea. c. more foreign aid from the United States in South Korea than in North Korea. d. more abundant natural resources in South Korea than in North Korea. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: b 171. The difference between per capita GDP in North Korea and South Korea is due to: a. human capital. b. culture. c. geography. d. institutions. ANSWER: d 172. South Korea has a per capita GDP _____ as high as that of North Korea. a. twice b. 5 times c. 8 times d. nearly 20 times ANSWER: d 173. South Korea and North Korea differ mainly in: a. culture. b. physical capital. c. technological knowledge. d. economic institutions. ANSWER: d 174. The main reason for the influence of institutions on the wealth of nations is that good institutions: a. raise people's incentives to build wealth. b. keep the economy in tight control of the government. c. help distribute wealth more evenly among the people. d. allow government to more easily convert private property into collective property. ANSWER: a 175. According to the text, we can understand the “wealth of nations” best by examining: a. how natural resources are distributed around the world. b. the extent to which governments support the domestic markets. c. the laws and regulations that affect people's incentives to work and invest. d. the amount of technological knowledge obtained from other countries. ANSWER: c 176. Which is NOT an example of an institution that creates incentives aligning self-interest with the interest of Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 society? a. well-defined property rights b. political stability c. low inflation d. competitive markets ANSWER: c 177. Institutions: a. are the advantages of large-scale production that reduce average cost as quantity increases. b. are the rules of the game that structure economic incentives. c. are the framework that allows the government to control the economy. d. do not vary much from country to country. ANSWER: b 178. What is NOT an important institution for growth? a. low level of corruption b. dependable legal system c. free markets d. strong regulation of religious belief ANSWER: d 179. Which of the following is NOT a kind of institution that encourages investment and the efficient organization of resources? a. private property rights b. political stability c. a dependable legal system d. closed markets ANSWER: d 180. Property rights that are not well defined encourage: a. high rates of economic growth. b. free riders. c. an unequal distribution of wealth. d. protection of natural resources. ANSWER: b 181. Property rights are important institutions for encouraging investment because: a. they eliminate corruption. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. they increase the total funds available to invest. c. people won't invest if they feel their property is at risk and they may not realize a return on their investment. d. they tend to support industrial sectors more than agricultural sectors. ANSWER: c 182. Which statement is TRUE for “The Great Leap Forward” period in China? a. Technological advancement was strong because of the hard work of farmers. b. A lack of private property rights provided no incentive for farmers to be productive. c. Communal property in agricultural land helped align farmers' self-interest with the social interest. d. Collective property rights failed to improve farming productivity because of the existence of private property rights. ANSWER: b 183. The key reason for China's growth miracle beginning in the late 1970s was: a. the enforcement of communal property. b. the assignment of private property rights. c. increases in foreign investment from developed countries. d. pure luck. ANSWER: b 184. A legal system that helps raise a nation's productivity is one that: a. makes it easy for people to engage in contracts and to establish property rights. b. has a lot of regulations and procedures for people and businesses to follow. c. allows people and businesses to act freely and to do just about everything they want. d. protects domestic producers from foreign competition. ANSWER: a 185. Communal property creates a: a. corruption problem. b. stability problem. c. free-rider problem. d. self-selection problem. ANSWER: c 186. History has shown that when collective property rights are converted to private property rights: a. investment in physical capital increases. b. work effort increases. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. productivity increases. d. work effort, investment, and productivity all increase. ANSWER: d 187. Property rights encourage: a. saving. b. investment in physical capital. c. investment in human capital. d. saving and investment in both physical and human capital. ANSWER: d 188. Under communal property, effort is: a. divorced from payment, so there is great incentive to work. b. divorced from payment, so there is little incentive to work. c. rewarded with payment, so there is great incentive to work. d. rewarded with payment, so there is little incentive to work. ANSWER: b 189. When an economic system changes from using a collective property rights system to something closer to private property rights, the immediate effect is: a. less efficient organization of resources. b. to increase regulation, resulting in fewer market activities. c. to decrease investment, work effort, and productivity. d. to increase investment, work effort, and productivity. ANSWER: d 190. Which country has the lowest rate of economic growth? a. Switzerland b. North Korea c. Norway d. United Kingdom ANSWER: b 191. What is the best way for a government to encourage economic growth? a. mandate university education for all its citizens b. make natural resources public property so that people feel a stronger sense of ownership c. increase its provision of public goods d. reduce corruption Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: d 192. Honest government _____ economic growth. a. impedes b. has no effect upon c. fuels d. has an indeterminate effect upon ANSWER: c 193. Corruption makes it profitable to be: a. an engineer. b. an entrepreneur. c. a philosopher. d. a politician or bureaucrat. ANSWER: d 194. Which statement is TRUE regarding the effects of corruption? a. Corruption helps promote economic growth. b. Corruption reduces the incentive to build wealth by imposing a tax on entrepreneurs. c. Corruption raises investment by making it easier to run a business. d. Corruption is the best way for the government to obtain revenues needed to run growth-promoting policies. ANSWER: b 195. Corruption causes investment in physical capital to: a. increase. b. decrease. c. remain unchanged. d. become impossible. ANSWER: b 196. Increases in corruption cause economic growth to: a. increase. b. decrease. c. remain unchanged. d. become impossible. ANSWER: b 197. Which country was among the top 10 least corrupt countries in the year 2000? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. Angola b. Myanmar c. Singapore d. Taiwan ANSWER: c 198. Which country was among the top 10 most corrupt countries in the year 2000? a. North Korea b. Bermuda c. Kenya d. Saudi Arabia ANSWER: a 199. There is _____ relationship between levels of corruption and living standards in countries around the world. a. a strong positive b. a strong negative c. a weak d. no ANSWER: b 200. Political stability _____ economic growth. a. impedes b. has no effect upon c. fuels d. has an indeterminate effect upon ANSWER: c 201. Which of the following does NOT lead to economic growth? a. property rights b. a dependable legal system c. political instability d. competitive and open markets ANSWER: c 202. India could be four times richer than it is today if it were to: a. avoid civil war. b. confiscate all private property. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. accept more foreign aid. d. make its markets open and competitive. ANSWER: d 203. Economies more open to foreign trade are more efficient in production partly because: a. more open economies tend to receive more foreign aid. b. foreign producers are more productive than domestic producers. c. economies of scale occur in larger markets. d. property rights are less important in a more open economy. ANSWER: c 204. Economies more open to foreign trade are more efficient in production partly because: a. more open economies tend to receive more foreign aid. b. foreign producers are more productive than domestic producers. c. free trade opens a country up to new ideas and innovation. d. property rights are less important in a more open economy. ANSWER: c 205. The Industrial Revolution was in large part due to: a. the economies of scale realized from mass production techniques. b. increased education. c. the discovery of large supplies of natural resources. d. the cooperation of governments across the world. ANSWER: a 206. An ultimate cause for the rapid economic growth during the Industrial Revolution was: a. the development of good institutions that provided people with incentives to engage in business and invention. b. the strengthening of government control in markets and its role in income redistribution. c. the discovery of wind power to generate electricity. d. Great Britain's colonization activity around the world. ANSWER: a 207. Which is NOT likely an ultimate cause of economic growth around the world? a. historical differences b. geographical locations c. communal resources d. luck Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: c 208. Which statement explains why China experienced a dramatic increase in agricultural productivity after the 1970s? a. China started exporting its agricultural products to other countries. b. China lifted the import restrictions on agricultural products. c. China changed its institutions from collective farming to individual farming. d. China changed its institutions from individual farming to collective farming. ANSWER: c 209. The BEST way for an economy to grow is to: a. seek more foreign aid for the economy. b. increase the government's intervention in the economy. c. change the country's institutions. d. establish policies promoting communal property. ANSWER: c 210. Countries that are NOT landlocked tend to grow _____ because _____. a. faster; easy access to water naturally opens a country to trade b. slower; easy access to water naturally opens a country to trade c. faster; fewer resources are required to build a strong military d. slower; fewer resources are required to build a strong military ANSWER: a 211. Landlocked countries tend to grow _____ because _____. a. faster; lack of water access makes trade more difficult and costly b. slower; lack of water access makes trade more difficult and costly c. faster; fewer resources are required to build a strong military d. slower; fewer resources are required to build a strong military ANSWER: b 212. Which of the following is an ultimate cause of economic growth among countries around the world? a. history b. culture c. geography d. History, culture, and geography are all ultimate causes of growth. ANSWER: d 213. What is an ultimate cause of economic growth among countries around the world? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. luck b. culture c. geography d. Luck, culture, and geography are all ultimate causes of growth. ANSWER: d 214. Institutions ultimately come from: a. history. b. culture. c. geography. d. history, culture, and geography. ANSWER: d 215. Institutions ultimately come from: a. luck. b. culture. c. geography. d. luck, culture, and geography. ANSWER: d 216. The most promising idea for creating a growth miracle in a country is: a. building more schools in the country. b. opening the country to more foreign investment. c. changing the institutions in the country. d. allowing more foreign aid in the country. ANSWER: c 217. The ways in which the factors of production are organized into production are the result of _____ and _____. a. human capital; technological knowledge b. institutions; technological knowledge c. incentives; technological knowledge d. incentives; institutions ANSWER: d 218. Which is NOT an institution as the term is used in economics? a. social mores b. technological knowledge Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 c. laws and regulations d. organizations ANSWER: b 219. Key institutions in a society that affect its economy do NOT include: a. labor unions. b. political stability. c. an honest government. d. property rights. ANSWER: a 220. When a worker’s income is not tied to the worker’s effort, the incentive to: a. work hard is reduced. b. work hard is increased. c. enhance society’s welfare is reduced. d. enhance society’s welfare is increased. ANSWER: a 221. The incentive to be a free rider increases when: a. private property rights are unclear. b. markets are open. c. the legal system is dependable. d. the government is honest. ANSWER: a 222. What change among rural farmers in China took place beginning in 1978 that increased food output by nearly 50% in 5 years? a. expanded availability of farm equipment b. free public schooling c. a more stable government d. individual, rather than collective, farming ANSWER: d 223. If people have low expectations that their property will be secure and that they will be able to gain a return from its use, then people will: a. hoard their property. b. see their property become increasingly expensive. c. not save and invest. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 d. invest in physical, rather than human, capital. ANSWER: c 224. What is the relationship between corruption and real GDP per capita across countries? a. There is a positive relationship. b. There is a negative relationship. c. Corruption has no identifiable relationship with real GDP per capita. d. There is a cyclical relationship. ANSWER: b 225. Which would encourage, rather than discourage, investment in capital within a country? a. fear of expropriation b. limited property rights c. a limited legal system d. open markets ANSWER: d 226. An undependable legal system would hinder economic growth due to the ease of: a. enforcing contracts. b. protecting property rights. c. expropriation of property. d. debt collection. ANSWER: c 227. Research shows that approximately half of the difference in per capita income across countries is due to differences in _____ and half is due to differences in _____. a. technology; population b. the honesty of government; political stability c. the openness of markets; the expropriation of property d. the quantity of physical and human capital; using capital efficiently ANSWER: d 228. Excessive regulation of businesses does NOT: a. help businesses operate more efficiently. b. reduce the openness of markets. c. make it harder to produce with economies of scale. d. increase red tape. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 229. When a firm can produce a large output with large facilities at a lower average total cost than it can produce a small output with smaller facilities, there are: a. growth economies. b. free riders. c. economies of scale. d. increased savings. ANSWER: c 230. The Industrial Revolution was able to facilitate economic growth in Great Britain due to conditions that did NOT include: a. secure property rights. b. relatively free labor markets. c. the use of the scientific method to develop production methods. d. policies that limited the distribution of wealth. ANSWER: d 231. Higher GDP per capita is correlated with higher life expectancy, lower infant mortality, and better nutrition. a. True b. False ANSWER: a 232. Virtually every indicator of societal well-being tends to increase with wealth. a. True b. False ANSWER: a 233. Countries with low levels of GDP per capita tend to have lower rates of death caused by contagious disease. a. True b. False ANSWER: b 234. Wealthier nations have more conflicts than do poorer nations. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 235. Individuals in wealthy nations tend to enjoy less leisure. a. True b. False ANSWER: b 236. GDP per capita varies enormously among nations. a. True b. False ANSWER: a 237. Half of the world's population earns the average world GDP per capita of roughly $20,000. a. True b. False ANSWER: b 238. GDP per capita does not vary much among nations. a. True b. False ANSWER: b 239. For most of recorded human history, people were poor and there was no economic growth. a. True b. False ANSWER: a 240. Economic growth has occurred during most of recorded human history. a. True b. False ANSWER: b 241. A country that grows at an average rate of 5% will double its living standard every 10 years. a. True b. False ANSWER: b 242. A country that grows at an average rate of 7% will double its living standard every 10 years. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: a 243. For most of human history, essentially everyone was poor by today's standards. a. True b. False ANSWER: a 244. There have always been some very wealthy countries, even by today's standards. a. True b. False ANSWER: b 245. Living standards across countries are more equal today than at any time in history. a. True b. False ANSWER: b 246. The rule of 70 implies that poor countries tend to catch up with rich countries over time. a. True b. False ANSWER: b 247. In the context of world history, economic growth is unusual. a. True b. False ANSWER: a 248. In the context of world history, economic growth is the normal state of affairs, and growth disasters rarely occur. a. True b. False ANSWER: b 249. China, currently a poor country in terms of GDP per capita, is growing at an average annual rate between 7% and 8%. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: a 250. For most of recorded human history, there was no long-run growth in real per capita GDP. a. True b. False ANSWER: a 251. Following World War II, Japan was one of the richest countries in the world. a. True b. False ANSWER: b 252. Today, most of the world's people have a relatively high standard of living. a. True b. False ANSWER: b 253. For most of recorded history, there was long-run growth in real per capita GDP. a. True b. False ANSWER: b 254. For most of recorded human history, there has been a steady, sustained growth in real GDP per capita. a. True b. False ANSWER: b 255. The United States has had sustained long-run economic growth for over 200 years. It would be impossible for a poor country today to catch up to the United States' level of per capita real GDP. a. True b. False ANSWER: b 256. If a country's GDP in 1950 was $25,000 and it had a continual rate of economic growth of 2%, its GDP would reach $50,000 in the year 2000. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 257. The difference between human capital and technological knowledge is that human capital relates to skills and education that reside within an individual, while technological knowledge is ideas and discoveries about how the world works. a. True b. False ANSWER: a 258. The difference between human capital and physical capital is that human capital measures the intelligence we are born with and physical capital refers to the machines that we create with our intelligence. a. True b. False ANSWER: b 259. Technical knowledge is considered an immediate cause of national wealth. a. True b. False ANSWER: a 260. Examples of human capital are tractors, factories, and shovels. a. True b. False ANSWER: b 261. Examples of physical capital are tractors, factories, and shovels. a. True b. False ANSWER: a 262. One difference between technological knowledge and human capital is that technological knowledge is discovering new ideas about how the world works, while human capital is knowing how to use the tools that come from those discoveries. a. True b. False ANSWER: a 263. Money is not what economists typically consider capital. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 ANSWER: a 264. Money is an example of physical capital. a. True b. False ANSWER: b 265. Technological knowledge is the stock of tools, including machines, structures, and equipment, used to produce goods and services. a. True b. False ANSWER: b 266. The organization and efficiency with which a country's factors of production are used are an immediate cause of economic growth. a. True b. False ANSWER: a 267. The factors of production are considered ultimate causes of economic growth. a. True b. False ANSWER: b 268. Geography, history, and luck can be considered ultimate causes of economic growth. a. True b. False ANSWER: a 269. Pure good luck can be an ultimate cause of economic growth. a. True b. False ANSWER: a 270. Countries that use markets to organize production tend to have higher growth rates. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 271. “The Great Leap Forward” in China was an economic miracle, doubling agricultural production in the nation. a. True b. False ANSWER: b 272. China's “Great Leap Forward” caused agricultural production to plummet, and millions starved to death as a result. a. True b. False ANSWER: a 273. China's experiment with communal farming caused agricultural production to plummet, and millions starved to death as a result. a. True b. False ANSWER: a 274. China's experiment with communal farming failed because of free riding. a. True b. False ANSWER: a 275. China's experiment with communal farming failed because work effort was divorced from payment, and there was little incentive to work. a. True b. False ANSWER: a 276. China's impressive growth in recent decades is a result of policies that began during its “Great Leap Forward” program. a. True b. False ANSWER: b 277. China's impressive growth in recent decades is a result of institutional changes that provided secure property rights and the ownership of private land. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. False ANSWER: a 278. Openness to foreign investment and freer trade are part of the explanation for China's recent growth miracle. a. True b. False ANSWER: a 279. China's recent growth miracle is a result of institutional changes that began in the late 1970s. a. True b. False ANSWER: a 280. The United States is among the world's 10 least corrupt countries. a. True b. False ANSWER: b 281. Countries that have corrupt governments tend to have lower real GDP per capita. a. True b. False ANSWER: a 282. The origins of institutions that lead to economic growth are well known. a. True b. False ANSWER: b 283. Differences in growth rates across countries are attributed mostly to differences in technological knowledge. a. True b. False ANSWER: b 284. The key to producing and organizing factors of production to increase economic growth is having institutions that create the proper incentives. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 b. False ANSWER: a 285. A country with a high GDP per capita is likely to have a lot of physical and human capital organized by means of the best technological knowledge available. a. True b. False ANSWER: a 286. Institutions that promote economic growth include the enforcement of property rights. a. True b. False ANSWER: a 287. Corruption increases the returns to entrepreneurship by giving new businesses easy access to government officials. a. True b. False ANSWER: b 288. Competitive markets are not important for economic growth as long as the government enforces private property rights. a. True b. False ANSWER: b 289. Incentives are important in determining people's willingness to invest in physical capital, human capital, and technical knowledge. a. True b. False ANSWER: a 290. Incentives are important in structuring the institutions in a country. a. True b. False ANSWER: b 291. Landlocked countries tend to grow faster than countries that have access to water. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 a. True b. False ANSWER: b 292. Landlocked countries tend to grow slower than countries that have access to water. a. True b. False ANSWER: a 293. Openness to international trade tends to promote growth because it also opens a country to new ideas and innovation. a. True b. False ANSWER: a 294. Openness to international trade tends to hinder growth because it allows a country's technical knowledge to be exploited by other countries. a. True b. False ANSWER: b 295. A country's institutions can ultimately be shaped by its history, culture, geography, and even luck. a. True b. False ANSWER: a 296. Data in the textbook show that life expectancy rises and infant mortality falls with higher real GDP per capita. Explain why this is the case. ANSWER: Higher real GDP per capita means more wealth per person. Wealthier countries are able to provide basic sanitation needs such as running water and flushing toilets as well as better health-care systems. Wealthy people can afford better nutrition, health care, and medication. As a result, they live longer. Better health-care systems in wealthier countries lead to better maternal and infant care and thus lower infant mortality. Wealthier countries can also spend more on preventive care that will reduce the diseases and deficiencies that raise infant mortality and reduce life expectancy rates. While the figures are correlated, proving causality is difficult. Wealthier countries can afford to put resources toward a healthier population, but a healthier population will also increase GDP per capita by providing healthier workers. 297. How has the recent growth experience in China benefited the ordinary citizen in China? ANSWER: Economic growth has many benefits for the typical citizen in a country. Not only does it mean more Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 material items are available with higher income levels, but it also means citizens will enjoy better nutrition, better health, longer life expectancy, and more opportunities for education, entertainment, recreation, and even leisure activities. 298. Explain why real GDP per capita is a better measure of economic growth than real GDP. ANSWER: Economic growth is best thought of as increases in the living standard of the typical person in an economy. Living standards are best measured by real GDP per capita, which is real GDP adjusted for the size of the country’s population. Two countries could have the same real GDP, but if one country has a larger population, the average person in that country will be worse off than the average person in the country with a smaller population. Real GDP per capita is a measure of the well-being of the average person. Real GDP provides a measure of the overall size of the economy, but not how well off the average person is. 299. Why is it important to remember that all countries used to be poor, that some countries remain poor today while others are rich, and that the differences between the rich and poor today are vast? ANSWER: These facts are important because they tell us what needs to be explained. There must be some explanation for the different growth experiences that have occurred in different countries over time. Understanding what causes some countries to remain poor while others grow rich is the goal of economists who study long-run economic growth. These facts are also important because they show that institutions matter. A poor nation can become richer by making wise choices and setting up good institutions. And a rich nation can begin to make bad decisions and see its economy stagnate or even decline. No country is predestined to be poor or rich. The wealth of a nation is the result of decisions, not fate. 300. Figure: Growth Miracles and Growth Disasters
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Chapter 7
According to the information in the figure, Argentina had a higher real GDP per capita in 2000 than it did in 1900. Explain how it can still be considered a growth disaster. Also, discuss what other aspects of Argentina you would study to gain a complete understanding of its economic growth. ANSWER: As indicated in the figure, Argentina had experienced some growth, but compared to other countries in 2000, it consistently had lower growth rates of real GDP per capita. As a result, Argentina fell behind many other countries that were initially similar to it in terms of living standards. To understand why Argentina did not grow as quickly as other countries, it is useful to look at the institutions that lead to economic growth. Institutions such as property rights, honest government, political stability, a dependable legal system, and competitiveness and openness in markets play a role in a country's growth experience. How Argentina came to have, or not have, these institutions may be a combination of history, culture, geography, and even bad luck. 301. With China growing at rates in excess of 7% per year in recent decades, what has happened to the standard of living in China? Explain using the rule of 70. ANSWER: With growth in excess of 7% per year, the rule of 70 says that China has been able to double its standard of living in less than 70/7 = 10 years. Growing at these rates for several decades means that China has been able to double its income several times over in a relatively short period of time. 302. Figure: The Distribution of World Income
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Chapter 7
In light of the recent growth that has occurred in China, how does its living standard compare to that of other developed countries in the world? ANSWER: Although China has experienced phenomenal growth in recent decades, it remains one of the poorer countries in the world. Figure 7.2 (27.2) shows that China's nearly 2 billion people have a standard of living below the world average. So while China has made great strides recently, it has a long way to go to catch up with the richest countries in the world. 303. Figure: Understanding the Wealth of Nations
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Chapter 7
Explain the role that “organization” plays in determining the wealth of nations. ANSWER: Better organization of resources ensures that existing factors of production are used in the most efficient manner. Simply having the factors of production doesn't guarantee that they will be used in a productive manner. The more efficient the organization, the more productive the resources will be—and the more economic growth that will occur. 304. Some of the poorest countries in the world are rich with natural resources. Explain why these resource-rich nations still struggle with low economic growth. ANSWER: These countries typically have poor organization of their resources and/or high rates of corruption, each of which inhibits economic growth. Natural resources alone may not be enough to guarantee growth. Other important factors of production—physical capital, human capital, and technical knowledge—are needed for growth. The institutions and incentives in a country must be aligned so that these factors of productions are created within the economy by self-interested individuals. 305. List the causes of growth from the “ultimate” to the “immediate” causes. ANSWER: history, culture, geography, and luck institutions incentives factors of production (growth in) real GDP per capita 306. Figure: Understanding the Wealth of Nations
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Chapter 7
Investment, education, and development of new technology are usually mentioned as important factors in the growth process. Why are they important, and where do they fit in the growth process? ANSWER: Investment, education, and development of new technology are important because these are the activities that create or improve the factors of production in an economy. Investment increases the amount of physical capital. Education increases the productivity of workers. Technical knowledge results in improved productivity of both capital and workers. Based on the figure, efficient institutions provide incentives for people to pursue education, capital investment, and the development of new technologies. 307. Explain how human capital, physical capital, and technological knowledge differ from each other. ANSWER: Human capital, physical capital, and technological knowledge are factors of production and contribute to an economy’s ability to produce goods and services. However, they make different contributions to production. Physical capital refers to the structures and equipment that are used in production processes. Human capital refers to the skills and abilities that workers have gained through education, training, and experience. Technological knowledge is understanding about how the world works, or how to combine the other factors of production to produce goods and services. Through technological advancement, more output can be obtained from resources. If human capital advances, workers become more skilled and productive. If workers have more equipment to work with, greater output will likely result. All three factors contribute to production but in different ways. Physical capital allows tasks to be completed like heating, combining, cutting, and so on. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 Human capital operates physical capital using the strengths and skills needed to complete certain tasks. Advancements in technology may be evident in the design of physical capital and the actions taken by workers that allow them to work more productively. 308. Korea was divided into North Korea and South Korea at the end of World War II. What similarities did the two nations have at that time? What differences contributed to the fact that South Korea now has a per capita GDP that is nearly 20 times higher than that of North Korea? ANSWER: The two nations had the same history, culture, and geography, as well as basic natural resources, physical capital, and human capital. After the split, North Korea remained a Communist nation. It assumed control over every aspect of its economy. South Korea set on a path with much different institutions based on open and competitive markets, and much of its capital was organized by firms that sought to make a profit. It was also open to trade with other nations, while North Korea remained a relatively closed society. 309. What are “incentives,” and why are they important in the growth process? ANSWER: Incentives are rewards or penalties that motivate human behavior. Incentives are important for growth because they motivate (or deter) the activities necessary to create the factors of production in an economy. These activities include investment (to build physical capital), education and training (to build human capital), and research and development (to create new innovation and technology). Without proper incentives, these activities will not occur and the economy will not have sufficient factors of production for growth to occur. 310. List the institutions that are important for economic growth as discussed in this chapter. ANSWER: (1) property rights, (2) honest government, (3) political stability, (4) a dependable legal system, and (5) competitive and open markets 311. Based on your understanding of the causes of the wealth of nations, discuss three reasons that you think countries fail to grow. ANSWER: The ultimate reason that countries fail to grow is “bad institutions.” There can be a number of instances of bad institutions. Five examples that follow from the discussion in the text include lack of a proper legal system, a dishonest government, lack of a competitive and open market system, lack of property rights, and political instability. Without the right institutions, incentives will not align the self-interest of individuals with the social interest, and growth will not occur. That is, individuals will not make decisions that result in productive activity to create the factors of production that lead to growth. Bad institutions ultimately cause production in the economy to fall, or stagnate, leading to poverty. 312. Explain how “good institutions” enhance the incentives for entrepreneurship. ANSWER: All of the institutions discussed in the text allow entrepreneurship to flourish. Political stability ensures that businesses feel that there is a safe environment in which to set up factories and install physical capital. If there is a threat of nationalization, businesses will not feel confident in spending funds to acquire investments. Corruption effectively acts as a tax on business that reduces the profit motive, so honest government promotes entrepreneurship. The existence of a dependable legal system ensures that businesses and consumers can enforce contracts and seek legal recourse in the case of disputes. The existence of a dependable legal system also allows for the enforcement of property rights so that businesses have the incentive to invest and own property. Finally, open and Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 competitive markets ensure that firms can compete to earn profits, which is the prime motivation for entrepreneurship. 313. Discuss China's agricultural productivity from 1949 to 1983. In your discussion, state the main factor(s) that altered its productivity during the 1949–1978 and 1978–1983 time periods. ANSWER: When China emerged from a Communist revolution as a socialist command economy in 1949, it transformed its agricultural lands into communal farms. This created free-rider problems, since the efforts of individual farmers were divorced from payment for that work. As a result, agricultural productivity plummeted and millions starved to death. However, in 1978, farmers in the small farming village of Xiaogang agreed to meet the government's quota but secretly allowed individual farmers to keep their extra production. This reduced the free-rider problem and led to increased productivity. The government found out about the accord but was unable to stop similar agreements from being reached throughout China. Under new leadership, China decided to endorse the agreements and saw its food production increase by around 50% over the years 1978 to 1983. This is a clear example of how individuals seeking individual gain can lead to the greater social gain. This was made possible by simply creating enforceable property rights. 314. What factors best explain China's increased rate of growth after 1978? ANSWER: The single most important reason that China grew so rapidly and pulled so many citizens out of poverty after 1978 was institutional change. The institutional changes followed the abandonment of the old collective farming system of the Communist era. Institutional reform set up a system of individual property rights and a more market-based economy. As a result, productivity increased and China became a clear example of the increase in growth that can be achieved by installing the proper institutions for growth. Another important change was that China opened up to foreign investment, allowing millions of workers to find employment in factories producing goods with “Made in China” labels on them. These goods were exported all over the world, and Chinese output and wealth grew. China continues to grow at relatively high rates today. 315. Why are property rights important for economic development? ANSWER: Property rights ensure that people can profit from their labor. Without this protection, the incentive to work, invest, and produce is greatly reduced. As a result, production will be lower without property rights, and economic growth will suffer. 316. Why do economists look at a government's honesty when they study national wealth? ANSWER: There is a strong negative correlation between corruption and GDP per capita. The less corrupt and more honest the government is, the more likely the nation will have a high GDP per capita. Corruption acts as a tax on productive activities and reduces the incentive to invest in physical capital, human capital, and technical knowledge. Resources diverted from productive use are instead used for bribes and gaining favor with the dishonest government. The lack of proper incentives, wasted resources, and inefficiency all reduce productivity and growth in the economy, thus leading to lower living standards. 317. Explain the impact that strong private property rights have on investments in physical capital and human capital. ANSWER: Private property rights allow for ownership and control over the use of property. They allow owners to reap potential rewards for using their property in productive ways. When property rights are clear Copyright Macmillan Learning. Powered by Cognero.
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Chapter 7 and easily enforced, incentives to invest in productive property, such as physical capital and human capital, are stronger than when property rights are not clear and enforceable. For example, individuals will be more willing to invest in building a factory if they will have a clear and enforceable right of ownership than if there is a high risk that their ownership could be taken away should the investment prove profitable. Also, individuals will be more willing to invest in jobrelated training if they can use their skills in the endeavor of their choosing to bring about the greatest return possible. They will be less willing to invest in their own skills and abilities if they have little control over the future use of those skills and abilities. 318. Explain how both too little government and too much government can threaten property rights in a country. ANSWER: Secure property rights provide an incentive for investment in physical capital and human capital and thus facilitate economic growth. Too little or too much government can reduce incentives to invest in capital. If there is too much government, individual private property rights might be weakened in favor of the government taking control of property. Investors fear that they will not be able to control their own property and use it in a way that maximizes returns to the property owner; in extreme cases, property owners might fear expropriation by the government. At the other extreme, if there is too little government, there may not be a stable legal system to enforce property rights, leaving property owners in legal limbo. An inability to enforce property rights in a timely and reasonably low-cost manner serves as a deterrent to investing in capital. 319. Provide an overview of the incentives and institutions that facilitate economic growth. ANSWER: Incentives and institutions help organize society and production and thus have an important impact on the level of production and economic growth over time. Some of the institutions that affect incentives are property rights, an honest government, political stability, a dependable legal system, and open, competitive markets. If property rights are clear and easily protected, there is a greater incentive to invest in capital. When the government is honest, the greater trust and awareness reduce the risk associated with decisions to invest in capital or develop new technologies. Likewise, political stability creates a better environment for investment and production. A dependable legal system makes it easier to enforce property rights and contracts, facilitating economic activity. Open, competitive markets provide incentives to invest because there are ways to earn returns for investments, risk, efficiency, and innovation. 320. Suppose that the annual real GDP per capita in India is currently $2,000 and in the United States it is $50,000. If the United States is growing at 3% per year, at what rate will India need to grow to have the same annual real GDP per capita as the United States 50 years from today? Show all of your work. ANSWER: First find the level of real GDP per capita for the United States after 50 years of growth: 50,000 (1.03)50 = $219,195.30. Now solve for the growth rate needed for India to achieve this standard of living: (219,195.30/2,000)1/50 – 1 = 9.85%.
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Chapter 8 1. In recent years, real GDP in China has grown: a. at about the same rate as real GDP in the United States. b. much faster than real GDP in the United States. c. much slower than real GDP in the United States. d. faster than real GDP in the United States in some years, slower than real GDP in the United States in other years. ANSWER: b 2. In 2010, China's GDP per capita grew by approximately: a. 7%. b. 8%. c. 9%. d. 10%. ANSWER: d 3. In 2010, U.S. GDP per capita grew by approximately: a. 1.2%. b. 2.2%. c. 3.2%. d. 4.2%. ANSWER: b 4. In 2010, GDP per capita in the United States grew by 2.2%. In the same year, GDP per capita in China grew by almost: a. 2%. b. 5%. c. 7%. d. 10%. ANSWER: d 5. Which is NOT a key institution for economic growth? a. property rights b. honest government c. political stability d. income equality ANSWER: d 6. Countries on the “cutting edge” grow primarily by: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. adopting ideas already used by other countries. b. accumulating capital. c. developing new ideas. d. eliminating waste and inefficiency. ANSWER: c 7. Countries on a “catching-up” growth path are growing primarily through: a. capital accumulation. b. new technological knowledge. c. new ideas. d. foreign aid. ANSWER: a 8. The two types of economic growth are: a. ultimate and immediate. b. progressive and regressive. c. fast and slow. d. cutting-edge and catching-up. ANSWER: d 9. Catching-up growth is growth due to: a. capital accumulation. b. new ideas. c. increased government institutions and regulations. d. improved organization of existing resources. ANSWER: a 10. Cutting-edge growth is growth due to: a. capital accumulation. b. new ideas. c. new human capital. d. improved organization of existing resources. ANSWER: b 11. The production function is a mathematical function that shows: a. the most cost-efficient means of producing output. b. the relationship between output and the factors of production. c. how various inputs are produced. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. the most efficient level of output produced in an economy. ANSWER: b 12. The A term in the production function Y = F(A, K, eL) represents which factor of production in the Solow growth model? a. physical capital b. human capital c. technological knowledge d. organization of resources ANSWER: c 13. The Solow growth model features _____ returns to physical capital. a. diminishing b. constant c. increasing d. no ANSWER: a 14. In the Solow model production function, Y = F(A, K, eL), K stands for: a. kurtosis. b. consumption. c. physical capital. d. human capital. ANSWER: c 15. In the Solow model production function, Y = F(A, K, eL), L stands for: a. labor. b. leisure. c. liquidity. d. long run. ANSWER: a 16. In the Solow model production function, Y = F(A, K, eL), A stands for: a. aggregate demand. b. assets. c. attitude. d. ideas. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 17. In the Solow model production function, Y = F(A, K, eL), eL stands for: a. efficiency. b. liquidity. c. elasticity. d. human capital. ANSWER: d 18. An economy with production function Y = F(K) =
that has 400 units of capital will produce _____ units
of output. a. 1,600 b. 400 c. 40 d. 20 ANSWER: d 19. Imagine an economy with production function Y = F(K) =
and 400 units of capital. If the fraction of
output invested in new capital is γ = 0.2, how much new capital will be created in the next period? a. 2 units b. 4 units c. 6 units d. 8 units ANSWER: b 20. Imagine an economy with production function Y = F(K) =
and 400 units of capital. If the depreciation
rate is δ = 0.05, how much capital will deteriorate in the next period? a. 4 units b. 8 units c. 16 units d. 20 units ANSWER: d 21. Imagine an economy with production function Y = F(K) =
and 400 units of capital. If the fraction of
output invested in new capital is γ = 0.2 and the depreciation rate is δ = 0.05, how much total capital will be available in the next period? a. 380 units b. 384 units c. 400 units d. 404 units Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: b 22. Imagine an economy with production function Y = F(K) =
and 400 units of capital. If the fraction of
output invested in new capital is γ = 0.2 and the depreciation rate is δ = 0.05, what is the steady-state amount of capital? a. 16 units b. 64 units c. 100 units d. 225 units ANSWER: a 23. Imagine an economy with production function Y = F(K) =
and 400 units of capital. If the fraction of
output invested in new capital is γ = 0.2, the depreciation rate is δ = 0.05, and the economy starts with output of 20, what does the Solow model predict will happen to output in the long run? a. It will remain at 20. b. It will decline. c. It will increase. d. It will increase for a time and then return to 20. ANSWER: b 24. Imagine an economy with production function Y = F(K) =
and 400 units of capital. If the fraction of
output invested in new capital increases from γ = 0.2 to γ = 0.5 and the depreciation rate is δ = 0.05, what is the new steady-state amount of capital? a. 16 units b. 64 units c. 100 units d. 256 units ANSWER: c 25. _____ first developed the model that explains economic growth using a production function. a. Milton Friedman b. Robert Solow c. John Maynard Keynes d. Ben Bernanke ANSWER: b 26. The Solow model is based on: a. a production function. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 b. supply and demand curves. c. the GDP accounts. d. consumer preferences. ANSWER: a 27. If we hold ideas, education, and labor constant in the Solow model, then output (GDP) is a function of: a. human capital only. b. physical capital only. c. labor only. d. technological knowledge only. ANSWER: b 28. A production function can be used to express the relationship between _____ and GDP. a. GDP per capita b. productivity c. the factors of production d. an economy's growth rate ANSWER: c 29. Consider the following production function: Y = F(K) =
. When the capital stock is 144, output is:
a. 12. b. 24. c. 72. d. 144. ANSWER: a 30. Which would decrease national output? a. a new idea to improve the production process b. a natural disaster that destroys some capital c. an increase in human capital d. an increase in labor ANSWER: b 31. In the Solow model, if the first unit of capital increases output by one unit, then the second unit of capital will cause total output to: a. increase, but by less than one unit. b. increase by more than one unit. c. remain the same. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. decrease. ANSWER: a 32. In the Solow model, an increase in the capital stock with all other variables held constant will _____ the country's real GDP but at a(n) _____ rate. a. increase; decreasing b. decrease; decreasing c. increase; increasing d. decrease; increasing ANSWER: a 33. In the Solow model, if a country's saving rate (γ) increased from 10% to 12% and it was operating at its steady state before the change, we would expect to see: a. a decrease in both the capital stock and output. b. an increase in the capital stock only. c. an increase in output only. d. an increase in both the capital stock and output. ANSWER: d 34. In the Solow model, if a country's depreciation rate (δ) increased from 1% to 2% and it was operating at its steady state before the change, we would expect to see: a. a decrease in both the capital stock and output. b. a decrease in the capital stock only. c. a decrease in output only. d. an increase in both the capital stock and output. ANSWER: a 35. Diminishing returns to capital implies that _____ diminishes as more capital is added. a. output b. the marginal product of capital c. the cost of producing goods and services d. technological knowledge ANSWER: b 36. The increase in output caused by the addition of one more unit of capital is called: a. the average product. b. total product. c. the production function. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. the marginal product of capital. ANSWER: d 37. As more units of capital are added in the Solow model, output: a. increases at an increasing rate. b. increases at a constant rate. c. increases at a decreasing rate. d. remains constant. ANSWER: c 38. As more units of capital are added in the Solow model, the marginal product of capital: a. increases. b. decreases at first, then increases. c. decreases. d. remains constant. ANSWER: c 39. The marginal product of capital is the increase in: a. employment when one more unit of capital is added. b. unemployment when one more unit of capital is added. c. output when one more unit of capital is added. d. the number of machines when one more unit of capital is added. ANSWER: c 40. According to the Solow model, output is a function of the quantity of: a. labor. b. capital. c. ideas. d. labor, capital, and ideas. ANSWER: d 41. Diminishing returns to tractors indicates that: a. having more tractors always leads to more output. b. having more tractors leads to increases in output only if there are corresponding increases in technology. c. additional output may be produced with fewer tractors. d. having more tractors leads to more output, but at a decreasing rate. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 42. Diminishing returns to capital implies that: a. the marginal product of capital is decreasing. b. more capital produces less output. c. the production function is downward sloping. d. capital is not the most efficient input. ANSWER: a 43. The principle of diminishing returns to capital implies that a country that loses much of its capital during a war will: a. experience a slower growth rate than before the war. b. never catch up to its level of output before the war. c. never be able to replace the capital lost during the war. d. experience a faster growth rate than before the war. ANSWER: d 44. Which statement best explains why growth in China has been so rapid recently? a. China began with very little capital, so its marginal product of capital was very high. b. China began with very little capital, so its marginal product of capital was very low. c. China began with very high capital, so its marginal product of capital was very high. d. China began with very high capital, so its marginal product of capital was very low. ANSWER: a 45. Which statement is NOT an explanation for why Germany and Japan both grew faster than the United States following World War II? a. Both countries had very little capital stock remaining after the war. b. Both countries had a high marginal product of capital after the war. c. Both countries had a strong incentive to put new capital stock into place. d. Both countries were experiencing cutting-edge growth at the time. ANSWER: d 46. Germany and Japan's rapid growth following the end of World War II is an example of: a. indirect growth. b. cutting-edge growth. c. growth due to increases in natural resources. d. increasing returns to capital. ANSWER: d 47. Figure: Four Production Functions Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8
Which of these production functions exhibits diminishing returns? a. A b. B c. C d. D ANSWER: d 48. Recent growth in China has been driven primarily by: a. capital accumulation. b. development of new technology. c. foreign aid. d. improved organization of existing resources. ANSWER: a 49. Based on the nature of China's growth in recent years, it is likely that its growth rate will _____ in coming years. a. increase b. slow c. remain about the same d. turn negative ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 50. Which statement is NOT a reason for high economic growth rates in Germany and Japan following World War II? a. Good institutions were in place soon after the war. b. Both countries had higher growth rates than the United States before World War II. c. New capital was highly productive during the rebuilding process. d. The incentive to invest in capital was very high after the war. ANSWER: b 51. The 2003 Iraq War destroyed large amounts of capital. Later, insurgent activity continued to destroy capital and created instability in the government. Today, hostilities have waned and the government has become more stable. According to the Solow growth model, over the next few years we would expect to see growth rates in Iraq _____ those of high-income countries with similar institutions, followed by growth rates that are _____ the growth rates in those countries. a. higher than; much higher than b. lower than; similar to c. higher than; similar to d. similar to; lower than ANSWER: c 52. Recent rapid growth in China is primarily due to: a. a high marginal product of capital that will eventually decrease as the country grows. b. a high marginal product of capital that will continue to grow as the country grows. c. the development of new technology that has increased productivity. d. increases in human capital that have significantly increased the marginal product of labor. ANSWER: a 53. Economists speculate that China's rapid growth will eventually slow as: a. its excess labor supply becomes exhausted. b. its capital stock rises. c. other countries catch up to China. d. economies of scale diminish. ANSWER: b 54. The marginal product of capital in China is _____ relative to the marginal product of capital in developed economies. a. high b. moderate c. low d. zero Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: a 55. Since the death of Chairman Mao in 1976, China has moved toward: a. a more Communist society. b. more communal manufacturing. c. more market-based production. d. a more closed economy. ANSWER: c 56. As a city rebuilds after a hurricane destroys most of its physical capital, we would expect growth in this locale to be: a. higher than average in both the short run and long run. b. lower than average in both the short run and long run. c. higher than average in the short run, but return to normal levels in the long run. d. lower than average in the short run, but eventually rise above average in the long run. ANSWER: c 57. Countries that have been bombed extensively in a war often experience _____ growth rate in the aftermath of the conflict. a. a lower b. a higher c. an unchanged d. a zero ANSWER: b 58. Countries that have been bombed extensively in a war typically have _____ marginal product of capital in the aftermath of conflict. a. a lower b. a higher c. an unchanged d. a zero ANSWER: b 59. Following World War II, Japan and Germany grew rapidly because: a. each country had a lot of capital that survived the war. b. each country's new capital was highly productive after the war. c. postwar institutions were not effective. d. little rebuilding was required at the end of the war. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: b 60. Capital growth is equal to investment _____ depreciation. a. minus b. plus c. times d. divided by ANSWER: a 61. Capital growth is the difference between: a. investment and economic growth. b. investment and depreciation. c. depreciation and economic growth. d. investment and saving. ANSWER: b 62. The level of capital stock increases when investment in physical capital is: a. greater than depreciation. b. less than depreciation. c. greater than personal consumption. d. greater than investment in human capital. ANSWER: a 63. Figure: Production Function
In this diagram of the Solow model, if output is 600, consumption equals: a. 50. b. 200. c. 400. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. 600. ANSWER: b 64. Depreciation refers to the: a. loss of capital because of technological change. b. underuse of capital because of a reduced workforce. c. wear and tear on capital through normal use. d. underuse of capital because of inefficiency. ANSWER: c 65. In a steady state, the level of investment: a. exceeds depreciation. b. is equal to depreciation. c. is less than depreciation. d. could be equal to, greater than, or less than depreciation. ANSWER: b 66. When investment exceeds depreciation, the capital stock: a. falls and output falls. b. falls and output rises. c. rises and output falls. d. rises and output rises. ANSWER: d 67. In a steady state, the capital stock: a. increases. b. decreases. c. neither increases nor decreases. d. equals zero. ANSWER: c 68. In a steady state, output is: a. growing. b. declining. c. constant. d. zero. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 69. In the Solow model with constant technological knowledge (A), when the economy reaches a steady state: a. catching-up growth occurs. b. cutting-edge growth occurs. c. growth stops. d. both catching-up and cutting-edge growth occur. ANSWER: c 70. In the Solow model with constant technological knowledge (A), if the economy is initially below its steadystate capital stock: a. catching-up growth will occur. b. cutting-edge growth will occur. c. there will be no growth. d. both catching-up and cutting-edge growth will occur. ANSWER: a 71. In the Solow model with constant technological knowledge (A), if the economy is initially below its steadystate capital stock: a. economic growth will occur. b. economic decline will occur. c. the economy will remain at its current output level. d. depreciation will cause the capital stock to decline. ANSWER: a 72. In the Solow model with constant technological knowledge (A), if the economy is initially above its steadystate capital stock: a. economic growth will occur. b. economic decline will occur. c. the economy will remain at its current output level. d. investment will cause the capital stock to increase. ANSWER: b 73. In the Solow model with constant technological knowledge (A), if investment exceeds depreciation: a. economic growth will occur. b. economic decline will occur. c. the economy will remain at its current output level. d. depreciation will cause the capital stock to decline. ANSWER: a 74. In the Solow model with constant technological knowledge (A), if depreciation exceeds investment: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. economic growth will occur. b. economic decline will occur. c. the economy will remain at its current output level. d. depreciation will cause the capital stock to rise. ANSWER: b 75. In the Solow model with constant technological knowledge (A), if investment equals depreciation: a. economic growth will occur. b. economic decline will occur. c. the economy will remain at its current output level. d. depreciation will cause the capital stock to rise. ANSWER: c 76. The steady-state capital stock is the capital stock where: a. investment exceeds depreciation. b. investment equals depreciation. c. investment is less than depreciation. d. depreciation equals zero. ANSWER: b 77. If output in an economy is 20 and the investment function is 0.25Y, then: a. 16 units of output are being consumed. b. 25 units of output are being invested. c. 15 units of output are being consumed. d. 20 units of output are being invested. ANSWER: c 78. If output in an economy is 500 and the investment function is 0.25Y, then: a. 125 units of output are being consumed. b. 375 units of output are being consumed. c. 100 units of output are being consumed. d. 400 units of output are being invested. ANSWER: b 79. If the depreciation rate is 0.03 and the capital stock is 200, how many units of capital will depreciate this period? a. 2 units b. 3 units Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. 6 units d. 12 units ANSWER: c 80. Consider a small country with a capital stock equal to 900 units. This year it produced 20 units of new capital goods, with a depreciation rate of 20% and a production function of Y = K1/2. What will its capital stock be next year? a. 920 units b. 720 units c. 740 units d. 900 units ANSWER: c 81. Consider a small country with a capital stock equal to 900 units. This year it produced 20 units of new capital goods, with a depreciation rate of 10% and a production function of Y = K1/2. If there is no technological advancement, what will the growth rate in this country be over the next year? a. –4.13% b. –3.97% c. 2.40% d. 10.00% ANSWER: b 82. All else equal, an increase in savings will cause investment to: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. ANSWER: a 83. All else equal, an increase in savings will cause capital stock to: a. increase. b. decrease. c. remain unchanged. d. increase and then decrease. ANSWER: a 84. Capital is output that is: a. invested in the stock market. b. used to produce other goods. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. invested in the bond market. d. consumed. ANSWER: b 85. Over time, capital wears out. The official term for this is: a. wear and tear. b. depreciation. c. capital dissolution. d. capital deepening. ANSWER: b 86. New capital is created in the economy by: a. consumption. b. investment. c. depreciation. d. government. ANSWER: b 87. Figure: Depreciation in Economy A
The figure shows the depreciation function for an economy. The depreciation rate is: a. 25%. b. 2.5%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. 0.25%. d. 0.025%. ANSWER: b 88. Figure: Depreciation in Economy B
The figure shows the depreciation function for an economy. The depreciation rate is: a. 1. b. 0.10. c. 0.010. d. 0.0010. ANSWER: b 89. What is meant by the “steady-state” level of capital? a. All of a nation's capital is being reinvested back into the economy. b. Positive net capital investment continues to drive growth at a steady rate. c. There is no new net investment or any growth. d. Investment exceeds depreciation. ANSWER: c 90. Human capital is similar to physical capital in that it: a. is dependent on government investment. b. decreases the economy's growth rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. does not depreciate. d. has diminishing returns. ANSWER: d 91. When investment is equal to depreciation, the capital stock: a. increases. b. decreases. c. remains constant. d. becomes zero. ANSWER: c 92. In a steady state, the capital stock: a. increases. b. decreases. c. remains constant. d. becomes zero. ANSWER: c 93. Other things held constant, an increase in depreciation will cause the capital stock to: a. decrease. b. increase. c. remain unchanged. d. become unprofitable. ANSWER: a 94. Countries with more human capital tend to have a: a. higher GDP per capita. b. lower GDP per capita. c. higher population. d. lower population. ANSWER: a 95. With additional education, the marginal product of human capital: a. increases at an increasing rate. b. increases at a decreasing rate. c. remains constant. d. decreases. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: d 96. Consider an economy with production function Y = K1/2, an investment rate equal to 0.25, and a depreciation rate of 0.05. If K = 1,000 this period, the capital stock next period will be: a. equal to 1,000. b. greater than 1,000. c. less than 1,000. d. greater than 1,200. ANSWER: c 97. If the production function in a country is Y = K1/2, the investment rate equals 0.25, and the depreciation rate is 0.05, then the steady-state level of the capital stock is equal to: a. 5 units. b. 10 units. c. 15 units. d. 25 units. ANSWER: d 98. If the production function in a country is Y = K1/2, the investment rate equals 0.25, and the depreciation rate is 0.05, then the steady-state level of output is equal to: a. 5 units. b. 10 units. c. 15 units. d. 25 units. ANSWER: a 99. Countries A and B have similar levels of technology and physical capital, but country B has twice as much human capital as country A. If diminishing returns apply to all inputs, country B should grow at _____ country A. a. the same rate as b. more than twice the rate of c. a lower rate than d. twice the rate of ANSWER: c 100. At the steady-state level of capital, capital investment: a. equals deprecation. b. is greater than depreciation. c. is less than depreciation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. and depreciation are both zero. ANSWER: a 101. Figure: Depreciation and Investment
According to this diagram of the Solow model, if the current capital stock is 70, then economic growth will be: a. positive. b. zero. c. negative. d. in a steady state. ANSWER: c 102. Figure: Depreciation and Investment
According to this diagram of the Solow model, the steady-state level of the capital stock is: a. 40 units. b. 50 units. c. 60 units. d. 70 units. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: c 103. In the Solow model, an earthquake that destroys half of a nation's capital stock will cause: a. an increase in the country's growth rate in the years following the earthquake. b. a decrease in the country's growth rate in the years following the earthquake. c. a decrease in the country's steady-state capital stock. d. an increase in the country's steady-state output level. ANSWER: a 104. In the Solow model, if a country increases its savings rate: a. growth increases as the economy moves toward a new, higher steady-state capital stock. b. growth decreases as the economy moves toward a new, lower steady-state capital stock. c. growth increases as a result of a new, higher production function. d. no growth occurs, since the steady state is unchanged. ANSWER: a 105. If an economy described by the production function Y =
has 30% of output invested in new capital
and 6% of the capital stock depreciated each year, what is the steady-state level of capital? a. 3.24 units b. 9 units c. 25 units d. 36 units ANSWER: c 106. Consider an economy described by the production function Y =
with 30% of output invested in new
capital and 6% of the capital stock depreciating each year. If the current capital stock is 30, then the economy's capital stock would: a. grow, and the output next period would increase. b. grow, but the output next period would decrease. c. shrink, but the output next period would increase. d. shrink, and the output next period would decrease. ANSWER: d 107. The “iron logic” of diminishing returns in the Solow model means that: a. eventually output will cease growing even though capital is still growing. b. eventually capital will cease growing even though output is still growing. c. capital and output will continue to grow indefinitely, but at a diminishing rate. d. eventually capital and output both will cease growing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: d 108. A country is experiencing _____ growth when its GDP is growing due to increases in its capital stock and putting into use ideas developed earlier. a. patent b. depreciation c. cutting-edge d. catch-up ANSWER: d 109. A country is experiencing _____ growth when its GDP is growing due to the development and adoption of new ideas that increase productivity. a. patent b. depreciation c. cutting-edge d. catch-up ANSWER: c 110. Suppose an economy has a production function of Y = K1/2 with the investment rate = 0.2 and the depreciation of capital rate = 0.02. If K = 625, the capital stock will _____over the next year. a. fall by 5.0 b. fall by 7.5 c. rise by 12.5 d. rise by 17.5 ANSWER: b 111. Suppose a country’s output level is 800. It invests in an additional unit of capital, which increases output by 2 units. If the country then increases investment in capital by 1 more unit, the expected additional increase in output will be _____ due to _____. a. greater than 2; diminishing returns b. less than 2; diminishing returns c. greater than 2; cutting-edge returns d. less than 2; cutting-edge returns ANSWER: b 112. Suppose a country invests 30% of output in new capital each year. The depreciation rate of capital is 0.02. The country’s output level is 30 units and its capital stock = 900. What is the annual change in the country’s capital stock? a. 18% b. 9% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. –9% d. ‒18% ANSWER: c 113. When a country has a large amount of capital stock, its annual investment in new capital needs to be _____ if it wants to maintain the same level of capital stock because of _____. a. smaller; its larger output b. larger; depreciation c. smaller; depreciation d. larger; its larger output ANSWER: b 114. Economic growth _____ be maintained solely by continually increasing investment in capital because of _____. a. can; increasing returns to capital b. cannot; increasing returns to capital c. can; diminishing returns to capital d. cannot; diminishing returns to capital ANSWER: d 115. Capital stock and national output will be larger in the next time period when: a. depreciation is greater than capital stock. b. depreciation is smaller than capital stock. c. investment is greater than depreciation. d. investment is smaller than depreciation. ANSWER: c 116. Capital stock and national output will be smaller in the next time period when: a. depreciation is greater than capital stock. b. depreciation is smaller than capital stock. c. investment is greater than depreciation. d. investment is smaller than depreciation. ANSWER: d 117. There are _____ returns to physical capital and _____ returns to human capital. a. increasing; increasing b. decreasing; decreasing c. increasing; decreasing Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. decreasing; increasing ANSWER: b 118. Over time, human capital will: a. depreciate. b. appreciate. c. maintain a constant value. d. cyclically fluctuate in value. ANSWER: a 119. Which statement is correct regarding the relationships of physical capital and human capital to diminishing returns and depreciation? a. Physical capital and human capital are subject to neither diminishing returns nor depreciation. b. Physical capital and human capital are subject to diminishing returns, but only physical capital is subject to depreciation. c. Physical capital and human capital are subject to depreciation, but only human capital is subject to diminishing returns. d. Physical capital and human capital are subject to diminishing returns and depreciation. ANSWER: d 120. When an economy is in a steady state, what is true regarding investment and output from year to year? a. There is no change in the annual level of investment and output. b. There is no investment, and output remains constant. c. Investment rises, but output remains constant due to diminishing returns. d. Investment and output both rise by the same steady percentage. ANSWER: a 121. Suppose a country’s production function is Y = K1/2 with a savings rate of 0.3 and a capital depreciation rate of 0.01. Current output equals 30 units and the capital stock is 900. According to the Solow model, the country’s capital stock will_____ in the following year. a. rise b. fall c. remain the same d. change unpredictably ANSWER: c 122. According to the Solow model, what will happen when a country produces at an output level below its steady-state output level? a. Output will fall and capital stock will rise until its steady-state output level is reached. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 b. Output will rise and capital stock will fall until its steady-state output level is reached. c. Output and capital stock will fall until its steady-state output level is reached. d. Output and capital stock will rise until its steady-state output level is reached. ANSWER: d 123. Which statement is CORRECT? a. If investment > depreciation, the nation's capital stock will grow. b. If investment < depreciation, the nation's capital stock will grow. c. If investment = depreciation, the nation's capital stock will grow. d. If investment and depreciation both equal zero, the nation's capital stock will grow. ANSWER: a 124. A small country has 400 units of capital. This year it will produce 20 units of new capital goods and depreciate 5% of its capital stock. Based on this information, it should expect to have _____ growth over the next year if technological knowledge remains constant. a. catching-up b. positive c. no d. negative ANSWER: c 125. If a country is initially at its steady-state level of capital stock, which of the following will NOT result in economic growth in future years, ceteris paribus? a. a technological advancement b. an increase in the savings rate c. continuing investment at its current rate d. a decrease in the depreciation rate ANSWER: c 126. A small country's aggregate production function is given by Y = K1/2. Its depreciation rate is 5% and its investment rate is 25%. What is its steady-state level of real GDP? a. 25 b. 5 c. 1.25 d. 0.25 ANSWER: b 127. A small country's aggregate production function per hour of labor is given by Y = K1/2. Its depreciation rate is 1% and its investment rate is 10%. What is its steady-state level of capital? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. 1 b. 10 c. 100 d. 1,000 ANSWER: c 128. A small country's aggregate production function is given by Y = K1/2. Its depreciation rate is 5% and its investment rate is 25%. What is its steady-state level of capital? a. 25 b. 5 c. 1.25 d. 0.25 ANSWER: a 129. A small country's aggregate production function per hour of labor is given by Y = K1/2. Its depreciation rate is 1% and its investment rate is 10%. What is its steady-state level of output? a. 1 b. 10 c. 100 d. 1,000 ANSWER: b 130. A country in a steady state invests 50% of its output in new capital (γ = 0.5) and depreciates 5% of its capital stock (δ = 0.05). With a capital stock of 100 units, labor remains constant. Because of technological innovation, production improves from Y =
to Y = 2
. What is the new steady-state level of K?
a. 100 b. 256 c. 400 d. 1,600 ANSWER: c 131. A country in a steady state invests 50% of its output in new capital (γ = 0.5) and depreciates 5% of its capital stock (δ = 0.05). With a capital stock of 100 units, labor remains constant. Because of technological innovation, production improves from to . What is the new steady-state level of output? a. 10 b. 20 c. 40 d. 80 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: c 132. In the Solow model, an increase in investment leads to: a. an increase in growth rates in the short run but a return to zero growth in the long run as the economy converges to a new, higher steady state. b. an increase in growth rates in both the short run and the long run, as new investment will lead to permanently higher levels of the capital stock. c. a decrease in growth rates in both the short run and the long run, as fewer resources are available for production following the increase in investment. d. no change in growth rates. ANSWER: a 133. If investment is greater than depreciation, then the capital stock: a. decreases. b. remains constant. c. increases. d. becomes negative. ANSWER: c 134. If investment is less than depreciation, then the capital stock: a. decreases. b. remains constant. c. increases. d. becomes negative. ANSWER: a 135. If investment equals depreciation, then the capital stock: a. decreases. b. remains constant. c. increases. d. equals zero. ANSWER: b 136. If the investment rate (γ) increases in the Solow model, other things held constant, then capital growth: a. decreases. b. remains constant. c. increases. d. becomes negative. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: c 137. If the investment rate (γ) decreases in the Solow model, other things held constant, then capital growth: a. decreases. b. remains constant. c. increases. d. changes indeterminately. ANSWER: a 138. Good institutions tend to: a. decrease the rate of investment. b. leave the rate of investment unchanged. c. increase the rate of investment. d. have an ambiguous effect on investment. ANSWER: c 139. An increase in the investment rate results in: a. a lower steady-state capital stock and a lower steady-state output. b. a lower steady-state capital stock but a higher steady-state output. c. a higher steady-state capital stock and a higher steady-state output. d. a higher steady-state capital stock but a lower steady-state output. ANSWER: c 140. According to the Solow model, a higher investment rate leads to: a. more capital and more output. b. more capital and less output. c. less capital and more output. d. less capital and less output. ANSWER: a 141. According to the Solow model, a higher investment rate leads to: a. an increase in steady-state output. b. a decrease in steady-state output. c. no change in steady-state output. d. volatility in steady-state output. ANSWER: a 142. Consider an economy that is operating at its steady state. An increase in the investment rate in this economy will lead to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. an increase in the growth rate of output in both the short run and long run. b. no change in the growth rates of either capital or output in either the short run or the long run, since the economy is already in the steady state. c. an increase in the growth rate of output in the short run but lower overall growth in the long run as a result of increased depreciation. d. an increase in the growth rate of output in the short run but zero growth in output in the long run. ANSWER: d 143. In the Solow model, an increase in the investment rate will _____ the amount of capital needed to achieve a steady state. a. increase b. decrease c. not affect d. have an unpredictable effect on ANSWER: a 144. According to the Solow model, an increase in the fraction of output that is saved will increase _____ in the long run. a. investment b. output c. both investment and output d. neither investment nor output ANSWER: c 145. According to the Solow model, countries with higher savings rates have higher levels of: a. investment. b. output. c. both investment and output. d. neither investment nor output. ANSWER: c 146. Conditional convergence refers to the tendency for: a. poorer countries to grow faster than richer countries, but only if they receive sufficient foreign investment. b. richer countries to grow faster than poorer countries given similar steady-state capital stocks, so the poor countries never catch up with the rich countries. c. poorer countries to grow faster than richer countries given similar steady-state capital stocks, but the poor countries will never catch up with the rich countries. d. countries with similar steady-state levels of output to grow faster when they're poor than when Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 they're rich until their per capita GDP levels converge. ANSWER: d 147. What is the name for the tendency—among countries with similar steady-state levels of output—for poorer countries to grow faster than richer countries until they reach the same income levels? a. the diminishing rate of return b. the marginal law of supply c. conditional convergence d. growth capitalization ANSWER: c 148. If two countries have the same steady-state levels of output, the country that is _____ today will _____ in per capita output. a. poorer; always lag behind b. poorer; catch up c. richer; eventually fall behind d. richer; become even further ahead ANSWER: b 149. Member nations of the Organisation for Economic Co-operation and Development (OECD) with a lower GDP per capita in 1960 experienced what sort of growth during the subsequent 40 years? a. relatively lower growth than higher GDP per capita countries b. relatively faster growth than higher GDP per capita countries c. no growth at all d. growth similar to countries with a high 1960 GDP per capita ANSWER: b 150. Conditional convergence implies that there is _____ relationship between real GDP per capita and subsequent growth rates. a. a positive b. a negative c. no d. a vertical ANSWER: b 151. Among countries with similar Solow steady states, poorer countries tend to grow _____ rich countries. a. more slowly than b. at the same rate as c. faster than Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. sometimes faster and sometimes more slowly than ANSWER: c 152. Conditional convergence refers to the condition that among countries with similar steady states: a. a country with a higher output level tends to grow more rapidly. b. a country with a higher output level tends to grow more slowly. c. all countries grow at the same rate regardless of their initial output levels. d. whether one country's output converges to that of another country depends on their geographical proximity. ANSWER: b 153. Conditional convergence predicts that if two countries have the same steady-state level of output, the poorer country will: a. grow but never be able to catch up with the richer country. b. catch up with the richer country because the richer country will not be able to maintain its steadystate output level. c. catch up with the richer country because it will grow faster than the rich country. d. not grow at all and will fall further behind the rich country. ANSWER: c 154. Among countries with similar steady-state levels of output, the tendency for poorer countries to grow faster than richer countries is called: a. Solow growth. b. steady-state growth. c. dynamic growth. d. conditional convergence. ANSWER: d 155. The Solow model predicts that a country will grow more rapidly the: a. further its capital stock is above its steady-state value. b. further its capital stock is below its steady-state value. c. closer its capital stock is to its depreciation rate. d. closer its capital stock is to its population growth rate. ANSWER: b 156. Provided they have the same steady state, the tendency for poorer countries to grow faster than richer countries and thus to converge in income is called _____ convergence. a. standard b. dynamic Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. income d. conditional ANSWER: d 157. According to the Solow model, a country will grow faster when its capital stock is: a. at the steady-state value. b. above the steady-state value. c. just below the steady-state value. d. far below the steady-state value. ANSWER: d 158. A higher savings rate will _____ a country’s steady-state output level. a. increase b. decrease c. have no impact on d. first decrease, then increase ANSWER: a 159. If two countries have identical production functions, which will have a higher steady-state output? a. the country with a higher capital depreciation rate b. the country with a higher savings rate c. the country with a lower investment rate d. the country with lower capital stock ANSWER: b 160. What changes in the Solow model when a country’s savings rate increases? a. The capital depreciation curve shifts upward. b. The capital depreciation curve shifts downward. c. The capital investment curve pivots upward. d. The capital investment curve pivots downward. ANSWER: c 161. According to the concept of conditional convergence, high-output countries will experience _____ growth than low-output countries as the countries all move toward _____. a. lower; lower investment rates b. higher; higher investment rates c. lower; similar per capita incomes d. higher; similar per capita incomes Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: c 162. Catch-up growth is based heavily on the concepts of _____ and _____. a. conditional convergence; diminishing returns to capital b. conditional convergence; depreciation c. diminishing returns to capital; depreciation d. depreciation; labor ANSWER: a 163. Conditional convergence across countries applies only when they have the same: a. capital stock. b. depreciation rate. c. steady-state output level. d. investment rate. ANSWER: c 164. Which of the following statements correctly differentiates catching-up growth from cutting-edge growth? a. Cutting-edge growth leads to convergence, while catching-up growth does not. b. Catching-up growth comes primarily from capital accumulation, while cutting-edge growth comes from technological development. c. Poorer countries with low levels of capital stock will always display catching-up growth, while rich countries will not. d. Catching-up growth can go on indefinitely, while cutting-edge growth cannot. ANSWER: b 165. Which of the following statements correctly differentiates catching-up growth from cutting-edge growth? a. Cutting-edge growth leads to convergence, while catching-up growth does not. b. Cutting-edge growth comes primarily from capital accumulation, while catching-up growth comes from technological development. c. Poorer countries with low levels of capital stock will always display catching-up growth, while rich countries will not. d. Cutting-edge growth can go on indefinitely, while catching-up growth cannot. ANSWER: d 166. Which statement is consistent with the predictions of the simple Solow model with no technological advancement? a. In the long run, economic growth is zero. b. In the long run, a higher capital stock raises economic growth. c. In the long run, rich countries grow faster than poor countries. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. In the long run, a higher saving rate reduces economic growth. ANSWER: a 167. In the long run, catching-up growth: a. can continue indefinitely. b. eventually stops when the economy reaches its steady state. c. can explain an economy's growth in the very long run. d. keeps the capital stock growing indefinitely, but not output. ANSWER: b 168. Solow estimated that better ideas are responsible for about _____ of the U.S. standard of living. a. one-fourth b. one-half c. three-fourths d. all ANSWER: c 169. The key to escaping the “iron logic” of diminishing returns in the Solow model is: a. investment in physical capital. b. education and training to build human capital. c. new ideas. d. foreign investment. ANSWER: c 170. The key to keeping the economy growing in the long run is: a. investment in physical capital. b. education and training to build human capital. c. new ideas. d. foreign investment. ANSWER: c 171. The key to keeping the economy growing in the long run is: a. investment in physical capital. b. education and training to build human capital. c. advances in technological knowledge. d. foreign investment. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 172. The source of “cutting-edge” growth is: a. investment in physical capital. b. education and training to build human capital. c. advances in technological knowledge. d. foreign investment. ANSWER: c 173. The growth that results from better ideas or technological knowledge is: a. catching-up growth. b. cutting-edge growth. c. capital growth. d. short-run growth. ANSWER: b 174. Better ideas or technological knowledge causes: a. the production function to shift upward. b. the production function to shift downward. c. the investment function to shift downward. d. the depreciation function to shift downward. ANSWER: a 175. Better ideas or technological knowledge causes: a. the production function to shift upward. b. the investment function to shift upward. c. both the production function and the investment function to shift upward. d. neither the production function nor the investment function to shift upward. ANSWER: c 176. The production function can shift upward because of: a. higher depreciation. b. an increase in investment. c. better ideas. d. an increase in capital stock. ANSWER: c 177. In the Solow production function, an increase in the term “A” refers to an increase in: a. productivity. b. the capital stock. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. the rate of depreciation. d. investment. ANSWER: a 178. Increases in productivity cause the: a. depreciation function to shift downward. b. production function to shift downward. c. production function to shift upward. d. investment curve to shift downward. ANSWER: c 179. Better ideas cause the: a. depreciation function to shift downward. b. production function to shift downward. c. production function to shift upward. d. investment curve to shift downward. ANSWER: c 180. Research by Solow indicated that about _____ of the increases in U.S. GDP per capita are due to better ideas. a. 25% b. 50% c. 75% d. 100% ANSWER: c 181. Which of the following can drive long-run economic growth in the Solow model? a. human capital b. physical capital c. real capital d. technological knowledge ANSWER: d 182. Figure: The Solow Model
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Chapter 8
Which of the following events would NOT shift the production function from Y1 to Y2 in the accompanying diagram of the Solow model? a. increases in productivity b. better ideas c. physical capital accumulation d. advances in technological knowledge ANSWER: c 183. Figure: The Solow Model
In the accompanying graph of the Solow model, if the production function shifts from Y1 to Y2 while capital remains at K1, then the capital stock will: a. decrease until it reaches the new steady-state level. b. increase until it reaches the new steady-state level. c. increase for a time and then return to K1. d. remain unchanged. ANSWER: b 184. Figure: The Solow Model Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8
If the production function shifts from Y1 to Y2 in the accompanying graph of the Solow model, then: a. the steady state will remain at K1. b. a new steady state will occur at K2. c. the steady state will move to K2 and then return to K1 in the long run. d. the steady state will end up between K1 and K2. ANSWER: b 185. Figure: The Solow Model
If the production function shifts from Y1 to Y2 in the accompanying graph of the Solow model, then: a. no growth will occur. b. growth will occur from capital accumulation only. c. growth will occur from better ideas only. d. growth from both capital accumulation and better ideas will occur. ANSWER: d 186. Figure: The Solow Model
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Chapter 8
If the production function shifts from Y1 to Y2 in the accompanying graph of the Solow model, then: a. no growth will occur. b. catching-up growth will occur. c. cutting-edge growth will occur. d. both catching-up and cutting-edge growth will occur. ANSWER: d 187. Figure: Increased Production
In the accompanying graph, which of the following events could cause the upward shift of the production function? a. foreign direct investment b. technological advancement c. an increase in the capital stock Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. an aging labor force ANSWER: b 188. Consider the production function
. The level of technology in this economy is represented by
the value: a. 1. b. 4. c. 2. d. 0.5. ANSWER: c 189. Assume that a country's production function changes from
to
. Which of the following
events could explain the change in this production function? a. the disappearance of diminishing returns from the production function b. the development of new technology in production c. greater capital accumulation d. less depreciation due to better capital stock maintenance ANSWER: b 190. A small country has an aggregate production function given by Y = AK1/2. What would need to happen to the aggregate production function to represent an advance in technology? a. K would need to increase. b. A would need to increase. c. K would need to decrease. d. A would need to decrease. ANSWER: b 191. In the Solow model, better ideas will lead to: a. more capital. b. less government regulation. c. less investment. d. less capital. ANSWER: a 192. In the Solow model, better ideas will lead to: a. increases in productivity. b. capital accumulation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. both an increase in productivity and an increase in capital accumulation. d. neither an increase in productivity nor an increase in capital accumulation. ANSWER: c 193. In the Solow model, better ideas will lead to: a. catching-up growth. b. cutting-edge growth. c. both catching-up growth and cutting-edge growth. d. neither catching-up growth nor cutting-edge growth. ANSWER: c 194. The fact that the United States has grown steadily on average over the past two centuries is consistent with: a. the hypothesis that incomes of poor countries tend to converge to incomes of rich countries. b. the law of diminishing returns to capital. c. the concept that increases in investment cause higher living standards. d. the concept that better ideas result in economic growth in the long run. ANSWER: d 195. A significant inconsistency between the steady-state prediction of the basic Solow model and the economic data in many countries is that output: a. shows increasing returns to capital. b. continues to rise in the long run. c. is unaffected by capital stock. d. is constant regardless of the size of capital stock. ANSWER: b 196. When a measure of technological innovation is included in the production function, an increase in technology is depicted as _____ on the graph of the production function. a. a downward pivot of the investment curve b. a leftward shift of the steady-state income curve c. an upward pivot of the production curve d. a downward shift of the depreciation curve ANSWER: c 197. In the long run, better technological ideas will NOT lead to: a. larger output. b. larger capital stock. c. a lower depreciation rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 d. greater productivity. ANSWER: c 198. Better ideas increase output directly because of _____ and indirectly due to _____. a. lower depreciation; a higher savings rate b. a higher savings rate; lower depreciation c. higher productivity; more capital accumulation d. more capital accumulation; higher productivity ANSWER: c 199. When better ideas are used in production: a. the savings rate falls and then rises. b. increasing returns to capital are achieved. c. depreciation no longer affects output. d. more output is produced from the same amount of inputs. ANSWER: d 200. How does the inclusion of “ideas” in the Solow model change the graph of the model? a. A curve representing “ideas” is added to the graph. b. The output curve and investment curve both pivot upward. c. The investment curve pivots upward and the depreciation curve pivots downward. d. The output curve shifts upward and the depreciation curve pivots downward. ANSWER: b 201. Suppose a country’s production function is Y = A(K1/2). A = 3, the capital depreciation rate = 0.02, and the savings rate = 0.1. If A increases from 3 to 3.2, the steady-state stock of capital goes from _____ to _____. a. 225; 256 b. 225; 289 c. 256; 306.25 d. 256; 289 ANSWER: a 202. Suppose a country’s Solow model production function is Y = A(K1/2). A = 3, the capital depreciation rate = 0.02, and the savings rate = 0.1. If A increases from 3 to 3.2, the production function _____, the investment curve _____, and the depreciation curve _____. a. pivots upward; pivots upward; pivots upward b. pivots upward; pivots upward; remains stationary c. shifts upward; remains stationary; shifts upward d. remains stationary; shifts upward; pivots downward Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: b 203. Ideas are: a. rivalrous. b. nonrivalrous. c. partly rivalrous. d. sometimes rivalrous and sometimes nonrivalrous. ANSWER: b 204. Patents _____ spillovers from new ideas. a. increase b. maintain c. reduce d. eliminate ANSWER: c 205. Ideas are not rivalrous, meaning that: a. many people can benefit from an idea at the same time. b. only one person can benefit from an idea at a time. c. most ideas are generated by the government. d. no one can benefit from an idea. ANSWER: a 206. The existence of technological spillovers implies that: a. too many resources are invested in research and development. b. too few resources are invested in research and development. c. the right amount of resources is invested in research and development. d. investing in research and development is not a good idea. ANSWER: b 207. If the size of the market grows, then: a. fewer resources are spent in research and development. b. it doesn't make sense to increase investment in research and development, since ideas are not rivalrous. c. more resources are spent in research and development. d. people will be worse off. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 208. What might be one of the outcomes if more people in India and China start dying of cancer and heart disease instead of malnutrition and preventable disease? a. Companies will invest more in curing cancer and heart disease. b. Companies will invest less in curing cancer and heart disease. c. Companies will invest more in solving malnutrition and preventable disease. d. More people in the United States will die of malnutrition and preventable disease. ANSWER: a 209. “Cutting-edge” economic growth is mainly the result of: a. capital accumulation. b. immigration of skilled labor. c. technological advances. d. conditional convergence. ANSWER: c 210. Which policy does NOT promote idea-based economic growth? a. granting patents to intellectual property b. government subsidies in research and development c. strengthening the spillover effects of innovations d. enforcing open and competitive markets ANSWER: c 211. Which statement is NOT true? a. Ideas for increasing output are primarily researched, developed, and implemented by profit-seeking firms. b. Ideas can be freely shared, but spillovers mean that ideas are underprovided. c. Government has a role in improving the production of ideas. d. The smaller the market, the greater the incentive to research and develop new ideas. ANSWER: d 212. If a developing country wanted to increase its level of investment, which action would directly lead to this goal? a. strengthen and enforce private property laws b. provide a minimum level of food to all people in the country c. increase taxes to prevent corporations from keeping excess profits d. nationalize all foreign manufacturing facilities in the country ANSWER: a 213. What is key to growth for countries such as the United States and Japan? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. more physical capital investments b. investments in human capital c. new ideas d. larger institutions ANSWER: c 214. Which statement about the effects of patents is TRUE? a. Patents increase the incentive to research and develop new products and also increase competition in the market. b. Patents increase the incentive to research and develop new products but also increase monopoly power once the products are created. c. Patents reduce the incentive to research and develop new products but also reduce competition in the market. d. Patents reduce the incentive to research and develop new products but increase monopoly power once the products are created. ANSWER: b 215. The reason that the United States has experienced sustained economic growth for over 200 years is mostly due to which of the following? a. timely replacement of physical capital b. continued advances in technological knowledge c. steady increases in population d. strategic government planning ANSWER: b 216. American culture contributes to economic growth and encourages new ideas by: a. supporting entrepreneurship. b. encouraging a high level of personal savings. c. supporting a retirement income for all citizens. d. expecting a high level of government ownership of manufacturing firms. ANSWER: a 217. Which is an example of an increase in human capital? a. an increase in the training of bone cancer researchers b. building new bone cancer research centers c. the discovery of a cure for bone cancer d. an increase in the number of scientists working on curing bone cancer ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 218. Which is an example of an increase in technological knowledge? a. an increase in the training of bone cancer researchers b. building new bone cancer research centers c. bone cancer researchers discovering a cure for bone cancer d. an increase in the number of scientists working on curing bone cancer ANSWER: c 219. The most effective incentive for the creation of new ideas or technology is: a. profit seeking. b. government grants. c. educational grants. d. foreign aid. ANSWER: a 220. In the United States, most scientists who research and develop new products work for: a. private firms. b. the U.S. government. c. public universities. d. private universities. ANSWER: a 221. A patent: a. provides temporary monopoly power to the company that receives it. b. usually never expires. c. increases the spillover effect of a new idea. d. allows more people to benefit from a new idea. ANSWER: a 222. A(n) _____ grants temporary monopoly rights to an inventor, typically for 20 years from its filing date. a. patent b. development loan c. document of invention d. initial product offering ANSWER: a 223. Continued long-run economic growth requires that economies: a. continue to increase their investment rates. b. have high levels of capital stock. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. have institutions in place that encourage research and development of new ideas. d. reach their steady-state levels of capital and output. ANSWER: c 224. Patents allow a firm to enjoy a monopoly, thus increasing the incentive to: a. imitate their competitors. b. decrease capital investment. c. rely on government scientists and engineers. d. research and develop new products. ANSWER: d 225. Technological advances are generally expected to have _____ spillovers. a. negative b. positive c. no d. both positive and negative ANSWER: b 226. Research and development spillovers: a. reward research and development. b. are nonrivalrous. c. only benefit the inventor. d. keep ideas from spreading to other countries. ANSWER: b 227. Research and development of new ideas that lead to spillover effects tend to be: a. overprovided in markets. b. underprovided in markets. c. rivalrous in the market. d. produced only with the help of patents or other government subsidies. ANSWER: b 228. A profit-maximizing firm will invest in research and development as long as: a. the social marginal benefit is greater than the marginal cost. b. it continues to increase revenues. c. it is subsidized by the government. d. the private marginal benefit is greater than the marginal cost. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: d 229. With possible spillover of ideas, there will be: a. too little investment in research and development. b. increasing investment in research and development. c. more ideas being created. d. no effect on the investment in research and development. ANSWER: a 230. A good is not rivalrous if: a. two people cannot consume it at the same time. b. two or more people can consume it at the same time. c. it is not substitutable. d. it is not a private good. ANSWER: b 231. As other countries grow wealthier, the incentive to undertake research and development projects: a. increases, since the potential for profits rises. b. decreases, since competition drives profits lower. c. decreases, since the marginal returns to research and development fall when more countries are wealthier. d. decreases, since there is less government subsidization when countries are wealthier. ANSWER: a 232. The optimal private investment in research and development will likely be _____ the optimal social investment. a. the same as b. less than c. greater than d. half of ANSWER: b 233. You create a video to audition for film school. It ends up being viewed by over 500,000 people. What are the additional people enjoying? a. a consumable leisure good b. the effect of maximizing trade c. the effect of conditional convergence d. the effect of a spillover good Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: d 234. What is meant by a nonrivalrous good? a. Additional people can consume a good without diminishing another's consumption. b. There exists a perfectly competitive market for the good. c. There is only a single consumer of the good. d. There is only a single producer of the good. ANSWER: a 235. If two or more people can use a good at the same time, the good is said to be a(n): a. durable good. b. public good. c. investment good. d. nonrivalrous good. ANSWER: d 236. Because of spillovers, the social benefit of research and development: a. is greater than the private benefit. b. is less than the private benefit. c. is equal to the private benefit. d. may be less than, greater than, or equal to the private benefit. ANSWER: a 237. Considering the incentives for the private market to conduct research and development, we expect that the amount of research and development conducted by the private sector would be _____ the efficient level because of the _____ property of new knowledge. a. equal to; rivalrous b. less than; nonrivalrous c. more than; rivalrous d. more than; nonrivalrous ANSWER: b 238. Government has a role in subsidizing research and development when: a. the beneficiaries are below the poverty line. b. it can increase tax revenue. c. it can more efficiently allocate resources. d. the spillovers are large. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 239. The larger the spillovers, the stronger the argument for: a. research and development. b. government subsidies. c. government taxation of excess profits. d. economic growth. ANSWER: b 240. Pharmaceutical companies tend to concentrate on drugs for common diseases because: a. more people can be helped. b. spillovers are smaller. c. they are more likely to be granted patents. d. potential profits are larger. ANSWER: d 241. Which is NOT associated with ideas as they relate to increasing productivity? a. Most ideas for increasing output are generated and implemented by profit-seeking firms. b. Larger markets create greater incentives for the research and development of new ideas. c. Government does not have a role in improving the production of ideas. d. Ideas can be freely shared, but spillovers lead to an underprovision of ideas. ANSWER: c 242. A patent provides the developer of a new idea, product, or process with a: a. share of the profits earned by competitors who produce similar products. b. more competitive market than would exist otherwise. c. window of time to recover development expenses and profits from the idea, product, or process. d. guarantee of profits in return for the risks associated with research and development. ANSWER: c 243. Patents provide the developer of a new idea, product, or process with: a. new ideas to use in production. b. a higher level of market competition. c. advance funding for research expenses. d. temporary monopoly power. ANSWER: d 244. Which is an example of a nonrival good? a. haircut b. pants Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. candy bar d. knowledge ANSWER: d 245. A private firm will invest in research and development when its private marginal benefit _____ of the investment. a. exceeds the private marginal cost b. exceeds the social marginal benefit c. equals the social marginal benefit d. is less than the private marginal cost ANSWER: a 246. The private marginal benefit of investing in a nonrival, productive idea is _____ the social marginal benefit. a. larger than b. smaller than c. equal to d. unpredictable compared to ANSWER: b 247. Which is NOT a typical method that governments use to encourage private firms to invest in generating new, productive ideas? a. prize money for new, productive ideas b. subsidizing the cost of research and development c. taxing firms for the development of new, productive ideas d. patents to give property rights to inventors ANSWER: c 248. A government’s incentive to support private firms in the research and development needed to generate new ideas is to: a. reduce the marginal cost of production. b. reduce the social marginal benefit. c. gain the marginal cost of production. d. gain the spillover benefits of the new ideas. ANSWER: d 249. Which approach would the government use to create a marginal cost reduction for private firms who engage in the research and development of new, productive ideas? a. provide prizes for new, productive ideas Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 b. provide a tax break on the profits from new, productive ideas c. subsidize research and development by private firms d. provide patents to give property rights to the developers of new, productive ideas ANSWER: c 250. Private firms have a greater incentive to conduct research and development for a market that is _____ rather than _____. a. expensive; inexpensive b. inexpensive; expensive c. small; large d. large; small ANSWER: d 251. Why are firms more likely to spend on research to find a way to reduce tooth cavities than to find better ways to replace missing teeth? a. The price of treating cavities is higher than the price of replacing missing teeth. b. On average, more people experience cavities than missing teeth. c. The marginal cost of replacing teeth is lower than the marginal cost of reducing cavities. d. Cavities have more of an impact on a person than missing teeth. ANSWER: b 252. Demand for which product is likely to increase most when prosperity rises in India? a. flour b. flip-flops or rubber sandals c. cosmetic surgery d. appendectomy ANSWER: c 253. Many economists are optimistic about the future of economic growth, mostly because: a. falling populations worldwide mean higher GDP per capita. b. growing populations mean a higher labor supply and thus higher levels of output. c. increasing populations worldwide mean added incentives for research and development. d. people are becoming wealthier worldwide. ANSWER: c 254. Over the past 10,000 years, growth in per capita GDP has been: a. decreasing. b. steady. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 c. increasing. d. changing indeterminately. ANSWER: c 255. Scientists in the United States represent approximately _____ of the U.S. population. a. 0.5% b. 1.0% c. 1.5% d. 2.0% ANSWER: a 256. In the past several hundred years, economic growth has been: a. decreasing. b. staying the same. c. increasing. d. nonexistent. ANSWER: c 257. The number of potential ideas in the world is: a. limited. b. about the same as the number of actual ideas. c. somewhat larger than the number of current ideas. d. unimaginably vast. ANSWER: d 258. The formula that represents the generation of ideas (A) is: a. population – incentives – ideas per hour. b. population × incentives × ideas per hour. c. capital × (population ÷ ideas per hour). d. capital ÷ population – ideas per hour. ANSWER: b 259. The number of new ideas does NOT depend on the: a. level of capital invested. b. number of people involved. c. incentive to innovate. d. number of ideas per hour each person has. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: a 260. Which of the following should lead to an increased rate of economic growth due to increased development of new ideas? a. stable population, increased wealth, and larger markets b. increased population, increased consumer wealth, and smaller markets c. increased population, lower saving, and larger markets d. increased population, increased wealth, and larger markets ANSWER: d 261. Which is NOT a major factor in the number of new ideas generated each year? a. ideas per hour per person b. incentives c. capital stock d. population ANSWER: c 262. Which would NOT encourage the faster development of new ideas? a. a greater depreciation of capital b. increasing incentives to invest in R&D c. more secure property rights d. an increasing population ANSWER: a 263. Governments can play a role in supporting the production of new ideas by: a. taxing industries that become too competitive. b. enforcing antimonopoly laws. c. directing the immediate exchange of all scientific ideas. d. protecting intellectual property. ANSWER: d 264. What slows economic growth as prosperity increases? a. increasing investment in capital b. decreasing depreciation of capital c. the development of new ideas d. diminishing returns to capital ANSWER: d 265. An economy’s growth rate will be higher in which situation? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. The depreciation rate is high. b. The savings rate is low. c. The output level is significantly below its steady state. d. The output level is significantly above its steady state. ANSWER: c 266. Long-run economic growth is primarily attributed to: a. larger capital stock. b. achieving a steady state. c. new, productive ideas. d. channeling savings into capital investment. ANSWER: c 267. Catching-up growth occurs primarily through capital accumulation and the adoption of simple ideas that already exist. a. True b. False ANSWER: a 268. Cutting-edge growth occurs primarily through capital accumulation and the adoption of simple ideas that already exist. a. True b. False ANSWER: b 269. Growth on the cutting edge is primarily about developing new ideas. a. True b. False ANSWER: a 270. China is growing faster than the United States despite having inferior economic institutions. a. True b. False ANSWER: a 271. Growth consists of two types: catching-up growth and cutting-edge growth. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: a 272. The Solow model can be used to gain insight about the difference between catching-up growth and cuttingedge growth. a. True b. False ANSWER: a 273. If a country is currently to the left of its steady-state capital stock in the Solow model, growth in output will follow as a result of capital accumulation. a. True b. False ANSWER: a 274. If a country is currently to the left of its steady-state capital stock in the Solow model, growth in output will follow only if new technology can be developed to shift the production function. a. True b. False ANSWER: b 275. Diminishing returns to capital prevent capital accumulation alone from explaining sustained economic growth over time. a. True b. False ANSWER: a 276. In the Solow model, output increases when investment is greater than depreciation. a. True b. False ANSWER: a 277. Capital accumulation alone can explain sustained economic growth over long periods of time in many countries. a. True b. False ANSWER: b 278. Diminishing returns to capital mean that twice the amount of capital will lead to twice the amount of output. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. True b. False ANSWER: b 279. The concept of diminishing returns explains why China is growing so much faster than the United States. a. True b. False ANSWER: a 280. The marginal product of capital diminishes with the addition of more and more capital. a. True b. False ANSWER: a 281. The Solow model implies that countries farther below their steady states will grow more slowly than countries closer to their steady states. a. True b. False ANSWER: b 282. The Solow model implies that countries farther below their steady states will grow more quickly than countries closer to their steady states. a. True b. False ANSWER: a 283. Following World War II, the United States grew faster than Germany. a. True b. False ANSWER: b 284. China's growth will eventually slow as the marginal product of capital falls. a. True b. False ANSWER: a 285. Based on the Solow model, an earthquake that destroys half the capital stock in a country will increase growth in the years following the disaster. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. True b. False ANSWER: a 286. Based on the Solow model, an earthquake that destroys half the capital stock in a country will decrease growth in the years following the disaster. a. True b. False ANSWER: b 287. The high growth experienced by China in recent years is due primarily to better institutions and increases in its capital stock. a. True b. False ANSWER: a 288. The Solow growth model predicts that China and other developing countries will eventually surpass the leading economies of the world in terms of their level of real GDP per capita. a. True b. False ANSWER: b 289. Currently China is growing at a faster rate than the United States. Eventually, the rate of growth in China will slow down. a. True b. False ANSWER: a 290. Depreciation is defined as the wear and tear on capital goods. a. True b. False ANSWER: a 291. Investment is the process by which new capital is added to an economy. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 292. Unlike physical capital, human capital exhibits increasing returns. a. True b. False ANSWER: b 293. In the Solow model, when investment equals depreciation, the capital stock and output are constant. a. True b. False ANSWER: a 294. Capital is output that is consumed. a. True b. False ANSWER: b 295. In an economy with no technological advance, economic growth will continue if investment equals depreciation. a. True b. False ANSWER: b 296. Once an economy reaches its steady state, it will continue to grow indefinitely. a. True b. False ANSWER: b 297. The difference between investment and depreciation determines capital growth. a. True b. False ANSWER: a 298. If investment is greater than depreciation, an economy will be above its steady state. a. True b. False ANSWER: b 299. If investment is greater than depreciation, an economy will be below its steady state. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 b. False ANSWER: a 300. The level of the capital stock determines the level of output but not its growth rate, at least not in the very long run. a. True b. False ANSWER: a 301. An increase in the investment rate lowers the steady-state output. a. True b. False ANSWER: b 302. An increase in investment results in a higher level of steady-state output. a. True b. False ANSWER: a 303. Since 1960, the poorest OECD countries have grown the fastest. a. True b. False ANSWER: a 304. Among countries with similar steady-state output levels, there is a negative relationship between initial income levels and subsequent growth rates. a. True b. False ANSWER: a 305. To become rich, a poor country must invent new ideas. a. True b. False ANSWER: b 306. To maintain growth over very long periods of time, a country must adopt new ideas. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 ANSWER: a 307. Cutting-edge economic growth comes primarily from new ideas, new technologies, or new methods of management. a. True b. False ANSWER: a 308. The simplest form of the Solow model with no advances in technology predicts that economic growth will continue indefinitely in the long run. a. True b. False ANSWER: b 309. Among poor countries, economic growth comes primarily from new ideas, new technologies, or new methods of management. a. True b. False ANSWER: b 310. The growth rate of developed countries in the past century cannot be fully explained by the simple Solow model without advances in technology. a. True b. False ANSWER: a 311. Better ideas increase output directly because of higher productivity and indirectly because of capital accumulation. a. True b. False ANSWER: a 312. In the context of the Solow model, new ideas shift the production function upward. a. True b. False ANSWER: a 313. In the context of the Solow model, new ideas shift both the production function and the investment function upward. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 a. True b. False ANSWER: a 314. In the context of the Solow model, new ideas cause both cutting-edge growth and catching-up growth to occur over time. a. True b. False ANSWER: a 315. Institutions that are important to the development of knowledge and new ideas include a well-functioning market system, property rights, and the granting of patents. a. True b. False ANSWER: a 316. The nonrivalry of ideas means that different people cannot use the same idea simultaneously. a. True b. False ANSWER: b 317. The social benefits of research and development are equal to the private benefits. a. True b. False ANSWER: b 318. The social benefits of research and development are greater than the private benefits. a. True b. False ANSWER: a 319. Spillovers cause the social benefits of research and development to be greater than the private benefits. a. True b. False ANSWER: a 320. The most important incentive for research and development of new ideas is government funding. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 b. False ANSWER: b 321. The most important incentive for research and development of new ideas is the profit opportunity for private entrepreneurs. a. True b. False ANSWER: a 322. Most new idea creation today depends on government sponsorship. a. True b. False ANSWER: b 323. A good is nonrivalrous if more than one person can use it at the same time without impeding someone else's use of the good. a. True b. False ANSWER: a 324. As more countries gain wealth, private firms will increase R&D in anticipation of a larger market. a. True b. False ANSWER: a 325. A patient with a rare disease has the same chance of survival as one with a common disease, thanks to the spillover effect. a. True b. False ANSWER: b 326. Patents encourage new idea creation by temporarily granting monopoly status to inventors. a. True b. False ANSWER: a 327. The increase in world population will likely lead to an increase in ideas for production. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 b. False ANSWER: a 328. Both institutions and property rights are becoming less favorable to entrepreneurship throughout the world. a. True b. False ANSWER: b 329. Explain what the production function represents in the Solow model. ANSWER: A production function is an equation representing the relationship between output and the inputs (or factors of production) that generate that output. In the case of the Solow production function, the output represented is GDP. The inputs are physical capital, labor augmented by human capital, and ideas. Hence, the Solow production function provides a relationship between output and the quantity of physical capital, the number of workers along with their human capital, and the ideas used in the production process. 330. Explain why the marginal product of capital diminishes as more and more capital is used. ANSWER: The marginal product of capital is the increase in output from an increase in capital when all other inputs (such as labor) are held constant. When more and more capital is used with a fixed amount of labor, each worker has more and more capital to work with. For a time, the addition of capital makes workers more productive and marginal product rises. However, at some point, additional units of capital can no longer be used efficiently and each worker has so much capital that it goes unused. At this point, marginal product begins to fall. 331. If an economy with no growth in labor, education, or technology has a steady-state capital stock of 125,000 and a depreciation rate of 5%, what is the level of investment needed to maintain the steady state? ANSWER: When the economy is at the steady state, the capital stock will be constant, which requires that depreciation must equal investment. At the steady-state capital stock of 125,000, depreciation will be 125,000 × 0.05 = 6,250. This indicates that the level of investment needed to maintain this steady-state level of output is also 6,250. 332. An economy has a steady-state output level of 9. The economy's labor, technology, and education levels are constant and the economy is described by the production function . If the depreciation rate is 6%, what is the steady-state capital stock, and what is the investment rate needed to maintain it? ANSWER: If steady-state output is 9, then the steady-state capital stock (found by solving for K using the production function and evaluating at 9) is K = Y2 = 92 = 81. When the economy is at the steady state, the capital stock will be constant, which requires that depreciation must equal investment. At the steady-state capital stock of 81, depreciation will be 81 × 0.06 = 4.86. This indicates that the level of investment needed to maintain this steady-state level of output is also 4.86. The level of investment is given by Y, where is the investment rate. To generate a level of investment equal to 4.86 at the steady-state output level of 9, the investment rate required would be . Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 333. Suppose that production in an economy is represented by the production function Y = K1/4. If the investment rate is equal to 0.25 and the depreciation rate is equal to 0.10, calculate the steady-state levels of capital and output. ANSWER: The steady-state level of capital occurs when investment equals depreciation. Investment is equal to 0.25 × Y and depreciation is equal to 0.10 × K. Thus, the steady-state level of capital is where 0.25 × K1/4 = 0.10 × K. Solving for K provides 2.5 = K3/4 or K = 3.393. Using the production function to solve for steady-state output provides Y = K1/4 = 3.3931/4 = 1.357. 334. Consider an economy with production function Y = 2K1/2, an investment rate of 10%, and a depreciation rate of 5%. Assume there are no increases in labor, education, or technology. If the capital stock in this economy is currently 9, is this economy above, below, or at its steady state? What does this imply about growth in this economy? ANSWER: The steady state occurs when investment equals depreciation. Investment is equal to 0.10 × Y and depreciation is equal to 0.05 × K. Thus, the steady-state level of capital is where 0.10 × 2K1/2 = 0.05 × K. Solving for K provides 4 = K1/2 or K = 16. If the capital stock in this economy is currently 9 units, the economy is below its steady state. This implies that capital accumulation will occur and the economy will grow until it reaches its steady state. 335. In the context of the Solow model (with no growth in labor, education, or technology), explain how an increase in the investment rate will affect an economy's steady-state output level and its growth rate. ANSWER: An increase in the investment rate will shift the investment function upward, thus creating a new, higher steady-state level of output. As the economy moves from the old to the new steady state, capital accumulation and growth will occur. 336. Suppose an economy is in a steady state and its investment rate increases. Use the Solow model to explain why the increase in the investment rate will raise the steady-state output level. ANSWER: When the investment rate rises, annual investment will be higher than depreciation. This leads to an increase in the economy’s capital stock. With higher capital stock, output will rise and the amount of depreciation will rise. Capital stock and output will continue to rise until the annual amount of capital lost to depreciation rises to the level of the annual investment in capital. At this point, a new steady-state output level will be reached and capital stock will stabilize at a new steady state. 337. For over 25 years, China has experienced growth rates averaging 7% or more each year. According to research by economists, this “miracle” rapid growth occurred because of increases in capital and labor, not increases in technology. In the context of the Solow model, discuss what these findings imply about China's expected growth for the future. ANSWER: Eventually, growth in China will slow as returns to capital diminish. As capital continues to accumulate, the marginal product of capital will continue to fall along with growth rates of output. In the context of the Solow model, China's “catching-up” growth is slowing as it approaches its steady state. For continued growth in the long run, China will have to establish “cutting-edge” growth by developing new technology and better ideas about how to use its existing resources more productively. 338. a. Consider an economy operating with a capital stock K0, where K0 is below the economy's steady-state Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 capital stock. According to the Solow model, will the capital stock in this economy grow, shrink, or stay constant in the next period? Explain and illustrate graphically. b. Now, imagine that the economy is at its steady-state capital stock, KSS1. Suppose there is an increase in technology. How will this change manifest itself in the graph? Show the economy after this increase in technology. Where is the new steady-state level of capital and output? ANSWER: a. If the economy is initially below its steady state, investment is greater than depreciation at K0 and the capital stock will continue to grow from K0 until it reaches the steady state at which investment = depreciation, as shown in the accompanying graph.
b. After an increase in technology, both the production (output) function and investment curve will shift upward and the steady state will move from KSS1 to KSS2, as shown in the accompanying graph.
339. Explain why entrepreneurs are often viewed as job destroyers. ANSWER: Entrepreneurs tend to develop new and better ways of doing things, including the production of existing products. When these new and better ways to produce products replace people with machines, they lead to decreases in employment in those old jobs. 340. Explain why patents are important for innovation. ANSWER: Patents prevent a new product from being copied for a number of years. This allows the inventor of a new product to have a monopoly on the new product for the life of its patent. Without this protection, the incentive for invention and innovation would be greatly reduced. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 8 341. What are the positive and negative effects of patents on the creation of new ideas? ANSWER: Patents grant the creator of an idea exclusive rights to all proceeds from an idea for a period of time. Patents have positive and negative effects on the creation of ideas. On the positive side, since patents guarantee that any proceeds from an idea will go to the inventor, they increase the incentive to come up with new ideas. This higher incentive causes more creative activity and more new ideas. On the negative side, since the patent essentially gives the inventor a monopoly on the use of the idea, it limits the widespread use of (or at least raises the price of using) the idea by the rest of society. This limited use (or higher price) of ideas limits the benefits—or spillovers—to society that result from the use of an idea. Limiting spillovers means that too few new ideas will be created. 342. Why do spillovers in the production of new ideas lead to an underprovision of new ideas? ANSWER: The generation of new ideas requires an investment of resources in research and development. The resulting ideas are nonrival. This nonrival nature means that many can improve productivity by using the ideas, yielding benefits across the economy. However, this provides developers of such ideas, who invested resources into the ideas’ development, with few opportunities to recover research and development costs and provides others with the benefits of such ideas with little to no cost for their development. To the extent that this occurs, there is little incentive to invest in the research and development of new ideas. Thus, while new ideas can provide widespread improvements in productivity, they will be underproduced if there is no way for the developers to recover research and development costs. 343. Using a graph showing the private marginal cost, private marginal benefit, and social marginal benefit of the research and development of new ideas, show how government subsidies for research and development might mitigate the effect of spillovers. ANSWER: See the accompanying graph. The private marginal cost of R&D, initially at line 1, intersects the private benefits of R&D at level X, below the socially optimal level of investment in R&D that occurs at level Y. When governments subsidize firms' R&D expenses, they effectively reduce the private marginal cost of R&D to line 2. This allows firms to invest more in this research and brings the effective level of private investment to X1, which is closer to the socially optimal level of investment in R&D.
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Chapter 9 1. Saving is: a. the purchase of new capital goods. b. income that is not spent on consumption goods. c. the desire to have goods and services sooner rather than later (all else being equal). d. a sophisticated IOU that documents who owes how much and when payment must be made. ANSWER: b 2. Investment is: a. the purchase of new capital goods. b. income that is not spent on consumption goods. c. the desire to have goods and services sooner rather than later (all else being equal). d. a sophisticated IOU that documents who owes how much and when payment must be made. ANSWER: a 3. Buying stock in a company is: a. investment. b. divestment. c. a transfer of ownership rights. d. leverage. ANSWER: c 4. In economics, investment refers to the: a. purchase of new capital goods. b. purchase of stocks and bonds. c. amount of personal savings in a bank. d. fund used to settle a debt. ANSWER: a 5. In financial markets, which group best represents the demand side of the market? a. stock markets b. banks c. borrowers d. savers ANSWER: c 6. Which of the following do economists consider an investment? a. the purchase of bonds b. the purchase of stocks Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 c. the construction of a new factory d. the acquisition of gold ANSWER: c 7. Which of the following is NOT considered saving? a. making a deposit in a savings account at the bank b. buying a share of stock in a computer company c. buying a corporate bond d. paying tuition for a college education ANSWER: d 8. What is the portion of income that is NOT spent on consumption goods? a. investments b. profits c. asset retention d. savings ANSWER: d 9. Which of the following can be defined as saving, according to economics? a. General Motors issues corporate bonds. b. Microsoft sells stock at an initial public offering. c. Sandra purchases a certificate of deposit from a bank. d. Andrea finances her new car through an auto loan. ANSWER: c 10. Saving is: a. the purchase of new capital goods. b. the purchase of new consumption goods. c. income that is not spent on capital goods. d. income that is not spent on consumption goods. ANSWER: d 11. Investment is: a. the purchase of new capital goods. b. the purchase of new consumption goods. c. the purchase of gold and silver during inflationary times. d. the purchase of shares of stock on the New York Stock Exchange. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: a 12. When a person's income is greater than her spending on consumption goods, then she is: a. dissaving. b. saving. c. investing. d. disinvesting. ANSWER: b 13. Saving is defined as: a. income not spent on investment goods. b. income not spent on consumption goods. c. income not taxed by the government. d. the purchase of new capital goods. ANSWER: b 14. Investment is defined as: a. income not spent on investment goods. b. income not spent on consumption goods. c. income not taxed by the government. d. the purchase of new capital goods. ANSWER: d 15. A financial intermediary: a. increases the costs of moving savings from savers to borrowers and investors. b. coordinates between buyers and sellers of inputs. c. works to turn savings into investments. d. applies new technological discoveries in production processes. ANSWER: c 16. A financial intermediary helps to convert _____ into _____. a. investments; savings b. buyers; sellers c. expenditures on physical capital; expenditures on human capital d. income that is not spent on consumption; new capital ANSWER: d 17. In the field of economics, an investment is made when _____ is purchased. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. capital b. saving c. a security d. a share of stock ANSWER: a 18. The income that is not spent on consumption is: a. debt. b. saving. c. a bond. d. shadow income. ANSWER: b 19. Individual saving contributes to: a. the supply of loanable funds. b. the demand for loanable funds. c. both the supply of loanable funds and the demand for loanable funds. d. neither the supply of loanable funds nor the demand for loanable funds. ANSWER: a 20. Which of the following is NOT a reason individuals typically choose to save? a. to smooth their consumption over the lifecycle b. to offset fluctuations in income c. as a way to transfer income from good times to bad times d. to increase investment ANSWER: d 21. On the basis of their role in the financial system, venture capitalists are BEST described as: a. borrowers. b. savers. c. financial intermediaries. d. investors. ANSWER: b 22. Individuals typically enjoy _____ consumption. a. volatile b. periodic c. smooth Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 d. layered ANSWER: c 23. The AIDS epidemic _____ the savings rate in Africa. a. maintains b. increases c. decreases d. indeterminately changes ANSWER: c 24. If income and consumption are equal, saving must be: a. zero. b. positive and rising. c. positive and remaining relatively constant. d. negative. ANSWER: a 25. An increase in life expectancy should cause saving in the United States to: a. increase. b. decrease. c. remain unchanged. d. become more volatile. ANSWER: a 26. When a family's income becomes more uncertain, we expect its saving to: a. increase. b. decrease. c. remain unchanged. d. become more uncertain. ANSWER: a 27. Which of the following is NOT a reason people save during their working lifetimes? a. so they do not have to drastically reduce their consumption once they retire b. to consume later in life c. to take precautionary measures in case of job loss d. to allow for a more volatile consumption path over time ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 28. Fluctuations in income cause most people to: a. invest. b. save. c. spend all their income each year. d. retire at an early age. ANSWER: b 29. The main reason people save during their working years is: a. a preference toward a smooth consumption path over time. b. a high time preference for the present. c. an expectation that they will die early. d. a preference toward matching income with spending over time. ANSWER: a 30. The consumption-smoothing theory implies that a country whose people have a very low life expectancy has: a. low consumption. b. high investment. c. a low savings rate. d. a high borrowing rate. ANSWER: c 31. According to the consumption-smoothing theory, people with a longer life expectancy: a. invest more in their lifetimes than those with shorter life expectancy. b. have the same saving rates in their lifetimes as those with shorter life expectancy. c. have higher savings rates in their lifetimes than those with shorter life expectancy. d. have lower saving rates in their lifetimes than those with shorter life expectancy. ANSWER: c 32. Which is NOT a reason people save during their working lifetimes? a. They save for retirement, especially if average life expectancy is higher. b. They save to prepare for periods of unemployment. c. They save to prepare for unexpected hospitalizations or illnesses. d. They save to match income and spending from year to year. ANSWER: d 33. In reference to the consumption-smoothing theory, a person typically saves the most: a. during working years. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. during retirement years. c. as an infant. d. as a full-time student. ANSWER: a 34. Workers who put 10% of their income into a retirement account each year are: a. consuming all of their income. b. smoothing consumption. c. dissaving. d. trying to match income and spending. ANSWER: b 35. Why is saving so minimal in nations with a high population of AIDS victims? a. People with a short life expectancy tend to save less. b. Governments provide an extensive social safety net. c. Interest rates are not high enough. d. Unemployment rates are too high. ANSWER: a 36. A seasonal worker saves more when her income rises and saves less when her income falls. This behavior is referred to as: a. dissaving. b. consumption smoothing. c. impatience. d. time preference. ANSWER: b 37. All else being equal, time preference is the desire to: a. have goods and services sooner rather than later. b. delay the purchase of goods and services. c. have goods and services in retirement years. d. have goods and services that are made in the current year. ANSWER: a 38. Which of the following best represents time preference? a. Sarah is spending $20,000 per year in tuition and other expenses to attend college with the hope of earning a higher income in the future. b. Max saves $300 per month from his paychecks for retirement. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 c. Alex smokes a pack of cigarettes per day even though he knows that he may face poor health down the road because of his smoking habit. d. Thomas invests money in Apple today, which is subsequently used by Apple to fund additional investment purchases that will benefit future shareholders. ANSWER: c 39. Time preference is: a. the purchase of new capital goods. b. income that is not spent on consumption goods. c. the desire to have goods and services sooner rather than later (all other things being equal). d. a sophisticated IOU that documents who owes how much and when payment must be made. ANSWER: c 40. People with a high time preference are less likely to: a. engage in crime. b. use heroin. c. drop out of school. d. save. ANSWER: d 41. China has a higher saving rate than the United States. One economic explanation for this fact is that: a. Americans are more irrational than the Chinese. b. Americans are more rational than the Chinese. c. there is a lower rate of time preference for Americans than for the Chinese. d. there is a higher rate of time preference for Americans than for the Chinese. ANSWER: d 42. The desire to have goods and services sooner rather than later is called: a. investment. b. consumption smoothing. c. savings. d. time preference. ANSWER: d 43. All else being equal, a working-age person who has more patience tends to have: a. more savings. b. fewer savings. c. more collateral. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 d. less investment. ANSWER: a 44. Time preference is the desire to: a. save for a time when income will be reduced. b. have goods and services sooner rather than later. c. maximize return on investment in the shortest amount of time. d. increase longevity in order to have a greater income. ANSWER: b 45. What is an example of impatience in economic behavior? a. taking the first job you are offered b. insisting on getting a physical exam every year c. asking for your grade right after finishing a test d. eating a healthy diet every day ANSWER: a 46. The supply of savings function shows the relationship between saving and: a. consumption. b. income. c. age. d. the interest rate. ANSWER: d 47. The supply of savings function is: a. upward sloping. b. downward sloping. c. vertical. d. horizontal. ANSWER: a 48. The supply of savings is positively sloped because: a. firms borrow more when interest rates are low. b. people are enticed to forego consumption when interest rates are higher. c. when people have more incomes they save more. d. higher interest rates cause people to save less. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 49. If the interest rate increases, then: a. the quantity saved will decrease, but the quantity supplied of loanable funds will increase. b. the quantity saved will increase, but the quantity supplied of loanable funds will decrease. c. both the quantity saved and the quantity supplied of loanable funds will decrease. d. both the quantity saved and the quantity supplied of loanable funds will increase. ANSWER: d 50. If $100 is saved at an annual interest rate of 10%, at the end of the one year, the saver will have: a. $11. b. $110. c. $10. d. $111. ANSWER: b 51. The price of savings is: a. the interest rate. b. the investment rate. c. the savings rate. d. the rate of time preference. ANSWER: a 52. Which of the following explains why the supply of savings is upward sloping? a. An increase in the interest rate leads to an increase in the quantity of saving. b. An increase in the interest rate leads to an increase in the opportunity cost of saving. c. An increase in investment leads to an increase in the level of saving. d. An increase in time preference leads to an increase in the quantity of saving. ANSWER: a 53. Higher interest rates typically _____ saving, ceteris paribus. a. decrease b. maintain c. increase d. indeterminately change ANSWER: c 54. People will usually save more if the interest rate: a. is higher. b. is lower. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 c. moves erratically. d. is zero. ANSWER: a 55. The supply curve for savings indicates that the higher the interest rate, the: a. larger the quantity saved. b. smaller the quantity saved. c. larger the saver's income. d. smaller the saver's income. ANSWER: a 56. The supply of savings curve shows the relationship between savings and: a. income. b. investment. c. age d. the interest rate. ANSWER: d 57. The savings supply curve is: a. upward sloping. b. downward sloping. c. horizontal. d. vertical. ANSWER: a 58. Which is NOT one of the four major factors that determine the supply of savings? a. government policy b. interest rates c. impatience d. smoothing consumption ANSWER: a 59. Household saving and dissaving to even out consumption spending are known as: a. flattening the consumption curve. b. shadowing consumption. c. dollar averaging. d. smoothing consumption. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: d 60. When a household spends more than its current income, it is: a. saving. b. shadowing. c. dissaving. d. investing. ANSWER: c 61. Individuals tend to prefer to: a. save for purchases rather than borrow. b. save when they are younger to spend in retirement. c. have things later rather than sooner. d. have things sooner rather than later. ANSWER: d 62. Consumers who consider purchasing a good or service, even though the costs and benefits of purchasing the good or service do not occur in the same time period, tend to give greater weight to: a. benefits rather than costs. b. costs rather than benefits. c. the future rather than the present. d. the present rather than the future. ANSWER: d 63. The more impatient someone is, the more they tend to prefer to: a. consume now rather than later. b. save now rather than later. c. incur costs now rather than later. d. aggressively work now to retire later. ANSWER: a 64. In the Marshmallow Test, children who _____ ended up _____ later in life. a. preferred soft marshmallows over dry crackers; seeking an easy way out of problems b. were willing to wait to get twice as many marshmallows; earning higher grades c. ate marshmallows whole rather than in small bites; being less cautious d. melted marshmallows before eating them; converting savings into investments ANSWER: b 65. The field of study that combines economics, psychology, and neurology is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. economic brain studies. b. psychonomics. c. neuro-economics. d. behavioral economics. ANSWER: d 66. Which is NOT a main field of study that is part of behavioral economics? a. sociology b. psychology c. economics d. neurology ANSWER: a 67. The lower the interest rate, the _____ the quantity of saving. a. more steady b. more unpredictable c. greater d. lower ANSWER: d 68. Consumption smoothing means: a. never borrowing. b. borrowing every year to consume more than one earns. c. borrowing to consume more than one's income in high-income years and consuming less than one's income in low-income years. d. borrowing to consume more than one's income in low-income years and consuming less than one's income in high-income years. ANSWER: d 69. According to the lifecycle theory of savings, a typical person's: a. saving is smooth over their entire lifetime. b. consumption is smooth over their entire lifetime. c. consumption in a given year is related to their income in that year. d. saving is the highest when they die. ANSWER: b 70. People smooth their consumption over their lifetime by: a. saving. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. borrowing. c. both borrowing and saving. d. neither borrowing nor saving. ANSWER: c 71. Other things being equal, a person typically has the largest pool of savings: a. upon completing school. b. during the first year of working full time. c. immediately before retirement. d. at the time of death. ANSWER: c 72. Most individuals save during: a. the early years of life only. b. the middle years of life only. c. the later years of life just before retirement. d. the middle and later years of life before retirement. ANSWER: d 73. Economist Franco Modigliani's lifecycle theory of savings proposes that in order to maximize lifetime satisfaction, consumers: a. practice consumption smoothing by borrowing and saving. b. borrow equal amounts throughout the lifecycle. c. save equal amounts throughout their lifecycle. d. consume what they earn each year. ANSWER: a 74. The lifecycle theory of savings predicts that individuals will save during: a. the early years of life. b. the working years of life. c. the retirement years of life. d. all phases of life. ANSWER: b 75. Which of the following is TRUE about the lifecycle theory of savings? a. People tend to save during the early years of their lifetimes, dissave during their prime working years, and borrow during their retirement years. b. People tend to borrow during the early years of their lifetimes, invest during their prime working Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 years, and save during their retirement years. c. People tend to borrow during the early years of their lifetimes, save during their prime working years, and dissave during their retirement years. d. People tend to save during the early years of their lifetimes, borrow during their prime working years, and invest during their retirement years. ANSWER: c 76. At which stage in life does someone generally dissave the most? a. shortly after taking the first job b. during middle age c. while raising a family d. during retirement ANSWER: d 77. What theory describes a pattern of early borrowing followed by a period of saving and then dissaving late in a worker's lifetime? a. the lifecycle theory of savings b. the career theory of dissaving c. the demand theory of borrowing d. the theory of cyclical smoothing ANSWER: a 78. Why is the demand to borrow positively related to the rate of economic growth? a. Lenders obtain additional wealth. b. It provides motivation to keep spending to a minimum. c. The incentive to invest is enhanced by economic growth. d. It increases the opportunity cost of borrowing. ANSWER: c 79. Which of the following is NOT an example of the need to borrow to finance large investments? a. Megan takes out a mortgage in order to purchase her first home. b. The government issues additional bonds in order to build a new interstate highway system. c. Jamie pays for college by working two jobs on the weekends. d. A real estate developer applies for a $1 million loan in order to build a new golf course. ANSWER: c 80. In the lifecycle theory of savings, the sequence of behavior is as follows: a. borrow, dissave, save. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. borrow, save, dissave. c. save, borrow, dissave. d. save, dissave, borrow. ANSWER: b 81. In the lifecycle theory of saving, one's consumption path is _____ one's income path. a. more volatile than b. less volatile than c. as volatile as d. equal to ANSWER: b 82. The supply of loanable funds comes from _____, and the demand for loanable funds comes from _____. a. saving; investment b. investment; saving c. saving; consumption d. investment; consumption ANSWER: a 83. The demand to borrow shows the relationship between borrowing and: a. income. b. investment. c. age. d. the interest rate. ANSWER: d 84. The demand to borrow function is: a. upward sloping. b. downward sloping. c. horizontal. d. vertical. ANSWER: b 85. Some businesses can't start small, and therefore: a. they must borrow or attract venture capitalists to start at all. b. none of these businesses ever get off the ground. c. they are no different from any other business. d. these businesses are always owned by the government. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: a 86. In economics, investment refers to: a. saving. b. dissaving. c. the purchase of consumption goods. d. the purchase of capital goods. ANSWER: d 87. Which of the following is NOT a reason people borrow? a. to engage in consumption smoothing b. to sustain themselves through periods of unemployment c. to fund unexpected expenditures d. to equalize income and spending period by period ANSWER: d 88. Which of the following is NOT a reason firms and individuals borrow? a. They want to smooth consumption. b. Debt is often necessary for large purchases. c. They believe their return will be greater than the interest rate. d. They desire to have equal income and spending every period. ANSWER: d 89. Businesses will take out additional loans only if: a. they have no other way to obtain funds. b. the interest rate is less than the expected rate of return on their investment. c. the demand for investment is equal to the supply of savings. d. the interest rate is less than the cost of borrowing. ANSWER: b 90. Higher interest rates typically _____ borrowing, ceteris paribus. a. decrease b. maintain c. increase d. indeterminately change ANSWER: a 91. People will usually borrow more if the interest rate: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. is higher. b. is lower. c. moves erratically. d. is stable. ANSWER: b 92. When the interest rate increases, the: a. amount of savings in banks decreases. b. amount of borrowing to finance investments decreases. c. cost of borrowing decreases. d. return on investments increases. ANSWER: b 93. Why is the demand for loanable funds downward sloping? a. People save less when the interest rate is low. b. More people borrow money when interest rates are low than when they are high. c. Fewer investment projects have returns that can beat higher interest rates, so people are more willing to invest at higher interest rates. d. People save more when the interest rate is high. ANSWER: b 94. The demand to borrow function shows the relationship between borrowing money and: a. consumption. b. income. c. age. d. the interest rate. ANSWER: d 95. The demand to borrow function is: a. upward sloping. b. downward sloping. c. vertical. d. horizontal. ANSWER: b 96. At lower interest rates, the cost of investing _____ and the quantity of funds demanded for investment _____. a. decreases; increases Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. increases; decreases c. increases; increases d. decreases; decreases ANSWER: a 97. At an interest rate of 8%, the quantity of funds that borrowers demand is $30 billion. At 4%, borrowers would want to borrow: a. $20 billion. b. $25 billion. c. $30 billion. d. $45 billion. ANSWER: d 98. If the interest rate rises from 5% to 9%, the number of new businesses will: a. increase. b. decrease. c. remain the same. d. sharply increase, then level off. ANSWER: b 99. People do NOT borrow funds to: a. smooth consumption over time. b. make large investments. c. accumulate savings. d. cover the cost of current consumption expenditures that are in excess of their income. ANSWER: c 100. The idea that people smooth out consumption through saving and borrowing was pioneered by _____ in the _____ theory of savings. a. Franco Modigliani; lifecycle b. Franco Modigliani; time smoothing c. Adam Smith; lifecycle d. Adam Smith; time smoothing ANSWER: a 101. Which is NOT an example of a major reason that funds are borrowed to make large investments in physical capital and human capital? a. A woman uses her entire savings for a down payment and borrows to cover the cost of equipment and a factory building to produce a good she has recently developed. She did not have the funds to Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 produce the good without the loan. b. Rather than raising taxes today to pay for a new bridge that will facilitate transportation and economic growth, the government borrows to cover the cost of the bridge with plans to repay the loan later with additional tax revenue. c. A student borrows to cover university tuition with the expectation that his loan payments can be made out of future earnings that will be higher due to his investment in human capital. d. A woman chooses to borrow funds to buy a new car rather than choosing to withdraw funds from her savings to pay in cash. ANSWER: d 102. A business loan is only profitable when the: a. cost of the loan is less than the additional revenue gained because of the investment. b. cost of the loan is less than total revenue earned in the future. c. additional revenue gained from the investment is less than the cost of the loan. d. total revenue earned in the future is less than the cost of the loan. ANSWER: a 103. There is a(n) _____ relationship between the interest rate and the quantity of funds that borrowers demand. a. positive b. negative c. circular d. unpredictable ANSWER: b 104. If the interest rate decreases with other things unchanged, the quantity of funds investors want to borrow will: a. decrease. b. increase. c. remain the same. d. change unpredictably. ANSWER: b 105. If the interest rate increases with other things unchanged, the quantity of funds investors want to borrow will: a. decrease. b. increase. c. remain the same. d. change unpredictably. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 106. Borrowers _____ and savers _____. a. supply loans; demand loans b. demand loans; supply investments c. supply savings; demand to borrow d. demand to borrow; supply savings ANSWER: d 107. Borrowed funds are demanded by _____, while borrowed funds are supplied by _____. a. private citizens; the government b. the government; private citizens c. investors; savers d. savers; investors ANSWER: c 108. Figure: Loanable Funds Market
At an interest rate of 3% in this market, there is a _____ of loanable funds of _____. a. shortage; $320 b. surplus; $250 c. shortage; $250 d. surplus; $320 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: a 109. Figure: Loanable Funds Market
At an interest rate of 6% in this market, there is a _____ of loanable funds of _____. a. shortage; $320 b. surplus; $250 c. shortage; $250 d. surplus; $320 ANSWER: d 110. Figure: Loanable Funds Market
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Chapter 9
This market will be in equilibrium when the interest rate is _____ and the quantity of loanable funds is _____. a. 3.0%; $180 b. 4.5%; $180 c. 4.5%; $250 d. 6.0%; $500 ANSWER: c 111. Figure: Loanable Funds Market
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Chapter 9
The equilibrium interest rate in this market is: a. 3.0%. b. 4.5%. c. 6.0%. d. above 6.0%. ANSWER: b 112. Figure: Loanable Funds Market
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Chapter 9
The equilibrium quantity of loanable funds in this market is: a. $180. b. $250. c. $500. d. more than $500. ANSWER: b 113. Which variable is determined in the market for loanable funds? a. income b. consumption c. investment d. the interest rate ANSWER: d 114. Figure: Market for Loanable Funds
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Chapter 9
If the interest rate is 3% in this market for loanable funds, then: a. investment exceeds savings by $200 million. b. investment exceeds savings by $100 million. c. borrowing demands exceed savings by $200 million. d. borrowing demands exceed savings by $100 million. ANSWER: d 115. Figure: Market for Loanable Funds
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Chapter 9
If the interest rate is 5% in this market for loanable funds, then: a. savings exceed investment by $200 million. b. savings exceed investment by $100 million. c. savings exceed borrowing demands by $200 million. d. savings exceed borrowing demands by $100 million. ANSWER: d 116. Figure: Market for Loanable Funds
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Chapter 9
Equilibrium in this market for loanable funds occurs when the interest rate is: a. 3%. b. 4%. c. 5%. d. higher than 5%. ANSWER: b 117. Figure: Market for Loanable Funds
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Chapter 9
Equilibrium in this market for loanable funds occurs when the quantity of loanable funds is: a. $100 million. b. $150 million. c. $200 million. d. more than $200 million. ANSWER: b 118. Trading in the market for loanable funds determines the equilibrium: a. level of savings. b. amount of borrowing. c. interest rate. d. level of savings, amount of borrowing, and interest rate. ANSWER: d 119. The loanable funds market is the market where: a. the government brings buyers and sellers together to finance capital expenditures. b. equilibrium interest rates are determined by the actions of borrowers and lenders. c. stocks are bought and sold. d. overall investment rates in the economy are determined. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: b 120. A shortage of savings in the loanable funds market will: a. drive market interest rates down. b. drive market interest rates up. c. increase the supply of loanable funds. d. increase the demand for loanable funds. ANSWER: b 121. A surplus of savings in the loanable funds market will: a. drive market interest rates down. b. drive market interest rates up. c. increase the supply of loanable funds. d. increase the demand for loanable funds. ANSWER: a 122. If the demand for loanable funds increases, ceteris paribus, interest rates will: a. increase. b. decrease. c. remain the same. d. change indeterminately. ANSWER: a 123. If the demand for loanable funds decreases, ceteris paribus, interest rates will: a. increase. b. decrease. c. remain the same. d. change indeterminately. ANSWER: b 124. If the supply of loanable funds increases, ceteris paribus, interest rates will: a. increase. b. decrease. c. remain the same. d. change indeterminately. ANSWER: b 125. If the supply of loanable funds decreases, ceteris paribus, interest rates will: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. increase. b. decrease. c. remain the same. d. change indeterminately. ANSWER: a 126. If the interest rate in the market for loanable funds is below the market-clearing rate, then: a. individuals will become more impatient. b. individuals will become less impatient. c. there will be a shortage of savings, and demanders will bid the interest rate up as they compete to borrow. d. there will be a surplus of savings, and suppliers will bid the interest rate down as they compete to lend. ANSWER: c 127. If individuals become more impatient, what will happen in the market for loanable funds? a. The supply of loanable funds will decrease, interest rates will fall, and the quantity of saving and borrowing will increase. b. The supply of loanable funds will increase, interest rates will rise, and the quantity of saving and borrowing will decrease. c. The supply of loanable funds will increase, interest rates will fall, and the quantity of saving and borrowing will increase. d. The supply of loanable funds will decrease, interest rates will rise, and the quantity of saving and borrowing will decrease. ANSWER: d 128. In the market for loanable funds: a. banks supply loanable funds and the government demands loanable funds. b. both savers and borrowers supply and demand loanable funds. c. savers demand loanable funds and borrowers supply loanable funds. d. savers supply loanable funds and borrowers demand loanable funds. ANSWER: d 129. Equilibrium in the market for loanable funds takes place when: a. the quantity supplied of savings is greater than the quantity demanded for borrowing. b. the quantity supplied of savings is less than the quantity demanded for borrowing. c. the quantity supplied of savings is equal to the quantity demanded for borrowing. d. the supply of savings is greater than the demand for borrowing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: c 130. Figure: Loanable Funds Expansion
Which of the following reasons could cause the demand curve for loanable funds to shift to the right from DLF to D1LF in the figure? a. The economy is expected to boom, thereby increasing investment returns. b. Larger investment projects with potentially higher returns get funded. c. Falling interest rates make it less expensive for firms to borrow. d. Rising interest rates make it more attractive for savers to save. ANSWER: a 131. Figure: Loanable Funds Expansion
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Chapter 9
In the accompanying figure, if the demand for loanable funds increases from DLF to D1LF and the supply of loanable funds remains at SLF, the equilibrium interest rate will: a. increase to i1. b. remain at i0. c. fall below i0. d. increase to i1 temporarily and then return to i0. ANSWER: a 132. Figure: Loanable Funds Contraction
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Chapter 9
Which of the following reasons could cause the supply curve for loanable funds to shift to the left from S1LF to SLF in the figure? a. The economy is expected to go into a recession. b. An existing investment tax credit is abolished. c. The government ceases taxing interest earnings. d. Consumers become less patient. ANSWER: d 133. Figure: Loanable Funds Contraction
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Chapter 9
In the accompanying figure, if the supply of loanable funds decreases from S1LF to SLF and the demand for loanable funds remains at D1LF, the equilibrium interest rate will: a. increase to i1. b. remain at i0. c. fall to i2. d. increase or decrease temporarily and then return to i0. ANSWER: a 134. When individuals become more willing to save, the: a. demand to borrow shifts to the right. b. demand to borrow shifts to the left. c. supply of savings shifts to the right. d. supply of savings shifts to the left. ANSWER: c 135. When business firms become more pessimistic about the state of the economy, the: a. demand to borrow shifts to the right. b. demand to borrow shifts to the left. c. supply of savings shifts to the right. d. supply of savings shifts to the left. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: b 136. When individuals become more willing to save because their incomes have increased, the interest rate _____ and the quantity of borrowing and lending _____. a. increases; increases b. increases; decreases c. decreases; decreases d. decreases; increases ANSWER: d 137. When business firms become more pessimistic about the state of the economy, the interest rate _____ and the quantity of borrowing and lending _____. a. increases; increases b. increases; decreases c. decreases; decreases d. decreases; increases ANSWER: c 138. An investment tax credit will cause the interest rate to _____ and borrowing to _____. a. increase; increase b. increase; decrease c. decrease; decrease d. decrease; increase ANSWER: a 139. If consumers expect to have a shorter life expectancy and desire to save less, then the: a. demand for loanable funds will increase and the equilibrium interest rate will increase. b. demand for loanable funds will decrease and the equilibrium interest rate will decrease. c. supply of loanable funds will decrease and the equilibrium interest rate will increase. d. supply of loanable funds will increase and the equilibrium interest rate will decrease. ANSWER: c 140. If the government raises taxes on investment returns, then the: a. demand for loanable funds will increase and the equilibrium interest rate will increase. b. demand for loanable funds will decrease and the equilibrium interest rate will decrease. c. supply of loanable funds will decrease and the equilibrium interest rate will increase. d. supply of loanable funds will increase and the equilibrium interest rate will decrease. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 141. Which of the following would be the most likely to cause an increase in the demand for loanable funds? a. a decrease in the interest rate b. an increase in savings c. a decrease in consumption d. an increase in government borrowing ANSWER: d 142. An increase in the supply of savings will cause the interest rate to: a. remain unchanged. b. decrease. c. increase. d. increase or decrease depending on the elasticity of demand for loanable funds. ANSWER: b 143. What economic activity did many South Korean citizens engage in during the 1960s and 1970s that helped their country increase its growth rate? a. increased consumer spending b. increased their saving c. bought and sold stocks and bonds d. only bought goods made in South Korea ANSWER: b 144. What temporary policy is often used by the government to combat the decreased investment demand during a recession? a. decreasing government spending b. reducing regulations affecting firms c. selling more bonds d. offering an investment tax credit ANSWER: d 145. A decrease in investment demand: a. results in the same equilibrium as an increase in savings. b. decreases both the amount saved and the interest rate. c. increases the amount saved but decreases the interest rate. d. increases the supply of savings. ANSWER: b 146. At an 8% interest rate, the quantity of savings is $250 billion. What would the quantity of savings be if the interest rate fell to 5%? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. $190 billion b. $250 billion c. $300 billion d. $500 billion ANSWER: a 147. What effect will an investment tax credit have on interest rates and the quantity of savings? a. There will be no effect, because investment tax credits only affect the amount of taxes paid by firms. b. Both interest rates and the quantity of savings will increase. c. Interest rates will decrease and the quantity of savings will increase. d. Interest rates will not change, but the quantity of savings will decrease. ANSWER: b 148. If the recent financial crisis raises awareness about the dangers of not saving, leading to an increase in overall savings rates across the country, the loanable funds market will experience an increase in the _____ loanable funds and _____ in equilibrium interest rates. a. demand for; an increase b. supply of; an increase c. demand for; a decrease d. supply of; a decrease ANSWER: d 149. If an increase in the expected future returns on investment leads to an increase in the current level of investment projects undertaken, the loanable funds market will experience an increase in the _____ loanable funds and _____ in equilibrium interest rates. a. demand for; an increase b. supply of; an increase c. demand for; a decrease d. supply of; a decrease ANSWER: a 150. If the government decides to drastically increase spending (and by extension the budget deficit) during an economic recession, it will increase the _____ loanable funds and _____ equilibrium interest rates. a. demand for; increase b. demand for; decrease c. supply of; decrease d. supply of; increase ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 151. If the supply of loanable funds increases and the demand for loanable funds increases at the same time, interest rates will: a. increase. b. decrease. c. remain the same. d. increase, decrease, or remain the same. ANSWER: d 152. If the supply of loanable funds increases and the demand for loanable funds decreases at the same time, interest rates will: a. increase. b. decrease. c. remain the same. d. increase, decrease, or remain the same. ANSWER: b 153. If the supply of loanable funds decreases and the demand for loanable funds increases at the same time, interest rates will: a. increase. b. decrease. c. remain the same. d. increase, decrease, or remain the same. ANSWER: a 154. If the supply of loanable funds decreases and the demand for loanable funds decreases at the same time, interest rates will: a. increase. b. decrease. c. remain the same. d. increase, decrease, or remain the same. ANSWER: d 155. If the demand for loanable funds increases, ceteris paribus, the quantity of loanable funds exchanged will: a. increase. b. decrease. c. remain the same. d. increase, decrease, or remain the same. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 156. If the demand for loanable funds decreases, ceteris paribus, the quantity of loanable funds exchanged will: a. increase. b. decrease. c. remain the same. d. change indeterminately. ANSWER: b 157. If the supply of loanable funds increases, ceteris paribus, the quantity of loanable funds exchanged will: a. increase. b. decrease. c. remain the same. d. change indeterminately. ANSWER: a 158. If the supply of loanable funds decreases, ceteris paribus, the quantity of loanable funds exchanged will: a. increase. b. decrease. c. remain the same. d. change indeterminately. ANSWER: b 159. If investors become less optimistic about the economy, which of the following best describes behavior in the loanable funds market? a. An increase in supply results in an increase in the interest rate. b. A decrease in supply results in a decrease in the interest rate. c. A decrease in demand results in a decrease in the interest rate. d. An increase in demand results in an increase in the interest rate. ANSWER: c 160. As a result of an increase in the supply of savings: a. both the interest rate and the demand for borrowing decrease. b. the interest rate increases, but the demand for borrowing decreases. c. both the interest rate and the demand for borrowing increase. d. the interest rate decreases, but the amount of borrowing increases. ANSWER: d 161. An investment tax credit results in: a. an increase in the demand for loanable funds and an increase in the interest rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. a decrease in the demand for loanable funds and a decrease in the interest rate. c. an increase in the supply of loanable funds and an decrease in the interest rate. d. a decrease in the supply of loanable funds and an increase in the interest rate. ANSWER: a 162. An increase in the supply of saving curve will cause the equilibrium interest rate to: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. ANSWER: b 163. An increase in the supply of saving curve will cause the equilibrium quantity of saving to: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. ANSWER: a 164. An increase in the supply of saving curve will cause the equilibrium quantity of borrowing to: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. ANSWER: a 165. An increase in the demand for borrowing will cause the equilibrium interest rate to: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. ANSWER: a 166. An increase in the demand for borrowing will cause the equilibrium quantity of saving to: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: a 167. An increase in the demand for borrowing will cause the equilibrium quantity of borrowing to: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. ANSWER: a 168. In the market for loanable funds, the interest rate functions as: a. the quantity. b. the price. c. demand. d. supply. ANSWER: b 169. If the demand for loanable funds decreases, the interest rate _____ and the amount of funds borrowed _____. a. falls; increases b. rises; increases c. falls; decreases d. rises; decreases ANSWER: c 170. If the demand for loanable funds increases, the interest rate _____ and the amount of funds borrowed _____. a. falls; increases b. rises; increases c. falls; decreases d. rises; decreases ANSWER: b 171. If the supply of loanable funds decreases, the interest rate _____ and the amount of funds borrowed _____. a. falls; increases b. rises; increases c. falls; decreases d. rises; decreases ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 172. If the supply of loanable funds increases, the interest rate _____ and the amount of funds borrowed _____. a. falls; increases b. rises; increases c. falls; decreases d. rises; decreases ANSWER: a 173. Firms raise money by using which two methods? a. selling stocks and issuing Treasury bills b. selling stocks and issuing corporate bonds c. borrowing from banks and borrowing from the government d. borrowing from international countries and from the government ANSWER: b 174. Which of the following is an example of a financial intermediary? a. commercial banks b. the bond market c. the stock market d. commercial banks, the bond market, and the stock market ANSWER: a 175. Stock shares represent _____ and bonds represent _____. a. corporate debt; corporate ownership b. corporate debt; corporate debt c. corporate ownership; corporate ownership d. corporate ownership; corporate debt ANSWER: d 176. Which of the following institutions channels loanable funds from savers to borrowers? a. the Treasury Department b. Congress c. the Internal Revenue Service d. financial intermediaries ANSWER: d 177. For savers, the role of financial intermediaries is to: a. earn more returns on their investments. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. ensure that all borrowers can fund their investments. c. reduce the default risk on money they save and lend. d. avoid taxes from income earned on investments. ANSWER: c 178. Which of the following best describes the role of banks in the loanable funds market? a. Banks own the supply of loanable funds and distribute them to borrowers. b. Banks act as nonprofit middlemen whose primary goal is to facilitate trade in the loanable funds market. c. Banks act as profit-seeking institutions, taking the supply of loanable funds from households and distributing it to borrowers. d. Banks are the primary demanders of loanable funds and thus have an important role in setting interest rates. ANSWER: c 179. Which of the following is NOT a role that banks play in the loanable funds market? a. minimize information costs b. reduce opportunity costs c. spread risk d. provide middleman services ANSWER: b 180. Financial intermediaries: a. reduce the costs of moving savings from savers to borrowers and investors. b. have liabilities that exceed their assets. c. are inefficient middlemen, raising the cost of economic activity. d. profit by keeping resources in their least valuable uses. ANSWER: a 181. Which of the following is NOT a role of commercial banks? a. evaluate business ideas b. issue government bonds c. spread risk d. facilitate the payment system ANSWER: b 182. What is a service that banks specialize in providing? a. providing the highest return available in the market Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. seeking to pass all of the returns on investment to the savers c. evaluating the quality of investment opportunities d. making sure all funds are distributed in the most equitable fashion ANSWER: c 183. Which of the following functions is NOT performed by commercial banks? a. They provide a safe opportunity for savers to earn interest on their savings. b. They direct money to its highest valued uses. c. They help form the bridge between savers and investors. d. They organize initial public offerings for firms. ANSWER: d 184. How do banks engage in specialization and division of labor? a. Banks are the only avenue for savers to save their money and for borrowers to borrow for projects. b. Banks specialize in lending to risky borrowers. c. Banks coordinate the collection of lenders' funds and employ specialists in risk assessment to ensure that the funds are safely used. d. Banks specialize in facilitating IPOs. ANSWER: c 185. Which of the following chains of logic explain the functions of banks in the process of economic growth? a. Savers deposit their savings in banks. Banks direct these funds to firms that invest and engage in capital accumulation that furthers economic growth. b. Savers deposit their savings in banks. Banks engage in capital accumulation, which plays an important role in economic growth. c. Firms borrow from stock and bond markets issued through banks. These funds are used for investment, which leads to the capital accumulation that furthers economic growth. d. The demand for loanable funds is determined by banks and that demand fuels investment that in turn furthers economic growth. ANSWER: a 186. Crowding out occurs because the government increases the demand for loanable funds, drives up interest rates, and causes: a. saving to rise. b. saving to fall. c. consumption and private investment to rise. d. consumption and private investment to fall. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 187. Which of the following is NOT a characteristic of a Treasury bill (T-bill)? a. It has coupon payments. b. It has a maturity of 26 weeks or less. c. It is sold at a discount from its face value. d. Its price fluctuates with T-bill demand. ANSWER: a 188. Which of the following is NOT a characteristic of a Treasury bill (T-bill)? a. It has an implicit interest rate. b. It reaches maturity after 30 years. c. It is sold at a discount from its face value. d. It has almost zero default risk. ANSWER: b 189. A bond is a(n): a. liability for the issuer. b. asset for the issuer. c. promise by the buyer to pay. d. asset for the issuer and a promise by the buyer to pay. ANSWER: a 190. Which of the following represents loaning money to a firm? a. buying a bond b. selling a bond c. buying stock d. selling a stock ANSWER: a 191. Junk bonds are bonds: a. issued by garbage companies. b. backed by subprime mortgages. c. rated lower than BBB–. d. that mature 30 years into the future. ANSWER: c 192. An increase in government borrowing will cause the: a. demand for borrowing to shift to the right. b. demand for borrowing to shift to the left. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 c. supply of savings to shift to the right. d. supply of savings to shift to the left. ANSWER: a 193. An increase in government borrowing will cause the interest rate to: a. rise and private spending to rise. b. rise and private spending to fall. c. fall and private spending to fall. d. fall and private spending to rise. ANSWER: b 194. When the U.S. government borrows, it sells: a. federal paper. b. Treasury bonds. c. government stocks. d. federal paper, Treasury bonds, and government stocks. ANSWER: b 195. A corporation is planning to construct new offices, but it has limited funds. The corporation is likely to: a. supply loanable funds by selling bonds. b. supply loanable funds by buying bonds. c. demand loanable funds by selling bonds. d. demand loanable funds by buying bonds. ANSWER: c 196. In the loanable funds market, an increase in government borrowing will most likely: a. decrease bond prices and increase interest rates. b. increase bond prices and decrease interest rates. c. increase both bond prices and interest rates. d. decrease both bond prices and interest rates. ANSWER: a 197. The crowding-out effect of government borrowing refers to a decrease in: a. private consumption only. b. private investment only. c. both private consumption and private investment. d. neither private consumption nor private investment. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: c 198. The potential of a bond issuer not being able to repay the bondholder is called: a. moral hazard. b. default risk. c. payment jeopardy. d. repayment peril. ANSWER: b 199. Why do rating agencies rate bonds? a. to indicate the chance of a bond being repaid b. to show a bond's probable rate of return c. to validate the amount of collateral involved d. to verify the cost of the bond ANSWER: a 200. What does “crowding out” mean? a. Government borrowing causes private investment and consumption to decrease. b. Too many private lenders make it difficult for the government to borrow. c. Too many private savers compete for higher rates of return. d. The government gives tax breaks to many segments of the economy at one time. ANSWER: a 201. The buying and selling of equally risky assets to ensure equal returns is called: a. risk exchange. b. default swap. c. arbitrage. d. crowding out. ANSWER: c 202. If bond prices fall, what happens to interest rates? a. They will fall. b. They remain stable. c. They initially fall, and then return to their initial level. d. They will rise. ANSWER: d 203. If a zero-coupon bond with a face value of $1,000 costs $800, then the rate of return if held to maturity would be: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. –20%. b. 20%. c. –25%. d. 25%. ANSWER: d 204. When bond prices increase, interest rates: a. must increase. b. must decrease. c. will not change. d. will first increase and then decrease. ANSWER: b 205. A saver buys a $10,000 zero-coupon government bond for $9,375. When it matures a year from now, what will be the approximate implied interest rate? a. 625.00% b. 6.25% c. 6.67% d. 12.67% ANSWER: c 206. If zero-coupon bonds are available with an implied interest rate of 5% and a face value of $30,000, what is the approximate purchase price for those bonds? a. $28,571.43 b. $30,000.00 c. $1,428.57 d. $31,428.57 ANSWER: a 207. After purchasing a zero-coupon bond for $945 (its face value is $1,000), news arrives that interest rates on savings accounts at banks have risen to 7%. As a result of the change in interest rates, the price of this bond will: a. rise by $10.42. b. fall by $10.42. c. fall by $66.12. d. rise by $66.12. ANSWER: b 208. Which of the following statements is NOT true? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. Interest rates and bond prices move inversely with each other. b. Corporate bonds have no interest rate risk in the long run. c. Arbitrage keeps interest rates on equally risky assets the same. d. A longer term to maturity exposes a bondholder to greater interest rate risk. ANSWER: b 209. A $10,000 face-value bond costs $9,250 and matures in one year. If the interest rate on similar bonds rises by 2%, what is the approximate price change for this bond? a. The price of the bond rises to $9,804. b. The price remains unchanged at $9,250. c. The price of the bond falls to $9,082. d. The price of the bond rises to $9,424. ANSWER: c 210. When a given bond's price increases, we know that the interest rate on this bond: a. remains unchanged. b. must increase. c. must decrease. d. could increase, decrease, or remain unchanged. ANSWER: c 211. Which of the following best explains the crowding-out effect? a. the decrease in the supply of loanable funds that results from an increase in budget deficits b. an increase in consumption among households that crowds out savings c. the decrease in investment opportunities for small businesses resulting from increased borrowing by larger corporations d. the decrease in private investment due to higher interest rates that result from increased government borrowing to finance larger budget deficits ANSWER: d 212. Which statement is TRUE? a. Bonds are a way for the government to lend. b. Bonds are a way for corporations to lend. c. A bond is like an IOU. d. Bonds are a way for both government and corporations to lend. ANSWER: c 213. A zero-coupon bond matures in one year. The price of the bond is $500, and it will pay $1,000 in one year's time. What is the rate of return on the bond? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. 20% b. 50% c. 100% d. 500% ANSWER: c 214. Collateral is: a. the first time a corporation sells stock to the public in order to raise capital. b. a sophisticated IOU that documents who owes how much and when payment must be made. c. something of value that by agreement becomes the property of the lender if the borrower defaults. d. the decrease in private consumption and investment that occurs when government borrows more. ANSWER: c 215. Crowding out is: a. the first time a corporation sells stock to the public in order to raise capital. b. a sophisticated IOU that documents who owes how much and when payment must be made. c. something of value that by agreement becomes the property of the lender if the borrower defaults. d. the decrease in private consumption and investment that occurs when government borrows more. ANSWER: d 216. If a bond for Alexcorp has a 10% rate of return and an otherwise identical bond for Tylercorp has a 15% rate of return, which bond carries greater risk? a. The Alexcorp bond is riskier. b. The Tylercorp bond is riskier. c. The two bonds are equally risky. d. It is impossible to calculate the riskiness of the bonds. ANSWER: b 217. The U.S. federal government finances most of its new spending by: a. issuing bonds. b. charging user fees. c. borrowing directly from banks and investors. d. printing money. ANSWER: a 218. The crowding-out effect of government borrowing refers to the reduction of private: a. consumption due to a lower interest rate. b. savings due to a higher interest rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 c. investment due to higher taxes. d. investment due to a higher interest rate. ANSWER: d 219. When the government increases borrowing by issuing bonds, bond prices then _____ and interest rates _____. a. increase; decrease b. decrease; increase c. increase; increase d. decrease; decrease ANSWER: b 220. Suppose you pay $450 for a zero-coupon bond with a face value of $500. The rate of return for this bond at maturity is: a. 10%. b. 11.1%. c. 9.99%. d. –5%. ANSWER: b 221. The buyer of a bond is a: a. borrower. b. lender. c. stockholder. d. banker. ANSWER: b 222. The issuer of a bond is a: a. borrower. b. lender. c. stockholder. d. banker. ANSWER: a 223. Something of value that by agreement becomes the property of the lender if the borrower defaults is called: a. a stock. b. a bond. c. collateral. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 d. a liability. ANSWER: c 224. The decrease in private consumption and investment that occurs when the government borrows more is called: a. collateral damage. b. the substitution effect. c. the wealth effect. d. the crowding-out effect. ANSWER: d 225. Bond prices and bond interest rates move: a. together when there is collateral damage. b. together when there is arbitrage. c. in the same direction. d. in opposite directions. ANSWER: d 226. An initial public offering is: a. the first time a corporation sells stock to the public in order to raise capital. b. a sophisticated IOU that documents who owes how much and when payment must be made. c. something of value that by agreement becomes the property of the lender if the borrower defaults. d. the decrease in private consumption and investment that occurs when government borrows more. ANSWER: a 227. Which of the following represents ownership in a corporation? a. bonds b. IOUs c. stocks d. saving deposits ANSWER: c 228. Which of the following is NOT a characteristic of stocks that are sold at initial public offerings? a. They are being sold for the first time. b. They allow the firm selling the stock to acquire funds for investment. c. They transfer ownership of the company. d. They represent ownership of government-run enterprises only. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 229. What is the largest stock exchange in the world? a. the Börse in Frankfurt b. the NYSE c. the NASDAQ in New York d. the Tokyo Stock Exchange ANSWER: b 230. In the market for loanable funds, _____ coordinates between the savers and borrowers. a. a market supplier b. an investor c. a financial intermediary d. the government ANSWER: c 231. Which is NOT a financial intermediary? a. bank b. stock market c. bond market d. government Treasury ANSWER: d 232. How do banks earn a profit? a. by receiving rebates from the government based on the amount of deposits b. by receiving rebates from the government based on the interest rate c. by charging higher interest rates on loans than they pay on deposits d. by charging higher interest rates on deposits than they pay on loans ANSWER: c 233. Which is NOT a service that banks provide as financial intermediaries? a. providing intermediate goods b. spreading risk c. minimizing information costs d. evaluating borrowers and investments ANSWER: a 234. Which is true of Standard & Poor’s bond ratings? a. A rating of AAA means the borrower is in default. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. The higher the bond rating, the greater the risk of default. c. Ratings range from AAA to E. d. Ratings below BBB– are referred to as junk bonds. ANSWER: d 235. A bond is: a. a loan agreement between an individual saver and a business or government borrower. b. a contract between the government and someone who borrows tax revenue. c. a promise by a firm to complete construction of an investment project. d. issued when a bank transfers savings into a loan pool of funds. ANSWER: a 236. Interest rates on loans _____ tend to be lower than on similar loans _____. a. to high-risk borrowers; to low-risk borrowers b. when demand for loans is high; when demand for loans is low c. when saving levels are low; when saving levels are high d. with collateral; without collateral ANSWER: d 237. When the government becomes a major borrower in a certain country’s loanable funds market: a. fewer consumers will choose to save. b. the rate of return to those investing in capital tends to rise. c. fewer savings are available for consumers and investors to borrow from. d. interest rates tend to fall to low levels. ANSWER: c 238. What is crowding out? a. a reduction in consumption by borrowers when those who pay cash are able to buy goods and services first b. a reduction in production that results from reserving land to remain in its natural state c. a reduction in consumption and private investment when government borrowing rises d. an increase in interest rates caused by a reduction in the supply of loanable funds ANSWER: c 239. When interest rates rise, what happens in the bond market? a. The prices of bonds rise. b. The prices of bonds fall. c. The demand for bonds rises. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 d. The supply of bonds falls. ANSWER: b 240. Suppose the face value of a bond is $5,000 and the current interest rate is 7%. What is the price of the bond if it is a zero-coupon bond? a. $4,367.19 b. $4,672.90 c. $4,996.50 d. $5,350.00 ANSWER: b 241. What is the relationship between interest rates and bond prices? a. Bond prices rise regardless of whether interest rates rise or fall. b. They move in the same direction with a constant level of difference between them. c. They move in the same direction with accelerating differences. d. They move in opposite directions. ANSWER: d 242. A share of stock provides its owner with: a. a loan to be repaid from future profits. b. reduced or preferential interest rates on loans. c. a loan to fund capital investments. d. partial ownership in a company. ANSWER: d 243. Financial intermediation can break down as a result of: a. low inflation. b. stable inflation. c. government controls on interest rates. d. private ownership of banks. ANSWER: c 244. Which of the following is NOT a direct result of poorly developed or corrupt financial intermediaries within a country? a. smaller markets for loans b. higher government budget deficits c. less effective use of savings d. less investment Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: b 245. Financial intermediation can break down as a result of: a. the government granting property rights. b. free adjustments of interest rates in the loanable funds market. c. bank panics. d. a high savings rate. ANSWER: c 246. During a financial crisis in the early 2000s, the government of Argentina partially froze bank accounts for a year. Given the supply of savings and the demand to borrow functions, we would expect this action to cause the interest rate to: a. increase and borrowing to increase. b. increase and borrowing to decrease. c. decrease and borrowing to decrease. d. decrease and borrowing to increase. ANSWER: b 247. Insecure property rights in bank account deposits typically lead to: a. an increase in the supply of savings. b. a decrease in the supply of savings. c. an increase in the demand to borrow. d. a decrease in the demand to borrow. ANSWER: b 248. When governments freeze bank accounts, they fail to: a. regulate the banking industry. b. guarantee savings accounts. c. promote consumption and spending. d. provide secure property rights. ANSWER: d 249. In order to be binding and effective, an interest rate ceiling must: a. shift the supply of savings function outward. b. shift the demand to borrow function outward. c. be placed above equilibrium. d. be placed below equilibrium. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 250. A binding and effective interest rate ceiling will lead to a(n): a. higher return on saving. b. increase in savings. c. shortage of savings. d. reduction of savings. ANSWER: d 251. If the government imposes an interest rate ceiling below the equilibrium interest rate in the loanable funds market, then: a. the quantity of savings supplied will be less than the quantity of loanable funds demanded. b. the quantity of savings supplied will be more than the quantity of loanable funds demanded. c. the quantity of savings supplied will be equal to the quantity of loanable funds demanded. d. the quantity of savings supplied and the quantity of loanable funds demanded will not be affected. ANSWER: a 252. What is the most harmful consequence to GDP from interest rate ceilings? a. Lenders cannot earn a normal market return. b. Investment falls, dragging down GDP and future growth. c. Consumption increases and savings get too high. d. A surplus of savings occurs. ANSWER: b 253. A binding and effective interest rate ceiling creates _____ loanable funds. a. a shortage of b. a surplus of c. an equilibrium quantity of d. an increase in ANSWER: a 254. A ceiling on interest rates results in: a. a surplus of loanable funds. b. a shortage of loanable funds. c. a decrease in the demand for borrowing. d. an increase in the supply of loanable funds. ANSWER: b 255. When banks owned or influenced by the government engage in politicized lending: a. economic growth increases. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 b. everyone benefits. c. they are less likely to channel loanable funds to their highest-valued uses. d. the return to saving increases. ANSWER: c 256. The larger the fraction of government-owned banks a country has: a. the slower its growth rate of GDP per capita. b. the faster its growth rate of GDP per capita. c. the more volatile its growth rate of GDP per capita. d. the more loans go to their highest-valued uses. ANSWER: a 257. In the early years of the American Great Depression, what percentage of banks failed in the United States? a. less than 10% b. about 25% c. around 50% d. over 80% ANSWER: c 258. According to Ben Bernanke, bank failures during the onset of the Great Depression: a. are urban legends. b. made it harder for households, farmers, and small firms to get credit, worsening the recession. c. increased the rate of investment, which ultimately got the United States out of depression. d. were not as harmful as the stock market crash. ANSWER: b 259. Countries that have good financial intermediaries: a. have savings that are used less effectively. b. channel fewer savings into funding for investments in capital. c. have smaller loan markets. d. make more good investments. ANSWER: d 260. The reasons for financial intermediation to be disrupted and fail do NOT include: a. controls on interest rates. b. politicized lending. c. unprotected property rights. d. reductions in the cost of borrowing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: d 261. If property rights of savings are not secure, then: a. the government can take ownership of private savings. b. interest rates will drop. c. the effectiveness of banks will be enhanced. d. people will be reluctant to save at their local bank. ANSWER: d 262. Usury laws: a. specify what investments loans can cover. b. specify what sources of funds can be used for loans. c. set price ceilings on interest rates. d. set price floors on interest rates. ANSWER: c 263. What results when a price ceiling is placed on interest rates in the loanable funds market? a. shortage of loanable funds b. surplus of loanable funds c. decrease in interest rates d. increase in interest rates ANSWER: a 264. What is NOT a common cause of the failure of financial intermediaries? a. usury laws b. politicized lending c. property rights enforcement d. economic and banking panics ANSWER: c 265. What problem do usury laws create in the loanable funds market? a. shortages b. surpluses c. restrictions on supply d. restrictions on demand ANSWER: a 266. Which of the following would likely cause a shortage in the loanable funds market? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. higher interest rates b. an economic panic c. insecure property rights on physical capital d. strict limits on interest rates ANSWER: d 267. A leverage ratio is the ratio of: a. equity to debt. b. debt to equity. c. unpaid mortgage to equity. d. equity to unpaid mortgage. ANSWER: b 268. The process in which bank loans are bundled together and sold on the market as financial assets is called: a. securitization. b. grouping. c. aggregation. d. consolidation. ANSWER: a 269. Critics of securitization argue that, leading up to the housing crisis, banks often: a. failed to properly research their borrowers. b. offered interest rates that were too high. c. didn't sell off enough loans in private markets. d. sold the securitized assets to sovereign wealth funds. ANSWER: a 270. Lehman Brothers was which type of an institution? a. a commercial bank b. an insurance company c. an investment bank d. a pension fund manager ANSWER: c 271. The shadow banking system includes each of the following EXCEPT: a. hedge funds. b. money market funds. c. investment banks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 d. commercial banks. ANSWER: d 272. Which of the following did NOT contribute to the financial crisis of 2007–2008? a. highly leveraged investment banks b. highly leveraged homeowners c. fear on the part of short-term lenders d. high interest rates ANSWER: d 273. If the down payment for a $250,000 home is $50,000 and the mortgage is $200,000, the leverage ratio is: a. 0.25. b. 1.25. c. 4.00. d. 5.00. ANSWER: c 274. A higher leverage ratio means that: a. the firm has a lower risk of defaulting on loans. b. the firm's debts exceed the value of its assets. c. the firm is better able to securitize its assets. d. the firm is at a greater risk of becoming insolvent. ANSWER: d 275. If you buy a $500,000 house with $50,000 down, the leverage ratio is: a. 5. b. 9. c. 10. d. 50. ANSWER: b 276. When Lehman Brothers went bankrupt, most of Lehman's managers: a. also went bankrupt. b. were unaffected. c. lost some money but still ended up being very rich. d. committed suicide. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 277. During the financial crisis, because of high leverage, losses on mortgages: a. pushed banks toward insolvency. b. were fully hedged against. c. increased the amount of credit available in the economy. d. prevented a financial meltdown. ANSWER: a 278. Which of the following is NOT a reason for the financial crisis of 2007–2008? a. increases in the leverage ratios for financial intermediaries b. collapse of the shadow banking system c. excessive securitization of liabilities d. excessive confidence about the stock market ANSWER: d 279. A firm can become insolvent with a small decrease in its asset value if it has: a. more assets. b. a high collateral-to-debt ratio. c. a high leverage ratio. d. more equity. ANSWER: c 280. The process of bundling loans together and selling them on the market as financial assets is called: a. collateralization. b. crowding out. c. securitization. d. arbitrage. ANSWER: c 281. Suppose a couple purchase a home that is valued at $420,000. The balance on their mortgage loan is $300,000. What is the value of their owner’s equity? a. 28.6% b. 40.0% c. ‒$120,000 d. $120,000 ANSWER: d 282. Suppose a couple purchase a home that is valued at $420,000. The balance on their mortgage loan is $300,000. What is their leverage ratio? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. 28.6% b. 1.4 c. 2.5 d. $120,000 ANSWER: c 283. Suppose that 10 years ago a couple purchased a home for $300,000 with a $100,000 down payment and a $200,000 mortgage. Currently the couple still owe $154,000 on their mortgage and the home is valued at $400,000. What is their current owner’s equity? a. 0.6 b. 2.0 c. $146,000 d. $246,000 ANSWER: d 284. Suppose that 10 years ago a couple purchased a home for $300,000 with a $100,000 down payment and a $200,000 mortgage. Currently the couple still owe $154,000 on their mortgage and the home is valued at $400,000. What is their current leverage ratio? a. 0.3 b. 0.4 c. 0.6 d. 2.0 ANSWER: c 285. Suppose that four firms each have assets worth $1,000,000. The answer options give the current value and trend of each firm’s liabilities. Which firm currently is insolvent? a. Firm A: Liabilities = $1,000,000 and steady b. Firm B: Liabilities = $1,200,000 and steady c. Firm C: Liabilities = $800,000 and rising d. Firm D: Liabilities = $1,000,000 and falling ANSWER: b 286. Suppose a firm has assets valued at $5,000,000 and liabilities of $4,800,000. If assets fall in value by 3%, the firm will be _____ with an equity of _____. a. solvent; $50,000 b. solvent; $344,000 c. insolvent; –$50,000 d. insolvent; –$344,000 ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 287. Suppose a firm has assets valued at $5,000,000 and liabilities of $4,800,000. If assets fall in value by 5%, the firm will be _____ with an equity of _____. a. solvent; $50,000 b. solvent; $250,000 c. insolvent; –$50,000 d. insolvent; –$250,000 ANSWER: c 288. What does it means for mortgage loans to be “securitized”? a. Borrowers have been carefully evaluated for default risk. b. Financial intermediaries charge extra fees to borrowers to cover any potential defaults. c. A lender bundles the mortgage loans and sells them on the market as financial assets. d. There is collateral on the mortgage loans. ANSWER: c 289. Besides coordinating between savers and borrowers in the loanable funds market, financial intermediaries: a. invest in capital, establish government policy, and make payments. b. collect savings, evaluate investments, and diversify risk. c. evaluate investments, establish government policy, and invest in capital. d. diversify risk, invest in capital, and smooth investment. ANSWER: b 290. What is the future value of $3,000 invested at 6% for two years? a. $3,060.60 b. $3,120.00 c. $3,360.00 d. $3,370.80 ANSWER: d 291. The future value of a bond is: a. its coupon value. b. its face value. c. the reciprocal of its interest rate. d. the inverse of the interest rate. ANSWER: b 292. The Lehman Brothers bankruptcy was the largest in history. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. True b. False ANSWER: a 293. Savings are necessary for capital accumulation. a. True b. False ANSWER: a 294. If someone buys a bond, economists would say that person is saving, not investing. a. True b. False ANSWER: a 295. If someone buys a bond, economists would say that person is investing, not saving. a. True b. False ANSWER: b 296. Investment occurs when a person's income exceeds her spending on consumption goods. a. True b. False ANSWER: b 297. Saving occurs when a person's income exceeds her spending on consumption goods. a. True b. False ANSWER: a 298. Most individuals want to smooth consumption. a. True b. False ANSWER: a 299. Most individuals prefer to consume as much as their income allows in every period. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: b 300. Time preference is the same from person to person. a. True b. False ANSWER: b 301. In one study, people's degree of impatience at age 4 predicted their impatience later in life. a. True b. False ANSWER: a 302. A person who is impatient tends to save less. a. True b. False ANSWER: a 303. A person who is patient tends to save less. a. True b. False ANSWER: b 304. The interest rate is determined by the supply and demand of loanable funds. a. True b. False ANSWER: a 305. The interest rate is simply another example of a market price. a. True b. False ANSWER: a 306. The interest rate is a market quantity. a. True b. False ANSWER: b 307. The interest rate is a market price. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 a. True b. False ANSWER: a 308. In the lifecycle theory, a worker does most of her borrowing during her prime working years. a. True b. False ANSWER: b 309. In the lifecycle theory, a worker does most of her borrowing during her early working years. a. True b. False ANSWER: a 310. Individuals borrow to smooth consumption. a. True b. False ANSWER: a 311. The lower the interest rate, the lower the quantity of funds demanded. a. True b. False ANSWER: b 312. The lower the interest rate, the higher the quantity of funds demanded in the loanable funds market. a. True b. False ANSWER: a 313. The interest rate is the cost of borrowing. a. True b. False ANSWER: a 314. An increase in the interest rate leads to a decrease in the quantity of funds demanded to borrow. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: a 315. An increase in the interest rate leads to an increase in the quantity of funds demanded to borrow. a. True b. False ANSWER: b 316. Businesses borrow when they expect the return on their investment to be greater than the interest rate. a. True b. False ANSWER: a 317. A result of an increase in consumption without any change in income is an increase in the equilibrium interest rate. a. True b. False ANSWER: a 318. A surplus of loanable funds will decrease supply in the loanable funds market, hence lowering interest rates. a. True b. False ANSWER: b 319. Trading in the market for loanable funds determines the equilibrium interest rate. a. True b. False ANSWER: a 320. An increase in domestic borrowing today will lead to an increase in the supply of loanable funds and an increase in domestic interest rates. a. True b. False ANSWER: b 321. An increase in the supply of savings increases borrowing and reduces the interest rate. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: a 322. If the government ceases to tax income earned on savings, other things equal, it is likely that interest rates will rise. a. True b. False ANSWER: b 323. If the government ceases to tax income earned on savings, other things equal, it is likely that interest rates will fall. a. True b. False ANSWER: a 324. If the government offers an investment tax credit, other things equal, it is likely that interest rates will rise. a. True b. False ANSWER: a 325. If the government offers an investment tax credit, other things equal, it is likely that interest rates will fall. a. True b. False ANSWER: b 326. One function of banks is to spread risk. a. True b. False ANSWER: a 327. The source of the supply of loanable funds in the loanable funds market is banks and other financial intermediaries. a. True b. False ANSWER: b 328. The bond market allows both corporations and governments to borrow directly from the public instead of through banks. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: a 329. Some U.S. Treasury bonds have terms of 30 years. a. True b. False ANSWER: a 330. Treasury bills (T-bills) have a term of 30 years. a. True b. False ANSWER: b 331. Interest rates and bond prices move in the same direction. a. True b. False ANSWER: b 332. Interest rates and bond prices move in opposite directions. a. True b. False ANSWER: a 333. Government borrowing crowds out private savings as a result of its effects on the loanable funds market. a. True b. False ANSWER: b 334. The buyer of a bond is a lender. a. True b. False ANSWER: a 335. The buyer of a bond is a borrower. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 336. The issuer of a bond is a lender. a. True b. False ANSWER: b 337. The issuer of a bond is a borrower. a. True b. False ANSWER: a 338. Bonds sold by the U.S. government have almost zero default risk. a. True b. False ANSWER: a 339. T-bills are usually the safest form of government-issued debt instruments. a. True b. False ANSWER: a 340. When a bond comes due, the possibility that the borrower will not be able to pay is called nonpayment risk. a. True b. False ANSWER: b 341. Collateral is something of value that by agreement becomes the property of the lender if the borrower defaults. a. True b. False ANSWER: a 342. Crowding out occurs when private individuals and firms increase investment and consumption at the same time that the government increases borrowing. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 343. A fortunate investor purchases a bond with a 10% return and watches interest rates fall to 5%. a. True b. False ANSWER: a 344. Bond prices will increase if interest rates increase. a. True b. False ANSWER: b 345. Arbitrage means that financial assets with different levels of risk can have the same returns. a. True b. False ANSWER: b 346. Bond prices move inversely with interest rates and time spans to maturity. a. True b. False ANSWER: a 347. A share of stock is a certificate of ownership in a corporation. a. True b. False ANSWER: a 348. An IPO represents the second time a stock is sold after being released by the government. a. True b. False ANSWER: b 349. An IPO represents the first time a stock is made available to the public. a. True b. False ANSWER: a 350. A ceiling on interest rates is likely to result in a surplus in the loanable funds market. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: b 351. A ceiling on interest rates is likely to result in a shortage in the loanable funds market. a. True b. False ANSWER: a 352. Studies have shown that the larger the fraction of government-owned banks in a country, the faster the country's rate of per capita GDP growth. a. True b. False ANSWER: b 353. A decrease in the leverage ratio for financial intermediaries contributed to the financial crisis of 2007– 2008. a. True b. False ANSWER: b 354. An insolvent firm has assets that exceed liabilities. a. True b. False ANSWER: b 355. The fall in housing prices that began in 2006 caused many people to default on their mortgages. a. True b. False ANSWER: a 356. A cause of the financial crisis in 2007–2008 was high inflation. a. True b. False ANSWER: b 357. The study of financial institutions such as banks, stock markets, and bond markets is usually included in finance courses. Why are these finance topics covered in a macroeconomics course? ANSWER: These topics are included in a macroeconomics course because the financial system is an important part of an economy. An efficient financial system is essential for moving funds from savers to Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 investors to ensure that the economy will have sufficient capital to sustain economic growth. 358. Explain how the AIDS crisis in Africa affects consumption smoothing. ANSWER: AIDS has unfortunately reduced the life expectancy in several African countries. The effect on the consumption path and consumption smoothing should be quite drastic. Shorter life expectancy means that people do not expect to live long and so they do not save for their retirement. They consume quickly (this includes the fact that part of their consumption will also be health related) and do not save. With less savings available, investment stalls and this negatively affects economic growth. Decreased economic growth and decreased wealth further affect a country's ability to fight epidemics such as AIDS, leading to a greater spread of these kinds of diseases and further decreased savings and investment in the future. The result is a vicious cycle. 359. Briefly discuss the four major factors that determine the supply of savings. ANSWER: The first major factor for the supply of savings is smoothing consumption: When people want to maintain their lifestyles and consumption paths over time, they save during their working years and use the savings during retirement. The second factor is time preference, which reflects people's impatience about consuming today versus the future: People with more patience tend to save more. The third factor is related to marketing and psychological effects, which affect people's saving behavior for retirement. The fourth factor is the interest rate: A higher interest rate increases the return on savings, which in turn increases the quantity of savings supplied. 360. Why are borrowed funds often used to finance large investments in physical capital? ANSWER: There are several reasons that an investor would borrow funds to finance large investments in physical capital. First, large investments require a large amount of funding up front and many people do not have the available funds to make such an investment. Thus, borrowing is a good way to make the investment. In fact, many investments would not be possible without borrowed funds. Second, borrowing to make large investments can make sense when the returns from the investments will be paid back over time. Borrowing basically turns a “pay now, earn revenue later” timeline into something closer to “gradually pay as you gradually earn” timeline. Rather than tying up a big chunk of money for the long haul, borrowing allows payments to be made as revenue comes in over time. It’s expected that the revenue over time will be higher than it would have been without the investment. 361. Briefly describe the market for loanable funds. Be sure to indicate who participates in this market and what outcomes are determined in the market. ANSWER: The market for loanable funds occurs when suppliers of loanable funds (savers) trade with the demanders of loanable funds (borrowers). In equilibrium, the quantity supplied for lending is equal to the quantity demanded for borrowing. This is the point where the supply of savings function crosses the demand for borrowing function. The intersection determines the equilibrium interest rate and the quantity of saving and borrowing in the economy. 362. Using the loanable funds market, explain and graphically illustrate the effect of a government running larger budget deficits. Be sure to indicate any curve shifts and interest rate effects that result from this change in policy. ANSWER: Higher budget deficits require additional government borrowing. In the context of the loanable funds market, the demand for loanable funds increases, shifting the demand for borrowing to the Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 right and leading to higher market interest rates, as shown in the graph. These higher interest rates crowd out some private investment and increase private saving, which reduces consumption.
363. Why are investment tax credits usually temporary? ANSWER: Tax credits are generally given to encourage investment and fight a recession; they are usually temporary so that the investment will be undertaken quickly. Making the credits permanent reduces the incentive for firms to undertake the investment quickly. 364. Use a figure of the loanable funds market to briefly explain what will happen to the equilibrium interest rate and the equilibrium quantity of savings and borrowing if an improvement in health-care services increases people's life expectancy. ANSWER: An increase in people's life expectancy will increase the amount of savings, according to the lifecycle theory of savings. This leads to a rightward shift of the supply curve in the loanable funds market. The shift of the supply curve leads to a decrease in the equilibrium interest rate from i1 to i2 and an increase in the quantity of savings and borrowing from Q1 to Q2.
365. Explain how interest is the price paid for the use of funds in the loanable funds market. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 ANSWER: Savers are willing to forego current consumption in return for interest. Interest is the price that savers receive from a bank or other financial intermediary for giving up the use of their funds. When borrowers pay interest on their loans, they effectively pay a price (interest) to use someone else’s funds. 366. With the aid of a diagram for the loanable funds market, briefly discuss the crowding-out effect of an increase in government spending financed by selling bonds. ANSWER: In the following diagram for the loanable funds market, the original equilibrium interest rate is i1 and the original quantity of saving and borrowing is Q1. An increase in government spending financed by selling bonds shifts the demand curve of the loanable funds market to the right. The rightward shift of the demand curve leads to an increase in the equilibrium interest rate from i1 to i2. To reach the new equilibrium interest rate, two things happen: (1) The higher interest rate leads to an increase in the quantity of savings (thus a decrease in consumption) shown by the distance between Q1 and Q3; and (2) the higher interest rate leads to a decrease in the quantity of private borrowing and investing shown by the distance between Q1 and Q2. Thus, when the government borrows more, some of the increased borrowing is financed by lower private consumption and some by lower private investment. The decrease in private consumption and private investment that results from the increase in government borrowing is called crowding out. The total amount of the crowding-out effect is the distance between Q2 and Q3.
367. Explain how an increase in government borrowing reduces private consumption spending and investment spending. What is this effect called? ANSWER: The demand to borrow includes demand by the private sector (firms and individuals) and the public sector (government). An increase in government borrowing increases the overall demand to borrow, which results in higher interest rates in the loanable funds market. Because household consumption spending and business investment spending are both inversely related to the interest rate, consumption and private investment spending will fall. This effect is called crowding out. 368. Imagine that you want to buy a zero-coupon bond that will pay $1,000 in one year. If the current interest rate is 5% on comparable bonds, what price should you expect to pay for the bond? ANSWER: Interest rate = [(FV – Price)/Price] × 100. FV is the face value of the bond and Price is the current Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 price of the bond. In this problem, the Price is what we are solving for. Substituting the figures we know, we have 0.05 = (1,000 – Price)/Price. Solving for Price in this equation provides the result that Price = $952.38. 369. Suppose you own a $10,000 zero-coupon bond that you purchased for $9,100.What is the rate of return on this bond? ANSWER: Rate of return = [(FV – Price)/Price] × 100 = [(10,000 – 9,100)/9,100] × 100 = [900/9,100] × 100 = 0.0989 × 100 = 9.89%. 370. Explain why there is an inverse relationship between bond prices and the bond interest rate. ANSWER: Consider the example of a zero-coupon bond. The interest rate on the bond is defined as: Interest rate = [(FV – Price)/Price] × 100. FV is the face value of the bond and Price is the current price of the bond. FV is the amount paid when the bond matures. Hence, FV is fixed. An increase in Price decreases the numerator of the fraction and increases the denominator of the fraction. This leads to a decrease in the interest rate when Price increases. Hence, Price and the interest rate move in opposite directions. 371. Briefly discuss four factors that can cause financial intermediation to fail. ANSWER: The first factor that can cause financial intermediation to fail is insecure property rights, which reduce the supply of savings when savers become uncertain about whether they can get back their money from the loanable funds market. Second, high, unanticipated inflation and controls on interest rates reduce the returns on the supply of savings, which in turn leads to a lower quantity of savings supplied. Third, politicized lending and government intervention in the banking industry raise the cost of financial intermediation and thus reduce the effectiveness of lending. Fourth, massive bank failures and panics in the banking system also raise the cost of financial intermediation and thus can lead to a failure in the intermediation between borrowers and savers. 372. How do interest rate controls have effects similar to price ceilings? Use a graph to support your answer. ANSWER: When an interest rate ceiling is set below the equilibrium rate, the quantity demanded of loanable funds exceeds the quantity supplied of loanable funds, as shown in the accompanying graph. Normally a shortage situation like this would lead to a rise in the interest rate and the subsequent clearing of the market. However, in this case, since the interest rate is controlled by the government (similar to a price ceiling), the shortage of loanable funds persists. The persistent shortage at the controlled interest rate ic is (Q2 – Q1) in the graph.
373. Besides decreasing the number of banks, how do bank failures hinder financial intermediation? ANSWER: During periods of bank failures, it becomes more difficult for the public to predict which banks are Copyright Macmillan Learning. Powered by Cognero.
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Chapter 9 safe and which are not. Because of this increased uncertainty, the public will likely reduce their deposits in the banking system. This is a reduction in the supply of saving. With reduced savings, financial intermediation becomes more difficult for the remaining banks. 374. How does politicized lending cause banks to fail as financial intermediaries? ANSWER: Effective financial intermediation benefits both savers and borrowers and facilitates economic growth. If lending is based on political connections and alliances rather than on the merits of a borrower’s ability to repay the loan, then the risk of default is greater than necessary. This puts the savings of depositors at an unnecessary risk and denies funding to those who might have invested in projects that would yield greater private returns as well as build a stronger economy. If loans are not repaid, the intermediary may fail, resulting in fewer avenues for coordination between savers and borrowers, further weakening the economy as a whole. 375. Emmett has a choice between two bonds—Bond A and Bond B. Both bonds have a future value of $10,000. Bond A earns 3% interest and Bond B earns 5% interest, and both bonds have a term to maturity of 3 years. a. Calculate the PV (present value) of the two bonds. b. If Emmett decides to ignore the relative risk of the two bonds and is only interested in locking up the least amount of money in a bond today, which bond will he choose? c. From this example, what can you say about the relationship between bond prices and interest rates? ANSWER: a. PV = FV/(1 + r)t. (Note that PV = present value, and FV = future value.) Substituting our numbers into the formula, we find that Bond A has a PV of $9,151.42 and Bond B has a PV of $8,638.38. b. Emmett will choose Bond B, since less money would be tied up with this bond. c. Bond prices are inversely related to interest rates.
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Chapter 10 1. John Stossel's dart-throwing experiment showed that: a. picking stocks at random can outperform the stock picks of major Wall Street experts. b. Wall Street experts have inside information, which makes beating their stock picks difficult. c. companies with longer names are likely to outperform market averages. d. economic theory regarding the stock market is flawed. ANSWER: a 2. John Stossel picked Wall Street stocks at random, and his portfolio outperformed what proportion of expert stockbrokers and fund managers? a. 50% b. 60% c. 80% d. 90% ANSWER: d 3. John Stossel's investment strategy of _____ beat 90% of the experts' portfolios. a. buying low-priced but high-valued stocks b. picking the highest-priced stocks c. picking stocks by throwing darts at a newspaper's stock page d. buying stocks of companies with newly released products ANSWER: c 4. Which is an example of passive investing? a. investing in one specific stock b. investing in a mutual fund that tries to mimic the S&P 500 c. investing in a mutual fund that is actively managed by a fund manager d. researching many different stocks and accumulating your own portfolio of investments ANSWER: b 5. Which statement is TRUE regarding active investing? a. Active investing typically has higher average returns than passive investing. b. Active investing and passive investing typically have equal returns on average. c. Active investments typically have higher fees and lower returns on average than passive investments. d. Active investing has been shown to be the only type of investing that can consistently “beat the market.” ANSWER: c 6. The manager of a passive mutual fund: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 a. invests only in risk-free assets like Treasury bonds. b. reacts slowly to changes in stock markets. c. does nothing. d. tries to track a broad stock market index. ANSWER: d 7. When a mutual fund attempts to mimic a broad stock market index, the mutual fund is a(n): a. passive fund. b. active fund. c. tracking fund. d. long-term fund. ANSWER: a 8. When a fund manager tries to pick stocks to outperform the market averages, the mutual fund is called a(n): a. active fund. b. passive fund. c. random walk fund. d. loaded fund. ANSWER: a 9. A comparison of the historical performance of mutual funds and the S&P 500 suggests that: a. most mutual funds consistently outperform the S&P 500. b. active funds consistently outperform the S&P 500, and passive funds consistently underperform the S&P 500. c. mutual funds outperform the S&P 500 when they are undervalued. d. mutual funds on average underperform the S&P 500 at least half of the time. ANSWER: d 10. In the Alfred Hitchcock Presents episode “Mail Order Prophet,” a man receives mysterious letters that accurately predict the movements of certain stocks. After being correct several times in a row, the man, upon the letter's request, sends money to the market prophet in exchange for his latest stock tip. At the end of the episode we learn that the “prophet” is actually a con man who sends a letter to many people with half the letters predicting a stock will increase and the other half predicting it will decrease. How does this Hitchcock episode illustrate one particular theory of Warren Buffet's wealth? a. It was very difficult to send out all those letters; hard work pays off. b. Like the letters in the story, Buffet happened to be right several times in a row. c. Buffet conned his way to the top, using insider information to become wealthy. d. Diversification is an important way to protect investments and build wealth. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 11. A mutual fund is: a. an investment fund that pools money from many investors and invests that money in the stocks of many firms. b. generally a share of company stock owned by multiple people. c. a company that specializes in lending new businesses money. d. the source of funds that banks use to make home and automobile loans. ANSWER: a 12. An active fund is a fund that: a. uses stock-picking techniques to buy stocks that are projected to beat market averages. b. invests in the most actively traded stocks. c. avoids investing in low-return assets, such as bonds and real estate. d. is diversified in stocks, bonds, currency, and precious metals. ANSWER: a 13. A passive fund is a fund that: a. uses dividend reinvestment strategies to seek long-term capital appreciation. b. tries to time the market when buying and selling stocks. c. uses technical analysis to pick winning stocks. d. invests in the companies that constitute a broad market index. ANSWER: d 14. Which of these statements is TRUE? I. Active funds perform better than passive funds. II. Passive investing in the S&P 500 Index beats about 60% of all mutual funds.
III. Warren Buffet is skilled at buying and selling and so always beats the market. a. I and II b. II only c. I only d. 1 and III only ANSWER: b 15. Passively investing in the S&P 500 Index: a. provides rates of return that are approximately 5% higher than the Dow Jones Industrial Average Index. b. beats the rate of returns of the majority of all mutual funds in a typical year. c. is a strategy that is less profitable over the long term than investing in actively managed funds. d. provides rates of return that are about 20% lower than the Dow Jones Industrial Average Index. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 ANSWER: b 16. Suppose 80 experts flip a coin to predict whether the prices of stocks will rise or fall for the year. After four years, how many experts will have correctly predicted the direction of the stock market? a. 13 b. 8 c. 33 d. 5 ANSWER: d 17. Suppose 200 experts flip a coin to predict whether the price of stocks will rise or fall next year. After six years, how many experts will have correctly predicted the direction of the stock market? a. 25 b. 6 c. 13 d. 50 ANSWER: b 18. The investment approach of one of PIMCO's mutual funds “leverages PIMCO's decades of experience investing in global banks to capture opportunities in bank securities around the world—an attractive opportunity set that may offer the potential for higher yields with lower interest rate sensitivity than traditional fixed income.” This fund is a(n): a. active fund. b. passive fund. c. asset fund. d. market fund. ANSWER: a 19. The investment approach of one of Invesco's mutual funds is: “[This fund] . . . includes 100 of the largest domestic and international nonfinancial companies listed on the Nasdaq Stock Market based on market capitalization. The Fund and the Index are rebalanced quarterly and reconstituted annually.” This fund is a(n): a. active fund. b. passive fund. c. asset fund. d. market fund. ANSWER: b 20. The S&P 500 Index fund is a(n) _____ fund. a. active Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. passive c. dormant d. moving ANSWER: b 21. A mutual fund run by a manager who picks stocks is termed a(n) _____ fund. a. active b. passive c. dormant d. moving ANSWER: a 22. The S&P 500 Index fund performs _____ active funds. a. worse than most b. worse than all c. better than most d. better than all ANSWER: c 23. In a given year, the S&P 500 Index fund outperforms about _____ of all active funds. a. 20% b. 40% c. 60% d. 80% ANSWER: c 24. Over a 10-year span, the S&P 500 Index fund outperforms about _____ of all active funds. a. 37% b. 57% c. 77% d. 97% ANSWER: d 25. _____ mutual fund managers can consistently beat the market average. a. All b. No c. Relatively many d. Relatively few Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 ANSWER: d 26. Which of the following is TRUE of mutual funds? I. Active funds generally give higher returns than passive funds. II. Most mutual funds generally give higher returns than broad stock indexes. a. I only b. II only c. both I and II d. neither I nor II ANSWER: d 27. Which refers to a mutual fund for which its manager buys and sells stocks regularly in order to maximize the fund's returns? a. liquid fund b. efficient market fund c. active fund d. passive fund ANSWER: c 28. The text argues that which statement is TRUE about Warren Buffett? a. His past performance has been purely a result of luck. b. He has not been able to beat the market at any time. c. He always beats the market using inside information. d. It has become harder for him to beat the market over time. ANSWER: d 29. Which of the following are advantages of saving your money in a mutual fund? I. You have professional fund management. II. Mutual funds have always outperformed the S&P 500. III. People with smaller amounts of money can diversify risk. a. I only b. I and II only c. I and III only d. I, II, and III ANSWER: c 30. Figure: Mutual Funds
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Chapter 10
From this mutual funds figure (John Stossel dart-throwing experiment), we can say that: a. mutual funds typically outperform the S&P 500. b. mutual fund managers are no smarter than monkeys. c. knowledge of stock market behavior does not guarantee its predictability. d. mutual funds can never outperform the stock market. ANSWER: c 31. The major difference between active and passive mutual funds is that active funds: a. are classed as mutual funds, but passive funds are not. b. involve stock picks by managers, while passive funds involve stock picks by the investors themselves. c. are more risky than passive funds. d. involve stock picks by managers, while passive funds match the movements of a broad market index. ANSWER: d 32. In a market of 2,000 investors who each year flip a coin to predict market success or failure, how many investors will have been consistently right after five years? (Assume the coin tosses yield heads exactly 50% of Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 the time.) a. 31 b. 62 c. 500 d. 1,000 ANSWER: b 33. Which is NOT helpful in stock investment strategies? a. buying undervalued stocks b. holding stocks for a long period of time c. lucky picks d. putting all investment funds in high-risk stocks ANSWER: d 34. Which of the following statements is TRUE? I. A mutual fund pools money from many different investors and uses that money to invest in many different firms. II. Mutual funds that are run by managers who try to pick the best-performing stocks usually outperform the S&P 500. III. Passive mutual funds do not try to select winning stocks; they mimic broader markets like the S&P 500. a. I only b. I and II only c. I and III only d. II and III only ANSWER: c 35. Which investment strategy is typically more profitable over a long period of time? a. active b. passive c. introversive d. subversive ANSWER: b 36. If each of the approximately 320,000 securities and financial service agents in the United States bet on whether the market would go up or down for each of the next 10 years by flipping a coin, we would expect that approximately 312 agents would be right 10 years in a row. This example suggests that: a. it is easy to beat the market averages. b. famous investors like Warren Buffett may have merely been lucky. c. there are above-normal profit opportunities in the stock market. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. investors should just flip a coin to determine stock picks. ANSWER: b 37. A mutual fund pools money from many customers and invests the money in many firms. The fees charged by fund managers are: a. lower in bond funds. b. higher in passive funds. c. lower in passive funds. d. higher in bond funds. ANSWER: c 38. Some skeptical economists say that successful brokers like Warren Buffett are: a. able to see the future. b. just lucky. c. incredibly smart at picking winning stocks. d. likely to remain successful. ANSWER: b 39. Suppose 1,000 experts flip a coin once each year, and half say the market will go up while the other half say the market will go down. After six years, how many experts would have been correct every year? a. 15 b. 62 c. 8 d. 31 ANSWER: a 40. The fact that the majority of stock mutual funds cannot outperform the stock market averages is consistent with: a. the no-free-lunch principle. b. the risk-return trade-off principle. c. the efficient markets hypothesis. d. the active trading hypothesis. ANSWER: c 41. According to the efficient markets hypothesis, stock prices: a. reflect all publicly available information about the stock market. b. reflect all private company information that is known only to company insiders. c. contain both public and private information that helps some investors to outperform other investors. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. contain no useful information. ANSWER: a 42. The efficient markets hypothesis implies that in the stock market: a. everyone can earn more than everyone else some of the time. b. no one can systematically earn more than the average market return. c. people with more funds earn higher returns. d. people can use technical analysis to systematically earn high returns. ANSWER: b 43. Which of these statements is (are) TRUE? I. According to the efficient markets hypothesis, stock prices reflect all publicly available information. II. Investors will not outperform the market in the long term. III. Investors who use inside information may outperform the market in the short term. a. I and II only b. I and III only c. II and III only d. I, II, and III ANSWER: d 44. According to the efficient markets hypothesis, the person who most likely earns the highest return for holding the stock of Company ABC on a single day is: a. a person who follows a buy-and-hold strategy. b. an active trader who knows the historical prices of ABC. c. ABC's CEO, who has inside information about the company's new projects. d. a person who trades for ABC based on current news events. ANSWER: c 45. One of the problems with investment advice that claims you should buy stock in a certain company or sector of the economy is that: a. no one else knows such advice. b. asset prices likely reflect that information already. c. investment advice is not regulated. d. sellers know less than buyers in the financial markets. ANSWER: b 46. The efficient markets hypothesis implies that an investor: a. cannot systematically outperform the market as a whole over time. b. should rely on publicly available information to outperform the market. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 c. should buy and sell lower volumes of shares. d. can manage a portfolio and regularly outperform the whole market. ANSWER: a 47. Someone who is using information outside the efficient markets hypothesis: a. has information about the aging U.S. population and expects stock for companies that cater to senior citizens to increase in value. b. reads in the newspaper about a merger between two profitable firms and expects the stock prices for these companies to rise. c. while auditing a dishonest company realizes that its profit estimates are greatly inflated and immediately sells her stock in the company. d. hears a rumor that a top bank may be in trouble and decides to sell his stock in that company. ANSWER: c 48. About the only way to beat a well-functioning market and make money in the short run is: I. through the efficient markets hypothesis. II. if one has insider information. III. through extreme speed and foresight. a. I only b. II and III only c. II only d. I, II, and III ANSWER: b 49. Stocks are a good investment if: I. one is prepared to hold them for a while through market fluctuations. II. one can buy them immediately after prices have fallen. III. one is not averse to risk. a. I only b. I and II only c. I and III only d. I, II, and III ANSWER: c 50. Consider the market for Facebook's stock. What would happen in this market if multiple companies temporarily halted advertising on the platform until Facebook implemented policies that the companies found favorable? a. Facebook’s stock price would likely fall. b. Facebook’s stock price would likely rise. c. Facebook would issue more stock. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. There would be no change in Facebook’s stock price or the quantity of stock issued. ANSWER: a 51. Consider a pharmaceutical company that is likely to develop a vaccine for COVID-19. The price of the stock of this company: a. has likely already increased to reflect this development. b. should increase in the future, so an investor should buy stock in the company now. c. has likely already decreased to reflect this development. d. should decrease in the future, so an investor should sell stock in the company now. ANSWER: a 52. Consider a pharmaceutical company whose patent for a profitable product will expire in a year. The price of the stock of this company: a. has likely already increased to reflect this development. b. should increase in the future, so an investor should buy stock in the company now. c. has likely already decreased to reflect this development. d. should decrease in the future, so an investor should sell stock in the company now. ANSWER: c 53. Consider a social media company that has acquired another social media platform. The price of the stock of this company: a. has likely already increased to reflect this development. b. should increase in the future, so an investor should buy stock in the company now. c. has likely already decreased to reflect this development. d. should decrease in the future, so an investor should sell stock in the company now. ANSWER: a 54. Which of the following statements is TRUE? I. For every transaction in the stock market there is a buyer and a seller. II. At any point in time, the price of a stock tends to reflect all available public information about the company's future prospects. III. A revolutionary cancer treatment pill will be released next year. An investor will get rich by buying stock in that company now. a. I and II only b. III only c. II and III only d. I, II, and III ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 55. An efficient stock market means that: a. it is difficult to outperform the market, since stock prices convey all relevant public information about a company. b. traders with inside information cannot even outperform market averages. c. new information is slowly reflected in stock prices. d. traders in a market will choose to buy stocks based on gut feelings. ANSWER: a 56. Technical analysis: a. looks for patterns in stock prices. b. can systematically beat market averages, according to research economists. c. is useful for predicting when stocks will stay above certain price thresholds. d. uses current news events to predict stock prices. ANSWER: a 57. When Chernobyl melted down in the Soviet Union, the: a. price of U.S. basketballs increased. b. prices of assets reacted slowly to the information. c. price of U.S. potatoes increased. d. stock prices of U.S. nuclear plants increased. ANSWER: c 58. The efficient markets hypothesis states that: a. the price of assets already reflects all publicly available information. b. arbitrage is impossible in financial markets. c. in financial markets both buyers and sellers will be equally informed. d. financial markets are, on average, more efficient than product markets. ANSWER: a 59. In the stock market, profiting from inside information: a. is nearly impossible because of the efficient markets hypothesis. b. can lead to above-normal market returns for a long period. c. requires the investor to keep the information secret and not act for a long period. d. requires purchasing or selling large quantities of stock very quickly. ANSWER: d 60. The field of technical analysis: a. has been able to beat the market in the long run if enough data are analyzed. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. has been unable to consistently beat the market. c. is also known as active investing. d. is difficult since stock market data are hard to come by. ANSWER: b 61. Based on the efficient markets hypothesis, which of the following mutual funds has the better chance of beating the market in the long run? a. a low-fee fund that is actively managed by a highly respected fund manager b. a passive fund that simply attempts to mimic a financial index such as the S&P 500 c. a portfolio of stocks that you choose, since nobody has more incentive to manage your money correctly than you do d. Forget about it—it is nearly impossible to choose a fund that will systematically outperform the market. ANSWER: d 62. One reason that stock picking cannot work well in the long run is that: a. the stock market is controlled by a small number of investors. b. stock market information is widely available. c. there is always inside information that most investors do not have. d. the stock market is heavily regulated by the government. ANSWER: b 63. Which statement is consistent with the efficient markets hypothesis? a. The majority of stock mutual funds cannot outperform stock composite indexes. b. No mutual funds can outperform stock composite indexes at any time. c. No one can earn a return in the stock market. d. Technical analysis is the only way to beat the market over time. ANSWER: a 64. What does the efficient markets hypothesis tell us about the movement in a stock price? a. It tells what happens to the stock price in the past but not in the future. b. It reflects only what the buyers, not the sellers, think about the future movement of the stock price. c. It reflects all public information that leads to its movement. d. It always predicts how the stock price will move in the future. ANSWER: c 65. According to the efficient markets hypothesis: a. everyone can outperform the stock market indexes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. when one investor outperforms the stock market index, another investor must underperform. c. ordinary investors should always follow the advice of market geniuses like Warren Buffet. d. no investor can consistently outperform the stock market indexes. ANSWER: d 66. Which principle explains why it is hard to beat the market? a. technical investing principle b. efficient markets hypothesis c. systematic risk evaluation principle d. buy-and-hold principle ANSWER: b 67. If a cable news channel breaks news one morning that a major lightbulb company announced a new longlasting lightbulb and you call your broker the next day to buy stock in the company, will you make money based on this information? a. Yes, because it will take a while for the company to recover the R&D costs of the lightbulbs. b. Yes, because it will take time before the lightbulbs show up in stores (and thus time before the new revenue's reflected in the company's bottom line). c. No, because the broker fees will eat away all your profits. d. No, because the new information will already be reflected in the stock price when you purchase the stock. ANSWER: d 68. High-frequency trading involves scanning the latest news and stock quotes with high-tech computers and using the information to trade stocks very quickly. Because it is highly automated, it happens a thousand times faster than an eye can blink. Though each trade might make a fraction of a penny, it accounts for about twothirds of the stock market trading. How does this financing trend reflect the efficient markets hypothesis? a. Computers ensure that public knowledge is instantly embodied in the stock price. b. Buying and holding stocks allows the investor to circumvent this volatility. c. Investing in stocks this way has a low risk of failure, thus a low return. d. The firms that make a lot of money using this strategy are likely just very lucky. ANSWER: a 69. Between the years 1993 and 1998, U.S. senators' stock portfolio outperformed the market by an average of 12% a year. Does this fact overturn the efficient markets hypothesis? a. Yes, because all the relevant information is clearly not embodied in the price. b. Yes, because it is inefficient to channel money this way. c. No, because senators are probably trading using nonpublic information. d. No, because senators are unusually smart people. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 ANSWER: c 70. The efficient markets hypothesis implies that: a. it is easy to earn above market rates of return using the appropriate investment strategies at the right time. b. investors don't make mistakes when determining when to buy and sell stocks. c. it is not possible to systematically pick stocks that outperform the market. d. stock prices are never too high or too low; they always accurately reflect the underlying value of the company. ANSWER: c 71. The efficient markets hypothesis is the idea that: a. asset prices represent all publicly available information. b. stock values revert to their historical mean values. c. the prices of assets are systemically biased, allowing savvy investors to make above-market returns by exploiting the efficiency losses. d. stock buyers are more likely to assess financial information more efficiently than the sellers of stocks. ANSWER: a 72. Stock markets' reactions to the Chernobyl nuclear power plant meltdown was a lesson that: a. it is not possible to profit from nonpublic information. b. investors are slow to respond to new information. c. the prices of assets quickly adjust to new information. d. prices are sticky in the short run. ANSWER: c 73. Which of the following statements is TRUE? I. Technical analysis has been found to outperform most investing strategies. II. Technical analysis looks for patterns in stock price movements to best determine when to buy and sell. III. Technical analysis is the use of insider information to help determine when to buy and sell. a. I and II only b. II and III only c. II only d. I and III only ANSWER: c 74. The efficient markets hypothesis says that the _____ value of traded assets reflects all _____ information. a. current; privately held b. past; publicly available Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 c. current; publicly available d. past; privately held ANSWER: c 75. The efficient markets hypothesis most clearly implies that extra-market returns are: a. common in the long run. b. rare in the long run. c. always attained in the long run. d. never attained in the long run. ANSWER: b 76. The disaster at Chernobyl caused the price of oil to: a. increase. b. decrease. c. remain the same. d. change in an indeterminate direction. ANSWER: a 77. The disaster at Chernobyl caused the price of potatoes to: a. increase. b. decrease. c. remain the same. d. change in an indeterminate direction. ANSWER: a 78. The disaster at Chernobyl caused the stock price of U.S. nuclear power plant companies to: a. increase. b. decrease. c. remain the same. d. change in an indeterminate direction. ANSWER: b 79. As a result of the disaster at Chernobyl, related stock prices changed within: a. months. b. days. c. hours. d. minutes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 ANSWER: d 80. When inside information becomes public information, profit opportunities: a. grow. b. evaporate. c. remain the same. d. change in an indeterminate direction. ANSWER: b 81. Which statement is consistent with the strategy of diversification in stock investment? a. Buy all stocks in the stock market. b. Pick stocks that you believe are undervalued. c. Buy a mutual fund of a broad stock market index. d. Buy and sell a stock at the same time. ANSWER: c 82. Diversification is an investment strategy to: a. maximize the return in stock investment. b. minimize the risk in personal finance. c. outperform the average stock market return. d. reduce the risk of a given investment portfolio. ANSWER: d 83. A mutual fund is a good way for an investor to diversify in investment because: a. a mutual fund consists of a large number of stocks, so the cost of buying all of them at the same time is lower. b. when the prices of risky stocks go up, the prices of less risky stocks must go down. c. not all stock prices move up or down at the same time. d. there are many buyers of a mutual fund, so the risk is spread across all the buyers. ANSWER: c 84. To succeed in investing: I. diversify. II. invest in only one type of stock. III. choose a broker with low fees. IV. take advantage of compound interest. a. I, III, and IV only b. I, II, and IV only c. I and IV only Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. I and III only ANSWER: a 85. All of the following are U.S. stock price indexes EXCEPT: a. the Dow Jones Industrial. b. the S&P 500. c. the NASDAQ Composite. d. the CPI. ANSWER: d 86. To diversify, an engineer working in an electric-power-generating plant should invest in: a. stocks of wind-power-generating companies. b. stocks of his own company. c. a mutual fund that consists of only electric-power-generating companies. d. nothing. ANSWER: a 87. An investor who already has a stock portfolio can best diversify further investment by: a. keeping all the money as cash. b. holding assets that are negatively correlated with the existing portfolio. c. buying stocks with no risk. d. depositing the money in a bank. ANSWER: b 88. “Buy and hold” involves buying stocks and holding them: a. until a cheaper stock comes along. b. for a time proportional to the real interest rate. c. until the price increases even just a little. d. for the long run. ANSWER: d 89. How should you approach broker fees and why? a. Seek high ones, because it signals a better investment product. b. Seek high ones, because money managers will have a stronger incentive to make you more money. c. Seek low ones, because only top investors need to pay the higher price. d. Seek low ones, because no money manager could be worth a premium price. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 90. Roulette is a gambling game where a wheel with 37 (Fr.) or 38 (Am.) squares spins around in one direction and a ball runs along its circumference in the opposite direction. Eventually the ball loses momentum and lands in a square. Roulette wheels pay 35-to-1 on a winning square. In other words, a $10 bet on square 20 will pay $350 if the ball lands on square 20. Many people feel this is an excellent payout and thus consider it superior to other games with lower payouts. Why is this payout less of a good deal than some might think? a. The risk of losing is greater than 97%. b. The opportunity cost of holding your money while the wheel spins is high. c. The efficient markets hypothesis suggests it costs up-front money to play this game. d. There are fewer than 35 squares on the wheel, so the expected payoff is low. ANSWER: a 91. Due to banking regulations, banks in the early part of the twentieth century were not allowed to nationalize, and thus many banks had most of their investments tied up in the agricultural sector. The Dust Bowl and retaliatory tariffs caused many banks to fail, particularly during the Great Depression. Ignoring legal and cultural restrictions, what piece of advice would have served banks very well during this time? a. employing compound returns b. diversification c. having more low-risk investments d. reducing the fees the banks charged on checking accounts ANSWER: b 92. Over time, _____ to beat the market. a. all forms of technical analysis are shown b. some forms of technical analysis are shown c. no forms of technical analysis are shown d. technical analysis has been abandoned as a means ANSWER: c 93. If the efficient markets hypothesis is valid, then a person should: I. buy mutual funds. II. diversify. III. follow a buy-and-hold strategy. a. I and II only b. I and III only c. II and III only d. I, II, and III ANSWER: d 94. Which of the following statements is TRUE? I. The riskiest stocks tend to move in sync with the economy. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 II. A relatively safe stock is one that does not vary much with the state of the economy. III. Health-care stocks are some of the riskiest stocks. a. III only b. I and II only c. II and III only d. I only ANSWER: b 95. If a person diversifies her stock portfolio, then: a. the expected return of her portfolio will increase. b. the risk of her portfolio will decrease. c. both the risk and expected return of her portfolio will increase. d. neither the risk nor the expected return of her portfolio will change. ANSWER: b 96. If a person follows a buy-and-hold strategy, she will initially hold stocks: a. until the stock prices rise. b. until the stock prices fall. c. until the stock prices stabilize. d. whether or not stock prices rise or fall. ANSWER: d 97. Popular U.S. stock indexes include: I. FDIC. II. Dow Jones Industrial Average. III. NASDAQ. a. I and II only b. I and III only c. II and III only d. I, II, and III ANSWER: c 98. In a stock market, a riskier stock typically has: a. a higher covariance with the market as a whole. b. a lower covariance with the market as a whole. c. a higher correlation with some stocks and a lower correlation with other stocks. d. a lower correlation with the market as a whole. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 99. Which of the following tends to be least risky in its stock value when the economy is in a deep recession? a. an automobile manufacturer b. a homebuilder c. a high-end department store d. a utility company that supplies water to government buildings ANSWER: d 100. The stock for which company tends to be most risky when the economy is in a recession? a. fine dining restaurant chain b. automobile parts supplier c. big-box retailer d. electric utility company ANSWER: a 101. To diversify, a person who already holds stocks that move in the opposite direction of the stock market as a whole should: a. always buy more of the same stocks. b. buy stocks that move in the same direction of the stock market as a whole. c. buy stocks that have about the same expected returns as the stocks she already holds. d. sell all her stocks immediately. ANSWER: b 102. Someone who purchased stock in _____ seems to have followed a diversification strategy. a. lumber, paper, and furniture companies b. oil, telecommunications, and clothing companies c. silicon chips, computers, and cell phone companies d. cat food, dog food, and dog bone companies ANSWER: b 103. An individual who buys _____ has a poor diversification strategy. a. stock in gun manufacturing, ammunitions, and rifle companies b. stock in textbook publishing, tea and coffee production, and the technology sector c. T-bills, corporate bonds, and technology stocks d. government bonds, technology stocks, and agricultural stocks ANSWER: a 104. An investor who is interested in a diversification strategy would purchase stock in: a. automobile manufacturers, tires, and airbag companies. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. candy, snack foods, and beverage companies. c. smartphone producers, cellular service providers, and computer companies. d. high-end restaurants, men’s clothing retailers, and amusement park companies. ANSWER: d 105. An investor who is interested in a diversification strategy will buy stock in: a. pet food, horse farms, and pet supply retailers. b. corporate farms, food manufacturers, and restaurant supply companies. c. mutual funds, private education companies, and high-end department stores. d. social media platforms, online retailers, and Internet service providers. ANSWER: c 106. A risky portfolio is one that: I. is poorly diversified. II. has a volatile stock in a basket of 200 stocks. III. has a positive correlation between most of its stock prices. a. I only b. II and III only c. I and III only d. I, II, and III ANSWER: c 107. The Dow Jones Industrial Average: a. weights larger companies' stocks more than small companies' stocks. b. has stocks from thousands of companies. c. has stocks from 500 companies. d. has stocks from 30 companies. ANSWER: d 108. When a stock index rises, it means that: a. all stocks on the index have risen in value. b. the weighted average of all stock prices in the index has risen. c. all stocks on that index are equally weighted. d. most of the stock prices in the index have risen. ANSWER: b 109. The NASDAQ: a. weights individual stocks equally. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. gives greater weight to low-tech stocks than does the Dow. c. gives greater weight to small stocks than does the Dow. d. has 500 stocks. ANSWER: c 110. The NASDAQ: a. weights individual stocks equally. b. gives greater weight to larger stocks than does the Dow. c. gives greater weight to high-tech stocks than does the Dow. d. has 30 stocks. ANSWER: c 111. A stock that has a high covariance with market conditions is considered risky because: a. the stock belongs to a small company. b. the stock does not fluctuate in value. c. the stock moves against the market. d. when the market is declining, that stock will decline too. ANSWER: d 112. Why would stock for a high-end store with expensive clothing be considered risky in a recession? a. Consumers demand cheaper clothes in times of recession, and that company would be expected to make lower profits. b. Consumers do not buy stock when recessions occur. c. High-end clothing store stocks have low covariance with the market. d. Stocks from such companies depend heavily on oil prices. ANSWER: a 113. Which of the following investment instruments would a risk-averse individual choose? a. stocks that are negatively correlated with the rest of one's portfolio b. agricultural stocks in a foreign agricultural economy c. oil stocks d. technology stocks ANSWER: a 114. Which of the following investment instruments would a risk-loving individual choose? a. government bonds b. stocks from a company listed on the Dow Jones Industrial Average c. stock from a very new company that has high growth potential Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. a low-risk mutual fund ANSWER: c 115. A buy-and-hold strategy would work best for someone who: a. will retire in three years. b. is 25 years old and just started a good job. c. lives hand-to-mouth. d. lives on Social Security checks. ANSWER: b 116. Which of the following stock portfolios offers the greatest diversification? a. 3M and Raytheon b. Adobe Systems and Sara Lee c. Nucor and Wyeth d. Ashland, Baker Hughes, Bemis, and BMC Software ANSWER: d 117. If your investment money is evenly divided among stocks in your investment portfolio, which of these four stock portfolios would suffer the most from an Adobe Systems bankruptcy? a. Adobe Systems b. Adobe Systems and Best Buy c. Adobe Systems, Nucor, and Wyeth d. Adobe Systems, Ashland, Baker Hughes, Bemis, BMC Software, CA Inc., Century Telephone, Dean Foods, Dover Corp., Eastman Kodak, EQT Corp., and Exxon Mobil ANSWER: a 118. The BEST trading strategy is to: a. buy low and sell high. b. buy high and sell low. c. buy a couple of stocks and hold them for the long run. d. buy a large bundle of stocks and hold them for the long run. ANSWER: d 119. Which is NOT a major stock index? a. The Heathrow 2,000 b. The Dow Jones Industrial Average c. The Standard and Poor's 500 d. The NASDAQ Composite Index Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 ANSWER: a 120. Diversification: a. increases risk and return. b. decreases risk and return. c. increases risk. d. decreases risk. ANSWER: d 121. Which is NOT a typical index used to practice a buy-and-hold strategy? a. The Dow Jones Industrial Average b. The Moody Index Scorecard c. The Standard and Poor's 500 d. The NASDAQ Composite Index ANSWER: b 122. One important “secret” to picking stocks is to: a. find a highly respected fund manager to pick them for you. b. pick a lot of them. c. choose the best-performing stock and put the majority of your investments in that one stock. d. only invest in no-fee funds. ANSWER: b 123. Diversification: a. reduces risk but also reduces expected returns. b. increases risk but also increases your expected returns. c. reduces risk but does not reduce your expected returns. d. reduces risk and increases your expected returns. ANSWER: c 124. To buy stocks and hold them is the best investment strategy if: a. you do not want to beat the market in the long run. b. your opportunity cost of researching stocks is high. c. you disagree with the efficient markets hypothesis but realize the value of diversification. d. you accept the efficient market hypothesis and the value of diversification. ANSWER: d 125. The riskiest stocks tend to be those that: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 a. are positively correlated with the market. b. are negatively correlated with the market. c. have done well in the past. d. have done poorly in the past. ANSWER: a 126. The secret to stock picking is to: a. pick one stock and hold it for a long time. b. invest in a large basket of stocks from different sectors of the economy. c. invest in stocks held by Berkshire-Hathaway. d. invest in stocks from companies that sell green technologies. ANSWER: b 127. The S&P 500: a. is an index that tracks the stock prices of 500 large companies. b. is Spain's largest stock exchange, consisting of 500 of the largest European companies. c. comprises the stocks of at least 500 of the smallest (S) but most profitable (P) companies in the world. d. consists of 500 stocks and 500 bonds from the world's largest companies. ANSWER: a 128. The Dow Jones Industrial Average: a. consists of the 100 largest companies in the world. b. tracks the earnings of the 10 largest companies in America. c. is made up of 30 leading American stocks. d. consists of 1,000 stocks from the world's largest companies. ANSWER: c 129. People who accept the efficient markets hypothesis should: a. buy a large number of stocks from different companies and hold them for a long period. b. buy a small number of stocks from several companies, selling the stocks whose price has fallen and keeping the rest. c. buy stocks only at a low price and sell them when their prices have increased by more than the market average. d. constantly buy and sell stocks to avoid the risk of large price swings. ANSWER: a 130. Which statement is TRUE? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 a. To reduce portfolio risk, you should buy the majority of stocks from the industry that you work in. b. The riskiest stocks are those that move up and down the most with the overall economy. c. NASDAQ is composed of fewer stocks than the S&P 500. d. The least risky assets are positively correlated with your portfolio. ANSWER: b 131. Diversification typically _____ portfolio risk. a. increases b. decreases c. maintains d. eliminates ANSWER: b 132. In modern financial markets, it has become _____ to diversify one's portfolio. a. more difficult b. easier c. impossible d. unavoidable ANSWER: b 133. One best reduces risk by buying _____ stocks in _____ sectors. a. a few; a few b. a few; many c. many; a few d. many; many ANSWER: d 134. One best reduces risk by buying _____ stocks in _____ geographic regions. a. a few; a few b. a few; many c. many; a few d. many; many ANSWER: d 135. One's best trading strategy according to the efficient markets hypothesis is summarized as: a. buy and sell. b. sell and hold. c. buy and hold. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. buy, sell, and hold. ANSWER: c 136. High fees: a. are not likely to generate higher returns in the long run, because of the efficient markets hypothesis. b. are not likely to generate higher returns in the long run, because of diversification issues. c. can often signal a higher-quality management and thus higher returns in the long run. d. have little impact on your long-run returns to investing. ANSWER: a 137. Compare a fund that charges a 0.25% annual fee with a fund that charges a 1.25% annual fee. If an investment of $5,000 earns an average return of 8% over the course of five years, approximately how much more will fees over those five years be for the higher-fee fund? a. $4 b. $20 c. $330 d. $2,000 ANSWER: c 138. Mutual funds with high fees: a. tend to perform better than funds with low fees. b. are usually active funds. c. should be avoided because high fees reduce your return. d. are poor performers in the short run but provide above-market returns if held for a decade or longer. ANSWER: b 139. Table: Mutual Funds Mutual Fund Name A B C D
Expense Ratio 2.9% 1.5 0.5 4.0
Which mutual fund would be best for a retirement savings plan? a. Mutual Fund A b. Mutual Fund B c. Mutual Fund C d. Mutual Fund D Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 ANSWER: c 140. Table: Index Funds S&P Index Funds Annual Cost Vanguard 500 Index mutual fund Admiral Shares (VFIAX) Vantagepoint 500 Stock Index mutual fund Class II Shares (VPSKX) T. Rowe Price Equity Index 500 mutual fund (PREIX) California Investment S&P 500 Index mutual fund (SPFIX)
Expense Ratio 0.09% 0.25 0.35 0.36
Which index fund would be best to include in a retirement savings plan? a. Vanguard 500 b. California Investment c. Vantagepoint 500 d. T. Rowe Price Equity Index ANSWER: a 141. Stockbrokers make _____ commissions the _____ their clients buy and sell stocks. a. lower; more frequently b. higher; more frequently c. higher; less frequently d. zero; more frequently ANSWER: b 142. For a mutual fund, a load is: a. the expected return of the fund. b. the risk of the fund. c. the fee for managing the fund. d. the charge for insuring the fund. ANSWER: c 143. The textbook recommends buying mutual funds that: a. charge high commissions. b. charge large management fees. c. have high loads. d. have the lowest fees. ANSWER: d 144. Why does it make sense to avoid paying high fees when investing with mutual funds or stockbrokers? a. The funds with high fees are too expensive. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. The funds with high fees likely hire managers who are not experts. c. The funds with high fees do not perform any better than other funds. d. It does make sense, since you should pay high fees to get access to experts. ANSWER: c 145. Stocks are better than bonds: a. in the short run. b. because stocks have guaranteed returns. c. in the long run. d. because bonds are issued only by companies in financial distress. ANSWER: c 146. Historically, stocks offer _____ returns than (as) bonds in the _____ run. a. higher; long b. lower; long c. the same; short d. the same; long ANSWER: a 147. Which refers to the ability of an asset to generate returns, the returns of which are then reinvested to generate their own returns? a. buy and hold b. compounding c. simple returns d. extrapolation ANSWER: b 148. Suppose you invest $1,000 in a mutual fund. If the annual return of that fund is 5%, how many years will it take before your fund is worth $2,000? a. 10 years b. 14 years c. 20 years d. never ANSWER: b 149. A person purchases stocks of two companies in 2009. One has an annual return of 2.5%, and the other's return is 3%. The difference between the dollar returns on the two company stocks would be the greatest in: a. 2010. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. 2012. c. 2013. d. 2015. ANSWER: c 150. A real return of 10% per year means that a $10,000 investment will grow to $20,000 in: a. 10 years. b. 7 years. c. 15 years. d. 20 years. ANSWER: b 151. Which statement is TRUE? a. In the long run, stock returns are higher than bond returns. b. Passive investments underperform active investments. c. One can earn higher returns by investing in funds with high loading costs. d. The efficient markets hypothesis only holds in the short run. ANSWER: a 152. Which statement is TRUE? a. One should avoid investing in bonds because they give lower returns than do stocks. b. If you need your money for something in two years, avoid putting it in stocks. c. Retirees should allocate more of their investments to stocks. d. Recent college graduates should allocate more of their money to bonds than to stocks. ANSWER: b 153. How fast will a $10,000 portfolio double if it is earning 10% annual returns? a. every 10 years b. every 7 years c. every 5 years d. every 14 years ANSWER: b 154. Approximately how many years will it take for an investment of $1,000 that yields 5% a year to double in value? a. 10 b. 14 c. 20 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. 35 ANSWER: b 155. The rule of 70 explains: a. how many stocks you need to completely diversify your portfolio. b. how much money you need to invest monthly to retire comfortably. c. how long it takes an investment to double in value. d. how long it takes for an investment to achieve the efficient markets hypothesis. ANSWER: c 156. How long will it take an investment of $10,000 in a mutual fund that consistently earns an annual rate of return of 5% to double in value? a. 5 years b. 14 years c. 70 years d. 350 years ANSWER: b 157. Investors should avoid buying mutual funds with high fees because mutual funds with high fees: a. do not consistently outperform other funds. b. are difficult to redeem. c. do not diversify enough. d. are always risky. ANSWER: a 158. What rule of thumb generates the number of periods required for an investment to double at a given interest rate? a. simple growth b. rule of 70 c. rule of 100 d. linear growth ANSWER: b 159. The principle of compounding implies that: a. we should diversify enough so that the returns on different stocks will be the same at some time in the future. b. any difference in the rate of investment returns will stay constant over time. c. a small difference in the rate of investment returns makes no difference over a long period. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. a small difference in the rate of investment returns can have a large difference over a long period. ANSWER: d 160. Because historically stock indexes offer higher returns than bonds, the rule of 70 implies that we should invest: a. in bonds. b. in stock indexes. c. half in stock indexes and half in bonds. d. in neither stocks nor bonds. ANSWER: b 161. According to the rule of 70, if the interest rate on a bank deposit is 5% per year, how long will it take for the bank deposit to double in value? a. 25 years b. 20 years c. 14 years d. It depends on the amount of bank deposit. ANSWER: c 162. When a stock has an average rate of return of 10% per year, then the value of the stock will: a. triple in 5 years. b. double in 7 years. c. double in 10 years. d. triple in 10 years. ANSWER: b 163. How long does it take your money to double at an annual return of 10%? a. 10 years b. 17 years c. 3.5 years d. 7 years ANSWER: d 164. Assume that the money in your investment account grew from $30,000 to $60,000 in nine years. What was your approximate annual rate of return? a. 5.0% b. 6.5% c. 7.8% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. 11.8% ANSWER: c 165. According to the rule of 70, a stock portfolio growing at a rate of 7% will double approximately every _____ years. a. 5 b. 10 c. 20 d. 40 ANSWER: b 166. According to the rule of 70, a stock portfolio growing at a rate of 3.5% will double approximately every _____ years. a. 5 b. 10 c. 20 d. 40 ANSWER: c 167. According to the rule of 70, a stock portfolio growing at a rate of 1.75% will double approximately every _____ years. a. 5 b. 10 c. 20 d. 40 ANSWER: d 168. According to the rule of 70, a stock portfolio growing at a rate of 14% will double approximately every _____ years. a. 5 b. 10 c. 20 d. 40 ANSWER: a 169. Stocks typically earn a higher average rate of return than bonds because: a. stocks are riskier than bonds. b. bonds are unsecured. c. stocks are better managed than bonds. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. there is a higher demand for stocks. ANSWER: a 170. After adjusting for risk, the expected return on different assets should be: a. higher for stocks than bonds. b. higher for actively managed assets than for passively managed assets. c. zero. d. equal. ANSWER: d 171. Which of the following investments would you expect to have the highest rate of return in the long run? a. real estate b. owning your own Major League Baseball franchise c. an index fund (such as the S&P 500) d. art ANSWER: c 172. Which is consistent with the no-free-lunch principle? a. Risk and return are unrelated in financial investment. b. An asset that brings higher returns must come with higher risk. c. The best way to get rich is to invest in stocks. d. Investing in U.S. Treasury bills is the best advice in personal finance. ANSWER: b 173. Figure: Risk
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Chapter 10
Which curve in the diagram correctly identifies the relationship between risk and return? a. A b. B c. C d. D ANSWER: b 174. Which statement is TRUE? a. Investing in art is more lucrative than investing in stocks and bonds. b. Investing in bonds is more lucrative than investing in stocks. c. Investing in real estate is more lucrative than investing in stocks. d. Because there is a fun factor associated with owning art, the returns to investing in art are reduced by this fun factor. ANSWER: d 175. Choose the series that places these financial instruments in order of increasing average return. a. U.S. T-Bills, corporate bonds, small stocks, S&P 500 Index fund b. corporate bonds, U.S. T-Bills, small stocks, S&P 500 Index fund Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 c. U.S. T-Bills, corporate bonds, S&P 500 Index fund, small stocks d. corporate bonds, U.S. T-Bills, S&P 500 Index fund, small stocks ANSWER: c 176. Choose the series that places these financial instruments in order of increasing average risk. a. U.S. T-Bills, corporate bonds, small stocks, S&P 500 Index fund b. corporate bonds, U.S. T-Bills, small stocks, S&P 500 Index fund c. U.S. T-Bills, corporate bonds, S&P 500 Index fund, small stocks d. corporate bonds, U.S. T-Bills, S&P 500 Index fund, small stocks ANSWER: c 177. In financial investment, a riskier asset typically has: a. a higher expected return. b. a lower expected return. c. the same expected return as a less risky asset. d. a higher or lower expected return, depending on the industry. ANSWER: a 178. A financial investor faces the lowest risk by investing in: a. a corporate bond. b. a three-month U.S. Treasury bill. c. the stocks of a new company. d. a mutual fund of small company stocks. ANSWER: b 179. The textbook uses the no-free-lunch principle in financial investment to indicate that: a. investment opportunities with high expected returns come with higher risk. b. investment opportunities with high expected returns come with lower risk. c. there is no relationship between risk and expected returns. d. there is always risk in holding any investment opportunity. ANSWER: a 180. Which statement correctly describes the relationship between risk and return? a. Risk and return have no relationship. b. Risk and return have a positive relationship. c. Zero-risk instruments have the highest returns. d. The lower the risk is, the higher the return is. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 ANSWER: b 181. What is the risk-return trade-off? a. Assets with the least risk tend to outperform the market. b. To invest in less risky assets means higher returns. c. Bonds earn higher returns than stocks because bonds are riskier. d. To earn higher rates of return, a person must accept higher risk. ANSWER: d 182. Table: Investment Investment A B C D
Rate of Return 10% 4.5 47.36 18
Rank the investments in order from the least risky to the most risky. a. A, B, C, D b. C, B, A, D c. B, A, D, C d. C, D, A, B ANSWER: c 183. Compared to stocks, art investments have _____ monetary returns because they offer _____ nonpecuniary returns. a. lower; lower b. higher; higher c. lower; higher d. higher; lower ANSWER: c 184. The risk-return trade-off is an example of: a. the sunk cost principle. b. the no-free-lunch principle. c. the capitalist principle. d. the inelastic principle. ANSWER: b 185. Financial returns on houses are _____ over long periods of time because part of the return on housing is from _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 a. close to zero; the joys of ownership b. about 7% per year; homeowner improvements c. about 12% per year; paying low property taxes d. negative; depreciation ANSWER: a 186. Investing in antique guitars: a. is likely to bring high returns because many people enjoy playing guitar. b. will not bring high returns because fun activities yield lower financial returns. c. is a good idea because they “ain't making any more.” d. will bring good returns because guitars are in high demand. ANSWER: b 187. The risk-return trade-off refers to the fact that: a. low risk means high potential returns. b. high risk means low potential returns. c. high risk means high potential returns. d. low risk can be eliminated by high returns. ANSWER: c 188. When an investor believes that buying and holding stock is the best investment strategy: I. she accepts the efficient markets hypothesis. II. she accepts the value of diversification. III. she does not believe that compound interest is important in investing. a. I and II only b. II and III only c. I, II, and III d. I only ANSWER: a 189. An investor who diversifies the risk will be: I. dependent on how much an individual stock moves up and down. II. dependent on how much the portfolio moves up and down. III. dependent on how much some stocks move up while others move down. a. I and II only b. II and III only c. I, II, and III d. I only ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 190. The expected returns of different assets, adjusted for risk, should be: a. equal. b. different. c. sometimes equal but often different. d. unknown in most cases. ANSWER: a 191. On average, returns on investments in art _____ returns in the stock market. a. exceed b. underperform c. equal d. cannot compare to ANSWER: b 192. Jemal has invested $1,000 in a mutual fund that pays, on average, 3.5% per year. How long can Jemal expect it will take to double his initial investment? a. 245 years b. 20 years c. 35 years d. 2.5 years ANSWER: b 193. Katrina has invested $1,000 in a mutual fund that will double in 35 years. What interest rate is Katrina earning on this mutual fund? a. 2.0% b. 3.5% c. 10.0% d. 0.2% ANSWER: a 194. Tony has seen his investment double in 10 years. What interest rate is he earning on his investment? a. 10.0% b. 7.0% c. 3.5% d. 5.0% ANSWER: b 195. Suppose the benefit of owning a painting, in terms of your personal enjoyment, is worth 5% of the value of Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 the painting. If the expected rate of return on stocks is 7%, then the painting should grow in value by _____ per year. a. 5% b. 12% c. 7% d. 2% ANSWER: d 196. In what way do stock prices NOT act as a signal for the future value of the firm? a. If firms merge, stock prices could rise, indicating that the merger can result in greater profitability. b. If stock prices rise, they could be indicating future profitability for the firm. c. If stock prices fall, they could be indicating declining economic conditions. d. In recessions, stock prices always decrease. ANSWER: d 197. Which statement is NOT TRUE? a. The lure of stock market riches gives entrepreneurs an incentive to develop new products. b. Stock markets allow incompetent managers to be replaced by more competent managers. c. Stock prices provide information on whether the firm is making good decisions. d. Stock prices reflect most of the information available to the public. ANSWER: d 198. The benefits of stock markets for the economy include: I. serving as an intermediary between savers and investors. II. revealing information about firm performance. III. increasing the efficiency of resource allocation among firms. a. I and II only b. I and III only c. II and III only d. I, II, and III ANSWER: d 199. Investing in the U.S. stock market offers: a. worse odds than gambling in Vegas or with a local bookie. b. better odds than gambling in Vegas or with a local bookie. c. the same odds as gambling in Vegas or with a local bookie. d. impossible odds. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 200. To say that a stock price is a signal means that: a. society can determine the value of a firm. b. people transfer firm ownership via the signals. c. lower stock prices imply better value. d. speculative bubbles can be avoided. ANSWER: a 201. Stock markets are a way of: a. making everyone rich. b. raising capital for new investments. c. equalizing the distribution of wealth. d. securing long-term savings. ANSWER: b 202. All of the following are economic roles of the stock market, EXCEPT that it: a. is an alternative to gambling. b. channels funds from savers to firms that need capital. c. provides valuable information about how firms are run. d. helps finance new firms. ANSWER: a 203. Which of the following statements is (are) TRUE? I. Stock prices provide signals on how well a company is performing. II. The stock market is a mechanism that firms use to raise money to buy capital. III. The stock market provides a mechanism for poorly managed companies to be taken over by more competent managers. a. III only b. I and II only c. I, II, and III d. I and III only ANSWER: c 204. A speculative bubble happens when: a. assets are priced much higher than is warranted by the profitability of the assets. b. assets are priced much lower than is warranted by the profitability of the assets. c. asset prices are high and profits are even higher. d. market manipulation by dominant hedge funds bids up the market prices of assets. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 205. When a speculative bubble bursts: a. people feel poorer because of lower stock prices and thus spend less. b. employment usually increases. c. there is minimal effect on the overall economy. d. the effects are contained in the market whose prices have collapsed. ANSWER: a 206. Which statement is (are) TRUE? I. The stock market helps companies raise capital for new investment. II. Stock prices help give investors information on how well a company is run. III. Stocks ensure that the most competent people run the company. a. I and II only b. II and III only c. I, II, and III d. I and III only ANSWER: a 207. A speculative bubble: a. is a situation in which high stock prices cannot be explained by companies' prospects and profits. b. is easy to identify with technical analysis. c. is not based on psychological factors. d. always occurs when good information on the future is available. ANSWER: a 208. A speculative bubble: a. results in capital that is invested in areas in which it is not very valuable. b. has a bursting point that is easy to predict. c. has rarely been seen in the United States. d. results in high profits for all investors. ANSWER: a 209. Around the year 2000, there was a _____ in _____. a. boom and bust; tech stocks b. boom and bust; housing prices c. speculative bubble; crayons d. speculative bubble; oysters ANSWER: a 210. If a stock market bubble bursts: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 a. aggregate demand in the economy decreases. b. aggregate demand in the economy increases. c. aggregate supply in the economy decreases. d. aggregate supply and demand in the economy decrease. ANSWER: a 211. Which statement is TRUE of speculative bubbles in stock prices? a. They are easy to detect by simply looking at the trends in stock prices. b. They can never be detected even after they occur. c. They are difficult to detect until after they burst. d. They never exist in stock markets. ANSWER: c 212. A speculative bubble: a. explains the rise of Microsoft's stock price over the last 30 years. b. can help the macroeconomy. c. can be easily identified, leading to higher than normal returns. d. arises when stock prices rise more rapidly than they should. ANSWER: d 213. During the price rise associated with a speculative bubble, capital is invested: a. efficiently. b. in areas where it is not valuable. c. with less risk than usual. d. to prepare for another wave of price rises. ANSWER: b 214. Asset price bubbles are: a. avoidable. b. possibly solved through greater transparency in assessing company values. c. inevitable. d. a recent phenomenon. ANSWER: b 215. If stock prices rise at a very fast rate, this may be indicative of: a. a speculative bubble. b. low covariance with the market. c. moderate profitability forecasts. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 d. excellent opportunities to earn long-term profits. ANSWER: a 216. Stock market bubbles have real effects in the economy because: a. overvalued stocks cause inflationary effects in the economy. b. overvalued stocks violate the efficient markets hypothesis. c. overvalued stocks divert capital to less productive uses. d. when these bubbles burst, they raise the value of capital in those industries. ANSWER: c 217. Bursting stock market bubbles have which of the following effects? I. decreased wealth II. decreased production in those industries whose stocks have collapsed III. unemployment in those industries whose stocks have collapsed a. I only b. I and II only c. II and III only d. I, II, and III ANSWER: d 218. Which statement is NOT true? a. Portfolio managers should diversify investments. b. The promise of higher returns is accompanied by higher risk. c. A single investor can consistently beat the market over the long term. d. Active stock markets are an important part of the economy. ANSWER: c 219. Paying an expert to help pick stocks will likely yield better returns than most alternative strategies for stock selection. a. True b. False ANSWER: b 220. A Random Walk Down Wall Street claimed that the money and fame that went to stock-picking gurus were a sham and a waste. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 221. John Stossel used a monkey to throw darts at a giant wall-sized version of the stock pages of the Wall Street Journal. a. True b. False ANSWER: b 222. John Stossel followed his “dart-picked” portfolio for a year and found it beat 90% of the experts. a. True b. False ANSWER: a 223. According to the evidence, very few mutual fund managers can beat the market averages. a. True b. False ANSWER: a 224. Warren Buffett will likely continue to beat the market, as he has done for the past few decades. a. True b. False ANSWER: b 225. Active mutual funds historically outperform passive mutual funds. a. True b. False ANSWER: b 226. In a typical year, passive investing in the S&P 500 Index does not beat about 60% of all mutual funds. a. True b. False ANSWER: b 227. It is possible for active investing to consistently beat average market returns. a. True b. False ANSWER: b 228. No investor will ever be able to consistently beat the market. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. False ANSWER: a 229. The efficient markets hypothesis implies that active investing strategies can outperform passive investing strategies. a. True b. False ANSWER: b 230. Passive investing is buying the stocks that make up a broad market index; there is no attempt to figure out which stocks will perform better than others. a. True b. False ANSWER: a 231. The efficient markets hypothesis states that current prices reflect all publicly available information. a. True b. False ANSWER: a 232. Because baby boomers are retiring, investing in firms that produce goods and services for senior citizens is definitely a sure road to riches. a. True b. False ANSWER: b 233. The efficient markets hypothesis suggests that it is no better to invest in a mutual fund that has performed well for five years in a row than one that has performed poorly for five years in a row. a. True b. False ANSWER: a 234. The efficient markets hypothesis says that the stock's price reflects all available public information, making it difficult for active investors to beat market averages. a. True b. False ANSWER: a 235. A mutual fund manager must demonstrate high ability to beat the market over a one-year span. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 a. True b. False ANSWER: b 236. A mutual fund manager must demonstrate high ability to beat the market over a 10-year span. a. True b. False ANSWER: b 237. Stock picking usually beats the market when buyers and sellers have the same information. a. True b. False ANSWER: b 238. You cannot get rich, on average, by buying and selling on public information. a. True b. False ANSWER: a 239. The prices of traded assets, such as stocks and bonds, reflect all publicly available information. a. True b. False ANSWER: a 240. The way you can take advantage of information that other people do not have is to start buying or selling large numbers of shares. a. True b. False ANSWER: a 241. According to the efficient markets hypothesis, investors who trade stocks actively earn higher than average returns. a. True b. False ANSWER: b 242. If the efficient markets hypothesis holds, then only investors with inside information can earn a return higher than the stock market average return. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 a. True b. False ANSWER: a 243. Since for every buyer of a stock there is a seller of that stock, someone can likely become very rich acting on public information. a. True b. False ANSWER: b 244. According to the efficient markets hypothesis, the prices of traded assets, such as stocks and bonds, reflect all publicly traded information. a. True b. False ANSWER: a 245. One of the exceptions to the efficient markets hypothesis is that experts can get better returns than others. a. True b. False ANSWER: b 246. The number of senior citizens will double by 2020, so investing in medical care and retirement homes is likely to generate above-normal market returns. a. True b. False ANSWER: b 247. The efficient markets hypothesis suggests that reading the Wall Street Journal will help you pick topperforming stocks. a. True b. False ANSWER: b 248. To follow the buy-and-hold strategy, an investor must buy stocks when they are at low prices and hold them only when the prices are rising. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 249. It is recommended that investors buy stocks from a large number of different companies, avoid high fees, and hold the stocks for a long period. a. True b. False ANSWER: a 250. Mutual funds help investors diversify their investments. a. True b. False ANSWER: a 251. NASDAQ stands for the National Association of Security Dealers Automated Quotations. a. True b. False ANSWER: a 252. The riskiest stocks are those that have a high positive correlation with the market as a whole. a. True b. False ANSWER: a 253. The main objective of diversification is to maximize the return of an investment portfolio. a. True b. False ANSWER: b 254. The first secret to picking stocks is to pick many of them! a. True b. False ANSWER: a 255. It is always best to put all your “eggs” in one basket, with respect to investing. a. True b. False ANSWER: b 256. Mutual funds can let you invest in hundreds of stocks with just one purchase. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 b. False ANSWER: a 257. The Dow Jones Industrial Average is the most famous stock price index. a. True b. False ANSWER: a 258. A buy-and-hold strategy only works for stocks that are very volatile. a. True b. False ANSWER: b 259. Diversification means buying a stock at a low price and then selling it later at a higher price. a. True b. False ANSWER: b 260. Mutual funds primarily offer the service of diversification of investments. a. True b. False ANSWER: a 261. The risk of a stock depends on how the stock price varies with the rest of the market. a. True b. False ANSWER: a 262. Diversification is the only strategy that leads to a higher-than-market-average return. a. True b. False ANSWER: b 263. A diversified portfolio reduces risk. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 264. For a person holding a mutual fund, compounding the returns on the fund leads to a higher total return in the future than not compounding. a. True b. False ANSWER: a 265. The rule of 70 states that an investment will double in 70/x years, where x is the annual rate of return rate. a. True b. False ANSWER: a 266. The expected return on different assets, after adjusting for risk, will be equal to zero. a. True b. False ANSWER: b 267. The risk-return trade-off means that a stock with a high risk tends to have a lower return. a. True b. False ANSWER: b 268. The basic relationship between risk and return is that to earn higher returns, one must accept more risk, which is why bonds provide higher returns than stocks. a. True b. False ANSWER: b 269. High returns reward savers for bearing high risks. a. True b. False ANSWER: a 270. The Dow is a better indicator of the market as a whole than the S&P 500. a. True b. False ANSWER: b 271. If the expected return on stocks is 10%, the monetary return from investing in art will be less than 10% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 because there is a fun return to art. a. True b. False ANSWER: a 272. The benefit of a stock market to the economy is that it makes some people rich without making other people poor. a. True b. False ANSWER: b 273. A stock market bubble is a rise in stock prices that does not reflect the underlying fundamentals of the company. a. True b. False ANSWER: a 274. Bursting stock market bubbles create labor adjustment costs. a. True b. False ANSWER: a 275. Suppose that the stock market for any given year can be characterized as being one of the following: (1) poor, (2) average, (3) good, or (4) excellent. If there are 1,800 people who randomly predict stock market performance for this and each of the next three years, how many people will have been right four years in a row? ANSWER: After each year, 25% of the people will have made a correct prediction. To make a correct prediction for all four years, the probability is 0.254 = 0.0039. The number of people who make the right prediction for each year is 1,800 × 0.0039 = 7. 276. A friend argues that we should select mutual funds whose managers actively trade stocks. Is this correct? Explain your answer. ANSWER: Mutual funds whose managers actively trade stocks, or active funds, earn no higher returns than stock market indexes or “passive funds” that use those indexes as benchmarks. Also, the higher management fees for active funds further lower their net returns for mutual fund holders. For this reason, the best advice is to select passive funds and to avoid high fees. 277. You are starting your first job after college and are looking for a mutual fund in which to invest some of your retirement savings. You research a number of mutual funds and find that fund A has generated abovenormal returns for the past two years and has a highly respected fund manager. You also find that fund B has earned slightly below-average returns for the past two years, is being advertised as a good buy, and is expected to break through and earn high returns in the upcoming year. Based on the efficient markets hypothesis, which Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 fund should you choose? Explain. ANSWER: Based on the efficient markets hypothesis, it doesn't matter which fund you choose—neither one of them will consistently outperform the market in the long run. 278. Discuss the main reason that it is “hard to beat the market” in financial investment. ANSWER: According to the efficient markets hypothesis, the prices of traded assets reflect all publicly available information. Because this hypothesis generally holds for stock markets, no investor can systematically earn a return higher than the market average unless that investor has inside information that is not publicly available. 279. What most likely happened to the stock for Apple because of the iPhone and iPad? Explain using a demand and supply graph. ANSWER: The demand for the Apple stock rose, as did its price. The graph should show an increased demand and higher price. 280. Briefly list several important lessons for investing wisely that economics offers. ANSWER: 1. Passively managed funds outperform the majority of actively managed funds. 2. Markets are efficient, so all relevant public information is already reflected in stock prices, making it difficult for the investor to beat market averages. 3. Investors should diversify their investments. 4. Funds with high fees and loading costs should be avoided. 5. Stocks offer superior performance to bonds over the long run. 6. Higher returns mean higher risk. 7. Investments that have a fun factor, such as art or housing, trade off financial returns for fun returns. 281. Briefly discuss the four pieces of advice on financial investment given in the text. ANSWER: 1. Passively managed funds outperform the majority of actively managed funds. 2. Markets are efficient, so all relevant public information is already reflected in stock prices, making it difficult for the investor to beat market averages. 3. Investors should diversify their investments. 4. Funds with high fees and loading costs should be avoided. 5. Stocks offer superior performance to bonds over the long run. 6. Higher returns mean higher risk. 7. Investments that have a fun factor, such as art or housing, trade off financial returns for fun returns. 282. While luck is certainly useful in picking stocks, there are some strategies for good investing. List these strategies. ANSWER: These strategies are to diversify, buy and hold, and avoid high fees. 283. Discuss the different ways that a person can diversify. ANSWER: A person can diversify in many ways. For example, diversification can occur in stock selections. In this case, one should hold a large number of different stocks in different industries and in different countries. Some of those stocks should move in the opposite direction of other stocks in the portfolio over time. Instead of investing in stocks, one could also buy mutual funds that are Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 diversified in their stock selections. One can also diversify in different investment vehicles other than stocks, such as bonds, art, housing, and human capital. 284. Suppose that someone has decided to follow a buy-and-hold strategy in technology stock purchases and buys these stocks eight years before retirement. The stocks grow in value and this person's retirement wealth increases. Critically evaluate this investment decision. Was it smart? Could it have been improved? ANSWER: The person should not have put all of his eggs in one basket. Lack of diversification in a stock portfolio causes a covariance problem when the market weakens. Recent behavior of the stock indexes in the United States points out the riskiness of such a strategy. This person could lose a lot of the money that was counted on for retirement. It would have been better to have held a diversified portfolio with stocks from different sectors, other instruments such as government and corporate bonds, and other assets. 285. You are starting your first job after college and are looking for a mutual fund in which to invest some of your retirement savings. Your college economics course taught that it is virtually impossible to beat the market in the long run given the efficient markets hypothesis, so you are looking at funds that try to mimic the market and produce the same 7% annual return as the market has produced since 1802. You have narrowed it down to three mutual funds (A, B, and C), all of which have consistently produced an average annual rate of return of 7%. Fund A charges a 1.5% annual fee, fund B charges 0.2% annually, and fund C is a no-fee fund. Compare how much your investment will be worth after 10 years if you initially invest $10,000 in fund A versus fund B versus fund C. How much will you end up paying in fees for each fund over the course of 10 years if your initial investment is $10,000? ANSWER: After 10 years, your $10,000 investment in fund A will be worth $17,081.44; in fund B, it will be worth $19,306.90; and in fund C, it will be worth $19,671.51. Over the course of the 10 years, you will end up paying $2,590.07 in fees to fund A, $364.61 in fees to fund B, and $0 in fees to fund C—all for the same 7% annual rate of return. 286. Suppose you have two individuals, one of whom is very risk-averse and the other loves risk. What kind of financial instruments would you advise these individuals to purchase based solely on their risk tolerance levels? ANSWER: A risk-averse person should go for T-Bills and long-term government bonds. Any corporate bonds for this portfolio should be from corporations that are very stable, and if stocks are included they should be stocks that have a very low covariance with the market. A risk lover should go for a portfolio with a higher composition of stock while still diversifying. Stock picks could include Internet, technology, and oil. Bonds could be riskier holdings such as junk bonds, or corporate bonds with lower credit ratings. 287. Suppose there is a rumor that company X is about to merge with another very profitable company. Now suppose that a major broker spreads this rumor, and people take that broker seriously. Could this broker cause the company to “appear” to be a profitable stock to hold? ANSWER: Yes, if enough people react to a prediction, it can act as a self-fulfilling prophecy. When people believe the rumor and start to buy the stock, they cause the price of the stock to rise. This may cause the company to appear profitable even though it has not yet engaged in its merger. 288. Speculative bubbles can make some people very rich and other people very poor. Explain why these bubbles are bad for the economy as a whole. What role does price as a conveyor of information play? Explain. ANSWER: Speculative bubbles are bad for the economy as a whole because they encourage capital to flow into Copyright Macmillan Learning. Powered by Cognero.
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Chapter 10 areas where it is less valuable. Typically, high prices encourage new capital to flow to that sector of the economy because high prices are a sign of high value. But in a speculative bubble, there is no real value behind the investment and thus the capital that flows into these sectors is not achieving its highest-valued use. In addition, when bubbles burst, many people lose money, which consequently leads to decreases in consumption and spending. As consumer spending is nearly two-thirds of total GDP, this is also extremely detrimental to the economy as a whole. 289. Someone offers you a hot tip that promises a large payoff in the stock market. How would you respond to this person, based on the simple and practical guidance found in this chapter? ANSWER: Answers will vary. The best answer is the chapter takeaway, as follows: “It is difficult for an investor to consistently beat the market over long periods. You are well-advised to diversify your investments. Avoid fees and try to generate a high compound return over time. Understand that the promise of higher returns is often accompanied by higher risk.”
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Chapter 11 1. Which correctly describes a country’s labor force? a. A country’s labor force consists only of those employed. b. A country’s labor force consists of those employed and unemployed. c. All citizens in a country are included in its labor force. d. All adults in a country are included in its labor force. ANSWER: b 2. In a strong, growing economy, what happens to the number of jobs and types of jobs? a. The number of jobs grows and the types of jobs grow as well. b. The number of jobs varies with the old types of jobs and the new types of jobs. c. There are fewer workers in each type of job as machines replace them, though there is no change in the types of jobs. d. The average trend is that there is an increase in the number of jobs but some types of jobs cease to exist while other, new types of jobs replace them. ANSWER: d 3. Which of the following would be considered unemployed? a. Mark, laid off from his job as a bricklayer, returned to school full time. b. Sarah, who earned nearly $80,000 per year in her previous job, is a stay-at-home mom. c. Tim, a 13-year-old high-school student, is looking for a part-time job. d. Janice, who graduated from the university in May, is waiting for her new job to start in July. ANSWER: d 4. A country's total civilian noninstitutionalized adult population is 1 million, and 500,000 people in this country are working, with another 20,000 people looking for work. Which of the following statements about the labor force statistics in this country is accurate? a. The employment rate is 50% and the unemployment rate is 2%. b. The unemployment rate is 2% and the labor force participation rate is 52%. c. The employment rate is 96.15% and the labor force participation rate is 52%. d. The labor force is 500,000 and the labor force participation rate is 50%. ANSWER: c 5. The labor force consists of: a. employed workers only. b. adults who do not have a job but who are looking for work. c. employed workers and adults who do not have jobs but who are looking for work. d. all adult noninstitutionalized civilians. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 6. A country has 50 million people, 30 million of whom are adults. Of the adults, 5 million are not interested in working, another 5 million are interested in working but have given up looking for work, and 5 million are still looking for work. Of those who do have jobs, 5 million are working part time but would like to work full time, and the remaining 10 million are working full time. How many people in this country are in the labor force? a. 15 million b. 20 million c. 25 million d. 30 million ANSWER: b 7. A country has 50 million people, 30 million of whom are adults. Of the adults, 5 million are not interested in working, another 5 million are interested in working but have given up looking for work, and 5 million are still looking for work. Of those who do have jobs, 5 million are working part time but would like to work full time, and the remaining 10 million are working full time. What is this country's unemployment rate? a. 10.0% b. 16.7% c. 25.0% d. 40.0% ANSWER: c 8. A country has 50 million people, 30 million of whom are adults. Of the adults, 5 million are not interested in working, another 5 million are interested in working but have given up looking for work, and 5 million are still looking for work. Of those who do have jobs, 5 million are working part time but would like to work full time, and the remaining 10 million are working full time. What is this country's labor force participation rate? a. 50.0% b. 66.7% c. 75.0% d. 83.3% ANSWER: b 9. A country has 50 million people, 30 million of whom are adults. Of the adults, 5 million are not interested in working, another 5 million are interested in working but have given up looking for work, and 5 million are still looking for work. Of those who do have jobs, 5 million are working part time but would like to work full time, and the remaining 10 million are working full time. How many discouraged workers does this country have? a. 5 million b. 10 million c. 15 million d. 20 million ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 10. A country has 50 million people, 30 million of whom are adults. Of the adults, 5 million are not interested in working, another 5 million are interested in working but have given up looking for work, and 5 million are still looking for work. Of those who do have jobs, 5 million are working part time but would like to work full time, and the remaining 10 million are working full time. What is this country's underemployment rate? a. 20% b. 25% c. 40% d. 50% ANSWER: d 11. Which of the following is part of the labor force? a. a homemaker b. a full-time student c. a person who was laid off and is now looking for work d. a retiree ANSWER: c 12. An unemployed person is one who: a. stays at home and is not looking for work. b. works for a job that pays less than he or she expected. c. is not willing to work even though he or she is able to. d. does not have a job but is actively looking for one. ANSWER: d 13. If the adult population of a country is 200 million, 100 million are employed, and 10 million are unemployed, this country's labor force is: a. 200 million. b. 190 million. c. 110 million. d. 100 million. ANSWER: c 14. If the adult population of a country is 200 million, 100 million are employed, and 10 million are unemployed, this country's unemployment rate is: a. 5.0%. b. 9.1%. c. 10.0%. d. 11.0%. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 15. If the adult population of a country is 200 million, 100 million are employed, and 10 million are unemployed, this country's labor force participation rate is: a. 5%. b. 9%. c. 50%. d. 55%. ANSWER: d 16. A person is classified as unemployed only if he or she is: a. unwilling and unable to work and cannot find a job. b. unwilling but able to work and cannot find a job. c. willing but unable to work and cannot find a job. d. willing and able to work but cannot find a job. ANSWER: d 17. Which of the following is considered unemployed? a. Jason, a full-time college student, has a part-time job. b. Julie, a full-time housewife, was searching for a part-time position two months ago, but hasn't since. c. Joe, a retired college professor, does community volunteer work. d. John, on temporary layoff from his work, awaits recall. ANSWER: d 18. Table: Employment, Unemployment, and Labor Force Participation Year 2009 2010 Population 380 million 400 million Adults in labor force 255 million 260 million Adults not in labor force 78 million 80 million Employed workers 245 million 247 million What was the labor force participation rate of this country in 2010? a. 72% b. 76% c. 85% d. 93% ANSWER: b 19. Table: Employment, Unemployment, and Labor Force Participation Year Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 Population Adults in labor force Adults not in labor force Employed workers
2009 380 million 255 million 78 million 245 million
2010 400 million 260 million 80 million 247 million
What was the unemployment rate of the country in 2010? a. 3% b. 4% c. 5% d. 6% ANSWER: c 20. Table: Employment, Unemployment, and Labor Force Participation Year 2009 2010 Population 380 million 400 million Adults in labor force 255 million 260 million Adults not in labor force 78 million 80 million Employed workers 245 million 247 million What was the employment rate of the country in 2009? a. 95% b. 96% c. 97% d. 98% ANSWER: b 21. Table: Employment, Unemployment, and Labor Force Participation Year 2009 2010 Population 380 million 400 million Adults in labor force 255 million 260 million Adults not in labor force 78 million 80 million Employed workers 245 million 247 million What was the labor force participation rate of this country in 2009? a. 64% b. 67% c. 77% d. 88% ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 22. Table: Employment, Unemployment, and Labor Force Participation Year 2009 2010 Population 380 million 400 million Adults in labor force 255 million 260 million Adults not in labor force 78 million 80 million Employed workers 245 million 247 million What was the unemployment rate of the country in 2009? a. 3.0% b. 3.9% c. 4.0% d. 5.0% ANSWER: b 23. Table: Employment, Unemployment, and Labor Force Participation Year 2009 2010 Population 380 million 400 million Adults in labor force 255 million 260 million Adults not in labor force 78 million 80 million Employed workers 245 million 247 million What was the employment rate of the country in 2010? a. 95% b. 96% c. 97% d. 98% ANSWER: a 24. Which of the following individuals can be counted as unemployed? a. Darren, a 10-year-old child b. Moesha, a full-time college student c. Nazma, a stay-at-home mom d. Juan, a recent college graduate looking for his first job ANSWER: d 25. Which of the following individuals can be counted as unemployed? a. a woman who works only part time b. a temp worker, who is currently responding to job advertisements from the newspaper Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. a man who was laid off from an auto manufacturing plant in Detroit d. a husband who stays at home to raise his two children ANSWER: c 26. Which of the following individuals can be counted as unemployed? a. Hannah and Harold, who are serving time for armed robbery b. Jason and Jill, who have not looked for work for the last 2 years c. Stewart and Susan, who are currently housed in a mental institution d. Jean, who left her job to search for a higher-paying position ANSWER: d 27. Which of the following individuals can be counted as part of the civilian labor force? a. someone who retired 4 months ago b. someone who is collecting unemployment benefits c. someone who just celebrated a 15th birthday d. someone who is on active military duty in Afghanistan ANSWER: b 28. A country has 24 million people in the labor force, and 21.5 million of them are employed. What is the unemployment rate in this country? a. 2.5% b. 10.4% c. 21.5% d. 89.6% ANSWER: b 29. In a country where both the labor force participation rate and the unemployment rate are very low, which of the following answers explains why this may be the case? a. A large percentage of the population consists of children. b. A large percentage of the population is aging and thus has retired. c. A large percentage of the population is unemployed. d. A large percentage of the population is employed. ANSWER: b 30. The labor force is made up of: a. institutionalized people, the military, and employed workers. b. employed and unemployed workers. c. unemployed workers, employed workers, and students over 16 years of age. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 d. all adult noninstitutionalized civilians. ANSWER: b 31. What population categories go into the formula for the unemployment rate? a. unemployed and employed b. civilian, military, and unemployed c. adults not in labor force, employed, and unemployed d. unemployed, employed, and discouraged workers ANSWER: a 32. What is the unemployment rate for a nation with 6 million employed and 2 million unemployed? a. 10% b. 15% c. 20% d. 25% ANSWER: d 33. Adults who do not have a job but who are looking for work are: a. unemployed. b. not part of the labor force. c. unwilling to accept employment. d. discouraged workers. ANSWER: a 34. The percentage of adults in the labor force is the: a. unemployment rate. b. employment rate. c. labor force participation rate. d. workforce participation rate. ANSWER: c 35. When workers lose their jobs and become officially unemployed, the unemployment rate: a. remains constant. b. increases. c. decreases. d. becomes difficult to predict. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 36. When workers lose their jobs and become officially unemployed, the number of people in the labor force: a. remains constant. b. increases. c. decreases. d. becomes difficult to predict. ANSWER: a 37. Which of the following best defines a nation's labor force? a. the total number of persons between the ages of 16 and 65 b. the total number of employed and unemployed persons c. the total number of persons working full time and part time d. the total number of persons who are willing and able to work but cannot find a job ANSWER: b 38. An unemployed person is best defined as an adult who: a. does not have a job but is looking for work. b. is working fewer hours than she wants to. c. is a full-time homemaker or a full-time student and is therefore not working. d. has given up looking for work after being laid off for a long period of time. ANSWER: a 39. Table: Labor Data Adult population Labor force Employed persons Discouraged workers
200 million 150 million 138.75 million 10.5 million
According to the accompanying labor data, the unemployment rate is: a. 7.0%. b. 0.7%. c. 5.6%. d. 7.5%. ANSWER: d 40. Table: Labor Data Adult population Labor force Employed persons Discouraged workers
200 million 150 million 138.75 million 10.5 million
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Chapter 11 According to the accompanying labor data, the labor force participation rate is: a. 60.4%. b. 99.3%. c. 69.4%. d. 75.0%. ANSWER: d 41. Which of the following is an example of an unemployed person? a. a retiree working as a volunteer in a hospital b. a worker who is willing to work more hours if available c. a recent college graduate looking for her first job d. a full-time student working part time at night ANSWER: c 42. Which of the following is NOT a reason the unemployment rate is considered to be an incomplete indicator of the overall health of the labor market? a. It does not measure how well people are matched to the jobs at which they work. b. It does not count discouraged workers. c. It does not correctly define the adult population. d. It counts part-time workers who would like to work full time as employed. ANSWER: c 43. What is the term for workers who have given up looking for a job but would still like one? a. jobless workers b. discouraged workers c. laid-off workers d. discarded workers ANSWER: b 44. Discouraged workers and underemployed workers are examples of: a. workers that lead to an underestimation of the unemployment rate. b. populations that cause higher unemployment taxes. c. users of unemployment insurance. d. poor national employment planning. ANSWER: a 45. Individuals who have given up looking for work but still would take a job are considered: a. unemployed workers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. displaced workers. c. discouraged workers. d. part of the labor force. ANSWER: c 46. The presence of discouraged workers causes the measured unemployment rate to be: a. correctly stated. b. overstated. c. understated. d. either overstated, understated, or correctly stated. ANSWER: c 47. Discouraged workers are people who: a. have given up looking for work but would still like to work. b. are willing and able to work but cannot find a job. c. are looking for a job that pays more than they are currently earning. d. are working for fewer hours than they want to. ANSWER: a 48. According to the Bureau of Labor Statistics, which of the following would be counted as unemployed? a. discouraged workers b. workers who are overqualified for their current position c. workers who have a part-time job but want a full-time job d. new graduates who are looking for their first job ANSWER: d 49. Discouraged workers are workers who have: a. given up looking for work but would still like a job. b. given up looking for work and are not available for work. c. not given up looking for work but are not available for work. d. not given up looking for work and still would like a job. ANSWER: a 50. A discouraged worker is a(n): a. person working for fewer hours than he or she prefers. b. worker who is being discouraged by his or her employer when asking for a promotion. c. person who has given up looking for work but would still like a job if one is available. d. unemployed person who has temporary part-time employment. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 ANSWER: c 51. Which of the following would NOT be counted as employed? a. an underemployed person b. an employee working overtime every day c. a part-time worker d. a discouraged worker ANSWER: d 52. Discouraged workers are counted as part of the: a. labor force. b. unemployed. c. employed. d. adult population. ANSWER: d 53. The unemployment rate measures the: a. quality of jobs. b. number of discouraged workers. c. number of underemployed workers. d. share of the labor force that is unemployed. ANSWER: d 54. The unemployed in a country are all of the: a. people who are not employed. b. adults who are not employed. c. adults who are not employed and who are actively looking for work. d. adults who have lost their jobs or are retired from their jobs. ANSWER: c 55. Suppose a country’s population of 1,000,000 people includes 300,000 children and 700,000 adults. The 700,000 adults consist of 90,000 retirees, 10,000 institutionalized persons, 50,000 full-time students and homemakers, 40,000 people seeking employment, and 510,000 people who are working. What is the country’s unemployment rate? a. 4.0% b. 5.7% c. 7.3% d. 7.8% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 ANSWER: c 56. Suppose a country’s population of 1,000,000 people includes 300,000 children and 700,000 adults. The 700,000 adults consist of 90,000 retirees, 10,000 institutionalized persons, 50,000 full-time students and homemakers, 40,000 people seeking employment, and 510,000 people who are working. What is the country’s labor force participation rate? a. 72.8% b. 78.6% c. 79.7% d. 92.7% ANSWER: c 57. Suppose a country’s population of 1,000,000 people includes 200,000 children and 800,000 adults. The 800,000 adults include 70,000 full-time students and homemakers, 120,000 retirees, 10,000 institutionalized persons, 40,000 people seeking employment, and 560,000 people working. What is the unemployment rate in this country? a. 5.0% b. 6.7% c. 7.1% d. 16.7% ANSWER: b 58. Suppose a country’s population of 1,000,000 people includes 200,000 children and 800,000 adults. The 800,000 adults include 70,000 full-time students and homemakers, 120,000 retirees, 10,000 institutionalized persons, 40,000 people seeking employment, and 560,000 people working. What is the labor force participation rate in this country? a. 42.8% b. 50.6% c. 70.9% d. 75.9% ANSWER: d 59. When discouraged workers are present, the unemployment rate is _____ because some people who _____ counted in the labor force. a. underestimated; want to work are not b. underestimated; do not want to work are c. overestimated; want to work are not d. overestimated; do not want to work are ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 60. What is NOT a common concern about unemployment? a. Unemployment means that output is lower than it should be. b. Unemployment is overestimated due to discouraged workers. c. Unemployment can be psychologically devastating to people. d. Unemployment can cause financial crises for households. ANSWER: b 61. What measure does NOT tend to increase during recessions? a. number of discouraged workers b. size of the labor force c. number of unemployed d. unemployment rate ANSWER: b 62. Frictional unemployment is caused by: a. incomplete information. b. recessions. c. the transformation of the United States into a service economy. d. globalization. ANSWER: a 63. What is one of the causes of frictional unemployment? a. uneducated workforce b. willingness to take lower-level jobs c. scarcity of information d. overabundance of job vacancies ANSWER: c 64. In a year without a recession, the majority of U.S. unemployment is: a. frictional. b. structural. c. cyclical. d. recurrent. ANSWER: a 65. In the late 1990s, the rising popularity of Barnes & Noble and Borders shifted workers from independent bookshops to larger chains. What type of unemployment was associated with this reallocation of the workforce? a. frictional unemployment Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. technological substitution c. creative destruction d. structural unemployment ANSWER: a 66. The short-term unemployment caused by the ordinary difficulties of matching employee to employer is called: a. frictional unemployment. b. structural unemployment. c. cyclical unemployment. d. seasonal unemployment. ANSWER: a 67. Creative destruction occurs at the level of the: a. firm. b. industry. c. entire economy. d. firm, industry, and entire economy. ANSWER: d 68. Frictional unemployment is best defined as: a. long-term unemployment caused by the changing features of an economy. b. short-term unemployment caused by the difficulties of matching employees to employers. c. unemployment caused by the cyclical conditions of an economy. d. a normal level of unemployment caused by high wages. ANSWER: b 69. Someone who recently moved to Florida because of its warmer climate will need to spend some time looking for a new job. This is an example of: a. frictional unemployment. b. structural unemployment. c. cyclical unemployment. d. underemployment. ANSWER: a 70. When the country is not in a recession, the largest fraction of unemployment in the United States lasts: a. less than 5 weeks. b. between 5 and 14 weeks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. between 15 and 26 weeks. d. more than 27 weeks. ANSWER: a 71. Following the 2007–2009 recession, in 2010, the largest fraction of unemployment in the United States lasted: a. less than 5 weeks. b. between 5 and 14 weeks. c. between 15 and 26 weeks. d. more than 27 weeks. ANSWER: d 72. Which of the following is the best example of frictional unemployment? a. John, a coal miner, was laid off because of a lack of demand for workers in his industry. He is looking into new opportunities in computer programming, but they require him to gain some new skills. b. Heather recently graduated with her doctorate in economics. She is searching for a job that matches her skills. c. Peter, a highly skilled construction worker, lost his job when the recession began. He is looking for work, but demand in the construction industry is still low. d. Allison, a recent high-school graduate with high aspirations, is seeking a job as the CEO of a Fortune 500 company. ANSWER: b 73. Frictional unemployment is: a. short-term unemployment due to the normal difficulties of matching employers and employees. b. persistent and long-term unemployment caused by shocks that make it more difficult for workers to find jobs. c. long-term unemployment caused by a mismatch between the skills workers possess and the skills that the market is looking to hire. d. unemployment due to fluctuations in the business cycle. ANSWER: a 74. The most likely influence of the Internet on the rate of frictional unemployment has been to: a. raise it. b. lower it. c. have no effect on it. d. have an unpredictable effect on it. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 75. Which of the following is TRUE of frictional unemployment? a. It arises as a result of too much market competition. b. It has a short duration. c. It is a result of the minimum wage law. d. It rises in a recession. ANSWER: b 76. During a typical year that does not have a recession, the duration for at least half of the unemployed is: a. less than 1 week. b. less than 14 weeks. c. between 15 and 26 weeks. d. more than 27 weeks. ANSWER: b 77. Which type of unemployment is an outcome of economist Joseph Schumpeter's “creative destruction” process within an industry? a. cyclical unemployment b. structural unemployment c. seasonal unemployment d. frictional unemployment ANSWER: d 78. Which of the following is a case of frictional unemployment? a. Timothy is looking for a job where he can apply his expertise in computer programming. b. Terrance, who has a certificate in TV/VCR repair, cannot find a TV/VCR repair shop in his town where he can apply for a job. c. Tina was laid off temporarily during a period of low demand. Tina is using the time off to volunteer at her church rather than look for a new job. d. Thomas recently quit his job to start his own business. ANSWER: a 79. The causes of frictional unemployment include: a. the business cycle. b. the scarcity of information. c. changes in economic structure. d. labor unions. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 80. An example of frictional unemployment is a woman who is unemployed: a. because there are more people seeking work than there are jobs available. b. because she does not have the skills sought in current job openings. c. when she leaves the labor force due to discouragement. d. while she waits for a job offer after her job interview. ANSWER: d 81. There are more jobs available than there are unemployed people and the unemployed have the necessary skills for the job openings. Most of the unemployed people are unemployed for no more than 5 weeks as they seek a new job and are hired. What type of unemployment is described in this situation? a. cyclical unemployment b. structural unemployment c. frictional unemployment d. seasonal unemployment ANSWER: c 82. Which would NOT be consistent with frictional unemployment? a. It takes a few weeks for unemployed people to apply, interview, and be offered a job. b. The unemployed people do not have the specific skills sought in job openings. c. Employers must post job openings and review applications before hiring new employees. d. There are plenty of vacant jobs available. ANSWER: b 83. Oil shocks, the shift from manufacturing to service jobs, and the use of new technologies are reasons for _____ unemployment. a. frictional b. cyclical c. structural d. permanent ANSWER: c 84. The persistent, long-term unemployment caused by long-lasting shocks or permanent features of an economy is called: a. frictional unemployment. b. structural unemployment. c. cyclical unemployment. d. seasonal unemployment. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 85. A worker repairing VHS cassette-tape players was laid off because most of his customers have started using DVD players and streaming services. This worker is now: a. a discouraged worker. b. frictionally unemployed. c. cyclically unemployed. d. structurally unemployed. ANSWER: d 86. When it occurs at the industry level, Joseph Schumpeter's “creative destruction” results in: a. frictional unemployment. b. structural unemployment. c. cyclical unemployment. d. underemployment. ANSWER: b 87. The shift toward more of a service economy and less of a manufacturing economy in the United States has caused an increase in: a. frictional unemployment. b. structural unemployment. c. cyclical unemployment. d. seasonal unemployment. ANSWER: b 88. Which of the following programs could help overcome structural unemployment? a. worker retraining b. limitations to unemployment benefits c. job-search assistance programs d. worker retraining, limitations to unemployment benefits, and job-search assistance ANSWER: d 89. Over the past few decades, the U.S. economy has switched from being primarily a manufacturing economy to a service economy. Many individuals working in manufacturing positions lost their jobs, and many new jobs opened up in services. For those who lost jobs in manufacturing, this is an example of: a. industry unemployment. b. frictional unemployment. c. structural unemployment. d. cyclical unemployment. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 90. Which of the following does NOT contribute directly to the persistence of structural unemployment? a. unemployment benefits b. unions c. employment protection laws d. work tests ANSWER: d 91. Structural unemployment is: a. caused by the ordinary difficulties of matching employee to employer. b. caused by long-lasting shocks or changes in permanent features of an economy. c. unemployment correlated with the business cycle. d. natural unemployment. ANSWER: b 92. The phrase “persistent long-term unemployment” means: a. that a substantial fraction of the unemployed have been so for more than one year. b. that the unemployment problem has lasted for a long time. c. that a substantial fraction of the unemployed have been so for more than one year and that this problem has lasted for a long time. d. that a small fraction of the unemployed have been so for more than one year, but that this problem has not lasted for a long time. ANSWER: c 93. Structural unemployment is associated with: a. higher rates of output. b. lower levels of stress. c. higher levels of happiness. d. higher rates of suicide. ANSWER: d 94. Structural unemployment is a bigger problem in Europe than in the United States because of: a. technological differences. b. labor market regulations. c. oil prices. d. drug use. ANSWER: b 95. Long-lasting unemployment benefits tend to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. increase the rate of structural unemployment. b. decrease the rate of structural unemployment. c. increase the rate of frictional unemployment. d. decrease the rate of frictional unemployment. ANSWER: a 96. Minimum wage laws and unions tend to: a. lower wages and raise unemployment. b. raise wages and raise unemployment. c. lower wages and lower unemployment. d. raise wages and lower unemployment. ANSWER: b 97. If employers can fire an employee for any reason, other things being equal: a. it will be easier for job seekers to find employment. b. it will be more difficult for job seekers to find employment. c. the long-term unemployment rate will be higher. d. labor markets will be less flexible and dynamic. ANSWER: a 98. Active labor market policies: a. cause riots in France. b. enforce collective bargaining over wages, benefits, and working conditions. c. state that an employee may quit and an employer may fire an employee at any time and for any reason. d. focus on getting unemployed workers back to work. ANSWER: d 99. Europe has unemployment that is more persistent and longer in duration than unemployment in the United States. This suggests that Europe has higher: a. frictional unemployment. b. structural unemployment. c. cyclical unemployment. d. underemployment. ANSWER: b 100. Which of the following is NOT true of structural unemployment? a. It is persistent over time. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. It is long term in duration. c. It results from industry restructuring. d. It results from scarcity of information. ANSWER: d 101. Higher levels of unemployment benefits and employment protection: a. raise structural unemployment. b. lower structural unemployment. c. raise cyclical unemployment. d. lower cyclical unemployment. ANSWER: a 102. Structural unemployment is caused by: a. job rationing. b. the time that it takes to match workers and jobs. c. periodic declines in business activity that give rise to an inadequate demand for workers in the economy. d. long-lasting shocks to permanent features of an economy that make it more difficult for some workers to find jobs. ANSWER: d 103. Which of the following is a case of structural unemployment? a. Aaron is leaving his job to take a higher-paying position. b. Amanda has been searching over a year for a position working as a travel agent. c. Ashley took an early retirement package. d. Alfred is searching for a position in which his expertise in criminal forensics can be used. ANSWER: b 104. Compared to the United States, unemployment rates in Western Europe tend to be: a. lower because of more labor regulations. b. lower because of fewer labor regulations. c. higher because of more labor regulations. d. higher because of fewer labor regulations. ANSWER: c 105. Which of the following does NOT raise structural unemployment? a. higher union membership b. more unemployment benefits Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. higher minimum wages d. active labor market policies ANSWER: d 106. Which of the following elements reduces structural unemployment? a. the enhancement of worker retraining programs b. the extension of unemployment benefits c. the growth of labor unions d. the existence of employment protection laws ANSWER: a 107. Which of the following elements increases structural unemployment? a. active labor market policies b. bonuses for early employment c. job-search assistance programs d. employment protection laws ANSWER: d 108. Legal and cultural issues contribute significantly to what category of unemployment? a. structural b. cyclical c. short-term d. frictional ANSWER: a 109. Structural unemployment is more persistent in France than in the United States because: a. French workers have less incentive to quickly seek a new position since their unemployment benefits are much higher. b. France's labor regulations require a mandatory waiting period before a worker can reapply for a new job. c. American workers have many more job opportunities than French workers. d. labor unions are weaker in France than they are in the United States. ANSWER: a 110. If a national government improves its unemployment benefits, its unemployment rate will most likely: a. increase. b. decrease. c. remain the same. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 d. follow the global trend, regardless of national policy. ANSWER: a 111. Higher unemployment benefits tend to: a. increase the unemployment rate. b. reduce the unemployment rate. c. have no impact on the unemployment rate. d. have an unpredictable impact on the unemployment rate. ANSWER: a 112. An increase in unemployment benefits tends to: a. lower the incentive to search for a job and raise structural unemployment. b. lower the incentive to search for a job and lower structural unemployment. c. raise the incentive to search for a job and raise structural unemployment. d. raise the incentive to search for a job and lower structural unemployment. ANSWER: a 113. Figure: Labor Market
What is the number of people who are employed at the market wage? How many people end up unemployed due to the implementation of a $10 minimum wage? a. 40; 20 b. 40; 40 c. 60; 40 d. 60; 20 ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 114. Figure: Labor Market
What is the unemployment rate in this market as a result of the implementation of a $10 minimum wage? a. 20% b. 25% c. 50% d. 100% ANSWER: c 115. Figure: Labor Market
If this market is initially in equilibrium when a $10 minimum wage is imposed, the quantity of labor employed will fall by: a. 20. b. 40. c. 60. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 d. 80. ANSWER: a 116. Figure: Labor Supply and Demand
What is the unemployment rate caused by the labor union's action to increase its wage demands to $11 an hour? a. 40.0% b. 60.0% c. 66.7% d. 75.6% ANSWER: a 117. Figure: Labor Supply and Demand
What is the quantity of labor that is unemployed as a result of the labor union's action to increase its wage demands to $11 an hour? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. 700 b. 1,100 c. 1,800 d. 2,700 ANSWER: c 118. Figure: Labor Supply and Demand
How much will the quantity of labor employed decline as a result of the labor union's action to increase its wage demands to $11 an hour? a. 700 b. 1,100 c. 1,800 d. 2,700 ANSWER: a 119. _____ reduce the quantity of labor demanded. a. Minimum wages b. Union wages c. Both minimum wages and union wages d. Neither minimum wages nor union wages ANSWER: c 120. A minimum wage is: a. an employment protection law. b. a labor market price ceiling. c. the equilibrium wage in an unskilled labor market. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 d. a labor market price floor. ANSWER: d 121. Which of the following tends to increase unemployment? a. unemployment benefits b. minimum wages c. labor unions d. unemployment benefits, minimum wages, and labor unions ANSWER: d 122. Countries in Western Europe have: a. higher minimum wages than the United States. b. higher median wages than the United States. c. higher unemployment rates than the United States. d. higher minimum wages, higher median wages, and higher unemployment than the United States. ANSWER: d 123. If the median wage is $9 in country X and $8 in country Y and both countries have similar elasticities of labor supply and demand, then a minimum wage of $4 in both countries will tend to: a. make unemployment higher in country X than in country Y. b. make unemployment higher in country Y than in country X. c. make unemployment the same in both countries. d. have no effect in either country. ANSWER: b 124. If the equilibrium wage is $9 in the market for hotel workers and $8 in the market for restaurant workers and both markets have similar elasticities of labor supply and demand, then a minimum wage of $4 in both markets will: a. cause more unemployment among hotel workers than restaurant workers. b. cause more unemployment among restaurant workers than hotel workers. c. cause the same amount of unemployment in both markets. d. have no effect in either market. ANSWER: d 125. If the equilibrium wage is $9 in the market for hotel workers and $8 in the market for restaurant workers and both markets have similar elasticities of labor supply and demand, then a minimum wage of $10 in both markets will: a. cause more unemployment among hotel workers than restaurant workers. b. cause more unemployment among restaurant workers than hotel workers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. cause the same amount of unemployment in both markets. d. have no effect in either market. ANSWER: b 126. Which of the following best describes the effects of a major labor union that maintains a union wage above the market wage? a. The quantity of labor demanded exceeds the quantity of labor supplied, and the unemployment rate increases. b. The quantity of labor demanded exceeds the quantity of labor supplied, and the unemployment rate decreases. c. The quantity of labor supplied exceeds the quantity of labor demanded, and the unemployment rate increases. d. The quantity of labor supplied exceeds the quantity of labor demanded, and the unemployment rate decreases. ANSWER: c 127. What information does the World Bank's “rigidity of employment index” provide? a. a summary of the average length of unemployment over a 5-year period b. a measure of the effects of shrinking manufacturing firms in developed nations c. a summary of firms' costs for hiring, firing, and adjusting employment hours d. a measure of the available government assistance for workers seeking employment ANSWER: c 128. What allows an employee to quit at any time and an employer to fire at any time for any reason? a. employment-at-will b. contractual autonomy c. right-to-hire d. termination sovereignty ANSWER: a 129. What problem do employment protection laws create? a. They encourage workers to change jobs more frequently. b. They are costly for governments to maintain. c. Employers have difficulty keeping qualified workers. d. Employers are reluctant to hire new workers. ANSWER: d 130. Which of the following statements about the employment-at-will doctrine is TRUE? a. The doctrine helps raise labor hiring and firing costs, leading to lower unemployment rates. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. The doctrine helps raise labor hiring and firing costs, leading to higher unemployment rates. c. The doctrine helps lower labor hiring and firing costs, leading to lower unemployment rates. d. The doctrine helps lower labor hiring and firing costs, leading to higher unemployment rates. ANSWER: c 131. What types of laws affect young, minority, and unemployed workers most negatively? a. employment-at-will b. employment protection c. constructive discharge d. fair labor ANSWER: b 132. Which of the following does NOT explain persistently higher unemployment in Europe than in the United States? a. labor unions b. minimum wages c. the extent of globalization d. employment protection laws ANSWER: c 133. Which doctrine indicates that an employee may quit and an employer may fire an employee at any time for any reason? a. laissez faire b. employment-at-will c. rational ignorance d. equal pay for equal work ANSWER: b 134. Which of the following is TRUE of the effects of employment protection laws? a. They make labor markets more flexible in adjusting for changes in market conditions. b. They reduce the duration of unemployment. c. They reduce the unemployment rates among young and minority workers. d. They create employment security for workers with a job. ANSWER: d 135. Which of the following policies will NOT reduce unemployment? a. job retraining b. work tests Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. job-search assistance d. raising unemployment benefits ANSWER: d 136. Structural unemployment has been a more serious problem in Europe than in the United States because of: a. a low level of labor regulations. b. active labor unions. c. more generous unemployment benefits. d. much tighter government control. ANSWER: c 137. Both unions and minimum wages: a. increase the quantity of labor demanded and reduce unemployment. b. decrease the quantity of labor demanded and increase unemployment. c. increase the quantity of labor supplied and reduce unemployment. d. decrease the quantity of labor supplied and increase unemployment. ANSWER: b 138. If minimum wages are higher than the median wage, then minimum wages will affect: a. more people and create more unemployment. b. more people and create less unemployment. c. fewer people and create more unemployment. d. fewer people and create less unemployment. ANSWER: a 139. The most basic U.S. employment law stipulating that an employee may quit and an employer may fire at any time and for any reason is called: a. affirmative action. b. the employee privacy law. c. the Equal Employment Opportunity Act. d. the employment-at-will doctrine. ANSWER: d 140. Increases in the minimum wage will most likely lead to: a. higher living standards for low-income workers. b. higher unemployment. c. lower wages in complement industries. d. increases in worker education programs. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 ANSWER: b 141. Consider countries A and B. In country A the minimum wage is 30% of the median wage, and in country B the minimum wage is 60% of the median wage. As a result, the minimum wage will affect more workers in country _____ and create more unemployment in country _____. a. A; A b. A; B c. B; B d. B; A ANSWER: c 142. Laws that make it more difficult (and more expensive) to fire workers: a. lead to higher rates of long-term unemployment. b. may raise unemployment rates but typically only in the short term. c. lead to higher rates of employment. d. typically lead to higher wages on average. ANSWER: a 143. Job-search programs and work tests for unemployed workers are likely to be sponsored by: a. firms. b. unions. c. governments. d. workers. ANSWER: c 144. Which of the following is an example of an active labor market policy? a. minimum wage laws b. paying unemployed workers who find a job c. extending unemployment benefits d. worker unions ANSWER: b 145. Which of the following is NOT a factor that can increase structural unemployment? a. oil shock b. globalization c. early employment bonuses d. fundamental technology ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 146. Structural unemployment is both _____ and _____. a. brief; widespread b. long term; narrowly focused c. brief; narrowly focused d. persistent; long term ANSWER: d 147. Which is NOT a type of law or regulation that is known to sometimes increase the unemployment rate? a. employment protection laws b. unemployment benefits c. product safety regulations d. minimum wage laws ANSWER: c 148. The unemployment benefit program that would create the greatest incentive to return to work as quickly as possible while helping to replace lost income is the unemployment benefit that: a. can be paid for up to one year. b. is contingent on the recipient applying for new jobs each week. c. provides housing assistance as well as monthly cash payments. d. replaces 80% of the unemployed worker’s previous wage. ANSWER: b 149. Minimum wage laws that raise wages will _____ unemployment because _____. a. increase; there are more people seeking work but fewer firms wanting to hire at higher wages b. increase; a larger portion of the workers seeking jobs have higher skill levels c. decrease; there are fewer people wanting to work even though more firms want to hire at higher wages d. decrease; firms want to avoid paying higher wages ANSWER: a 150. What impact do unions tend to have on the wages of union employees? a. Unions tend to push wages higher. b. Wages of union members tend to be lower. c. Wages of union employees are equal to the median wage. d. Unions have no impact on the wages of union employees. ANSWER: a 151. Which is NOT something typically negotiated with employers by a union representing a group of workers? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. wages b. tax levels c. working conditions d. benefits ANSWER: b 152. The median wage is the: a. average wage. b. wage of workers who are halfway through their working years. c. wage halfway between the highest wage and the lowest wage. d. wage in which half of workers earn more and half of workers earn less. ANSWER: d 153. The employment-at-will doctrine in the United States: a. has no exceptions. b. means an employee can quit for any reason but an employer cannot fire an employee for any reason. c. means that anyone who wants a job is entitled to a job. d. gives an employee the right to quit and an employer the right to fire an employee with some exceptions to both. ANSWER: d 154. The higher the costs of hiring new workers and the higher the costs of firing unproductive workers, the: a. more reluctant firms are to hire new workers. b. more eager firms are to hire new workers. c. higher wages tend to be. d. greater the incentive for firms to rely on labor rather than capital. ANSWER: a 155. What relationship exists between the World Bank’s rigidity of employment index and unemployment rates across countries? a. There is a positive relationship. b. There is a negative relationship. c. Rigidity of employment is unchanging regardless of the unemployment rate. d. There is no relationship or predictable pattern between the two measures. ANSWER: a 156. Which worker might be viewed by a firm as posing the greatest risk of not performing well if hired to work in a specific field of expertise? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. a new graduate of a local university with a degree in the desired field of expertise but no work experience in that field of expertise b. someone working for a competitor with a degree and eight years of work experience in the desired field of expertise c. a recent graduate of an international university with a degree and two years of part-time work in a related field of expertise d. a high-school graduate with three years of work in an unrelated field of expertise ANSWER: d 157. Employment protection laws do NOT: a. decrease the duration of unemployment. b. increase the unemployment rates of young and minority workers. c. provide greater job security to workers with full-time jobs. d. make labor markets less flexible and less dynamic. ANSWER: a 158. Which policy tends to increase rather than decrease structural unemployment? a. requiring that those receiving unemployment benefits be actively seeking a job b. making it more costly for firms to fire workers c. requiring those receiving unemployment benefits to spend time in gaining new job skills d. paying a bonus to workers who get a new job quickly ANSWER: b 159. The Keynesian explanation for cyclical unemployment is: a. that labor is reallocated across different industries. b. the same as that for frictional and structural unemployment. c. that wage demands are too high relative to changing prices. d. that it is a normal response to real shocks in the economy. ANSWER: c 160. Which of the following is NOT a reason that unemployment rises during recessions? a. labor reallocation among affected industries in response to real economic shocks b. wages that do not fall as fast as prices c. increases in aggregate demand d. inability of firms to employ as many workers ANSWER: c 161. Comparing current real GDP growth to _____ will give a good indication of the change in the unemployment rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. nominal GDP growth b. average real GDP growth c. real growth rates for the past two years d. per capita real GDP growth ANSWER: b 162. Figure: Business Cycles and Unemployment
Which panel in the figure shows the expected relationship between real GDP growth and unemployment? a. panel A b. panel B c. panel C d. panel D ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 163. Unemployment correlated with the business cycle is called: a. frictional unemployment. b. structural unemployment. c. cyclical unemployment. d. seasonal unemployment. ANSWER: c 164. During recessions the unemployment rate: a. decreases. b. increases. c. remains relatively constant. d. fluctuates randomly. ANSWER: b 165. Higher GDP growth is generally associated with: a. decreases in the unemployment rate. b. increases in the unemployment rate. c. no change in the unemployment rate. d. random fluctuations in the unemployment rate. ANSWER: a 166. Which type of unemployment is likely to be higher when real GDP growth is lower? a. structural unemployment b. frictional unemployment c. cyclical unemployment d. natural unemployment ANSWER: c 167. Which of the following is the best example of cyclical unemployment? a. John is a house painter in northern Michigan. During the winter months, John is unemployed. b. Heather recently graduated with her doctorate in economics. She is searching for a job that matches her skills. c. Peter, a highly skilled construction worker, lost his job when the recession began. He is looking for work, but demand in the construction industry is still low. d. Allison, a recent high-school graduate with high aspirations, is seeking a job as the CEO of a Fortune 500 company. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 168. Cyclical unemployment is: a. short-term unemployment caused by the ordinary difficulties of matching employee to employer. b. persistent, long-term unemployment caused by long-lasting shocks or permanent features of an economy that make it more difficult for some workers to find jobs. c. unemployment correlated with the business cycle. d. natural unemployment. ANSWER: c 169. If the wage demands of workers are high relative to the prices of products: a. cyclical unemployment will be higher. b. cyclical unemployment will be lower. c. frictional unemployment will be lower. d. structural unemployment will be higher. ANSWER: a 170. Which type of unemployment increased the most during the 2007–2009 recession? a. cyclical unemployment b. frictional unemployment c. structural unemployment d. search unemployment ANSWER: a 171. Unemployment correlated with the ups and downs of the business cycle is called: a. cyclical unemployment. b. frictional unemployment. c. structural unemployment. d. temporary unemployment. ANSWER: a 172. Which of the following is a case of cyclical unemployment? a. Glenn quit his job to move to another state. b. Grace is an accountant temporarily unemployed since tax season has ended. c. Garrett lost his job after the company closed during last year's recession. d. Gwyneth is still seeking a job that will use her skills in statistics. ANSWER: c 173. Which of the following is NOT true regarding the natural rate of unemployment? a. The natural rate of unemployment equals the sum of the frictional and structural rates. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. If the economy is operating at the natural rate of unemployment, cyclical unemployment is equal to zero. c. The natural rate of unemployment correlates positively with the level of GDP growth in an economy. d. The actual rate of unemployment varies around the natural rate over time. ANSWER: c 174. The natural unemployment rate is the rate of _____ unemployment plus the rate of _____ unemployment. a. cyclical; frictional b. structural; frictional c. cyclical; structural d. frictional and structural; cyclical ANSWER: b 175. Which of the following is NOT part of natural unemployment? a. cyclical unemployment b. frictional unemployment c. structural unemployment d. frictional and structural ANSWER: a 176. Which of the following is TRUE of the natural unemployment rate? a. It is equal to zero when the economy is not in a recession. b. It has been fixed at 4% during the post–World War II period. c. It is higher if structural or frictional unemployment is higher. d. It can change dramatically within a matter of months. ANSWER: c 177. The natural rate of unemployment is defined as the rate of: a. frictional plus cyclical unemployment. b. structural plus cyclical unemployment. c. structural plus frictional unemployment. d. structural plus frictional plus cyclical unemployment. ANSWER: c 178. Cyclical unemployment can turn into structural unemployment if: a. workers remain on unemployment benefits for too long. b. a recession lasts longer than a year. c. the government extends the unemployment benefits. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 d. the economy develops stagflation. ANSWER: a 179. Table: Unemployment Statistics for Country X Type of Unemployment 1995 2005 Frictional unemployment 1.5% 1.0% Cyclical unemployment 3.4 4.7 Structural unemployment 2.5 1.9 Using the data in the table, what is the natural unemployment rate for this country in the year 1995? a. 1.5% b. 4.0% c. 3.4% d. 2.5% ANSWER: b 180. Table: Unemployment Statistics for Country X Type of Unemployment 1995 2005 Frictional unemployment 1.5% 1.0% Cyclical unemployment 3.4 4.7 Structural unemployment 2.5 1.9 Using the data in the table, what is the natural unemployment rate for this country in the year 2005? a. 1.0% b. 4.7% c. 2.9% d. 1.9% ANSWER: c 181. Table: Unemployment Statistics for Country X Type of Unemployment 1995 2005 Frictional unemployment 1.5% 1.0% Cyclical unemployment 3.4 4.7 Structural unemployment 2.5 1.9 Using the data in the table, country X is likely to be in a recession in: a. 1995. b. 2005. c. both 1995 and 2005. d. neither 1995 nor 2005. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 182. How can people who are laid off from work due to a recession eventually turn into structurally unemployed people? a. by failing to file for unemployment benefits b. by becoming discouraged workers c. by staying unemployed so long that their skills become outdated d. by receiving food stamps ANSWER: c 183. What type of unemployment can increase or decrease dramatically in a few months? a. frictional b. structural c. cyclical d. frictional, structural, and cyclical ANSWER: c 184. The actual unemployment rate varies around the: a. frictional unemployment rate. b. structural unemployment rate. c. cyclical unemployment rate. d. natural unemployment rate. ANSWER: d 185. The natural unemployment rate consists of: a. frictional and structural unemployment. b. frictional and cyclical unemployment. c. structural and cyclical unemployment. d. frictional, cyclical, and structural unemployment. ANSWER: a 186. During the business cycle, the number of jobs _____ during boom periods and _____ during recessions. a. increases; increases b. increases; decreases c. decreases; increases d. decreases; decreases ANSWER: b 187. Economists of the Keynesian point of view believe that _____ cause(s) cyclical unemployment. a. insufficient labor laws Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. restrictive labor laws c. insufficient aggregate demand d. insufficient aggregate supply ANSWER: c 188. The natural rate of unemployment is based on unemployment due to _____ and _____ causes. a. frictional; cyclical b. structural; frictional c. cyclical; structural d. normal; average ANSWER: b 189. What affects labor force participation rates? a. the demographic structure of a population b. the tax structure of an economy c. technological advances such as the birth control pill d. demographics, tax structure, and technological advances such as the birth control pill ANSWER: d 190. A country has a population of 160 million. Thirty million of its people are under the age of 16, and 10% of the population is either in the military or institutionalized. Seventy million people have jobs, and 5 million are looking for work. What is the labor force participation rate in this country? a. 52% b. 62% c. 66% d. 70% ANSWER: c 191. Which of the following is NOT a reason that there are more women in the U.S. labor force today than there were before 1965? a. a trend toward greater equality for women in the workplace b. the move from a manufacturing to a service economy c. the availability and use of the birth control pill d. a ban on the sale of contraceptives ANSWER: d 192. What is the labor force participation rate for a nation with an adult population of 20 million, 12 million employed workers, and 3 million unemployed workers? a. 50% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. 60% c. 75% d. 90% ANSWER: c 193. When workers lose their jobs and become officially unemployed, the labor force participation rate: a. remains constant. b. increases. c. decreases. d. changes unpredictably. ANSWER: a 194. The labor force participation rate of a country tends to be higher if the government: a. allows retirees to work and receive government pensions without penalty. b. allows retirees to work only if they give up government pensions. c. allows retirees to work only when they pay higher income taxes than younger workers. d. does not allow retirees to work at all. ANSWER: a 195. As the baby boomers retire, the U.S. labor force participation rate will: a. increase. b. decrease. c. remain the same. d. fluctuate unpredictably. ANSWER: b 196. Suppose that Congress decided to exempt seniors from paying income tax on labor income. What would happen to the labor force participation rate for seniors? a. It would increase. b. It would decrease. c. It would remain the same. d. It is impossible to tell. ANSWER: a 197. The invention of birth control in pill form substantially _____ labor force participation. a. increased male b. decreased male c. increased female Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 d. decreased female ANSWER: c 198. Which of the following does NOT determine the labor force participation rate? a. lifecycle effects b. demographics c. incentives d. education ANSWER: d 199. Which of the following is a concern among economists regarding the aging of the U.S. population? a. Since older people typically consume less, the aging of the population will lead to lower consumption and thus lower GDP. b. Since older people typically consume different goods (more health care and prescription drugs, less pizza and beer), an aging population will lead to increased structural unemployment in certain areas of the economy (such as the pizza and beer industries). c. Since older people are less likely to work, an aging population will lead to a decreased labor force participation rate in the United States and lower tax revenues. d. Since older people are more likely to favor increasing Medicare and prescription drug benefits, an aging population will alter political support for such programs. ANSWER: c 200. The labor force participation rate is highest among those: a. under 16 years of age. b. between 16 and 19 years of age. c. between 25 and 54 years of age. d. over 65 years of age. ANSWER: c 201. Most economists expect labor force participation rates in the United States to: a. remain constant over time. b. increase over time. c. decrease over time. d. first increase and then decrease over time. ANSWER: c 202. A worker who works past retirement age but loses retirement benefits: a. is practicing consumption smoothing. b. is essentially being taxed for working. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. usually has a greater net gain from working. d. has a higher incentive to keep working. ANSWER: b 203. Which two nations have a high percentage of older workers participating in the labor force? a. Belgium and France b. Germany and the United States c. Japan and the United States d. Sweden and the Netherlands ANSWER: c 204. Higher implicit tax rates tend to cause labor force participation rates to: a. remain constant. b. increase. c. decrease. d. behave unpredictably. ANSWER: c 205. How might changes in marginal tax rates on married couples affect labor force participation rates? a. Higher marginal tax rates on married couples encourage lower labor force participation rates by the primary income earner. b. Lower marginal tax rates on married couples encourage higher labor force participation rates by the secondary income earner. c. Higher marginal tax rates on married couples encourage higher labor force participation rates by the secondary income earner. d. Lower marginal tax rates on married couples encourage lower labor force participation rates by the secondary income earner. ANSWER: b 206. What decade brought an exceptionally large number of women into the labor force? a. 1950s b. 1960s c. 1970s d. 1990s ANSWER: c 207. Since 1950, the female labor force participation rate in the United States: a. has first fallen and then risen. b. has remained relatively constant. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. has risen. d. has fallen. ANSWER: c 208. According to the textbook, one major reason for the increase in the female labor force participation rate after World War II was: a. an increase in income taxes. b. an increase in the overall population because of the baby boom. c. an increase in the incentive to work. d. a decrease in the male labor force participation rate. ANSWER: c 209. Which one of the following represents the Goldin-Katz explanation for why women in the United States increased their labor force participation after 1970? a. The invention of the birth control pill gave women a new way to stop having babies. b. The lowering of marginal tax rates for married couples gave women a bigger incentive to work. c. The birth control pill effectively lowered the cost of obtaining a professional degree by giving women more control over the consequences of sex. d. The birth control pill could then be sold to married couples for the very first time and thus more women could work. ANSWER: c 210. One reason for an increased female labor force participation rate is that the birth control pill has: a. raised the cost of living. b. reduced the adult population. c. reduced women's opportunity cost of working. d. reduced the number of male workers relative to female workers. ANSWER: c 211. During the 1980s, a reduction in the marginal tax rate (the tax on additional income) was found to: a. raise the female labor force participation rate. b. lower the female labor force participation rate. c. raise the amount of structural unemployment. d. lower the amount of structural unemployment. ANSWER: a 212. Government can influence a person's choice to work or not through: a. taxes on nonworkers and benefits paid to workers. b. taxes on workers and benefits paid to nonworkers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 c. taxes on both workers and nonworkers. d. benefits paid to both workers and nonworkers. ANSWER: b 213. Policies that encourage early retirement will most likely lead to: a. higher tax rates for younger workers. b. higher GDP. c. lower unemployment rates. d. lower wages for younger workers. ANSWER: a 214. The implicit tax on working is less than 1% in the United States and over 2% in Belgium. Given this fact, we would expect: a. higher labor force participation in Belgium. b. higher labor force participation in the United States. c. higher unemployment in Belgium. d. higher unemployment in the United States. ANSWER: b 215. Females started entering the labor force, and particularly professional schools, in increasing numbers beginning around: a. 1940. b. 1950. c. 1960. d. 1970. ANSWER: d 216. Suppose a country has a population of 5,000,000 people, which includes of 2,000,000 children and 3,000,000 adults. The adults consist of 70,000 institutionalized persons, 330,000 full-time students and retirees, 2,500,000 employed people, and 100,000 people seeking work. What is the labor force participation rate in this country? a. 88.7% b. 100.0% c. 86.7% d. 60.0% ANSWER: a 217. When a country’s population includes people born within a short period of time, the country’s _____ may be impacted as that group of people move through _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. unemployment benefits; their lifecycle b. labor force participation rate; a savings crisis c. unemployment benefits; a business cycle d. labor force participation rate; their lifecycle ANSWER: d 218. People’s willingness to join the labor force is determined by _____ and _____. a. the availability of jobs; job benefits b. the need for income; the availability of jobs c. the net benefits of working; the net benefits of leisure d. wages; skills ANSWER: c 219. Two influences on the rise in the female labor force participation rate in the United States are _____ and _____. a. rising implicit tax burdens on income; the availability of birth control b. the falling proportion of services in national output; falling implicit tax burdens on income c. the rising proportion of services in national output; the availability of birth control d. falling implicit tax burdens on income; the rising proportion of services in national output ANSWER: c 220. Since the mid-1960s, the male labor force participation rate in the United States has _____ and the female labor force participation rate has _____. a. increased; increased b. increased; decreased c. decreased; increased d. decreased; decreased ANSWER: c 221. The labor force participation rate responds to: a. incentives to work. b. real GDP growth. c. job opportunities. d. business cycles. ANSWER: a 222. Which is NOT a factor that has caused changes in the U.S. labor force participation rate in the past 60 years? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. changing technology b. changing weather patterns c. changing demographics d. changing cultural attitudes ANSWER: b 223. Suppose a country has a population of 10,000,000 people, which includes 3,500,000 children and 6,500,000 adults. The 6,500,000 adults consist of 2,000,000 full-time students, homemakers, and retirees, 100,000 institutionalized persons, 400,000 people looking for work, and 4,000,000 people working. What is the size of the labor force? a. 4,000,000 b. 4,400,000 c. 6,400,000 d. 6,500,000 ANSWER: b 224. Suppose a country has a population of 10,000,000 people, which includes 3,500,000 children and 6,500,000 adults. The 6,500,000 adults consist of 2,000,000 full-time students, homemakers, and retirees, 100,000 institutionalized persons, 400,000 people looking for work, and 4,000,000 people working. What is the unemployment rate? a. 4.0% b. 6.2% c. 9.1% d. 10.1% ANSWER: c 225. Suppose a country has a population of 10,000,000 people, which includes 3,500,000 children and 6,500,000 adults. The 6,500,000 adults consist of 2,000,000 full-time students, homemakers, and retirees, 100,000 institutionalized persons, 400,000 people looking for work, and 4,000,000 people working. What is the labor force participation rate? a. 65.0% b. 68.8% c. 67.7% d. 61.5% ANSWER: b 226. All individuals who do not have a job are counted as unemployed. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 ANSWER: b 227. The labor force consists of all of the adult, noninstitutionalized civilians in a nation. a. True b. False ANSWER: b 228. The unemployment rate is defined as the percentage of the adult population without a job. a. True b. False ANSWER: b 229. A taxi driver with a PhD in chemistry counts as fully employed. a. True b. False ANSWER: a 230. A part-time worker who wishes to have a full-time job counts as fully employed. a. True b. False ANSWER: a 231. A part-time worker who wishes to have a full-time job counts as unemployed. a. True b. False ANSWER: b 232. The level of labor force participation will be higher as the number of unemployed workers is lower. a. True b. False ANSWER: b 233. Other things being equal, an increase in the number of discouraged workers raises the unemployment rate. a. True b. False ANSWER: b 234. In the United States, the underemployment rate is typically higher than the unemployment rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. True b. False ANSWER: a 235. An increase in the number of underemployed workers leads to an increase in the unemployment rate. a. True b. False ANSWER: b 236. The labor force consists of the number of employed plus the number of unemployed workers. a. True b. False ANSWER: a 237. When information about jobs becomes scarcer, frictional unemployment tends to decrease. a. True b. False ANSWER: b 238. Frictional unemployment is the result of economy-wide shocks that force workers to restructure their skills. a. True b. False ANSWER: b 239. In 2010, over 46% of the unemployed had been unemployed for at least 6 months. a. True b. False ANSWER: a 240. Both highly specialized workers and highly specialized jobs might increase frictional unemployment. a. True b. False ANSWER: a 241. Structural unemployment is a more serious problem in Western Europe than in the United States, primarily because of more generous unemployment benefits, a stronger union presence, and employment protection laws in Western Europe. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 a. True b. False ANSWER: a 242. Labor unions tend to decrease unemployment. a. True b. False ANSWER: b 243. If every date required marriage, there would be many more dates than there are now. a. True b. False ANSWER: b 244. Employment-at-will tends to raise the unemployment rate. a. True b. False ANSWER: b 245. The persistently higher unemployment rates among European countries compared to the United States reflect higher structural unemployment in Europe. a. True b. False ANSWER: a 246. Both structural and frictional unemployment occur in the absence of cyclical unemployment. a. True b. False ANSWER: a 247. A nation that has experienced long-term unemployment for over 50 years has only frictional unemployment. a. True b. False ANSWER: b 248. Individuals who are structurally unemployed tend to be unemployed for long periods of time. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. False ANSWER: a 249. More labor regulations are likely to raise structural unemployment. a. True b. False ANSWER: a 250. Structural unemployment has been more of a problem in the United States than in Europe. a. True b. False ANSWER: b 251. Recently, the unemployment rate in the United States has typically been higher than the unemployment rate in Europe. a. True b. False ANSWER: b 252. The median wage is half the wage that the worker earns in a single hour. a. True b. False ANSWER: b 253. When unions exert a great deal of influence, the effect on labor markets is similar to that of a minimum wage. a. True b. False ANSWER: a 254. The employment-at-will doctrine allows a firm in the United States to fire a worker whenever it pleases and for whatever (nondiscriminatory) reason it pleases. a. True b. False ANSWER: a 255. The rigidity of employment index summarizes the difficulty of training new workers in a specific industry. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. False ANSWER: b 256. The United States has more extensive employment protection laws than Western Europe. a. True b. False ANSWER: b 257. High rates of long-term unemployment correlate with high costs of hiring and firing. a. True b. False ANSWER: a 258. Historical data support the idea that long-term unemployment increases with the higher costs of hiring and firing employees. a. True b. False ANSWER: a 259. The minimum wage lowers the price of labor from the market wage to the minimum wage, and as labor becomes less expensive, firms increase employment. a. True b. False ANSWER: b 260. Increases in the minimum wage are an effective way to increase employment and living standards for lowincome households. a. True b. False ANSWER: b 261. The employment-at-will doctrine makes labor markets more flexible and more dynamic. a. True b. False ANSWER: a 262. Active labor market policies protect workers who have jobs. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. False ANSWER: b 263. The natural unemployment rate is defined as frictional unemployment plus cyclical unemployment. a. True b. False ANSWER: b 264. The natural unemployment rate is likely to be lower when the economy is growing more rapidly. a. True b. False ANSWER: b 265. In a recession, the actual rate of unemployment in an economy is equal to its natural rate of unemployment. a. True b. False ANSWER: b 266. The natural unemployment rate is the sum of the structural and frictional unemployment rates. a. True b. False ANSWER: a 267. The natural unemployment rate fluctuates very little over time. a. True b. False ANSWER: a 268. Over time, the actual unemployment rate varies around the natural rate. a. True b. False ANSWER: a 269. The unemployment rate tends to move inversely with real GDP growth in an economy. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 270. The natural unemployment rate tends to move inversely with real GDP growth in an economy. a. True b. False ANSWER: b 271. When the unemployment rate is equal to the natural rate, cyclical unemployment is zero. a. True b. False ANSWER: a 272. When the unemployment rate is equal to the natural rate, frictional and structural unemployment are zero. a. True b. False ANSWER: b 273. The aging of the population typically results in a lower labor force participation rate as well as higher taxes for younger workers. a. True b. False ANSWER: a 274. When the baby boomers began to retire in 2011, the labor force participation rate increased. a. True b. False ANSWER: b 275. The widespread use of contraceptive pills is one of the major reasons for the increased female labor force participation rate after World War II. a. True b. False ANSWER: a 276. If the number of unemployed workers is 9.5 million and the number of employed workers is 146 million, what is the unemployment rate? ANSWER: The unemployment rate in this case is 6.1%: [9.5/(9.5 +146.0)] = 0.061 or 6.1%. 277. If the adult population is 200 million, and 100 million are working and 10 million are actively looking for a job but not working, what is the unemployment rate? What is the labor force participation rate? ANSWER: The unemployment rate is (10 million looking)/(100 million working + 10 million looking) = Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 10/110 = 0.0909 × 100 = 9.1%. The labor force participation rate is (100 million working + 10 million looking) divided by the 200 million adult population = 110 million/200 million = 0.55 × 100 = 55%. 278. Table: Statistics for a Small Economy Type of Statistic Number (millions) Population under the age of 16 16.0 Population over the age of 16 54.0 Retirees 14.0 Discouraged workers 3.0 Frictionally unemployed 1.5 Structurally unemployed 2.5 Cyclically unemployed 6.0 Refer to the table to answer the following questions. Assume that none of the adult population serves in the military or is institutionalized. a. How many people are in the country's labor force? b. What is the labor force participation rate? c. What is the unemployment rate? d. What is the natural unemployment rate? e. What is the rate of cyclical unemployment? ANSWER: a. The noninstitutionalized, civilian adult population comprises those in the labor force and those not in the labor force. Those not in the labor force include retirees and discouraged workers who would take a job if one were offered but who have given up looking. Thus, the labor force equals the adult population minus those not in the labor force. Labor force = (adult population – retirees – discouraged) = 54 – 14 – 3 = 37 million. b. Labor force participation rate = (labor force ÷ adult population) × 100 = (37/54) × 100 = 68.5%. c. Unemployment rate = (unemployed ÷ labor force) × 100 = (10/37) × 100 = 27%. d. Natural unemployment rate = (frictional + structural unemployment) ÷ labor force × 100 = (4/37) × 100 = 10.9%. e. Cyclical unemployment rate = cyclical unemployment ÷ labor force × 100 = (6/37) × 100 = 16.2%. 279. Table: Demographic Data Overall population Population 65 years or older Population younger than 16 years Unemployed persons Employed persons Discouraged workers
600 million 82 million 71 million 20 million 330 million 25 million
Assume that no one serves in the military or is institutionalized. Use these data to calculate the total labor force, the labor force participation rate, and the unemployment rate. ANSWER: Labor force = unemployed + employed = 20 million + 330 million = 350 million. Labor force participation rate = labor force ÷ adult population = 350 million ÷ (600 million – 71 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 million) = 0.6616 or 66.2%. Unemployment rate = unemployed ÷ labor force = 20 million ÷ 350 million = 0.057 or 5.7%. 280. Explain the impact of discouraged workers on the official unemployment rate. ANSWER: A discouraged worker is someone who has stopped looking for work but would take a job if one were offered. Because these workers would take a job, they should be considered unemployed. However, since they have stopped looking for work, they are no longer considered part of the labor force and are not counted as officially unemployed. For this reason, both the number of unemployed workers and the unemployment rate are understated in official statistics. 281. Identify both the factors that can increase structural unemployment and the policies that can decrease it. ANSWER: Large, long-lasting shocks that require the economy to restructure, including oil shocks, shifts from manufacturing to services, globalization and global competition, fundamental technology (computers and the Internet), and labor regulations (unemployment benefits, minimum wages, powerful unions, and employment protection laws), increase structural unemployment. Policies that can reduce structural unemployment include active labor market policies such as job retraining, jobsearch assistance, work tests, and early employment bonuses. 282. Why would the unemployment rate likely understate the overall decline in an economy's performance, especially in a recession? ANSWER: The unemployment rate fails to take at least two aspects of the labor market into consideration. First, not all individuals without a job are counted as unemployed. Especially during a recession, some people may get discouraged and stop looking for a job altogether. Those people, known as discouraged workers, are no longer counted in the labor force even if they would still like to work. Second, the unemployment rate does not measure job quality or how well workers are matched to their jobs. In a recession, there are relatively more workers holding part-time jobs or working in jobs that do not utilize their skills. For both of these reasons—collectively referred to as “underemployment”—the unemployment rate understates the true level of weakness in the economy. 283. Explain the impact of unemployment benefits on the unemployment rate. ANSWER: The presence of unemployment benefits reduces the incentive for the unemployed to look for work. The higher the unemployment benefits are, the lower the incentive is to look for work and the higher the level of unemployment is for a given size of the labor force. 284. How do wage and employment regulations in Western Europe regarding unemployment benefits, minimum wages, and labor unions differ from those in the United States? How do those differences impact the rigidity of employment index? ANSWER: Certain countries in Western Europe have higher unemployment benefits. For example, in France, an unemployed worker can receive 80% of his or her lost income in the first year of unemployment, whereas an unemployed worker in the United States receives only about 38% of his or her lost income during the same time period. This leads to longer spells of unemployment in Western Europe than in the United States. In Western Europe, unemployment benefits also last much longer than they do in the United States. Minimum wages in Western Europe are higher than they are in the United States. This means that in Western Europe more people are willing to work, yet there are fewer jobs than if the minimum wage were lower. Labor unions are also more powerful in Western Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 Europe than they are in the United States. Therefore, a much larger percentage of workers in Western Europe are unionized compared to the United States. Collective bargaining, not individual contracts, sets regulations for wages, length of the workweek, overtime pay, notice periods, severance pay, and so on, and since the employment-at-will doctrine does not apply in Western Europe, the costs of hiring and firing are much higher in these countries compared to the United States. In general, these conditions cause Western European countries to score much higher on the rigidity of employment index than the United States. 285. Identify the effects of employment protection laws. ANSWER: (1) Create valuable insurance for workers with a full-time job; (2) make labor markets less flexible and dynamic; (3) increase the duration of unemployment; (4) increase unemployment rates among young, minority, or otherwise “riskier” workers 286. What factors might increase structural unemployment, and what factors might decrease structural unemployment in a given country? ANSWER: Factors that increase structural unemployment can be broadly divided into two categories: longlasting supply-side shocks and labor regulations. Examples of long-lasting shocks are oil shocks, shifts from manufacturing to service economies, globalization, global competition, and technological shocks. Examples of labor regulations are the existence of unemployment benefits, the actions of labor unions, employment protection regulations, and minimum wage laws. Factors that might decrease structural unemployment would include job retraining, job-search assistance, work tests, and early reemployment bonuses. 287. Most economists argue against increases in the minimum wage as a way to help the poor. Explain why most economists do not favor increases in the minimum wage to raise the living standards of low-income households. ANSWER: Increases in the minimum wage raise the quantity of labor supplied (i.e., the number of people willing to work at the higher wage increases), but also decrease the quantity of labor demanded (the number of people firms want to hire). If the quantity supplied of labor exceeds the quantity demanded, there is a surplus of labor, which means a higher level of unemployment. Thus increases in the minimum wage cause additional unemployment. In addition, the people most likely to lose their jobs when the minimum wage rises are the lowest-skilled workers—typically young, inexperienced workers and low-income workers. 288. If Congress passes legislation making it more difficult for firms to fire workers, how will this legislation affect the nation's level of unemployment? (An example might be a law requiring severance pay for fired workers.) Explain. ANSWER: Laws making it more difficult for firms to fire workers would most likely make firms more cautious and less likely to hire workers. This decline in the demand for workers would most likely increase unemployment in the economy. 289. Explain how unions affect unemployment. ANSWER: Unions negotiate wages, benefits, and working conditions for a group of employees with their employer. Seeking to enhance the welfare of employees, unions typically negotiate higher wages than would prevail if there were no unions present. The wages that would prevail without unions would be the market equilibrium wage. Thus, unions negotiate to bring wages above equilibrium. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 While workers might appreciate higher wages, when wages are above equilibrium in the labor market, a surplus in the labor market will occur. A surplus in the labor market means that there are more individuals willing and able to provide labor than firms are willing to hire at current wages. Thus, firms have fewer employees. This means there are unemployed people seeking work. The surplus in the labor market is the number of people unemployed due to unions raising wages above equilibrium. 290. What are the different types of unemployment? Which type of unemployment is most likely to be higher during a recession? Explain your answers briefly. ANSWER: The three types of unemployment are frictional, structural, and cyclical. Frictional unemployment is short-term unemployment associated with the ordinary difficulties of matching employees to employers. Structural unemployment is the persistent, long-term unemployment associated with the dynamic features of an economy. Cyclical unemployment is the type of unemployment associated with downturns of the business cycle. Both frictional unemployment and structural unemployment occur in an economy regardless of its cyclical condition. In a recession, more firms tend to lay off workers, resulting in higher cyclical unemployment. 291. Indicate what type of unemployment, if any, is illustrated by each of the following cases. a. Jim lost his job as a stockbroker when the recession hit. b. Omar left his job as a corporate lawyer to look for a less stressful position. c. Nancy lost her job in a furniture plant when it was outsourced to China. d. John lost his job at the local hamburger joint when the city passed a minimum wage law. e. Mary lost her job as a bank teller because of increased ATM usage for routine banking transactions. f. Sally lost her job at a restaurant during a recession and decided to go back to school full time (without looking for a job) to become a teacher. g. Raquel was working at the local mill, but soon after it closed during a recession, she got discouraged and quit looking for a job. h. Julio's hours at a fast-food restaurant were cut to part time during a recession, but he hopes to return to fulltime work soon. i. Juanita lost her job as a paint department manager at a local hardware store when the store shut down due to competition from “big-box” stores. She has applications in at several of the big-box stores in town but is still waiting for an opening in the paint department. ANSWER: a. Cyclical unemployment (job loss due to recession); b. Frictional unemployment (to look for a better job match); c. Structural unemployment (due to changes in the manufacturing sector of the economy); d. Structural unemployment (due to labor regulation); e. Structural unemployment (due to changing technology); f. Sally is not unemployed, since she left the labor force to go back to school (and is not currently looking for a job); g. Raquel is not unemployed, since she quit looking for work (she is a discouraged worker); h. Julio is not unemployed, since he currently has a parttime job (he is underemployed); i. Juanita is frictionally unemployed as she awaits a position that matches her skills. 292. The natural unemployment rates are higher in European countries than in the United States. Briefly discuss some of the major reasons. ANSWER: The natural unemployment rate includes both frictional and structural unemployment. The persistently higher unemployment rates among European countries as compared to the United States imply that the natural unemployment rates are higher in these countries. Higher natural Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 unemployment rates are associated with government regulations such as more unemployment benefits, higher minimum wages, the presence of more powerful unions, and more restrictive employment protection laws. All these factors increase labor costs and “rigidities” in labor markets. Cross-country data support the positive association between these measures of labor market rigidities and higher unemployment. 293. What would you expect to happen to the unemployment rate during a recession? How about the natural rate of unemployment? ANSWER: The unemployment rate will increase during recessions, driven by the increase in cyclical unemployment. The natural rate of unemployment, on the other hand, does not change during recessions. This is because it measures unemployment that normally occurs (frictional and structural unemployment) and so is not related to business cycle downturns. 294. What are the three main types of unemployment? Provide an example of each type in your answer. ANSWER: The three main types of unemployment are frictional, structural, and cyclical. Frictional unemployment refers to the time it takes for unemployed people to match up with employers. It is short term in nature as unemployed people apply for job openings and employers review their applications. An example of someone who would be categorized as frictionally unemployed is a new college graduate who is waiting to begin her first job, which will begin two months after graduation. She is frictionally unemployed during those two months. Structural unemployment is more serious because it lasts longer due to a changing economic landscape. For example, a technological advancement may change the skills that are needed in workers, leaving an unfulfilled demand for workers with new skills and a number of structurally unemployed workers who have skills that are no longer desired. Cyclical unemployment occurs when the economy contracts during the business cycle and there are fewer jobs available. In this situation, there are fewer job openings than people seeking jobs. For example, during a recession, fewer people may buy houses, causing a drop in demand for construction workers. 295. A nation has an adult, noninstitutionalized, civilian population of 30 million people. There are 20 million employed people and 5 million people looking for work. What is the unemployment rate? What is the labor force participation rate? ANSWER: The labor force is the number of employed plus the number of unemployed, which is 25 million. The unemployment rate is the ratio of unemployed to the labor force (multiplied by 100), which is 5/25 × 100 = 20%. The labor force participation rate is the ratio of the labor force to the adult population (multiplied by 100), which is 25/30 × 100 = 83.3%. 296. Discuss the major economic factors that explain the rising labor force participation rate of women after World War II. ANSWER: Incentives are a key factor that explains the increasing labor force participation rate of women. Because of the rise of feminism and the growing acceptance of equality for women, wages for women have increased more rapidly than in the past, raising the incentives for them to seek higherpaying jobs. Also, the availability of more reliable contraceptives, such as the birth control pill, has made it easier for women to control fertility. This lowers the opportunity cost of having a career, leading to more women entering college and professional degree programs. 297. If the government wanted to encourage workers over age 60 to retire in order to free up jobs for younger Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 workers, what are two examples of policies that could help encourage early retirement? Would encouraging older workers to retire be beneficial to the younger workers? Explain. ANSWER: A number of policy proposals could encourage older workers to retire; however, all of them must either increase the benefits of retiring or raise the cost of working. One example might be increasing retirement benefits if workers retire at (or prior to) age 60; another might be raising the effective tax rate on workers who work past age 60. This policy, however, will probably not be beneficial to younger workers, since more retirees mean less tax revenue and higher government spending on Social Security benefits. This would ultimately lead to higher tax rates for younger workers, both to make up for the lost revenue of the retiring workers and to pay for the higher benefits. But younger workers may see higher wages. 298. Explain how the age distribution in a population affects the labor force when there is an unusually large or small age group in the population. ANSWER: Labor force participation follows a rather predictable pattern as individuals move through their lifecycles. Labor force participation is low during the early adulthood years, is high during the prime working years of those aged 25 to 54, and then tapers off during later years of life. Children, meanwhile, are not part of the labor force. Stable birth rates and death rates lead to a relatively stable labor force. However, if for some reason a jolt to birth rates or death rates leads to an unusually large or small number of births for several years, then there will be an unusually large or small group entering the labor force. The labor force will be larger or smaller than it would have been if birth rates and death rates had been held steady. This change will follow through the life span of this group of workers. When these workers retire, they will no longer be in the labor force but will remain part of the noninstitutionalized adult population that impacts the labor force participation rate. If they live longer, they will continue to impact the labor force participation rate. 299. Why did 36,000 travel agents lose their jobs between 1999 and 2006? a. There was a large decline in tourism in those years. b. More people started making their travel arrangements online. c. They spent too much time taking vacations of their own and got fired. d. They became professional athletes. ANSWER: b 300. Which of the following would the U.S. Bureau of Labor Statistics define as a discouraged worker? a. Quinton, who has a doctorate in chemistry, but works full time as a taxi driver b. Robert, a retired teacher, who works full time as a greeter at a discount store c. Mary, who was laid off last year and who was looking for a full-time job until last month d. Susan, who has been unemployed for the past three years and is looking for a part-time job ANSWER: c 301. The fraction of unemployed people who were unemployed for longer than a year was the lowest in which country from 1980 to 2004? a. France Copyright Macmillan Learning. Powered by Cognero.
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Chapter 11 b. Italy c. United States d. Germany ANSWER: c 302. Changing demographics, cultural attitudes about women, and government tax policies all affect: a. frictional unemployment. b. the unemployment rate. c. the labor force participation rate. d. cyclical unemployment. ANSWER: c 303. What is the relationship between the level of implicit taxes on earned income and the labor force participation rate of older men? a. There is a positive relationship. b. There is a negative relationship. c. The labor force participation rate remains constant as the level of implicit tax changes. d. There is no predictable relationship between the two measures. ANSWER: b
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Chapter 12 1. When the government of Zimbabwe ran out of money, President Robert Mugabe: a. raised taxes. b. printed more money. c. slashed spending. d. collapsed. ANSWER: b 2. _____ occurs when the amount of money in an economy increases more rapidly than output. a. Savings b. Human capital investment c. Unemployment d. Inflation ANSWER: d 3. Inflation occurs when the growth in _____ exceeds the growth in _____. a. output; the money supply b. the money supply; output c. employment; output d. output; employment ANSWER: b 4. If the average price level rises from 120 in year 1 to 130 in year 2, the inflation rate in year 2 is: a. 7.69%. b. 8.33%. c. 9.23%. d. 10.00%. ANSWER: b 5. Which measure of the average price level most closely corresponds to a student's daily economic activities? a. consumer price index b. producer price index c. GDP deflator d. household price index ANSWER: a 6. As a result of the changing variety and quality of goods that the typical consumer purchases each year, many economists argue that the consumer price index might: a. have to be abandoned in favor of a better measure of inflation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. not be as good a measure of inflation as the GDP deflator is. c. understate inflation. d. overstate inflation. ANSWER: d 7. Inflation is: a. the average number of times a dollar is spent on final goods and services in a year. b. when people mistake changes in nominal prices for changes in real prices. c. a decrease in the average level of prices. d. an increase in the average level of prices. ANSWER: d 8. If the price level in 2018 is 150 and it rises to 165 in 2019, what is the rate of inflation between 2018 and 2019? a. 9% b. 10% c. 15% d. 165% ANSWER: b 9. If the price level in 2016 is 140 and it falls to 133 in 2017, what has the economy experienced between 2016 and 2017? a. 5% inflation b. 7% inflation c. 7% deflation d. 5% deflation ANSWER: d 10. The consumer price index measures the prices of: a. all final goods bought by American consumers. b. a basket of goods bought by a typical American consumer. c. intermediate as well as final goods. d. introductory, intermediate, and final goods. ANSWER: b 11. The basket of goods bought by the average consumer: a. stays about the same throughout time. b. is changing all the time. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. uniformly falls in price. d. uniformly rises in price. ANSWER: b 12. A real price is: a. an increase in the average level of the price of a good. b. a decrease in the average level of the price of a good. c. a price that has been corrected for inflation. d. the average number of times a dollar is spent on final goods and services in a year. ANSWER: c 13. From 2010 to 2020, the United States experienced average annual inflation of about: a. 0.2%. b. 1.8%. c. 2.1%. d. 2.8%. ANSWER: b 14. Inflation refers to an increase in the: a. relative prices of some goods as compared to other goods. b. average level of prices. c. standard of living. d. average level of nominal output. ANSWER: b 15. Inflation is an increase in the: a. value of the dollar. b. value of the New York Stock Exchange. c. average level of prices. d. level of nominal output. ANSWER: c 16. The inflation rate is the rate of change of the: a. value of the dollar. b. New York Stock Exchange. c. average level of prices. d. money supply. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: c 17. The price level at the end of 2011 minus the price level at the end of 2010 is the _____ for the year 2011. a. inflation rate b. change in the price level c. change in gross national product d. consumer price index ANSWER: b 18. The average price for a basket of goods bought by a typical U.S. consumer is measured by the: a. consumer price index. b. GDP deflator. c. producer price index. d. exchange rate. ANSWER: a 19. The ratio of the nominal value of economic output to the real value of economic output multiplied by 100 is the: a. consumer price index. b. GDP deflator. c. producer price index. d. exchange rate. ANSWER: b 20. Which measure of prices includes all of the final goods and services in a nation's output? a. consumer price index b. the GDP deflator c. producer price index d. the exchange rate ANSWER: b 21. A measure of the average price received by suppliers is the: a. consumer price index. b. GDP deflator. c. producer price index. d. exchange rate. ANSWER: c 22. When computing the consumer price index, the Bureau of Labor Statistics takes into account changes in: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. the type of goods but not the quality of goods purchased by the average consumer. b. the quality of goods but not the type of goods purchased by the average consumer. c. the type of goods and the quality of goods. d. neither the price nor the quality of goods. ANSWER: c 23. Which of the following is NOT a price index often used to measure inflation? a. consumer price index b. producer price index c. net price index d. GDP deflator ANSWER: c 24. The consumer price index measures the: a. total price of a basket of goods and services bought by a typical consumer. b. average price of a basket of goods and services bought by a typical consumer. c. total price of a basket of goods and services bought by all families in the country. d. average price of a basket of goods and services bought by all families in the country. ANSWER: b 25. Table: Consumer Price Index Year CPI (end-ofyear value) 2005 195.3 2006 201.6 2007 207.3 2008 215.3 2009 214.5 2010 218.1 Refer to the CPI values in the table for the years 2005 to 2010. What was the approximate inflation rate over the period 2009 to 2010? a. 3.60% b. 18.10% c. 21.81% d. 1.68% ANSWER: d 26. Table: Consumer Price Index Year CPI (end-ofCopyright Macmillan Learning. Powered by Cognero.
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Chapter 12 2005 2006 2007 2008 2009 2010
year value) 195.3 201.6 207.3 215.3 214.5 218.1
Refer to the CPI values in the table for the years 2005 to 2010. What was the approximate inflation rate over the period 2007 to 2008? a. 8.00% b. 21.53% c. 3.86% d. 3.72% ANSWER: c 27. Table: Consumer Price Index Year CPI (end-ofyear value) 2005 195.3 2006 201.6 2007 207.3 2008 215.3 2009 214.5 2010 218.1 Refer to the CPI values in the table for the years 2005 to 2010. In which year was the inflation rate the highest? a. 2006 b. 2007 c. 2008 d. 2009 ANSWER: c 28. Table: Consumer Price Index Year CPI (end-ofyear value) 2005 195.3 2006 201.6 2007 207.3 2008 215.3 2009 214.5 2010 218.1 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 Refer to the CPI values in the table for the years 2005 to 2010. In which year(s) did the country experience disinflation? a. 2007 b. 2009 c. both 2007 and 2009 d. neither 2007 nor 2009 ANSWER: c 29. Table: Consumer Price Index Year CPI (end-ofyear value) 2005 195.3 2006 201.6 2007 207.3 2008 215.3 2009 214.5 2010 218.1 Refer to the CPI values in the table for the years 2005 to 2010. In which year(s) did the country experience deflation? a. 2007 b. 2009 c. both 2007 and 2009 d. neither 2007 nor 2009 ANSWER: b 30. What do we call an increase in the average level of prices in an economy? a. recession b. disinflation c. deflation d. inflation ANSWER: d 31. The percentage increase in a price index from one year to the next is the: a. real GDP growth rate. b. inflation rate. c. GDP inflator. d. nominal GDP growth rate. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 32. If the price level in the year 2000 is 100, and the price level in the year 2001 is 110, what is the inflation rate in 2001? a. 100% b. 110% c. 10% d. 9% ANSWER: c 33. Inflation is best defined as an increase in: a. the real price of a good or service. b. the price of one product relative to the price of another product. c. all prices in an economy. d. the average price level. ANSWER: d 34. If a price index increased from 400 to 440 over the course of a year, then the inflation rate was: a. 4%. b. 9%. c. 10%. d. 40%. ANSWER: c 35. Suppose that a nation's CPI is 150 in year 1 and 180 in year 2. What is the rate of inflation? a. 17% b. 15% c. 20% d. 25% ANSWER: c 36. Suppose that a nation's inflation rate is 5.8% from year 1 to year 2. If the CPI in year 2 is 200, what was the CPI in year 1? a. 180 b. 189 c. 190 d. 208 ANSWER: b 37. Which of the following statements highlights the difference between the CPI (consumer price index) and the GDP deflator? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. The CPI measures the average prices of inputs in the production process, whereas the GDP deflator measures the average prices of goods and services purchased by consumers. b. The CPI measures the average prices of retail goods and services, whereas the GDP deflator measures the average prices of wholesale goods. c. The CPI measures the average prices of goods and services consumed by typical consumers, whereas the GDP deflator measures the average prices of all goods and services in the economy. d. The CPI measures the average prices of all final goods and services purchased by consumers, whereas the GDP deflator measures the average prices of all inputs used in the economy. ANSWER: c 38. Which of the three price indexes measures the average price level of the largest total number of goods? a. the consumer price index b. the GDP deflator c. the producer price index d. the wholesale price index ANSWER: b 39. Which of the following is NOT a price index used by economists to measure inflation? a. consumer price index (CPI) b. commodity consumption indicator (CCI) c. GDP deflator d. producer price index (PPI) ANSWER: b 40. Approximately how many prices of goods and services are measured by the CPI? a. 800,000 b. 80,000 c. 800 d. 80 ANSWER: b 41. Which index measures price increases that typical American consumers face when shopping? a. CPI b. PPI c. GDP deflator d. GDP inflator ANSWER: a 42. Which price index measures prices of both intermediate and final goods? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. consumer price index (CPI) b. producer price index (PPI) c. GDP inflator d. GDP deflator ANSWER: b 43. Which price index measures the average price for a basket of goods purchased by a typical American consumer? a. consumer price index b. household price index c. GDP deflator d. producer price index ANSWER: a 44. Which price index reflects the prices of all final goods and services produced within the economy? a. the consumer price index b. the GDP inflator c. the GDP deflator d. the producer price index ANSWER: c 45. Which price index measures the average price received by suppliers? a. the consumer price index b. the GDP deflator c. the producer price index d. the wholesale price index ANSWER: c 46. Which measure of inflation is based on a market basket of goods and services for a typical household? a. the index of household expenditures b. the producer price index c. the GDP deflator d. the consumer price index ANSWER: d 47. The consumer price index measures the: a. average price of all goods and services included in GDP. b. average price received by producers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. cost of living for a typical consumer. d. price of the most popular household item. ANSWER: c 48. The GDP deflator: a. measures the average price for a basket of goods bought by an average consumer. b. measures the average price received by producers. c. is the ratio of nominal GDP to real GDP multiplied by 100. d. is the price index associated with changes in the cost of living to consumers. ANSWER: c 49. The GDP deflator: a. measures the average price for a basket of goods bought by an average consumer. b. measures the average price received by producers. c. measures the average price of all final goods and services produced. d. is the price index adjusted with changes in GDP. ANSWER: c 50. Two of the challenging factors faced by the U.S. Bureau of Labor Statistics when computing the consumer price index are: a. new goods and better-quality goods. b. new goods and inferior goods. c. used goods and better-quality goods. d. used goods and inferior goods. ANSWER: a 51. If you had to predict the U.S. inflation rate for next year and decided that a good way to make that prediction would be simply to use the average inflation rate over the past 10 years, what would be your prediction for U.S. inflation next year? a. 1.1% b. 1.8% c. 4.0% d. 5.2% ANSWER: b 52. To compare the $1-an-hour your grandfather earned in 1950 with the $8-an-hour you earn today, you would need to: a. simply compare $1-an-hour to $8-an-hour. b. add the inflation rates in each year since 1950 until today and add this to your grandfather's wage. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. calculate real wages in both 1950 and today. d. calculate your grandfather's nominal wage in 1950 and compare it to your wage today. ANSWER: c 53. The average rate of inflation in the United States over the past 10 years has been around 1.8%. If this trend continues, prices in the United States will double in about _____ years. a. 10 b. 18 c. 33 d. 39 ANSWER: d 54. In 2016, _____ had the highest inflation rate at about 500%. a. Japan b. Greece c. Zimbabwe d. South Sudan ANSWER: d 55. If the CPI was 100 in 2000 and 120 in 2010 and the price of a gallon of milk was $4.00 in 2000 and $4.80 in 2010, then in relative terms the real of price milk between 2000 and 2010: a. increased by 20%. b. decreased by 20%. c. remained the same. d. cannot be determined without knowing the base year. ANSWER: c 56. If you earned $10 an hour in 2005 when the CPI was 100, and you earn $11 an hour today when the CPI is 120, then your real wage rate has _____ since 2005. a. increased 20% b. remained the same c. decreased d. increased 10% ANSWER: c 57. A real price is the price: a. that consumers really pay. b. after adjusting for any discounts. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. after adding any additional finance charges. d. that has been corrected for inflation. ANSWER: d 58. If the CPI was 125 last year and is now 135, then the inflation rate last year was: a. 6%. b. 7%. c. 8%. d. 10%. ANSWER: c 59. If the inflation rate falls from 4% in 2005 to 2% in 2006, then: a. disinflation has occurred. b. deflation has occurred. c. the average price level has declined. d. the value of money has increased. ANSWER: a 60. Why do we use the “real” prices of goods to measure how expensive things have become? a. to find out what the current prices of goods and services are b. to estimate the periods when hyperinflation has occurred c. to find out what the inflation rate has been d. to see whether there have been any changes in our purchasing power ANSWER: d 61. Which answer best explains why prices of some popular goods have fallen over time? a. Consumers have increased their demand for these products over time. b. Consumer demand has become more inelastic. c. Technological advances have reduced production costs. d. Supply of the good has decreased. ANSWER: c 62. Table: Inflation in Poland Year Inflation Rate (annual % change) 1985 15.1% 1990 585.8 1999 7.3 2002 1.9 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 2003
0.8
Source: International Monetary Fund (www.imf.org)
This table shows actual inflation data for different periods in Poland. Which year was hyperinflationary? a. 1985 b. 1990 c. 1999 d. 2003 ANSWER: b 63. Table: Inflation in Poland Year Inflation Rate (annual % change) 1985 15.1% 1990 585.8 1999 7.3 2002 1.9 2003 0.8 Source: International Monetary Fund (www.imf.org)
This table shows actual inflation data for different periods in Poland. Which year was deflationary? a. 1990 b. 1999 c. 2003 d. No year was deflationary. ANSWER: d 64. According to the CPI, since 1950 the average U.S. inflation rate has been: a. 13.9%. b. 11.2%. c. 6.3%. d. 3.6%. ANSWER: d 65. What is the best explanation for the fact that the dollars spent on food have risen since the early 1980s but that food costs less now than it did then? a. Real food prices decreased over the period. b. Available food per capita decreased over the period. c. The PPI decreased over the period. d. The CPI decreased over the period. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 66. Which country had the highest inflation rate in 2016? a. Angola b. China c. Japan d. Venezuela ANSWER: d 67. When the typical price of a good or service in Russia increases from 20 rubles to 20 million rubles in a single year, the nation is experiencing: a. deflation. b. falling GDP per capita. c. hyperinflation. d. high disinflation. ANSWER: c 68. Compared to other countries, inflation in the United States has been: a. about the same. b. relatively high. c. relatively low. d. extremely unpredictable. ANSWER: c 69. Hyperinflation refers to the case in which inflation: a. remains relatively constant. b. is extremely high. c. is extremely low. d. is extremely unpredictable. ANSWER: b 70. If the price of gasoline increased 100% during a period of time when inflation was 100%, then the relative real price of gasoline would: a. increase. b. decrease. c. remain constant. d. increase or decrease, depending on whether income had changed or not. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 71. An increase in the average level of prices is: a. economic growth. b. a cause of unemployment. c. inflation. d. a benefit to residents of a certain country. ANSWER: c 72. Inflation: a. is an increase in the price of a good or service. b. occurs when any good or service increases in price. c. cannot occur when prices are decreasing. d. is an increase in the average price level. ANSWER: d 73. Which is NOT a standard price index used in the United States? a. producer price index b. national inflation index c. consumer price index d. GDP deflator ANSWER: b 74. Suppose that the CPI was 206 in 2018, 210 in 2019, and 217 in 2020. What was the inflation rate in 2019? a. 1.90% b. 1.94% c. 3.18% d. 3.33% ANSWER: b 75. Suppose that the CPI was 206 in 2018, 210 in 2019, and 217 in 2020. What was the inflation rate in 2020? a. 1.90% b. 1.94% c. 3.18% d. 3.33% ANSWER: d 76. Suppose that the CPI was 144 in 2016, 150 in 2017, 157 in 2018, and 166 in 2019. What was the inflation rate in 2018? a. 4.45% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. 4.67% c. 5.73% d. 6.00% ANSWER: b 77. Suppose that the CPI was 144 in 2016, 150 in 2017, 157 in 2018, and 166 in 2019. What was the inflation rate in 2017? a. 4.00% b. 4.17% c. 4.46% d. 4.66% ANSWER: b 78. Which price index includes the prices of intermediate goods? a. producer price index b. national inflation deflator c. consumer price index d. GDP deflator ANSWER: a 79. Two problems with the average price level indicated by the CPI are changes in both the _____ and the _____. a. prices of goods purchased; quantity of goods produced b. quality of goods purchased; quantity of goods produced c. mix of goods purchased; prices of goods purchased d. mix of goods purchased; quality of goods purchased ANSWER: d 80. Suppose that a certain country’s CPI was 217 in 2017 and was 225 in 2019. If the same group of groceries cost $30 in 2017 and $34 in 2019, the real price of groceries changed by how much in 2019 when measured in 2017 prices? a. The real price of groceries did not change. b. The real price of groceries went up by 9.3%. c. The real price of groceries went up by 13.5%. d. The real price of groceries went up by 2.9%. ANSWER: b 81. The “quantity theory of money” describes the relationship between: a. prices, employment, money supply, and production. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. the velocity of money, money supply, real output, and prices. c. GDP, money supply, consumption, and savings. d. the money supply and real GDP. ANSWER: b 82. The average number of times a dollar is spent on final goods and services during a year is the: a. velocity of money. b. money supply. c. consumption rate. d. quantity theory of money. ANSWER: a 83. According to the quantity theory of money, an increase in the money supply causes an increase in _____ over the long run. a. production b. the velocity of money c. real GDP d. prices ANSWER: d 84. What two components of the quantity theory of money are assumed to be stable over time? a. the velocity of money and the price level b. real GDP and price level c. real GDP and the velocity of money d. the money supply and the velocity of money ANSWER: c 85. In a small economy, the quantity of money circulating in the economy is $2.5 million. Real GDP for the current year is $5 million, and the average price level is 2. What is the velocity of money? a. 4.0 b. 2.0 c. 2.5 d. 5.0 ANSWER: a 86. In a small economy, the money supply is $400,000, and the velocity of money is 3. The current average price level in the economy is 1. What is the level of real GDP in this economy? a. $1.2 million Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. $1.6 million c. $400,000 d. $133,333 ANSWER: a 87. In a small economy, the rate of money growth for the current year is 2%. Velocity of money circulation is stable. Inflation is expected to be about 1.5% over the current year. What is the short-run economic growth rate? a. 3.5% b. 1.5% c. 0.5% d. 2.0% ANSWER: c 88. The velocity of money is: a. how fast the price level is rising. b. how fast the inflation rate is rising. c. the rate at which money can be printed. d. the average number of times a dollar is spent on final goods and services. ANSWER: d 89. An assumption of the quantity theory of money is that the velocity of money: a. remains relatively constant. b. rises with increases in the money supply. c. rises with increases in real GDP. d. rises with increases in the price level. ANSWER: a 90. An assumption of the quantity theory of money is that real GDP growth: a. remains relatively constant. b. rises with increases in the money supply. c. rises with increases in the velocity of money. d. rises with increases in the price level. ANSWER: a 91. Suppose the money supply equals $100 million, the average price level equals 40, and real GDP equals $50 million. Given this information, the velocity of money equals: a. 20. b. 80. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. 100. d. 125. ANSWER: a 92. If the velocity of money and real GDP are fixed, then the quantity theory of money implies that the price level will: a. increase at a lower rate than the growth in the money supply. b. increase at the same rate as the growth in the money supply. c. increase at a higher rate than the growth in the money supply. d. be unrelated to the growth in the money supply. ANSWER: b 93. Which of the following identities represents the quantity theory of money? a. MP = Yv b. Mv = PYR c. P = M d. Mv = YR ANSWER: b 94. If the average level of prices in an economy equals 100, the money supply equals $100,000, and the level of real output equals $5,000, then the velocity of money is: a. 5. b. 20. c. 100. d. 1,000. ANSWER: a 95. When using the quantity theory of money to analyze the relation between inflation, money, real output, and prices, we typically assume that: a. real output and the money supply are constant. b. real output and the velocity of money are constant. c. the velocity of money is equal to the inflation rate. d. the growth rate of the money supply is constant. ANSWER: b 96. The velocity of money is: a. the average number of times a dollar is spent on final goods and services in a year. b. a price that has been corrected for inflation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. when people mistake changes in nominal prices for changes in real prices. d. an increase in the average level of prices. ANSWER: a 97. In the equation Mv = PYR, M stands for: a. the multiplier. b. inflation. c. the money supply. d. median. ANSWER: c 98. If the money supply is $1 million, the velocity of money is 10, and the price level is 100, what is real GDP? a. $1,000 b. $10,000 c. $100,000 d. $1 million ANSWER: c 99. If the money supply is $375 million, the velocity of money is 5, and real GDP is $12.5 million, what is the average price level? a. 50.0 b. 100.0 c. 150.0 d. 12.5 ANSWER: c 100. When the velocity of money and real GDP are fixed, increases in the money supply: a. result in lower velocity. b. are impossible because the money supply must also be fixed. c. must cause decreases in the price level. d. must cause increases in the price level. ANSWER: d 101. In the equation Mv = PYR, P represents: a. average productivity. b. the average price level. c. inflation. d. corporate profits. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: b 102. In the long run, the quantity theory of money says that the growth rate of the money supply will be approximately equal to the: a. velocity of money. b. inflation rate. c. price level. d. growth rate of real GDP. ANSWER: b 103. Nobel Prize–winning economist Milton Friedman said, “Inflation is always and everywhere a _____ phenomenon.” a. monetary b. risky c. velocity d. growth ANSWER: a 104. If the money supply and the velocity of money are fixed, then increases in real GDP: a. are impossible because real GDP must also be fixed. b. cause increases in the price level. c. cause decreases in the price level. d. occur without changes in the price level. ANSWER: c 105. If the money supply, the velocity of money, and the price level are fixed, then increases in real GDP: a. are impossible because real GDP must also be fixed. b. cause the money supply, the velocity of money, and the price level to increase together. c. cause the money supply, the velocity of money, and the price level to decrease together. d. occur without changes in the other variables. ANSWER: a 106. Deflation is: a. the average number of times a dollar is spent on final goods and services in a year. b. mistaking changes in nominal prices for changes in real prices. c. a decrease in the average level of prices. d. an increase in the average level of prices. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 107. With respect to real output, in the long run, money is: a. expansionary. b. velocity. c. temporary. d. neutral. ANSWER: d 108. The identity that expresses the quantity theory of money is: a. money supply × money velocity = average price × quantity of goods and services. b. money supply + money velocity = average price – quantity of goods and services. c. money supply – money velocity = average price – quantity of goods and services. d. money supply ÷ money velocity = average price ÷ quantity of goods and services. ANSWER: a 109. The quantity theory of money implies that the money supply times the velocity of money equals: a. real GDP. b. the quantity of goods and services. c. the price level. d. nominal GDP. ANSWER: d 110. According to the quantity theory of money, if the money supply is $1,000 million, the overall price level is 200, and real GDP is 50 million, then the velocity of money is equal to: a. 10. b. 20. c. 50. d. 100. ANSWER: a 111. Assuming that the velocity of money and real GDP are fixed, the quantity theory of money predicts that a 2% increase in the money supply causes a 2%: a. increase in inflation. b. decrease in inflation. c. increase in the average price level. d. decrease in the average price level. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 112. The quantity theory of money assumes that the velocity of money: a. increases with the quantity of money in the economy. b. decreases with the quantity of money in the economy. c. is relatively stable. d. is difficult to predict. ANSWER: c 113. The quantity theory of money assumes that real GDP: a. increases with the quantity of money in the economy. b. decreases with the quantity of money in the economy. c. is relatively stable. d. is difficult to predict. ANSWER: c 114. The quantity theory of money predicts that the price level: a. increases with the quantity of money in the economy. b. decreases with the quantity of money in the economy. c. is relatively constant. d. is difficult to predict. ANSWER: a 115. The quantity theory of money: a. describes the general relationship between money, velocity, real output, and prices. b. presents the critical roles of money demand in regulating the level of prices. c. derives the optimal quantity of inflation. d. explains the equilibrium between money supply and money demand. ANSWER: a 116. Suppose the nominal GDP of a country is $500 billion. If the velocity of money in the country is 10, then the country's money supply will equal: a. $5,000 billion. b. $510 billion. c. $490 billion. d. $50 billion. ANSWER: d 117. If the money supply in a country is $200 million, the velocity of money is 5, and real GDP is 250 million, the price level of the country must be: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. 1.25. b. 4.00. c. 6.25. d. 8.00. ANSWER: b 118. The quantity theory of money predicts that the main cause of inflation is increases in: a. prices. b. real output. c. consumption. d. the money supply. ANSWER: d 119. Between 1960 and 1990, Argentina's money supply grew at approximately 80%. According to the quantity theory of money, inflation rates in Argentina should have been approximately _____ during this period. a. 20% b. 40% c. 80% d. 160% ANSWER: c 120. According to the quantity theory of money, the primary cause of inflation is: a. the growth rate of the money supply. b. the growth rate of real GDP. c. productivity growth. d. the number of real economic shocks. ANSWER: a 121. According to the quantity theory, what causes inflation in the long run? a. unemployment b. unexpected inflation c. money supply growth d. aggregate demand shocks ANSWER: c 122. Disinflation occurs when the overall price level: a. falls. b. rises at a decreasing rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. rises at an exponential rate. d. falls at an increasing rate. ANSWER: b 123. If the growth rate of the money supply decreases from 10% to 5%, which of the following is a prediction of the quantity theory of money? a. disinflation b. deflation c. hyperinflation d. money illusion ANSWER: a 124. According to the quantity theory of money, money growth in the long run: a. affects both real GDP growth and inflation. b. affects real GDP growth only. c. affects inflation only. d. has no effect on either real GDP growth or inflation. ANSWER: c 125. When economists state that “money is neutral,” they mean that the: a. overall price level has no effect on consumers; only relative prices do. b. overall price level has no effect on people's inflation expectations. c. money supply does not affect inflation or nominal GDP. d. money supply does not affect real GDP or unemployment. ANSWER: d 126. According to the quantity theory of money, a change in the money supply affects: a. real GDP in the short run but not in the long run. b. real GDP in the long run but not in the short run. c. nominal GDP in the short run but not in the long run. d. nominal GDP in the long run but not in the short run. ANSWER: a 127. The quantity theory states that money is neutral: a. in both the short run and the long run. b. only in the short run. c. only in the long run. d. neither in the short run nor in the long run. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: c 128. In times of financial panic, we expect the velocity of money to: a. increase. b. decrease. c. remain relatively constant. d. first increase and then decrease. ANSWER: b 129. Deflation is a decrease in the: a. exchange rate. b. average level of prices. c. inflation rate. d. velocity of money. ANSWER: b 130. Disinflation is a decrease in the: a. exchange rate. b. average level of prices. c. inflation rate. d. velocity of money. ANSWER: c 131. In the long run, an increase in the money supply will cause _____ in real GDP. a. an increase b. a decrease c. no change d. volatile and unpredictable changes ANSWER: c 132. Suppose that real GDP and the velocity of money remain constant. If the money supply doubles, then the inflation rate will be: a. 10%. b. 50%. c. 100%. d. 200%. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 133. According to Nobel laureate Milton Friedman, “inflation is _____.” a. a good thing b. found everywhere c. always present d. always and everywhere a monetary phenomenon ANSWER: d 134. _____ is a decrease in the average level of prices, whereas _____ is a reduction in the inflation rate. a. Deflation; disinflation b. Disinflation; deflation c. Stagflation; disinflation d. Deflation; stagflation ANSWER: a 135. When an increase in the money supply is unexpected by firms and workers, real GDP: a. increases in the short run. b. decreases in the short run. c. increases in the long run. d. decreases in the long run. ANSWER: a 136. The inflation parable discussed in the text suggests a: a. short-run relationship between unexpected inflation and output. b. short-run relationship between expected inflation and output. c. long-run relationship between unexpected inflation and output. d. long-run relationship between expected inflation and output. ANSWER: a 137. Why could very high rates of inflation cause velocity to increase? a. The more people earn, the faster they spend it. b. The more money loses its value, the faster people try to spend it. c. The more people earn, the faster prices rise. d. The more inflation there is, the more there is to buy. ANSWER: b 138. The quantity theory of money is a theory of: a. money growth in the United States. b. inflation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. economic growth. d. the growth of tax burdens. ANSWER: b 139. Table: CPI Year CPI (end-ofyear value) 1999 110 2000 115 2001 117 2002 115 According to the table, in which of the following years did this country experience disinflation? a. 2001 b. 2002 c. both 2001 and 2002 d. neither 2001 nor 2002 ANSWER: a 140. Table: CPI Year CPI (end-ofyear value) 1999 110 2000 115 2001 117 2002 115 According to the table, in which of the following years did this country experience deflation? a. 2001 b. 2002 c. both 2001 and 2002 d. neither 2001 nor 2002 ANSWER: b 141. In the quantity theory of money, growth of _____ is the cause of inflation. a. the money supply b. velocity c. real GDP d. the CPI ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 142. According to the quantity theory of money, a nation that increases its money supply by 30% should expect its price level to increase by approximately: a. 15%. b. 30%. c. 45%. d. 60%. ANSWER: b 143. According to the quantity theory, which of the following could cause the price level to decrease? a. The population spends less money. b. The population spends money faster. c. Nominal GDP rises. d. The government spends more. ANSWER: a 144. In the long run, money: a. always increases real GDP. b. will not affect prices. c. will lift the standard of living for everyone in a nation. d. is neutral with respect to quantity produced. ANSWER: d 145. According to the quantity theory of money, an increase in the money supply will cause the price level to: a. remain relatively constant since money is neutral. b. increase by about the same percentage as the money supply. c. increase by a greater percentage than the money supply. d. increase by a smaller percentage than the money supply. ANSWER: b 146. All else being equal, according to the quantity theory of money, an increase in the velocity of money will cause: a. deflation. b. disinflation. c. hyperinflation. d. higher inflation. ANSWER: d 147. When we examine data from different countries, higher money growth has consistently been associated with: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. deflation. b. disinflation. c. hyperinflation. d. higher inflation. ANSWER: d 148. If, in an economic panic, people decide to hold their money rather than spend it, the velocity of money will: a. remain relatively constant. b. increase. c. decrease. d. become unpredictable. ANSWER: c 149. According to the quantity theory of money, the major cause of inflation in the long run is an increase in: a. the standard of living. b. the velocity of money. c. the growth rate of real GDP. d. the growth rate of the money supply. ANSWER: d 150. The argument that “inflation is always and everywhere a monetary phenomenon” is consistent with: a. the theory of price confusion. b. the quantity theory of money. c. the theory of money illusion. d. the Fisher effect. ANSWER: b 151. Suppose that the average level of prices increased from 100 to 110 between 2007 and 2008, and from 110 to 115 between 2008 and 2009. Between 2008 and 2009, there was: a. deflation. b. hyperinflation. c. disinflation. d. inflation in the real price of everything. ANSWER: c 152. The argument that “money is neutral in the long run” means that an increase in the money supply can: a. increase real GDP only temporarily. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. decrease real GDP only temporarily. c. increase real GDP permanently. d. decrease real GDP permanently. ANSWER: a 153. How might changes in the money supply be non-neutral in the short run? a. As the amount of money circulating in the economy changes before prices respond, the purchases of consumers change accordingly, which leads producers to change production levels. b. When money supply changes in the short run, it will affect nominal, but not real, variables in the short run. c. As money growth increases at a faster rate, it will cause real GDP to grow at an even faster rate. d. If producers expect inflation to increase, they will increase supply in order to sell before the arrival of inflation. ANSWER: a 154. The “inflation parable” in the text refers to the fact that an unexpected change in the money supply affects: a. real GDP only in the long run. b. real GDP only in the short run. c. real GDP in both the short run and the long run. d. only inflation in the short run. ANSWER: b 155. Episodes of hyperinflation are caused by: a. severe recessions. b. extreme economic booms. c. extremely high rates of money growth. d. moderately high rates of real GDP growth. ANSWER: c 156. Suppose that a man spends a dollar on an ice cream cone. The dollar he spends becomes income to the ice cream store owner, who spends it on paper. The dollar the ice cream store owner spends then becomes income to a worker at the paper factory, who uses it to help pay for gas. This process of the dollar being spent, becoming income, and then being spent repeatedly on final goods and services is the basis of the concept of: a. revolving spending. b. quantity spending. c. inflationary money. d. the velocity of money. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 157. The meaning of the quantity theory of money equation, Mv = PYR, is that ____ equals _____. a. the value of money; the price level per year b. the value of money; real output c. total expenditures; nominal GDP d. total expenditures; the price level per year ANSWER: c 158. Which is INCORRECT in the quantity theory of money equation, Mv = PYR? a. M = money supply b. v = velocity of money c. P = production level d. YR = real GDP ANSWER: c 159. What will happen in the equation Mv = PYR if M increases? a. P or YR will rise to maintain the balance in the equation. b. P or YR will fall to maintain the balance in the equation. c. The equal sign will be replaced by the “less than” sign. d. The equal sign will be replaced by the “greater than” sign. ANSWER: a 160. Which two components in the equation Mv = PYR are more stable? a. M and P b. v and YR c. v and P d. M and YR ANSWER: b 161. According to the quantity theory of money, what happens in the economy if the money supply increases more rapidly than output? a. P rises. b. v falls. c. YR falls. d. v rises. ANSWER: a 162. According to the quantity theory of money, the main cause of inflation is an excessive: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. increase in velocity. b. decrease in real GDP. c. increase in the money supply. d. decrease in velocity. ANSWER: c 163. Table: CPI Data Year 1 Year 2 Year 3 Year 4 Year 5 CPI 100 108 105 112 115 The table provides CPI data for a certain country over five years. In which year did deflation occur? a. year 2 b. year 3 c. year 4 d. year 5 ANSWER: b 164. Table: CPI Data Year 1 Year 2 Year 3 Year 4 Year 5 CPI 100 108 105 112 115 The table provides CPI data for a certain country over five years. In which year did disinflation occur? a. year 2 b. year 3 c. year 4 d. year 5 ANSWER: d 165. Table: CPI Data Year 1 Year 2 Year 3 Year 4 Year 5 CPI 100 108 105 112 115 The table provides CPI data for a certain country over five years. In which years did inflation occur? a. year 2 and year 4 b. year 3 and year 5 c. year 2 and year 5 d. year 3 and year 4 ANSWER: a 166. What is meant by the phrase “In the long run, money is neutral”? a. Over long periods of time, the purchasing power of the currencies of different countries will Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 equalize. b. Over long periods of time, money cannot be used for political gain. c. Over long periods of time, inflation is determined by other factors but not the quantity of money. d. Over long periods of time, output is constrained by the factors of production but not the quantity of money. ANSWER: d 167. Which of these statements is NOT correct? a. If your nominal wages rise at a rate higher than the inflation rate, you have received a “real” pay raise. b. If your nominal wages rise at exactly the rate of inflation, your purchasing power over time remains constant. c. If your nominal wages rise at 4% while inflation rises at 5%, you have essentially received a “pay cut.” d. If deflation occurs, you will receive a “real” pay raise regardless of what happens to your nominal wage. ANSWER: d 168. Which one of the following is NOT a cost of inflation? a. wasted resources associated with price confusion b. higher tax burdens if tax brackets are not adjusted for inflation c. wealth redistribution from private citizens to the government d. an automatic decrease in nominal wages throughout the period of inflation ANSWER: d 169. Money illusion is: a. the average number of times a dollar is spent on final goods and services in a year. b. mistaking changes in nominal prices for changes in real prices. c. a decrease in the average level of prices. d. an increase in the average level of prices. ANSWER: b 170. If people expect an inflation rate of 3% and later it turns out to be 5%, then the real rate of return will be: a. less than was expected. b. greater than was expected. c. 3%. d. 5%. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 171. When the expected rate of inflation is higher than the actual rate of inflation, wealth is: a. redistributed at random. b. not redistributed at all. c. redistributed from borrowers to lenders. d. redistributed from lenders to borrowers. ANSWER: c 172. When an economy experiences volatile and unpredictable hyperinflation: a. people will decrease their borrowing. b. people will increase their lending. c. borrowing and lending won't be affected. d. it causes a breakdown of financial intermediation. ANSWER: d 173. Inflation hurts the economy because: a. it raises all prices in the economy. b. it affects the ability of market prices to send signals about the value of resources. c. everyone can perfectly see the increases in prices. d. higher prices reduce real output. ANSWER: b 174. Inflation tends to cause nominal wages to: a. increase. b. decrease. c. remain constant. d. become more difficult to predict. ANSWER: a 175. High and volatile inflation: a. causes the price of goods and services to deviate from the market price. b. increases the purchasing power of money and income. c. creates a high supply of goods and services. d. destroys the ability of market prices to send signals about the value of resources and opportunities. ANSWER: d 176. Which of the following is NOT a cost of inflation? a. price confusion b. declining nominal wages Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. money illusion d. inflation tax ANSWER: b 177. The primary reason that we think of inflation as bad even when nominal wages rise with it is that it: a. makes things more expensive for consumers. b. leads to lower real wages. c. distorts the information delivered by prices. d. increases the velocity of money. ANSWER: c 178. Which of the following is a problem with deflation? a. It raises the real cost of debt repayment. b. Stopping it will cause a recession. c. It causes people to pay more taxes. d. There is no problem with deflation; falling prices are good for the economy. ANSWER: a 179. Suppose you are forced to take a pay cut of 5% when the economy is experiencing overall deflation of 5%. If in response to your pay cut you also reduce your consumption by 5%, then economists would say that: a. you made a rational decision. b. you are exhibiting money illusion. c. your real wage decreased by 5%. d. the quantity theory of money held. ANSWER: b 180. Money illusion occurs when people: a. become irrational about money use. b. become rationally ignorant about money. c. mistake changes in prices for changes in quality. d. mistake changes in nominal prices for changes in real prices. ANSWER: d 181. High volatility in the inflation rate can result in: a. improper allocation of resources. b. sudden changes in output. c. low volatility in the CPI. d. deflation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: a 182. When the money supply and the demand for goods increase at the same time: a. producers understand how to react, but consumers are confused. b. consumers act rationally, but producers cannot read the market signals. c. the government is able to clarify how the markets will be affected. d. both consumers and producers can often become confused. ANSWER: d 183. When changes in nominal prices are confused with changes in real prices, people experience: a. consumer bias. b. inflationary delusion. c. cyclical price confusion. d. money illusion. ANSWER: d 184. Which of the following is an example of money illusion, assuming that inflation is 5%? a. You receive a 5% raise at your part-time job and start spending extra money on entertainment every weekend. b. You receive a 5% raise at your part-time job but do not increase or decrease your spending. c. You do not receive a raise at your part-time job but cut out some expenses as you notice some prices rising. d. You receive a 10% raise at your part-time job and start spending extra money on entertainment every weekend. ANSWER: a 185. Because of money illusion, inflation often confuses: a. consumers. b. workers. c. firms. d. consumers, workers, and firms. ANSWER: d 186. When people suffer from money illusion, an increase in the money supply: a. raises real GDP in the short run. b. lowers real GDP in the short run. c. has no effect on real GDP in the short run but raises real GDP in the long run. d. lowers real GDP in the long run. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: a 187. Jordan loaned Taylor $1,200 on March 15, 2009. Taylor returned $1,260 on March 14, 2010. Inflation was 2% over the 1-year period. What is the real interest rate that Taylor paid? a. 2% b. 3% c. 5% d. 7% ANSWER: b 188. Lonnie loaned Burt $15,000 in 2009. Burt repaid Lonnie $150 in real interest for the 1-year loan. Inflation that year was 1.5%. What nominal interest rate did Lonnie charge Burt? a. 0.5% b. 2.0% c. 2.5% d. –0.5% ANSWER: c 189. Lillian loaned A.J. $10,000 and increased her purchasing power by $200 when A.J. repaid the loan a year later. Deflation of 2% also occurred that year. What nominal interest rate did Lillian charge A.J.? a. 0% b. 2.0% c. 4.0% d. 2.5% ANSWER: a 190. Table: Anticipating Inflation Year Predicted Inflation Rate 2000 3% 2001 3 2002 7 2003 5 2004 4
Actual Inflation Rate 3% 2 9 4 7
Using the inflation data in the table, assume that all loan contracts have fixed nominal interest rates of 10% and mature after 1 year. In which year did lenders gain relative to borrowers? a. 2000 b. 2002 c. 2003 d. 2004 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: c 191. Table: Anticipating Inflation Year Predicted Inflation Rate 2000 3% 2001 3 2002 7 2003 5 2004 4
Actual Inflation Rate 3% 2 9 4 7
Using the inflation data in the table, assume that all loan contracts have fixed nominal interest rates of 10% and mature after 1 year. In which year did lenders receive exactly the amount of real interest they expected? a. 2000 b. 2002 c. 2003 d. 2004 ANSWER: a 192. Table: Anticipating Inflation Year Predicted Inflation Rate 2000 3% 2001 3 2002 7 2003 5 2004 4
Actual Inflation Rate 3% 2 9 4 7
Using the inflation data in the table, assume that all loan contracts have fixed nominal interest rates of 10% and mature after 1 year. In which year did borrowers gain relative to lenders? a. 2000 b. 2001 c. 2002 d. 2003 ANSWER: c 193. Current forecasts say that mild inflation is expected next year. If, however, deflation occurs instead: a. lenders on existing fixed-rate loans will gain while borrowers will lose. b. borrowers on existing fixed-rate loans will gain while lenders will lose. c. both lenders and borrowers on existing fixed-rate loans will lose. d. both lenders and borrowers on existing fixed-rate loans will gain. ANSWER: a 194. Which of the following correctly represents unexpected disinflation? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. Eπ > π b. Eπ < π c. Eπ = π d. Eπ > i ANSWER: a 195. Which of the following correctly represents deflation? a. Eπ > π b. Eπ < π c. Eπ = π d. π < 0 ANSWER: d 196. Unanticipated high inflation always means: a. a loss in purchasing power for lenders of fixed-rate loans. b. a decrease in the amount of real taxes paid by citizens and firms. c. a redistribution of wealth from the rich to the poor. d. a loss in purchasing power for both lenders and borrowers. ANSWER: a 197. The realized real rate of return for lenders is equal to the nominal rate of return: a. plus the inflation rate. b. minus the inflation rate. c. times the inflation rate. d. divided by the inflation rate times 100. ANSWER: b 198. A bank lends money for a year at an interest rate of 7%, and the inflation rate for that year turns out to be 5%. What is the bank's real rate of return for that year? a. 2.0% b. 3.5% c. 6.0% d. 12.0% ANSWER: a 199. What is the Fisher effect? a. the tendency of nominal interest rates to fall with higher expected inflation rates b. the tendency of nominal interest rates to rise with higher expected inflation rates Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. the tendency of real interest rates to fall with higher expected inflation rates d. the tendency of real interest rates to rise with higher expected inflation rates ANSWER: b 200. When actual inflation is equal to expected inflation: a. borrowers are harmed and lenders benefit. b. lenders are harmed and borrowers benefit. c. both borrowers and lenders are harmed. d. neither borrowers nor lenders are harmed. ANSWER: d 201. Inflation tends to benefit: a. lenders. b. the government. c. taxpayers. d. families with fixed incomes. ANSWER: b 202. For a given nominal interest rate, an increase in the inflation rate will cause real interest rates to: a. remain relatively constant. b. increase. c. decrease. d. become unpredictable. ANSWER: c 203. For a given nominal interest rate, an increase in deflation will cause the real rate of interest to: a. remain relatively constant. b. increase. c. decrease. d. become unpredictable. ANSWER: b 204. The Fisher effect indicates that an increase in the expected inflation rate will cause the nominal rate of interest to: a. remain relatively constant. b. increase by the same amount. c. decrease by the same amount. d. become unpredictable. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: b 205. The Fisher effect indicates that an increase in the expected inflation rate will cause the real rate of interest to: a. remain relatively constant. b. increase by the same amount. c. decrease by the same amount. d. become unpredictable. ANSWER: a 206. The situation in which the government pays off its debts by printing money is called: a. a money illusion. b. monetizing the debt. c. disinflation. d. the quantity theory of money. ANSWER: b 207. If expected inflation is higher than actual inflation, then: a. wealth will be redistributed from lenders to borrowers. b. wealth will be redistributed from borrowers to lenders. c. both borrowers and lenders will gain wealth. d. both borrowers and lenders will lose wealth. ANSWER: b 208. If the nominal interest rate is 8% while the inflation rate is 10%, then the real rate of return for lenders is: a. 18%. b. 10%. c. 2%. d. –2%. ANSWER: d 209. According to the Fisher equation, the nominal interest rate equals the expected inflation rate: a. less the equilibrium real interest rate. b. plus the equilibrium real interest rate. c. multiplied by the equilibrium real interest rate. d. divided by the equilibrium real interest rate. ANSWER: b 210. According to the Fisher effect, a 5% decrease in the expected inflation rate results in: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. a 5% decrease in the nominal interest rate. b. a more than 5% increase in the nominal interest rate. c. a 5% decrease in the real interest rate. d. a more than 5% increase in the real interest rate. ANSWER: a 211. According to the Fisher equation, if the expected inflation rate is less than the actual inflation rate, then the actual rate of return will be: a. lower than the equilibrium interest rate. b. higher than the equilibrium interest rate. c. the same as the equilibrium interest rate. d. higher or lower than the equilibrium interest rate, depending on the degree of money illusion. ANSWER: a 212. When the government monetizes its debt, the results are: a. higher inflation and benefits for holders of government bonds. b. lower inflation and benefits for holders of government bonds. c. higher inflation and losses for holders of government bonds. d. lower inflation and losses for holders of government bonds. ANSWER: c 213. Debt monetization means that a government pays off its debt by: a. lowering inflation. b. raising tax revenues. c. borrowing from foreigners. d. increasing the money supply. ANSWER: d 214. Volatile hyperinflation causes financial intermediation to: a. become more efficient. b. favor long-term lending. c. favor first-time borrowers. d. break down. ANSWER: d 215. In times when prices rise unexpectedly: a. producers are made better off at the expense of consumers. b. consumers are made better off at the expense of producers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 c. lenders are made better off at the expense of borrowers. d. borrowers are made better off at the expense of lenders. ANSWER: d 216. An investment of $1,000 in the bank at an annual interest rate of 4% at the same time that prices rise by 2.5% generates a real return of: a. 1.5%. b. 2.5%. c. 4.0%. d. 6.5%. ANSWER: a 217. The text states that “inflation is a type of tax.” This tax refers to _____ when inflation occurs. a. the lower purchasing power of money b. a higher tax rate that the government must impose c. a higher nominal interest rate of a typical loan d. a special tax on taxpayers in order for the government to balance its budget ANSWER: a 218. Suppose the nominal interest rate is 4% and the inflation rate is 5%. The real interest rate is: a. 9%. b. 0%. c. 1%. d. –1%. ANSWER: d 219. The Fisher effect predicts that the nominal interest rate: a. rises as the expected inflation rate rises. b. falls as the expected inflation rate rises. c. remains the same as the expected inflation rate changes. d. changes only if the unexpected inflation rate changes, but not with the expected inflation rate. ANSWER: a 220. The Fisher equation implies that if expected inflation is higher than actual inflation, then: a. the actual rate of return will be equal to the equilibrium interest rate. b. the actual rate of return will be greater than the equilibrium interest rate. c. the actual rate of return will be less than the equilibrium interest rate. d. both the actual rate of return and the equilibrium interest rate will become undetermined. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: b 221. If the economy experiences unexpected inflation, then the actual rate of return will be _____ than its equilibrium rate, and wealth will be distributed from _____. a. greater; lenders to borrowers b. less; lenders to borrowers c. greater; borrowers to lenders d. less; borrowers to lenders ANSWER: b 222. The case of hyperinflation in Zimbabwe in the late 2000s was an example of the effects of: a. the government monetizing its debt. b. large rainfall shocks. c. amplification mechanisms. d. a lack of foreign aid. ANSWER: a 223. Negative real rates of interest tend to: a. increase economic growth. b. reduce economic growth. c. have no impact on economic growth. d. exist only in poor countries. ANSWER: b 224. If a lender expects an inflation rate of 5% and asks for a nominal interest rate of 10%, then the lender expects to earn a real interest rate of: a. 2%. b. 5%. c. 10%. d. 15%. ANSWER: b 225. If a lender expects an inflation rate of 5% but the inflation rate unexpectedly increases to 7%, and if the nominal interest rate was 10%, what is the real rate of interest earned? a. 2% b. 3% c. 4% d. 5% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: b 226. The Fisher effect is the tendency of: a. real interest rates to rise with expected inflation rates. b. real interest rates to rise with unexpected inflation rates. c. nominal interest rates to rise with expected inflation rates. d. nominal interest rates to rise with unexpected inflation rates. ANSWER: c 227. According to the Fisher effect, the nominal interest rate will: a. rise as unexpected inflation increases. b. fall as unexpected inflation increases. c. rise as expected inflation increases. d. fall as expected inflation increases. ANSWER: c 228. When inflation functions as a type of tax, which of the following groups of people will be hurt the most? a. people or businesses with deposits in a savings account that pays an interest rate higher than the rate of inflation b. people or businesses that invest in gold, silver, platinum, or other metals c. people who hold currency and coins in their wallet, purse, or at home d. people who invest their money in mutual funds ANSWER: c 229. Monetizing the debt occurs when a government: a. raises taxes to pay off the debt. b. issues more debt to finance its budget deficit. c. decreases the money supply to pay off the debts. d. pays off its debts by printing money. ANSWER: d 230. When disinflation arises unexpectedly, the actual rate of return will _____ the equilibrium rate, which will benefit _____. a. exceed; lenders and harm borrowers b. exceed; borrowers and harm lenders c. fall short of; lenders and harm borrowers d. fall short of; borrowers and harm lenders ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 231. When inflation rises unexpectedly: a. the actual rate of return will exceed the equilibrium rate, which will benefit lenders and harm borrowers. b. the actual rate of return will exceed the equilibrium rate, which will benefit borrowers and harm lenders. c. the actual rate of return will fall short of the equilibrium rate, which will benefit lenders and harm borrowers. d. the actual rate of return will fall short of the equilibrium rate, which will benefit borrowers and harm lenders. ANSWER: d 232. Even expected inflation typically: a. increases real prices. b. increases the amount of taxes that people pay over time. c. decreases average household consumption. d. decreases the number of long-term contracts signed. ANSWER: b 233. Inflation generally causes the taxes paid by individuals and business firms to: a. remain relatively constant. b. increase. c. decrease. d. become less of a burden. ANSWER: b 234. For a tax system in which higher-income earners pay a larger share of their incomes in taxes, a higher inflation rate: a. lowers the tax burden of taxpayers. b. raises the tax burden of taxpayers. c. does not affect the tax burden of taxpayers. d. can raise or lower the tax burden of taxpayers, depending on their income levels. ANSWER: b 235. What happens to workers who contract for cost-of-living allowances of 10% a year when the inflation rate falls to 4%? a. They lose purchasing power. b. They are paying an inflation tax. c. They become more costly to employ and may lose their jobs. d. They must be suffering from money illusion. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: c 236. What effect did reducing U.S. inflation from 13.5% in 1980 to 3% in 1983 have? a. Wealth was shifted from lenders to borrowers. b. The unemployment rate fell to 4%. c. The country experienced a recession. d. Per capita income increased by 18% in 3 years. ANSWER: c 237. A major problem with inflation is that after it starts: a. it always stops quickly because the economy always corrects itself naturally. b. it is easy to stop as long as it is fully expected. c. it is difficult to stop without experiencing high unemployment. d. it can never be stopped with a government policy. ANSWER: c 238. Inflation is painful to stop because stopping it: a. is virtually impossible. b. involves decreasing people's real wages. c. requires decreasing the growth rate of the money supply, which typically leads to lower growth overall in the short run. d. requires lowering interest rates, which hurts lenders but benefits borrowers. ANSWER: c 239. Which is an example of someone who is fooled by money illusion in a certain country with a 4% inflation rate? a. A saver thinks he is earning a 1% real return on savings that earns 5% interest. b. A saver thinks she is losing purchasing power on savings that earns 3% interest. c. An employee thinks he can buy 7% more goods and services after receiving a 7% raise. d. An employee thinks she can buy 2% more goods and services after receiving a 6% raise. ANSWER: c 240. If a certain country’s inflation rate is 3% and savings accounts are earning 2% interest, then: a. the nominal value of funds in savings accounts is rising by 1% per year. b. the nominal value of funds in savings accounts is rising by 3% per year. c. the purchasing power of savings accounts is falling by 3% per year. d. the purchasing power of savings accounts is falling by 1% per year. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 241. If a certain country’s inflation rate is 4% and savings accounts are earning 5% interest, then: a. the nominal value of funds in savings accounts is rising by 4% per year. b. the nominal value of funds in savings accounts is rising by 5% per year. c. the purchasing power of savings accounts is falling by 4% per year. d. the purchasing power of savings accounts is falling by 1% per year. ANSWER: b 242. If a certain country’s inflation rate is 3% and savings accounts are earning 2% interest, then: a. the nominal value of funds in savings accounts is rising by 1% per year. b. the nominal value of funds in savings accounts is rising by 2% per year. c. the purchasing power of savings accounts is falling by 3% per year. d. the purchasing power of savings accounts is falling by 2% per year. ANSWER: b 243. Suppose the inflation rate is 3% when a 15-year mortgage loan is given at a fixed rate of 4.5%. Five years later the inflation rate rises to 4%. What impact does this change have on the nominal interest rate and the real interest rate on the mortgage loan? a. The nominal interest rate and the real interest rate both decrease. b. The nominal interest rate and the real interest rate both increase. c. The nominal interest rate remains the same and the real rate interest decreases. d. The nominal interest rate decreases and the real interest rate increases. ANSWER: c 244. Which accurately describes who gains and who loses from unexpected inflation that occurs after the interest rate is set? a. Borrowers gain and lenders lose. b. Borrowers gain and lenders gain. c. Borrowers lose and lenders gain. d. Borrowers lose and lenders lose. ANSWER: a 245. Suppose the nominal interest rate is 4% and the inflation rate is 3%. What is the real interest rate? a. 1% b. 3% c. 4% d. 7% ANSWER: a 246. Suppose the nominal interest rate is 4% and the real interest rate is 1%. What is the inflation rate? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 a. 1% b. 3% c. 4% d. 7% ANSWER: b 247. Suppose the real interest rate is 1% and the inflation rate is 3%. What is the nominal interest rate? a. 1% b. 3% c. 4% d. 7% ANSWER: c 248. What is meant by the claim that inflation redistributes wealth? a. Everyone’s wealth is reduced from inflation. b. Inflation takes assets away and then gives them back to the same people afterward. c. Some people gain and some people lose from inflation. d. Everyone faces both a nominal and a real distribution of wealth. ANSWER: c 249. According to the Fisher effect, what will happen if the expected inflation rate falls? a. The nominal interest rate will rise. b. The nominal interest rate will fall. c. The real interest rate will rise. d. The real interest rate will fall. ANSWER: b 250. According to the Fisher effect, what will happen if the expected inflation rate rises? a. The nominal interest rate will rise. b. The nominal interest rate will fall. c. The real interest rate will rise. d. The real interest rate will fall. ANSWER: a 251. Suppose a 30-year fixed-rate mortgage loan was issued at a 5% interest rate when the expected inflation rate was 3%. Ten years later, the actual inflation rate was 4%. What was the real rate of return to the lender on this loan after 10 years? a. –1% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. 1% c. 4% d. 5% ANSWER: b 252. Suppose a 30-year fixed-rate mortgage loan was issued at a 7% interest rate when the expected inflation rate was 4%. Ten years later, the actual inflation rate was 2%. What was the real rate of return to the lender on this loan after 10 years? a. 1% b. 2% c. 4% d. 5% ANSWER: d 253. Suppose a 30-year fixed-rate mortgage loan was issued at a nominal interest rate of 5.5% when the expected inflation rate was 2.5%. Eight years later, the actual inflation rate was 4%. After eight years, the real interest rate was _____ and _____ benefited from the actual inflation rate being higher than expected. a. 5.5%; borrowers b. 2.5%; lenders c. 3.0%; lenders d. 1.5%; borrowers ANSWER: d 254. Which does NOT result from negative real interest rates? a. the acceleration of economic growth b. a fall in the supply of loanable funds c. a reduction in savings in the banking system d. less efficient financial intermediation ANSWER: a 255. When inflation is highly variable and unpredictable, it becomes very difficult to: a. compute a price index. b. estimate the desired real interest rate. c. negotiate long-term contracts that involve payments. d. negotiate short-term contracts that involve payments. ANSWER: c 256. When taxes are assessed on nominal measures of incomes and capital gains, then inflation: a. has no impact on taxes paid. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. places a higher tax burden on taxpayers. c. places a lower tax burden on taxpayers. d. has an unpredictable impact on taxpayers. ANSWER: b 257. When the government takes action to reduce expected inflation, ____ often results in the short run. a. a simultaneous reduction in inflation and employment b. a reduction in inflation with no change in employment c. a reduction in inflation with an increase in employment d. a simultaneous increase in inflation and employment ANSWER: a 258. According to the Fisher effect, what harms lenders and benefits borrowers? a. when expected inflation > actual inflation b. when expected inflation < actual inflation c. when expected inflation = actual inflation d. when expected inflation is unpredictable compared to actual inflation ANSWER: b 259. According to the Fisher effect, what harms borrowers and benefits lenders? a. when expected inflation > actual inflation b. when expected inflation < actual inflation c. when expected inflation = actual inflation d. when expected inflation is unpredictable compared to actual inflation ANSWER: a 260. Generally, inflation is assumed to be bad for an economy EXCEPT when: a. interest rates are high. b. incomes are rising. c. the unemployment rate is high. d. it is mild and sustained. ANSWER: d 261. A nominal price is converted into a real price by adjusting: a. for changes in output. b. with a multiple of inflation. c. for the national product. d. with a price index. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: d 262. Workers and firms adjust to predictable inflation by: a. assuming it will fall over time. b. ignoring it. c. including adjustments for it in contracts. d. assuming high inflation to prevent underestimation. ANSWER: c 263. The inflation rate is equal to the rate of change in the average price level. a. True b. False ANSWER: a 264. Inflation increases as long as the average level of prices increases. a. True b. False ANSWER: b 265. If the average price level rises from 205 to 210, then the inflation rate is 5%. a. True b. False ANSWER: b 266. The price of phone calls has risen over time as a result of inflation. a. True b. False ANSWER: b 267. Hungary holds the world record for the largest hyperinflation, set in 1945–1946. a. True b. False ANSWER: a 268. The bundle of goods used to calculate the consumer price index remains constant over time. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: b 269. The bundle of goods used to calculate the consumer price index is always changing. a. True b. False ANSWER: a 270. The GDP deflator measures the average price for a basket of goods and services bought by a typical consumer. a. True b. False ANSWER: b 271. The consumer price index (CPI) measures the average price for a basket of goods and services bought by a typical American consumer. a. True b. False ANSWER: a 272. The CPI measures the average price of all final goods and services. a. True b. False ANSWER: b 273. Compared to the early 1980s, inflation since 1985 has been relatively low. a. True b. False ANSWER: a 274. To compare accurately the price of automobiles in 1950 and in 2010, we would need to calculate the real price of automobiles in 1950 and in 2010. a. True b. False ANSWER: a 275. If the price of gasoline increased from $2.50 per gallon in 2006 to $3.50 per gallon in 2010, during which time the CPI increased from 203.1 to 220.2, then we can conclude that the real price of gasoline declined from 2006 to 2010. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. False ANSWER: b 276. A decrease in the inflation rate from 10% to 3% implies that deflation has occurred. a. True b. False ANSWER: b 277. A decrease in the inflation rate from 10% to 3% implies that disinflation has occurred. a. True b. False ANSWER: a 278. A decrease in the inflation rate from 10% to 3% implies that the average price level has declined. a. True b. False ANSWER: b 279. The quantity theory of money shows the general relationship between inflation, money, real output, and wages. a. True b. False ANSWER: b 280. The quantity theory of money predicts that if the money supply doubles, the price level will also double. a. True b. False ANSWER: a 281. In the short run, money is neutral. a. True b. False ANSWER: b 282. When a nation has a money supply of 4,000, a money velocity of 2, and a GDP of 800, the price level is 100. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: b 283. In hyperinflationary situations, one might expect the velocity of money to increase. a. True b. False ANSWER: a 284. According to the quantity theory of money, the velocity of money equals the amount of money people spend divided by the product of the price level and the quantity of goods and services they purchase. a. True b. False ANSWER: b 285. Nobel laureate Milton Friedman said, “Inflation is always and everywhere an unemployment phenomenon.” a. True b. False ANSWER: b 286. Changes in money velocity and GDP are the main determinants of the inflation rate. a. True b. False ANSWER: b 287. In the long run, money is neutral. a. True b. False ANSWER: a 288. The terms “deflation” and “disinflation” have the same meaning. a. True b. False ANSWER: b 289. If the CPI for this year is lower than the CPI for last year, disinflation must have occurred. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 ANSWER: b 290. Deflation always implies that the inflation rate is negative. a. True b. False ANSWER: a 291. According to the quantity theory of money, the primary cause of inflation is an increase in real GDP. a. True b. False ANSWER: b 292. The quantity theory of money is consistent with economist Milton Friedman's argument that “inflation is always and everywhere a monetary phenomenon.” a. True b. False ANSWER: a 293. Money is neutral in the long run but not in the short run. a. True b. False ANSWER: a 294. Although money is neutral in the short run, it's possible that changes in money supply can change real GDP in the long run. a. True b. False ANSWER: b 295. The Fisher effect is the tendency of nominal interest rates to rise with expected inflation rates. a. True b. False ANSWER: a 296. Monetizing the debt occurs when the government pays off its debts by printing money. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 297. Sustained inflation tends to increase nominal wages. a. True b. False ANSWER: a 298. Inflation has no economic costs as long as it is fully expected. a. True b. False ANSWER: b 299. When expected inflation is less than actual inflation, inflation causes wealth redistribution from lenders to borrowers. a. True b. False ANSWER: a 300. Government debt monetization generally leads to inflation. a. True b. False ANSWER: a 301. Most cases of national hyperinflation are caused by governments attempting to redistribute wealth to poorer citizens. a. True b. False ANSWER: b 302. When actual inflation is less than expected, wealth is transferred from the borrower to the lender. a. True b. False ANSWER: a 303. Wealth will be redistributed from borrowers to lenders when expected inflation is less than actual inflation. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 304. In times of rising prices, lenders will always benefit at the expense of borrowers. a. True b. False ANSWER: b 305. An unexpected disinflation benefits lenders and harms borrowers. a. True b. False ANSWER: a 306. Negative real interest rates among developing countries result when they print too little money. a. True b. False ANSWER: b 307. Inflation can reduce the real return that lenders receive on their loans, in effect transferring wealth from borrowers to lenders. a. True b. False ANSWER: b 308. Unexpected disinflation will cause the actual rate of return to be greater than the equilibrium rate, which will benefit lenders and harm borrowers. a. True b. False ANSWER: a 309. One of the major problems associated with hyperinflation is the increased uncertainty associated with longterm contracts. a. True b. False ANSWER: a 310. One of the major costs of deflation is the decreased real purchasing power of wages that accompanies it. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 311. Discuss the reasons for Zimbabwe's high inflation rate. ANSWER: Because of the policies of President Robert Mugabe, the government in Zimbabwe was unable to raise the funds necessary to run the government through taxation. With insufficient tax revenue, the government turned to money creation (the printing press) to raise funds. This money creation led to high inflation. As Milton Friedman pointed out, inflation is always and everywhere a monetary phenomenon. 312. Suppose the consumer price index in 1987 was 428 with a base year of 1967. What does this tell us about prices in 1987? ANSWER: It tells us that prices in 1987 were 4.28 times higher than they were in the base year of 1967. In other words, what cost $1.00, on average, in 1967 would cost $4.28 in 1987. 313. Explain the difference between the price level and the rate of inflation. ANSWER: The price level is the average price of the goods and services sold in the economy. Inflation is the rate of change in the average price of those goods and services. That is, inflation is the rate of change in the average price level. The rate of inflation is expressed as the percentage change in the average price level. 314. If the price level was 134 in 2008 and 149 in 2009, what was the inflation rate over this period? ANSWER: [(149 – 134) ÷ 134] × 100 = 0.11194 × 100 = 11.194%. 315. If your older brother paid $27,000 for college tuition in 1999, what was the real price of his college tuition in 2009 dollars? The consumer price index was 164.7 in 1999 and 212.174 in 2009. ANSWER: (212.174/164.70) × $27,000 = $34,782.62. 316. Suppose a worker earns twice as much income this year as 5 years ago. Is that worker necessarily better off in terms of the goods and services that can be purchased with that income today? How can you tell? ANSWER: To find out if this worker has become better off over time, we have to take the change in the overall cost of living into consideration. We can compare the percentage increase in income with the rate of inflation as measured by either the consumer price index (CPI) or the GDP deflator. If the percentage increase in income is greater than inflation, then “real income” increases; otherwise, “real income” decreases. In the case of this question, if the CPI has increased less than 100%, then the worker's real income is higher today than it was 5 years ago and the worker is better off today. 317. List three nations that have experienced hyperinflation. What is the cause of hyperinflation, and how do hyperinflation and velocity interact? ANSWER: The nations listed in the textbook are America, Bolivia, Peru, Yugoslavia, Nicaragua, Greece, Germany, Hungary, and Zimbabwe. Increasing the money supply leads to more inflation. Governments often increase the money supply to monetize debts brought on by deficit spending in order to raise more revenue without increasing explicit tax rates. Increased velocity of money is a result of inflation. As prices continue to rise dramatically, people demand to be paid more frequently and increase the number of times they make purchases, which increases velocity. The increase in money growth and velocity contributes to extremely high rates of inflation, or hyperinflation, according to the quantity theory of money. 318. Suppose nominal GDP for a country in year 1 is $5 billion, but it increases to $10 billion in year 2. If the Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 GDP deflator was 60 in year 1 and rose to 100 in year 2, in which year did this country produce more goods and services overall? ANSWER: Since nominal GDP doubled (i.e., increased 100%) from year 1 to year 2 and prices increased but by less than a factor of 100, real output must have been higher in year 2. A more advanced answer will actually calculate real GDP for each year. In terms of the base year (year 1), real GDP in year 1 is equal to $5 billion. Real GDP in year 2 is equal to $10 billion × (60/100) = $6 billion, and thus real GDP was higher in year 2. 319. In a small economy, the level of nominal GDP is $4,000,000. The current level of money supply is $500,000. Velocity is stable, and the growth rate of real GDP is expected to be 2% over the next year. Money is expected to grow at 3%. Use this information to answer the following questions: a. What is the velocity of money circulation in this economy? b. What is the expected inflation rate in this economy? ANSWER: a. Velocity = Nominal GDP ÷ Money supply = $4,000,000/$500,000 = 8. The velocity of money is 8 in this country. b. Using the quantity theory identity in growth rate form, we have money growth + velocity growth = inflation = real growth = 3% + 0% = x + 2%. Here, x represents the inflation rate we are solving for. Solving for x indicates that the inflation rate in this economy equals 1%. 320. Use the quantity theory of money to explain how an increase in the money supply leads to an increase in the price level. ANSWER: The quantity theory of money states M × v = P × YR. M is the money supply, v is the velocity of money, P is the price level, and YR is real GDP. Included in the quantity theory of money are the assumptions that v and YR are relatively stable over time. If these assumptions hold, then an increase in M must lead to an increase in P. 321. If velocity is constant and the economy's real growth rate is 3%, what rate of money growth will achieve price stability? ANSWER: If velocity is constant and real growth is 3%, the quantity theory of money implies that money growth = inflation + 3%. (Note that constant velocity implies zero velocity growth, so the velocity term falls out of the equation.) Achieving price stability implies an inflation rate of zero, and inflation will be zero only if money growth = 3%. In other words, price stability will be achieved when the growth rate of the money supply equals the economy's real growth rate. 322. What is the equation for the quantity theory of money? What does this theory imply about the cause of inflation in the long run? ANSWER: The quantity theory of money comes from an identity: M × v = P × YR where M = money supply, v = the velocity of money (the number of times a dollar is spent), P = the price level, and YR = real
GDP. Assuming v is stable and YR is fixed by the real factors of production in the long run, then the only thing that can cause a change in P is a change in M. In other words, the quantity theory of money implies that the growth rate of money supply is the cause of inflation in the long run. 323. Briefly explain this statement: “In the long run, money is neutral.” Does this statement mean the money supply has no effect at all on real economic activity? Explain. ANSWER: The statement means that a change in the money supply has no effect on real GDP in the long run. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 In the long run, the only effect of a change in the money supply is an effect on inflation. However, it is possible that changes in the growth rate of money can change real GDP in the short run when there is money illusion. This occurs when people are confused between nominal signals and real signals as a result of inflation, and so they respond more slowly to real opportunities and overrespond to nominal events. 324. Clarify the differences between inflation, deflation, and disinflation. Provide examples of what might happen to the price of a market basket of goods and services in each situation during year 3 if a market basket of goods and services costs $100 in year 1 and $110 in year 2. ANSWER: Inflation, deflation, and disinflation are related, but distinct concepts. Inflation refers to an increase in the average price level in the economy. All prices need not be rising for inflation to occur, but enough of them must be rising or rising enough that the average price level is rising. Deflation occurs when the average price level is falling. This means that the inflation rate is negative. All prices do not have to be falling, but enough prices must be falling or falling enough that the average price level is decreasing. Disinflation refers to a reduction in a positive inflation rate. When there is disinflation, the rate of the increase in prices has slowed down. For example, if a market basket of goods cost $100 in year 1, $110 in year 2, and $121 in year 3, there was a steady inflation rate of 10% in year 2 and year 3. If the market basket of goods cost $100 in year 1, $110 in year 2, and $108 in year 3, then there was 10% inflation in year 2 and deflation of 1.8% in year 3 (which means that the inflation rate was ‒1.8%). If the market basket of goods and services cost $100 in year 1, $110 in year 2, and $115 in year 3, then there was 10% inflation in year 2 and 4.5% inflation in year 3. Because the average price was still rising but the inflation rate dropped from 10% in year 2 to 4.5% in year 3, there was disinflation in year 3. 325. Briefly discuss the three major costs of inflation. How does inflation benefit governments? ANSWER: The first cost of inflation is that inflation makes price signals more difficult to interpret so that consumers, workers, and entrepreneurs may be confused between nominal price signals and real price signals—a condition known as money illusion. As a result, resources are wasted in activities that appear profitable but in fact are not. The second cost of inflation is that it transfers resources or wealth between lenders and borrowers. If there is unexpected inflation, then the actual interest rate is less than the equilibrium interest rate. As a result, inflation causes a redistribution of wealth from lenders to borrowers. Because governments are often borrowers, unexpected inflation tends to benefit governments at the expense of citizens who hold government debt. The third cost of inflation is that it raises the tax burden on taxpayers. Because most tax systems are progressive and define incomes, profits, and capital gains in nominal instead of real terms, inflation raises the tax burden on taxpayers and thus discourages work effort and investment activity. 326. Table: Interest Rates and Inflation Year Expected Actual Nominal Interest Rate 2006 2007 2008 2009
2% 1 2 7
3% 3 3 5
Realized Real Interest Rate
3% 2 4 9
This table shows inflation and interest rate data on loan contracts in different years. a. Fill in the “Realized Real Interest Rate” column in the table. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 b. In which year(s) were the actual real interest rates on loan contracts negative? c. In which year(s) did lenders gain at the expense of borrowers? d. In which year(s) did borrowers gain at the expense of lenders? ANSWER: a. The completed table is here: Year Expected Actual Nominal Interest Rate 2006 2007
2% 1
3% 3
3% 2
Realized Real Interest Rate 0% -1 1 4
2008 2 3 4 2009 7 5 9 b. 2007 c. 2009 (Borrowers thought they would be paying 2% in real interest, but they actually ended up paying 4%.) d. 2006, 2007, and 2008 (In 2006, lenders thought they would be earning 1% in real returns, but they actually earned 0%; in 2007, lenders thought they would be earning 1%, but they actually lost 1%; in 2008, lenders thought they would be earning 2% in real returns, but they earned only 1%.) 327. Why does volatility in the inflation rate make it harder for businesses to get loans? ANSWER: Volatility in the inflation rate makes it difficult for businesses to get loans because it makes it difficult to predict the rate of inflation in the future. The expected rate of inflation in the future is important for determining the nominal interest rate to charge on loans (as a result of the Fisher effect). Both borrowers and lenders want to make sure that they don't get hurt by unexpected changes in the inflation rate, but making the prediction is difficult when the inflation rate is highly volatile. 328. Explain why higher unexpected inflation helps borrowers and hurts lenders. ANSWER: Most loan contracts specify a fixed nominal interest rate. For a given (fixed) nominal rate of interest, an unexpected increase in inflation reduces the real rate of interest and the real cost of borrowing. Because lenders receive the interest and inflation reduces real interest rates, unexpected inflation hurts lenders. Because borrowers pay interest and inflation reduces real interest rates, unexpected inflation helps borrowers. 329. Suppose that you are buying your first home. Current interest rates on a 30-year fixed-rate mortgage are 5%. Lenders expect an inflation rate of 2% over the next 30 years, which would give them an expected real return of 3%. If actual inflation over the next 30 years is 4% because of a continued rapid expansion of the money supply, would you be better off or worse off by taking out a 30-year fixed-rate mortgage? ANSWER: In terms of your mortgage, you are actually better off, since you will be paying back your fixed mortgage with dollars that are actually worth less. In times of unexpected inflation, borrowers gain at the expense of lenders. Your lender will earn a real return of only 1% instead of the expected 3%. 330. Why does a government with massive debt not always inflate its debt away despite the incentive to increase the money supply? ANSWER: One reason is the Fisher effect. If lenders expect that the government will inflate its debt away, they will lend only at high nominal rates of interest. To avoid this outcome, the government may try to make a credible promise to keep the inflation rate low. Another reason the government doesn't Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 always inflate its debt away is that people who buy government bonds are typically voters who would be upset if their real returns shrank to zero or less. 331. Using the Fisher effect equation, explain how inflation causes wealth redistribution between lenders and borrowers. Demonstrate with the Fisher effect equation how differences in expected and actual inflation impact actual (or realized) real rates. ANSWER: The Fisher equation is expressed as: i = E + requilibrium, where i = nominal interest rate, E = expected inflation rate, and requilibrium = equilibrium real rate of return for lending. Because the actual rate of return for lending can be written as: ractual = i – where = actual inflation rate, we can substitute the Fisher effect equation for i so that the actual rate of return becomes: ractual = (E – ) + requilibrium. This last equation shows that the actual rate of return is determined in large part by the difference between expected inflation and actual inflation. If E < , then the actual rate of return will be less than the equilibrium rate, and thus wealth will be redistributed from lenders to borrowers. On the contrary, if E > , then the actual rate of return will be greater than the equilibrium rate, and thus wealth will be redistributed from borrowers to lenders. 332. Explain why periods of high inflation but low growth in output are so difficult for policymakers to deal with. ANSWER: Periods of high inflation and low output growth are difficult for policymakers because the most effective way to decrease inflation is to lower the money supply, but lowering the money supply typically leads to lower growth rates in output in the short run. As a result, output growth falls even further, perhaps pushing the economy into recession. In general, lowering inflation typically comes at the price of lower growth in output in the short run. Policymakers could use money illusion to try to boost output in the short run by increasing the money supply, but that would make the inflation problem worse. Policymakers are in a dilemma—there is no way to fix both problems at once, and “fixing” one makes the other worse. A third option, doing nothing, is not appealing either, since low growth in output means low to no real wage growth, while high inflation means higher prices. Workers and consumers are voters, and neither are particularly happy with the present predicament. 333. Explain how inflation destroys the ability of market prices to send signals about the value of resources and opportunities. ANSWER: Inflation destroys the ability of market prices to send signals about the value of resources and opportunities for several reasons. Inflation is variable, and there is limited ability to predict it. This means that the assumptions regarding future prices used in decision making may prove to be incorrect, resulting is less-than-ideal outcomes. Also, inflation reflects the average price level. However, not all prices increase at the same pace. Decisions based on the average price level may not correctly reflect the price-level changes of specific goods and services, and decision makers may confuse nominal measures and real measures. Because understanding prices and inflation is critical to decision making, some resources end up being used to predict the inflation rate rather than to produce other goods and services. Finally, inflation impacts the difference between real interest rates and nominal interest rates, affecting incentives to save and invest. 334. Explain how inflation redistributes wealth. ANSWER: The impact of inflation on the distribution of wealth depends on how the expected inflation rate compares to the actual inflation rate. If the actual inflation rate is what was expected, then there is Copyright Macmillan Learning. Powered by Cognero.
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Chapter 12 effectively no redistribution of wealth because the expected inflation was built into interest rates in loans and savings instruments. However, if the actual inflation rate differs from what was expected when loan and savings contracts were implemented, then there will be some redistribution of wealth between borrowers and lenders (savers). If there is unexpected inflation, then the real rate of interest will end up being less than the equilibrium rate. This harms lenders and benefits borrowers, who end up repaying at a lower-than-anticipated real interest rate. If the inflation rate ends up being lower than expected, the opposite occurs. The real interest rate is greater than the equilibrium rate in the loanable funds market, with lenders gaining and borrowers losing.
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Chapter 13 1. The average annual rate of growth of real GDP in the United States has fluctuated around _____ for the last 60 years. a. 1.2% b. 3.2% c. 5.0% d. –1.0% ANSWER: b 2. Variations in real GDP around its “normal” growth rate are called: a. business fluctuations. b. recessions. c. inflation variations. d. Solow growth rates. ANSWER: a 3. Politicians and especially the general public worry about recessions because of: a. high interest rates. b. high inflation. c. high unemployment. d. lower wages. ANSWER: c 4. The term “business fluctuations” refers to: a. the different stages of a product cycle. b. changes in the prices of goods and services over time. c. movement in real GDP around its long-term trend. d. the trend in real GDP over a long period of time. ANSWER: c 5. A recession is defined as a widespread decline in: a. real income (GDP). b. inflation. c. unemployment. d. mortgage defaults. ANSWER: a 6. Business fluctuations are variations in: a. real income (GDP) around its “normal” growth rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. inflation around its normal growth rate. c. the unemployment rate around its normal growth rate. d. mortgage defaults around their normal growth rate. ANSWER: a 7. During a recession: a. labor is not fully utilized. b. capital is not fully utilized. c. land is not fully utilized. d. land, labor, and capital are not fully utilized. ANSWER: d 8. The AD–AS model consists of the: a. aggregate demand (AD) curve. b. short-run aggregate supply (SRAS) curve. c. long-run aggregate supply (LRAS) curve. d. AD, SRAS, and LRAS curves. ANSWER: d 9. Economic growth is smooth in: a. developed countries only. b. both developed and developing countries. c. developing countries only. d. neither developed nor developing countries. ANSWER: d 10. The unemployment rate is expected to _____ during a recession. a. decrease b. remain the same c. increase d. change indeterminately ANSWER: c 11. A significant, widespread decline in real income and employment is called: a. a recession. b. a boom. c. an aggregate demand fluctuation. d. a business fluctuation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: a 12. Business fluctuations are fluctuations in the: a. level of real GDP around its long-term trend. b. level of nominal GDP around its long-term trend. c. growth rate of real GDP around its normal growth rate. d. growth rate of nominal GDP around its normal growth rate. ANSWER: c 13. The AD–AS model is most useful for explaining what causes: a. the economy's long-run growth rate. b. inflation. c. stock market fluctuations. d. fluctuations in GDP growth around its “normal” rate. ANSWER: d 14. If GDP follows an upward trend over the long term, quarterly GDP data will: a. mimic this trend exactly. b. be above the trend line, pulling the trend upward. c. be below the trend line, pulling the trend downward. d. vary above, below, and sometimes on the trend line. ANSWER: d 15. Which is NOT true during a recession? a. Output is low. b. Some resources are idle. c. Employment is high. d. The unemployment rate exceeds the natural rate. ANSWER: c 16. An unexpected economic disturbance is referred to as a: a. shock. b. surprise. c. depression. d. shift. ANSWER: a 17. In the graph of the AD–AS model, what is measured on the vertical axis? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. the average price level b. real GDP c. the inflation rate d. real GDP growth ANSWER: c 18. In the graph of the AD–AS model, what is measured on the horizontal axis? a. the average price level b. real GDP c. the inflation rate d. real GDP growth ANSWER: d 19. If the growth rate of money is 3% and the growth rate of velocity is 1%, the growth rate of nominal GDP is: a. 0%. b. 1%. c. 2%. d. 4%. ANSWER: d 20. If spending in an economy increases by 3% and real GDP increases by 1%, the result will be: a. a recession. b. inflation. c. a positive supply shock. d. war. ANSWER: b 21. If spending growth is 3% and real GDP growth is 2%, what is the inflation rate? a. 3% b. 5% c. 1% d. 2% ANSWER: c 22. If spending growth is 6% and inflation is also 6%, this means that: a. real GDP did not increase. b. economic growth was 12%. c. more money is chasing an increased number of goods. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 d. a positive supply shock occurred. ANSWER: a 23. Figure: Aggregate Demand
Point A on this aggregate demand curve represents a real GDP growth rate of: a. 2%. b. 3%. c. 5%. d. 7%. ANSWER: c 24. Figure: Aggregate Demand
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Chapter 13
Point B on this aggregate demand curve represents an inflation rate of: a. 3%. b. 4%. c. 5%. d. 7%. ANSWER: b 25. Figure: Three Aggregate Demand Curves
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Chapter 13
Consider the three aggregate demand curves shown in the graph. Movement from point A to point D represents: a. an increase in spending growth from 2% to 3%. b. an increase in spending growth from 4% to 6%. c. an increase in real GDP growth, but not spending growth. d. an increase in inflation, but not spending growth. ANSWER: b 26. The aggregate demand curve shows all the combinations of _____ that are consistent with a specified rate of spending growth. a. employment rates and price levels b. inflation and real GDP growth rates c. nominal GDP and real GDP d. money velocity and money supply ANSWER: b 27. Which of the following combinations would be on an aggregate demand curve with a spending growth rate of 6%? a. inflation rate of 3%, real growth rate of 6% b. inflation rate of 6%, real growth rate of 3% c. inflation rate of 2%, real growth rate of 8% d. inflation rate of 8%, real growth rate of –2% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: d 28. All the combinations of inflation and real growth consistent with a specific rate of spending growth are called the: a. aggregate demand curve. b. short-run aggregate supply curve. c. long-run aggregate supply curve. d. endowment curve. ANSWER: a 29. For an aggregate demand curve with
= 10% and
= 0%, if inflation is 6%, then real growth is:
a. –6%. b. –4%. c. 4%. d. 16%. ANSWER: c 30. According to the quantity theory of money, if both the growth rate of the money supply and the velocity of money are fixed, then a higher inflation rate means: a. a higher real growth rate. b. no change in the real growth rate. c. a lower real growth rate. d. a higher or lower real growth rate, depending on the specific growth rate of the money supply. ANSWER: c 31. If both the growth rate of the money supply and the velocity of money are fixed, then a higher inflation rate will cause: a. an upward movement along the AD curve. b. a downward movement along the AD curve. c. a shift of the AD curve to the left. d. a shift of the AD curve to the right. ANSWER: a 32. The aggregate demand curve shows the relationship between real GDP growth and the: a. actual inflation rate. b. expected inflation rate. c. long-run inflation rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 d. interest rate. ANSWER: a 33. The aggregate demand curve is: a. upward sloping. b. downward sloping. c. a vertical line. d. a horizontal line. ANSWER: b 34. When inflation is 4% and the real GDP growth rate is 2%, what is the spending growth rate? a. –2% b. 2% c. 6% d. 8% ANSWER: c 35. Holding everything else constant, an increase in the growth rate of the money supply will cause the aggregate demand curve to: a. shift to the left. b. shift to the right. c. not shift at all. d. shift randomly. ANSWER: b 36. Other things held constant, an increase in the velocity of money will cause the aggregate demand curve to: a. shift to the left. b. shift to the right. c. not shift at all. d. shift randomly. ANSWER: b 37. An increase in spending growth will cause the aggregate demand curve to: a. shift to the left. b. shift to the right. c. not shift at all. d. shift randomly. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 38. The aggregate demand curve shows all the combinations of _____ and _____ that are consistent with a specified rate of _____. a. prices; real GDP; spending b. prices; GNP; money supply c. inflation; nominal growth; money supply d. inflation; real GDP growth; spending growth ANSWER: d 39. If the growth rate of the money supply in an economy is 5%, the growth rate of output is 2%, and the velocity of money is constant, what will the inflation rate in this economy be? a. 2% b. 3% c. 5% d. 7% ANSWER: b 40. The aggregate demand curve shows the relationship between the: a. growth rate of real output and the inflation rate. b. inflation rate and the growth rate of the money supply. c. growth rate of real output and the growth rate of the money supply. d. growth rate of consumption and the inflation rate. ANSWER: a 41. If the growth rate of spending increases from 3% to 5%, then: a. the inflation rate will rise 2%. b. the growth rate of real output will rise 2%. c. the aggregate demand curve will shift to the right. d. the slope of the aggregate demand curve will increase. ANSWER: c 42. Which of the following would cause the aggregate demand curve to shift to the right? a. an increase in the growth rate of output b. a decrease in the inflation rate c. a decrease in the velocity of money d. an increase in the growth rate of the money supply ANSWER: d
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Chapter 13 43. In the AD–AS model,
represents the:
a. money supply. b. money velocity. c. rate of money supply growth. d. rate of money velocity growth. ANSWER: c 44. In the AD–AS model,
represents the:
a. growth rate of real GDP. b. level of real GDP. c. reference year. d. growth rate of the money supply. ANSWER: a 45. If velocity is stable, then
equals:
a. 0%. b. 1%. c. 10%. d. 100%. ANSWER: a 46. If spending grows by 3% while real growth is 1% and velocity is stable, then prices will be _____ at a rate of _____ according to the aggregate demand curve. a. falling; 3% b. falling; 2% c. rising; 3% d. rising; 2% ANSWER: d 47. If spending grows by 3%, real GDP grows by 5%, and velocity is stable, then prices will be _____ at a rate of _____ according to the aggregate demand curve. a. falling; 3% b. falling; 2% c. rising; 3% d. rising; 2% ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 48. If spending grows by 2%, real GDP growth is 5%, and velocity is stable, then prices will be _____ at a rate of _____ according to the aggregate demand curve. a. falling; 3% b. falling; 2% c. rising; 3% d. rising; 2% ANSWER: a 49. If spending grows by 3%, real GDP growth is 0%, and velocity is stable, then prices will be _____ at a rate of _____ according to the aggregate demand curve. a. falling; 3% b. falling; 2% c. rising; 3% d. rising 2% ANSWER: c 50. The aggregate demand curve is a straight line with a slope of: a. 0. b. 1. c. –1. d. –10. ANSWER: c 51. A 1% increase in real growth, ceteris paribus, _____ inflation by _____. a. increases; 1% b. increases; 2% c. decreases; 1% d. decreases; 2% ANSWER: c 52. A 2% increase in real growth, ceteris paribus, _____ inflation by _____. a. increases; 1% b. increases; 2% c. decreases; 1% d. decreases; 2% ANSWER: d
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Chapter 13 53. In the equation
, what does
stand for?
a. the money supply b. growth rate of the money supply c. money velocity d. growth rate of money velocity ANSWER: b 54. In the equation
, what does
stand for?
a. the velocity of money b. growth rate of the velocity of money c. the market value of goods and services d. growth rate of the market value of goods and services ANSWER: b 55. In the equation
, what does
stand for?
, what does
stand for?
a. production b. growth in production c. prices d. inflation ANSWER: d 56. In the equation a. real GDP b. nominal GDP c. growth rate of real GDP d. growth rate of nominal GDP ANSWER: a 57. If = 4%,
= 3%, and
= 2%, then
must equal:
a. 1%. b. 2%. c. 6%. d. 7%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: a 58. If
= 5%,
= –3%, and
= 2%, then
must equal:
a. –3%. b. –2%. c. 0%. d. 2%. ANSWER: c 59. An increase in the rate of spending growth must correlate into higher inflation and/or: a. higher deflation. b. lower inflation. c. higher growth. d. lower growth. ANSWER: c 60. The primary purpose of the AD–AS model is to explain: a. the steady-state output. b. trends in output. c. business fluctuations. d. long-term economic growth. ANSWER: c 61. The aggregate demand curve indicates that at a given spending growth rate, a higher inflation is related to a: a. lower real GDP growth rate. b. higher money supply growth rate. c. lower velocity growth rate. d. higher unemployment rate. ANSWER: a 62. If velocity is constant, the growth rate of the money supply is 2%, and inflation is 3%, then real output growth will be: a. –5%. b. –1%. c. 1%. d. 5%. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 63. An increase in spending growth causes: a. an upward movement along the AD curve. b. a downward movement along the AD curve. c. a rightward shift of the AD curve. d. a leftward shift of the AD curve. ANSWER: c 64. The economy's aggregate demand curve shows all combinations of _____ that are consistent with a specified rate of spending growth. a. inflation and the unemployment rate b. inflation and the real GDP growth rate c. economic growth and the unemployment rate d. the price level and real GDP ANSWER: b 65. For a given aggregate demand curve, the specified rate of spending growth is the growth rate of money: a. supply plus the growth in velocity. b. demand plus the growth in velocity. c. supply minus the rate of growth in velocity. d. demand minus the rate of growth in velocity. ANSWER: a 66. On a given aggregate demand curve, if the rate of spending growth is 10% and the growth rate of the money supply is 2%, then the velocity of money must be growing at: a. 5%. b. 8%. c. 12%. d. 20%. ANSWER: b 67. An increase in spending growth will cause the economy's aggregate demand curve to: a. shift to the right. b. shift to the left. c. become steeper. d. become flatter. ANSWER: a 68. A decrease in spending growth will cause the economy's aggregate demand curve to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. shift to the right. b. shift to the left. c. become steeper. d. become flatter. ANSWER: b 69. An increase in spending growth causes a _____ the aggregate demand curve. a. rightward shift of b. leftward shift of c. movement up along d. movement down along ANSWER: a 70. Suppose a country’s real growth rate is 2.2%, the rate of change in velocity of money is 0.1%, and the rate of growth of the money supply is 3.2%. What is the country’s inflation rate? a. –1.88% b. 1.10% c. 3.30% d. 5.40% ANSWER: b 71. Suppose a country’s real growth rate is 3.0%, the rate of change in velocity of money is 0.5%, and the rate of growth of the money supply is 4.5%. What is the country’s inflation rate? a. 2.0% b. 3.5% c. 5.0% d. 6.5% ANSWER: a 72. Suppose a country’s inflation rate is 4.0%, the rate of change in velocity of money is 0.5%, and the rate of growth of the money supply is 6.0%. What is the country’s real GDP growth rate? a. ‒2.5% b. 1.5% c. 2.5% d. 4.5% ANSWER: c 73. The aggregate demand curve shows a _____ relationship between _____ and _____ at a given spending growth. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. positive; the price level; employment output b. positive; the price level; money balances c. negative; money supply; money demand d. negative; the inflation rate; the real growth rate ANSWER: d 74. If velocity is steady, what combination of inflation rate and the output growth rate would NOT be associated with a spending growth rate of 6%? a. inflation rate = 3.2%; output growth rate = 2.8% b. inflation rate = 2.5%; output growth rate = 4.5% c. inflation rate = 4.3%; output growth rate = 1.7% d. inflation rate = 6.5%; output growth rate = –0.5% ANSWER: b 75. What shifts the aggregate demand curve? a. a change the inflation rate b. a change in spending growth c. a change in the unemployment rate d. a change in output ANSWER: b 76. An increase in aggregate demand is depicted by: a. a movement up the aggregate demand curve to a higher real growth rate. b. a movement down the aggregate demand curve to a larger real growth rate. c. a shift of the aggregate demand curve to the left. d. a shift of the aggregate demand curve to the right. ANSWER: d 77. A decrease in aggregate demand is depicted by: a. a movement up the aggregate demand curve to a higher real growth rate. b. a movement down the aggregate demand curve to a lower real growth rate. c. a shift of the aggregate demand curve to the left. d. a shift of the aggregate demand curve to the right. ANSWER: c 78. Figure: Long-Run Aggregate Supply Curves
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Chapter 13
Which of the following can explain the shift of the long-run aggregate supply curve from A to B in the figure? a. development of new technology b. war c. negative supply shock d. oil crisis ANSWER: a 79. Figure: Long-Run Aggregate Supply Curves
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Chapter 13
Which of the following can explain the shift of the long-run aggregate supply curve from A to C in the figure? a. development of new technology b. increase in the nation's factors of production c. negative supply shock d. increase in oil supply ANSWER: c 80. A real shock causes: a. a shift of the aggregate demand curve. b. a shift of both the long-run aggregate supply curve and the aggregate demand curve. c. a shift of the long-run aggregate supply curve. d. a movement along the long-run aggregate supply curve. ANSWER: c 81. The long-run aggregate supply curve is represented by a vertical line at the Solow growth rate because: a. growth depends on the rate of inflation in the long run. b. there is an underlying assumption of long-run money neutrality. c. growth is affected by changes in the money supply in the long run. d. growth is not affected by the factors of production. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 82. The Solow growth rate is the rate of economic growth that occurs when: a. inflation is moderate. b. prices and wages are sticky. c. prices and wages are flexible. d. the money supply is growing. ANSWER: c 83. The position of the long-run aggregate supply curve shows the economy's: a. potential growth rate given by the real factors of production. b. long-run inflation rate. c. expected inflation rate. d. rate of money growth plus velocity growth. ANSWER: a 84. In a diagram with the inflation rate on the vertical axis and the real growth rate on the horizontal axis, the long-run aggregate supply curve is: a. upward sloping. b. downward sloping. c. a vertical line at the Solow growth rate. d. a horizontal line at the expected inflation rate. ANSWER: c 85. If prices are perfectly flexible, the economy will always be growing: a. at its potential rate. b. above its potential rate. c. below its potential rate. d. near its potential rate. ANSWER: a 86. The Solow growth rate is the economy's: a. actual growth rate. b. potential growth rate. c. expansionary growth rate. d. recessionary growth rate. ANSWER: b 87. The long-run aggregate supply curve is: a. upward sloping. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. downward sloping. c. a vertical line. d. a horizontal line. ANSWER: c 88. An increase in inflation will cause the long-run aggregate supply curve to: a. shift inward. b. shift outward. c. not shift at all. d. shift randomly. ANSWER: c 89. A major hurricane hitting the East Coast of the United States is an example of a: a. real shock. b. geographic distress. c. GDP deflator. d. productivity neutralizing event. ANSWER: a 90. Which of the following most likely causes the long-run aggregate supply curve to shift to the right? a. an increase in the money supply b. a decrease in tax revenues c. an increase in crop production due to more rainfall d. an increase in oil prices due to a fire in a major oil refinery ANSWER: c 91. Which of the following would NOT shift the long-run aggregate supply curve? a. wars b. increases in technology c. strikes d. an increase in the money supply ANSWER: d 92. A negative real shock causes the long-run aggregate supply curve to shift: a. up. b. down. c. left. d. right. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: c 93. A negative real shock causes: a. a lower inflation rate and a lower real growth rate. b. a lower inflation rate and a higher real growth rate. c. a higher inflation rate and a lower real growth rate. d. a higher inflation rate and a higher real growth rate. ANSWER: c 94. Using a graph of the AD and LRAS curves, the Internet revolution of the 1990s caused: a. both real growth and inflation to increase. b. both real growth and inflation to decrease. c. real growth to increase and inflation to decrease. d. real growth to decrease and inflation to increase. ANSWER: c 95. Which of the following does NOT contribute to an economy's long-run potential growth rate? a. the average rate of inflation b. the level of technology c. the number of workers d. the level of investment ANSWER: a 96. The Solow growth rate represents an economy's _____ growth rate. a. average b. minimum c. potential d. projected ANSWER: c 97. The slope of the long-run aggregate supply curve is: a. –1. b. 0. c. 1. d. infinity. ANSWER: d 98. The long-run aggregate supply curve shows that long-run economic growth: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. depends on the rate of inflation. b. does not depend on the rate of inflation. c. is neutral. d. does not depend on factors such as capital, labor, and ideas. ANSWER: b 99. In the basic model with AD and LRAS curves only, if spending growth is 10% and the Solow growth rate falls from 5% to 3%, then inflation will: a. decrease from 7% to 5%. b. increase from 5% to 7%. c. decrease from 13% to 8%. d. increase from 8% to 13%. ANSWER: b 100. In the basic model with AD and LRAS curves only, if spending growth is 7% and the Solow growth rate rises from 0% to 3%, then inflation will: a. decrease from 7% to 4%. b. increase from 4% to 7%. c. decrease from 10% to 3%. d. increase from 3% to 10%. ANSWER: a 101. Which of the following is NOT consistent with points along the long-run aggregate supply curve? a. Real GDP is growing at its long-run potential growth rate. b. All prices are fully flexible. c. All real factors of production are being fully utilized. d. Real output growth is negatively related to inflation. ANSWER: d 102. The Solow growth rate is the rate of economic growth given existing: a. capital. b. labor. c. technology. d. capital, labor, and technology. ANSWER: d 103. The Solow growth rate is the rate of economic growth that would occur given: a. flexible prices and the existing real factors of production. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. flexible prices and the expected real factors of production. c. sticky prices and the existing real factors of production. d. sticky prices and the expected real factors of production. ANSWER: a 104. Figure: Potential LRAS Curves
Which of these diagrams depicts the long-run aggregate supply curve? a. figure A b. figure B c. figure C d. figure D ANSWER: a 105. Which of the following would shift the long-run aggregate supply curve to the right? a. a decrease in the rate of inflation b. the invention of a new computer chip that makes assembly production twice as fast c. a severe drought that decreases crop production and as a result raises prices d. an increase in the growth rate of spending ANSWER: b 106. Which of the following would result from a positive productivity shock? a. an increase in the rate of inflation Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. a shift to the right of the aggregate demand curve c. a shift to the left of the long-run aggregate supply curve d. an increase in the economy's long-run potential growth rate ANSWER: d 107. We would expect a negative real shock, such as a severe countrywide drought, to result in: a. a decrease in the inflation rate and an increase in the growth rate of output. b. a decrease in the inflation rate and a decrease in the growth rate of output. c. an increase in the inflation rate and an increase in the growth rate of output. d. an increase in the inflation rate and a decrease in the growth rate of output. ANSWER: d 108. The real business cycle (RBC) model implies that: a. business cycles are driven by real shocks to the economy. b. real output fluctuates as a result of demand shocks only. c. the rate of inflation is closely linked to the long-run rate of output growth. d. business cycles are the result of fluctuations in the money supply. ANSWER: a 109. Graphically, a positive real shock causes a shift of the: a. AD curve to the right. b. AD curve to the left. c. LRAS curve to the right. d. LRAS curve to the left. ANSWER: c 110. A negative real shock leads to: a. an increase in the inflation rate but a decrease in the real GDP growth rate. b. an increase in both the inflation rate and the real GDP growth rate. c. a decrease in the inflation rate but an increase in the real GDP growth rate. d. a decrease in both the inflation rate and the real GDP growth rate. ANSWER: a 111. A negative real shock causes the long-run aggregate supply curve to: a. shift to the right. b. shift to the left. c. become steeper. d. become flatter. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: b 112. A positive real shock causes the aggregate demand curve to: a. shift outward. b. shift inward. c. not shift at all. d. shift outward and become flatter. ANSWER: c 113. A reduction in oil supply will cause the long-run aggregate supply curve to: a. shift to the right. b. shift to the left. c. become steeper. d. become flatter. ANSWER: b 114. The “long run” is a period of time: a. long enough that prices and wages are sticky. b. long enough that prices and wages are fully flexible. c. longer than 1 year. d. longer than 3 years. ANSWER: b 115. During the Internet revolution in the late 1990s, a positive real shock shifted the long-run aggregate supply curve to the right, which led to: a. a decrease in both the real growth rate and the inflation rate. b. an increase in both the real growth rate and the inflation rate. c. a decrease in the real growth rate and an increase in the inflation rate. d. an increase in the real growth rate and a decrease in the inflation rate. ANSWER: d 116. A negative shock to the long-run aggregate supply curve will cause: a. both real growth and inflation to fall. b. both real growth and inflation to rise. c. real growth to fall, but the inflation rate will rise. d. real growth to rise, but the inflation rate will fall. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 117. The long-run aggregate supply curve: a. has a positive slope. b. is a horizontal line. c. has a negative slope. d. is a vertical line. ANSWER: d 118. The placement of the long-run aggregate supply curve is determined by the: a. Friedman growth rate. b. Solow growth rate. c. inflation rate. d. nominal money growth rate. ANSWER: b 119. Which phrase best explains the slope of the long-run aggregate supply curve? a. Higher prices mean higher profits and production. b. Production creates demand. c. In the long run, money is neutral. d. An increase in the inflation rate will increase production. ANSWER: c 120. Which is NOT correct regarding an economy’s Solow growth rate? a. The Solow growth rate is based on prices that are flexible. b. The Solow growth rate is set at the average growth rate excluding recessions. c. The Solow growth rate is based on the use of existing real factors of production. d. The Solow growth rate is the economy’s potential growth rate. ANSWER: b 121. A real shock to the economy does NOT: a. also go by the name of a productivity shock. b. impact the money supply. c. affect the economy’s basic ability to produce goods and services. d. increase or decrease the potential growth rate in the economy. ANSWER: b 122. Considering aggregate demand and long-run aggregate supply, what is the impact of a negative real shock to the economy? a. higher inflation and a higher real GDP growth rate Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. higher inflation and a lower real GDP growth rate c. lower inflation and a higher real GDP growth rate d. lower inflation and a lower real GDP growth rate ANSWER: b 123. Considering aggregate demand and long-run aggregate supply, what is the impact of a positive real shock to the economy? a. higher inflation and a higher real GDP growth rate b. higher inflation and a lower real GDP growth rate c. lower inflation and a higher real GDP growth rate d. lower inflation and a lower real GDP growth rate ANSWER: c 124. Considering the aggregate demand curve and the long-run aggregate supply curve, what change will result in a higher inflation rate and a lower real growth rate? a. an increase in aggregate demand b. a decrease in aggregate demand c. an increase in long-run aggregate supply d. a decrease in long-run aggregate supply ANSWER: d 125. Considering the aggregate demand curve and the long-run aggregate supply curve, what change will result in a lower inflation rate and a higher real growth rate? a. an increase in aggregate demand b. a decrease in aggregate demand c. an increase in long-run aggregate supply d. a decrease in long-run aggregate supply ANSWER: c 126. A real shock is any shock that increases or decreases the growth rate of: a. nominal GDP. b. real GDP. c. potential GDP. d. prices. ANSWER: c 127. A decrease in oil prices is an example of a _____ productivity shock. a. negative Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. positive c. neutral d. deflationary ANSWER: b 128. Which of the following is NOT a shock that could shift the long-run aggregate supply curve? a. productivity shock b. negative supply shock c. real shock d. demand shock ANSWER: d 129. The economy's potential or “Solow” growth rate fluctuates over time because of: a. real shocks. b. changes in the rate of inflation. c. monetary shocks. d. demand shocks. ANSWER: a 130. Since 1980, rainfall shocks are becoming less economically important for India's GDP. Which of the following explains why this is the case? a. Agriculture is becoming a smaller part of India's GDP. b. India no longer produces agricultural items but has shifted all those resources to producing Bollywood movies. c. Rainfall patterns have changed, causing fewer disruptions. d. India learned to grow crops without water. ANSWER: a 131. Historically, rainfall shocks in India correlate well with India's: a. agricultural output and real GDP. b. inflation and employment. c. prices and aggregate demand. d. money velocity and money supply. ANSWER: a 132. How has the role of agricultural production changed in the Indian economy? a. It has become a greater part of GDP, due to technological advances. b. It has remained about 40% of GDP, but has doubled in yield. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 c. It has fallen to about 20% of GDP due to economic diversification. d. It is now only 1% of GDP. ANSWER: c 133. What portion of GDP does agriculture in the United States currently generate? a. around 1% b. 10% c. 20% d. over 40% ANSWER: a 134. A hurricane that damages buildings and roadways along the Gulf Coast is considered a: a. positive real shock. b. negative real shock. c. negative demand shock. d. positive demand shock. ANSWER: b 135. A positive real shock causes a shift of the: a. long-run aggregate supply curve to the right. b. long-run aggregate supply curve to the left. c. aggregate demand curve to the right. d. aggregate demand curve to the left. ANSWER: a 136. Figure: Real Shocks
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Chapter 13
From point X in the accompanying graph, a negative real shock could cause the economy to move to point: a. W. b. X. c. Y. d. Z. ANSWER: c 137. Figure: Real Shocks
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Chapter 13 From point X in the accompanying graph, a negative supply shock could change the inflation rate to: a. 3%. b. 7%. c. 5%. d. 13%. ANSWER: b 138. Which of the following is NOT an example of a real shock? a. an increase in sales tax revenues due to population growth b. a major decline in the price of oil due to the discovery of new oil reserves in Alaska c. a drought in California that reduces the supply of crops d. a strike in the airline industry ANSWER: a 139. Productivity in an agricultural economy is most likely to be significantly affected by: a. a war. b. a weather shock. c. an oil shock. d. a demand shock. ANSWER: b 140. An economy can overcome a large negative oil shock faster if: a. a technological advancement occurs. b. additional rainfall occurs. c. the money supply increases. d. gasoline taxes are increased. ANSWER: a 141. Which statement best describes one of the profound effects of the 1973 oil crisis on the U.S. economy? a. Consumer preferences moved away from big cars and toward smaller cars. b. Employment in car manufacturing firms increased significantly. c. Gasoline prices fell significantly. d. Real GDP growth increased. ANSWER: a 142. In 1970, 1.3 barrels of oil were used to produce $1,000 of GDP. In 2004, it took only 0.64 barrel of oil to do the same. What implications does this have for economic fluctuations in the United States today? a. American producers are now producing the same goods and services today by using half the amount Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 of oil that they did in 1970. b. Oil consumption has stayed steady, but GDP has more than doubled since 1970. c. Spikes in oil prices will not have as severe an impact on the U.S. economy today as they did in the 1970s. d. America is still purchasing 1.3 barrels of oil per $1,000 of GDP and saving the remainder for the future. ANSWER: c 143. Why have oil shocks become less economically important for the United States in recent years? a. American oil producers increased production of oil inside the United States. b. Negative oil shocks have been tempered by other positive productivity shocks. c. New pipelines allow more oil to be imported. d. Pipelines increased the distribution of oil within the United States. ANSWER: b 144. Figure: Oil Market Diagrams
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Chapter 13
Consider the world oil market diagrams presented in the figure. Which of the panels correctly depicts what happened in the market for oil during the 1973 OPEC oil crisis? a. panel A b. panel B c. panel C Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 d. panel D ANSWER: b 145. Figure: Oil Market Diagrams
Consider the world oil market diagrams presented in the figure. Which of the panels correctly depicts the cause Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 of rises in the price of oil in the early 2000s? a. panel A b. panel B c. panel C d. panel D ANSWER: d 146. Figure: Real Output Shock
This figure shows how real output growth reacts to a shock of a 10% increase in the price of oil. How long does it take for the economy to return to normal? a. 5 quarters b. 5 years c. 10 years d. 2.5 years ANSWER: d 147. When did the first oil shock to have a large impact on the U.S. economy occur? a. 1946 b. 1970 c. 1973 d. 1981 ANSWER: c 148. When a war breaks out in the Middle East and causes an oil shock, what makes the shock so costly to deal with? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. There is uncertainty on how long the war will last. b. The shock is unexpected. c. Many countries experience the shock at the same time. d. Agricultural productivity plummets. ANSWER: b 149. How has the price of oil generally been related to recessions in the United States? a. Falling oil prices have produced a recession either in the next quarter or at the same time as the price fall. b. Rising oil prices for at least two years have produced a recession. c. If oil prices rise and fall within a year, there will be a recession. d. Rising oil prices have produced a recession either concurrently or quickly thereafter. ANSWER: d 150. A reduction in the supply of oil is a real shock because it: a. makes gasoline more expensive for consumers. b. raises the profits of oil producers. c. makes labor and capital less productive. d. reduces the amount of oil consumption. ANSWER: c 151. High oil prices tend to: a. increase the demand for some products and reduce the demand for others. b. increase the demand for all products. c. reduce the demand for all products. d. shift the economy's AD curve outward. ANSWER: a 152. The five most recent U.S. recessions: a. preceded positive oil price shocks. b. were preceded by negative oil price shocks. c. were not related to oil price shocks. d. were milder because of oil price shocks. ANSWER: b 153. In response to a negative oil price shock, real GDP growth: a. rises and never returns to its initial level. b. falls and never returns to its initial level. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 c. first rises and then falls back to its initial level. d. first falls and then rises back to its initial level. ANSWER: d 154. The increase in oil prices that took place during the mid-2000s was driven mainly by: a. decreases in supply. b. increases in demand. c. increases in both supply and demand. d. increases in supply and decreases in demand. ANSWER: b 155. Figure: Real Shocks
From point X in the accompanying graph, an increase in the supply of oil could cause the economy to move to point: a. W. b. X. c. Y. d. Z. ANSWER: a 156. Which of the following does NOT represent a real shock that can affect GDP? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. productivity shocks b. weather shocks c. changes in the portion of income that consumers save as a whole d. oil shocks ANSWER: c 157. Which of the following is an example of a negative shock to an economy? a. decreases in oil prices b. tax cuts c. new technology d. terrorist attacks ANSWER: d 158. What type of shock could be responsible for an increase in growth and a decrease in the inflation rate? a. a positive real shock b. a positive demand shock c. a negative real shock d. a negative demand shock ANSWER: a 159. In recent years, negative oil price shocks have typically been accompanied by: a. no productivity shocks. b. negative productivity shocks. c. positive productivity shocks. d. both positive and negative productivity shocks. ANSWER: c 160. Which of the following real shocks would likely have the largest impact on U.S. GDP? a. a severe drought in the Midwest b. a major hurricane that hits the Gulf Coast c. a reduction in the overall supply of oil d. a decrease in the price of grain ANSWER: c 161. In India, shocks to the weather: a. do not affect economic output. b. shift the AD curve. c. change the rate of growth in the money supply. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 d. are becoming less economically important over time. ANSWER: d 162. After the first oil shock in 1973, the U.S. auto industry had a difficult time adjusting because: a. demand for large automobiles was very high. b. the price of oil was too low. c. much of the physical capital in an auto factory is specialized. d. none of the physical capital in an auto factory is specialized. ANSWER: c 163. If a productive new technology arrives, the long-run aggregate supply curve will move: a. to the left. b. to the right. c. up. d. down. ANSWER: b 164. If an earthquake strikes, destroying a large number of factories, the long-run aggregate supply curve will move: a. to the left. b. to the right. c. up. d. down. ANSWER: a 165. Which of the following is an example of a shock that shifts the long-run aggregate supply curve to the right? a. bad weather b. an increase in government spending c. a decrease in government regulation d. a sudden increase in oil prices ANSWER: c 166. In 2011, a major earthquake and tsunami destroyed much of the capital infrastructure in Japan. Those natural disasters were examples of a: a. negative shock to the LRAS curve. b. positive shock to the LRAS curve. c. negative shock to the AD curve. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 d. positive shock to the AD curve. ANSWER: a 167. Real shocks to the economy: a. influence GDP and economic conditions. b. have a large, gradual impact on the economy. c. affect prices but not employment. d. affect production but not the productivity of capital or labor. ANSWER: a 168. As India’s economy has become more diversified over the past 50 years, _____ has had less of an impact on its GDP. a. human capital b. capital c. labor d. rainfall ANSWER: d 169. What impact does an unexpected and permanent 10% increase in the price of oil have on the economy? a. It triggers higher inflation, which reduces investment, leading to a long-term drop in output of 3.4%. b. Higher oil profits stimulate stock markets and investment in capital, triggering growth. c. It triggers a drop in production that takes over two years to recover from, reducing GDP by about 1.4%. d. Higher oil profits offset the impact in other industries, leading to consistent growth. ANSWER: c 170. Real shocks to the economy shift the long-run aggregate supply curve to the: a. right by a lot. b. left by a little. c. left by a lot. d. left or the right by a little or a lot. ANSWER: d 171. Which is true about the direction, size, and timing of real shocks that hit the economy? a. Shocks are negative, can vary in size, and hit only during recessions. b. Shocks can vary in direction, are large in size, and hit during boom periods. c. Shocks are negative, can vary in size, and hit only during boom periods. d. Shocks can vary in direction and size and can hit at any time. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: d 172. Which would cause a positive real shock to the economy? a. pandemic b. war c. lower regulation d. higher oil prices ANSWER: c 173. A real shock shifts the: a. aggregate demand curve. b. long-run aggregate supply curve. c. short-run aggregate supply curve. d. short-run aggregate demand curve. ANSWER: b 174. From an initial equilibrium in the basic model that includes only the AD and LRAS curves, shocks to aggregate demand always cause changes in: a. real GDP growth only. b. inflation only. c. both real GDP growth and inflation. d. neither real GDP growth nor inflation. ANSWER: b 175. From an initial equilibrium in the basic model that includes only the AD and LRAS curves, aggregate demand shocks caused by changes in the growth of money supply: a. are neutral in the short run only. b. are neutral in the long run only. c. are neutral in both the short run and the long run. d. are neutral in neither the short run nor the long run. ANSWER: c 176. From an initial equilibrium in the basic model that includes only the AD and LRAS curves, an increase in aggregate demand: a. increases the inflation rate and the growth rate. b. increases the inflation rate, but not the growth rate. c. decreases the inflation rate and increases the growth rate. d. decreases the inflation rate, but not the growth rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: b 177. From an initial equilibrium in the basic model that includes only the AD and LRAS curves, increased spending growth causes: a. a lower inflation rate, but no change in the real growth rate. b. a higher inflation rate, but no change in the real growth rate. c. a lower real growth rate, but no change in the inflation rate. d. a higher real growth rate, but no change in the inflation rate. ANSWER: b 178. From an initial equilibrium in the basic model that includes only the AD and LRAS curves, a shock that reduces the velocity of money by 2 percentage points causes: a. a decrease of the inflation rate by 2 percentage points. b. a decrease of the inflation rate by less than 2 percentage points. c. an increase of the inflation rate by 2 percentage points. d. an increase of the inflation rate by less than 2 percentage points. ANSWER: a 179. From an initial equilibrium in the basic model that includes only the AD and LRAS curves, an increase in money supply growth will cause inflation: a. and real growth to increase. b. to increase and real growth to decrease. c. to increase and real growth to remain unchanged. d. and real growth to remain unchanged. ANSWER: c 180. If wages are not as flexible as prices in the AD–AS model, an increase in money growth will lead to: a. an increase in inflation and a rise in real long-run GDP growth. b. an increase in inflation, but no rise in real short-run GDP growth. c. an increase in inflation and in the profits of firms. d. no change in inflation, but a fall in the profits of firms. ANSWER: c 181. Sticky wages amplify negative shocks if: a. wages do not fall quickly when there are declines in economic activity. b. the initial shock occurs on the supply side of the economy. c. the initial shock occurs on the demand side of the economy. d. countries utilize the employment-at-will doctrine. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: a 182. If nominal spending growth equals 6% and the real growth rate equals 4%, what is the inflation rate? a. 2/3% b. 2% c. 4% d. 10% ANSWER: b 183. If nominal spending growth is 5% and the economy is in recession at a –1% real growth rate, what is the inflation rate? a. –1/5% b. 4% c. 5% d. 6% ANSWER: d 184. When the economy grows slowly: a. prices must remain the same. b. wages must grow slowly. c. wages must remain the same. d. demand must grow slowly. ANSWER: b 185. The effect of a shock on the economy is larger when: a. wages and prices are sticky. b. wages and prices are more flexible. c. labor adjustment costs are lower. d. investments are more easily reversed. ANSWER: a 186. Sticky wages and prices: a. reduce the impact of negative shocks. b. increase the impact of positive shocks. c. have no effect on the impact of negative shocks. d. offset the impact of positive shocks. ANSWER: b 187. Wages are sticky when: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. labor unions set wage contracts for a certain period of time. b. prices are sticky. c. they are set according to inflation expectations that end up being correct. d. prices are flexible. ANSWER: a 188. If π > πe: a. firms' profits will increase. b. money growth will cause the short-run aggregate supply curve to shift. c. firms' profits will decrease. d. there will be no change in real GDP growth, because it is determined by real factors. ANSWER: a 189. If π<</span>πe: a. firms' profits will increase. b. money growth will cause the short-run aggregate supply curve to shift. c. firms will reduce their output. d. there will be no change in real GDP growth, because it is determined by real factors. ANSWER: c 190. Figure: Two SRAS Curves
The figure shows the AD–AS model with two SRAS curves. Which of the following is TRUE of point A? a. The actual inflation rate is 5%, and the expected inflation rate is 3%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. The actual inflation rate is 3%, and the expected inflation rate is 5%. c. The actual inflation rate and the expected inflation rate are both 3%. d. The actual inflation rate and the expected inflation rate are both 5%. ANSWER: d 191. Figure: Two SRAS Curves
The figure shows the AD–AS model with two SRAS curves. If the economy is initially at point A and the expected inflation rate remains unchanged, the economy can achieve a real GDP growth rate of 9% only by: a. moving along SRAS1 to point B. b. moving directly to point C. c. first moving to point D and then moving along SRAS2 to point C. d. first moving to point C and then to point B. ANSWER: a 192. Wages that do not respond quickly to changes in the inflation rate are: a. real wages. b. flexible wages. c. decreasing wages. d. sticky wages. ANSWER: d 193. For any given expected inflation rate, the short-run aggregate supply curve shows the relationship between: a. the money supply and the growth rate of output. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. inflation and the growth rate of output. c. production factors and wages. d. inflation and wages. ANSWER: b 194. The short-run aggregate supply curve shows the relationship between the real growth rate and the: a. actual inflation rate. b. expected inflation rate. c. long-run inflation rate. d. real interest rate. ANSWER: a 195. The short-run aggregate supply curve is: a. upward sloping. b. downward sloping. c. a vertical line. d. a horizontal line. ANSWER: a 196. The main reason for the slope of SRAS is: a. sticky prices. b. sticky wages. c. both sticky prices and sticky wages. d. neither sticky prices nor sticky wages. ANSWER: c 197. Sticky wages and prices are incorporated in the AD–AS model by the: a. long-run aggregate supply curve. b. short-run aggregate supply curve. c. aggregate demand curve. d. both the aggregate demand and short-run aggregate supply curves. ANSWER: b 198. An increase in _____ will shift the SRAS curve. a. actual inflation, but not expected inflation, b. expected inflation, but not actual inflation, c. both actual inflation and expected inflation d. neither actual inflation nor expected inflation Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: b 199. The SRAS curve is upward sloping because: a. labor markets quickly adjust to equilibrium. b. wages and prices are fully flexible in the short run. c. wages and prices are sticky in the short run. d. wages and prices are sticky in the long run. ANSWER: c 200. An increase in the rate of expected inflation causes: a. the short-run aggregate supply curve to shift right. b. the short-run aggregate supply curve to shift left. c. an upward movement along the short-run aggregate supply curve. d. a downward movement along the short-run aggregate supply curve. ANSWER: b 201. Why is the SRAS curve steeper above its intersection with the long-run aggregate supply curve? a. Wages are stickier in the upward direction. b. Wages are less sticky in the upward direction. c. Lower inflation will lead to faster growth. d. Employees become less motivated to work during times of unexpected inflation. ANSWER: b 202. Workers are most familiar with the movement of: a. prices. b. expected prices. c. real wages. d. nominal wages. ANSWER: d 203. The cost a business faces when changing prices in response to an economic shock is called: a. the velocity of money cost. b. the inflation choice expenditure cost. c. a menu cost. d. the sticky price dilemma cost. ANSWER: c 204. According to the quantity theory of money, in the long run, an increase in money supply causes an increase Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 in: a. production. b. velocity of money. c. real GDP. d. prices. ANSWER: d 205. Menu costs are the costs associated with changing: a. wages. b. jobs. c. prices. d. waiters. ANSWER: c 206. Figure: Three AD Curves
Beginning at point A in the accompanying diagram, a positive money shock could result in a short-run growth rate of: a. 1.2%. b. 2.0%. c. 3.0%. d. 6.0%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: c 207. Figure: Three AD Curves
Beginning at point A in the accompanying diagram, a negative money shock could result in a short-run growth rate of: a. 1.2%. b. 1.8%. c. 2.0%. d. 3.0%. ANSWER: a 208. Figure: Three AD Curves
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Chapter 13
In the accompanying diagram, the economy's long-run growth rate following a positive money shock would be: a. 2%. b. 3%. c. 4%. d. 6%. ANSWER: a 209. In the AD–AS model, money is not neutral in the short run if: a. unexpected inflation turns into expected inflation. b. wages and prices are sticky. c. wages and prices are flexible. d. the change in the money supply is fully anticipated. ANSWER: b 210. In the AD–AS model with a long-run potential growth rate of 2%, a 6 percentage point increase in the money supply growth rate will cause the economy's growth rate to be _____ in the long run. a. 2% b. 4% c. 6% d. 8% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: a 211. Which of the following scenarios could result in a recession? a. Aggregate demand decreases, and wages are flexible. b. Aggregate demand decreases, and wages are sticky. c. Aggregate demand increases, and wages are flexible. d. Aggregate demand increases, and wages are sticky. ANSWER: b 212. In the AD–AS model, an unexpected increase in the growth rate of the money supply: a. decreases both the inflation and real growth rates in the short run. b. increases both the inflation and real growth rates in the short run. c. decreases both the inflation and real growth rates in the long run. d. increases both the inflation and real growth rates in the long run. ANSWER: b 213. In the AD–AS model, an unexpected decrease in the growth rate of the money supply causes: a. a rightward shift of the AD curve and then a leftward shift of the SRAS curve. b. a rightward shift of the AD curve and then a rightward shift of the SRAS curve. c. a leftward shift of the AD curve and then a leftward shift of the SRAS curve. d. a leftward shift of the AD curve and then a rightward shift of the SRAS curve. ANSWER: d 214. From an initial equilibrium in the AD–AS model, an unexpected increase in money supply growth will cause inflation: a. and real growth to increase in the short run. b. to increase and real growth to decrease in the short run. c. to increase and real growth to remain unchanged in the short run. d. and real growth to remain unchanged. ANSWER: a 215. The short-run aggregate supply curve is upward sloping because: a. in the short run, an increase in spending leads to an increase in output. b. wages increase with an increase in output in the short run. c. wages and prices are sticky in the short run. d. an increase in spending only leads to an increase in prices. ANSWER: c 216. Which of the following is an explanation for why prices may be sticky in the short run? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. menu costs b. price expectations c. a vertical long-run aggregate supply curve d. money illusion ANSWER: a 217. If a baker observes an increase in demand for bread, should the baker increase output or raise prices? a. increase output b. raise prices c. neither increase output nor raise prices d. It depends on whether the change in demand is driven by inflation or by a stronger preference for bread. ANSWER: d 218. If the actual rate of inflation turns out to be higher than the expected rate of inflation, what happens to the growth rate of output before expectations are updated? a. The growth rate stays at the Solow growth rate. b. The growth rate is higher than the Solow growth rate. c. The growth rate is lower than the Solow growth rate. d. The growth rate could go up or down. ANSWER: b 219. Prices are especially sticky in the: a. upward direction. b. downward direction. c. leftward direction. d. rightward direction. ANSWER: b 220. The lowering of the growth rate of the money supply is represented graphically by a: a. shift to the left of the AD curve. b. shift to the right of the AD curve. c. shift to the left of the SRAS curve. d. shift to the right of the SRAS curve. ANSWER: a 221. As a result of an increase in expected inflation, the: a. LRAS curve shifts to the left. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. LRAS curve shifts to the right. c. SRAS curve shifts to the left. d. SRAS curve shifts to the right. ANSWER: c 222. Which of the following explains why the inflation rate is slow to adjust over time? a. People can perfectly predict the inflation rate. b. There are high menu costs of changing prices. c. Workers respond to nominal wages instead of real wages. d. Too many shocks exist in an economy. ANSWER: b 223. If prices are completely flexible, then a positive aggregate demand shock will lead to: a. an immediate shift of the SRAS curve to the left. b. an immediate shift of the SRAS curve to the right. c. a shift of the long-run aggregate supply curve to the right. d. a shift of the long-run aggregate supply curve to the left. ANSWER: a 224. If prices are completely flexible, then an increase in spending growth will lead to an immediate: a. increase in real output growth without any change in inflation. b. decrease in real output growth without any change in inflation. c. decrease in inflation without any change in real output growth. d. increase in inflation without any change in real output growth. ANSWER: d 225. Which of the following occurs in the long run? a. Prices are sticky. b. Unexpected inflation is absent. c. The SRAS curve intersects the AD curve at an output growth rate higher than the Solow growth rate. d. Workers confuse real wages with nominal wages. ANSWER: b 226. The costs of changing prices are called: a. short-run costs. b. long-run costs. c. menu costs. d. printing costs. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: c 227. An unexpected outward shift of the economy's AD curve will cause real GDP growth to increase in: a. the short run only. b. the long run only. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: a 228. An increase in expected inflation will cause the economy's aggregate demand curve to: a. shift to the right. b. shift to the left. c. become steeper. d. remain unchanged. ANSWER: d 229. An increase in expected inflation will cause the economy's long-run aggregate supply curve to: a. shift to the right. b. shift to the left. c. become steeper. d. remain unchanged. ANSWER: d 230. An increase in expected inflation will cause the economy's short-run aggregate supply curve to: a. shift right. b. shift left. c. become steeper. d. become flatter. ANSWER: b 231. An unexpected increase in money growth leads to increased inflation in: a. the short run. b. the long run. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: c 232. An unexpected increase in money growth leads to increased real GDP growth in: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. the short run. b. the long run. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: a 233. According to the inflation parable discussed in the text, a positive shock to spending: a. does not affect price and output at first, but in the long run both output and price increase. b. increases both price and output at first, but neither price nor output changes in the long run. c. increases price at first but in the long run only increases output. d. increases output at first but in the long run only increases price. ANSWER: d 234. An aggregate demand shock is a: a. slow and expected shift in spending. b. slow and unexpected shift in spending. c. rapid and expected shift in spending. d. rapid and unexpected shift in spending. ANSWER: d 235. The short-run aggregate supply curve shows the _____ relationship between the inflation rate and real growth during the period when prices and wages are _____. a. positive; flexible b. positive; sticky c. negative; flexible d. negative; sticky ANSWER: b 236. Nominal wage confusion occurs when: a. workers respond to their nominal wage instead of to their real wage. b. workers respond to their real wage instead of to their nominal wage. c. the nominal wage is much greater than the real wage. d. the real wage is much greater than the nominal wage. ANSWER: a 237. Since people will always come to expect the actual inflation rate in the long run, the expected inflation rate is found graphically where the: a. AD curve intersects the SRAS curve. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. AD curve intersects the LRAS curve. c. SRAS curve intersects the LRAS curve. d. LRAS intersects the horizontal axis. ANSWER: b 238. Due to an aggregate demand shock, in the short run, _____ will change; in the long run, _____ will change. a. only inflation; the real growth rate b. only the real growth rate; only the real growth rate c. the real growth rate and/or the inflation rate; only the inflation rate d. only the inflation rate; only the inflation rate ANSWER: c 239. The long-run impact of a positive aggregate demand shock is that the real growth rate will: a. rise and the inflation rate will be at the Solow growth rate. b. be at the Solow growth rate and the inflation rate will rise. c. fall and the inflation rate will rise. d. rise and the inflation rate will fall. ANSWER: b 240. The short-run aggregate supply curve depicts a _____ relationship between the inflation rate and the real growth rate when _____. a. positive; prices and wages are sticky b. positive; output is sticky c. negative; prices and wages are flexible d. negative; output is flexible ANSWER: a 241. Each short-run aggregate supply curve is based on a certain: a. expected growth rate. b. actual inflation rate. c. real growth rate. d. expected inflation rate. ANSWER: d 242. In the short run, an increase in spending will cause: a. output to rise but not prices. b. prices to rise but not output. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 c. both output and prices to rise. d. neither output nor prices to rise. ANSWER: c 243. When consumers base purchase decisions on their nominal wages rather than their real wages, their actions are consistent with: a. nominal wage illusion. b. real wage illusion. c. nominal wage confusion. d. real wage confusion. ANSWER: c 244. Which is NOT a reason that firms are reluctant to increase prices following an increase in aggregate demand? a. Increasing prices mean that firms will sell fewer units than if prices are low. b. If prices rise, workers will want higher wages, which increases costs. c. Firms are unsure whether or not the increase in spending is permanent. d. There are menu costs associated with changing the prices of products. ANSWER: a 245. Nominal wage confusion leads to a short-run equilibrium _____ the Solow growth rate as _____ believe that _____. a. at; employers; nominal wages are rising faster than they actually are b. at; workers; real wages are rising faster than nominal wages c. beyond; employers; real wages have greater purchasing power than nominal wages d. beyond; workers; nominal wages represent their purchasing power ANSWER: d 246. After an increase in aggregate demand, why does the real growth rate revert to the Solow growth rate in the long run? a. The Solow growth rate changes to the new short-run equilibrium growth rate. b. The increase in aggregate demand reverts to original demand over time. c. Unexpected inflation turns into expected inflation. d. The unexpected growth rate turns into a new expected growth rate. ANSWER: c 247. What causes a shift in the short-run aggregate supply curve? a. a change in the expected real growth rate b. a change in the expected inflation rate Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 c. a change in production d. a shift in the inflation rate ANSWER: b 248. In the short run, the inflation rate is found where the _____ curves intersect, and in the long run, the inflation rate is found where the _____ curves intersect. a. short-run aggregate demand and short-run aggregate supply; long-run aggregate demand and longrun aggregate supply b. short-run aggregate supply and long-run aggregate supply; aggregate demand and long-run aggregate supply c. long-run aggregate demand and short-run aggregate supply; short-run aggregate demand and shortrun aggregate supply d. aggregate demand and short-run aggregate supply; aggregate demand and long-run aggregate supply ANSWER: d 249. Imagine that a government starts out with a balanced budget. If in the next period the government temporarily runs a budget deficit to increase government spending, what would you expect to happen to aggregate demand? a. AD would increase. b. AD would lie on the Solow growth rate. c. AD would stay the same. d. AD would decrease. ANSWER: a 250. An unexpected increase in export growth is a: a. shock that is always matched by an equal decrease in import growth. b. positive AD shock. c. negative AD shock. d. factor that has no impact on AD in the short run. ANSWER: b 251. In the AD–AS model, what happens to the economy in the short run when consumer spending decreases? a. Inflation is higher, and the real growth rate is higher. b. Inflation is higher, and the real growth rate is lower. c. Inflation is lower, and the real growth rate is higher. d. Inflation is lower, and the real growth rate is lower. ANSWER: d 252. From an initial equilibrium in the AD–AS model, an increase in consumption growth will initially cause Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 inflation: a. and real growth to increase. b. to increase and real growth to decrease. c. to increase and real growth to remain unchanged. d. and real growth to remain unchanged. ANSWER: a 253. According to the AD–AS model, if the economy is initially at its long-run potential growth rate, then a temporary increase in the growth rate of investment spending will cause: a. an increase in the real growth rate in the long run. b. an increase in the inflation rate in the long run. c. an increase in both the inflation and real growth rates in the short run. d. no effect on the real growth rate or inflation rate in the short run. ANSWER: c 254. A temporary decrease in consumer spending causes: a. a decrease in the economy's long-run potential growth rate. b. an upward shift of the SRAS curve. c. a decrease in velocity growth ( ). d. an increase in money growth (
).
ANSWER: c 255. In the AD–AS model, changes in the growth rates of C, I, G, and NX are interpreted as changes in: a. money supply. b. velocity growth. c. price levels. d. money supply growth. ANSWER: b 256. Which of the following factors would NOT cause aggregate demand to increase? a. lower taxes b. higher government spending c. increased wealth d. an advance in technology ANSWER: d 257. Which of the following causes the AD curve to shift left? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. a tax cut b. increased consumer confidence c. increased import growth d. an increase in business investment ANSWER: c 258. Which of the following is NOT an example of a positive AD shock? a. a faster growth rate of the money supply b. an increase in government spending growth c. an increase in productivity growth d. an increase in export growth ANSWER: c 259. Sustained inflation: a. can occur as a result of changes in
.
b. can occur as a result of changes in . c. requires ongoing increases in the money supply. d. can never occur. ANSWER: c 260. If stock prices go up and people feel richer, aggregate demand will: a. increase. b. decrease. c. stay the same because there have been no changes to the underlying assets. d. be unpredictable. ANSWER: a 261. A temporary positive shock to spending growth will lead to an increase in: a. output in both the short run and the long run. b. both output and prices in the short run, but only prices in the long run. c. both prices and output in the short run, but only output in the long run. d. output and prices in the short run, but no change in either in the long run. ANSWER: d 262. As a result of a positive shock to
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a. inflation and output growth increase in the short run, but in the long run they return to the rates before the shock. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. inflation and output growth decrease in the short run, but in the long run they return to the rates before the shock. c. inflation increases and output growth decreases in the short run, but in the long run they return to the rates before the shock. d. inflation and output growth increase in both the short run and the long run. ANSWER: a 263. Which of the following causes a shift of the AD curve to the right? a. an increase in income taxes b. an increase in consumer confidence c. an increase in import growth d. an increase in interest rates ANSWER: b 264. An increase in consumer pessimism will lead to increased inflation in: a. the short run only. b. the long run only. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: d 265. When consumers suddenly become more pessimistic about the economy, a negative aggregate demand shock shifts the: a. LRAS curve to the left, reducing the real growth rate in the short run. b. LRAS curve to the right, reducing the real growth rate in the short run. c. AD curve to the left, reducing the real growth rate in the short run. d. AD curve to the right, reducing the real growth rate in the short run. ANSWER: c 266. A temporary decrease in aggregate demand: a. raises the inflation rate and growth rate in the long run. b. reduces the inflation rate and growth rate in the long run. c. raises the inflation rate but reduces the growth rate in the long run. d. makes neither the inflation rate nor the growth rate change in the long run. ANSWER: d 267. Changes in
tend to be _____, and changes in
tend to be _____.
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Chapter 13 a. permanent; temporary b. temporary; permanent c. permanent; permanent d. temporary; temporary ANSWER: b 268. Which of the following would cause the AD curve to shift to the right? a. a decrease in consumer confidence b. a decrease in the inflation rate c. an increase in consumer wealth d. an increase in the short-run aggregate supply curve ANSWER: c 269. Which of the following would cause the AD curve to shift to the left? a. higher government budget deficits b. increased growth in imports c. lower growth rate of output d. lower taxes ANSWER: b 270. Which of the following is NOT a positive aggregate demand shock? a. a faster money growth b. decreased import growth c. lower growth of government spending d. increased wealth ANSWER: c 271. Which of the following will NOT shock aggregate demand so that it shifts to the left? a. a slower money growth rate b. higher taxes c. lower growth of government spending d. decreased import growth ANSWER: d 272. Figure: Aggregate Demand and Aggregate Supply 1
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Chapter 13
If the money supply has increased, the long-run equilibrium in this economy will occur at intersection: a. A. b. B. c. C. d. D. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 273. Figure: Aggregate Demand and Aggregate Supply 2
If consumers become nervous about job security, what will happen in the figure? a. Aggregate demand will shift to left. b. Short-run aggregate supply will shift to the left. c. Long-run aggregate supply will shift left and short-run aggregate supply will shift right. d. Aggregate demand will shift to the right and long-run aggregate supply will shift left. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 274. If the velocity of money changes, then a change in _____ will show up as a change in _____. a. production; manufactured goods but not services b. the money supply; the bank balance and currency c. the spending rate; the growth rates of C, I, G, or NX d. the money supply growth rate; the rate of growth in the bank balance and currency ANSWER: c 275. What results when consumers become apprehensive about their job security and their financial security? a. The aggregate demand curve shifts to the right and a boom in production occurs. b. The aggregate demand curve shifts to the right and a recession occurs. c. The aggregate demand curve shifts to the left and a boom in production occurs. d. The aggregate demand curve shifts to the left and a recession occurs. ANSWER: d 276. Which is true about the changes in velocity? a. They are set by banking authorities. b. They occur very gradually, not quickly. c. They can be positive but not negative. d. They tend to be temporary. ANSWER: d 277. If the economy is in a long-run equilibrium, but then consumer spending falls due to fears about job security, after the long-run adjustment to the change, inflation is _____ and real growth is _____. a. higher; lower b. lower; higher c. lower; the same d. the same; the same ANSWER: d 278. In the long run, a change in aggregate demand results in: a. an increase in the inflation rate. b. a decrease in the inflation rate. c. a change in the inflation rate in the opposite direction as demand. d. no change in the inflation rate. ANSWER: d 279. A wealth shock in the economy is _____ spending suddenly changing in response to a sudden change in _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. investment; average profit levels b. investment; interest rates c. consumer; the value of assets d. wealth; average profit levels ANSWER: c 280. How do taxes impact spending in the economy? a. Taxes have a negative relationship with both consumption and investment spending. b. Taxes have a negative relationship with government spending. c. Taxes have a positive relationship with consumption spending and a negative relationship with investment spending. d. Taxes have a positive relationship with investment spending and a negative relationship with consumption spending. ANSWER: a 281. Which would cause a positive shock to the aggregate demand curve? a. a decrease in taxes b. an increase in imports c. a decrease in the money growth rate d. a decrease in government spending ANSWER: a 282. Which would cause a negative shock to the aggregate demand curve? a. a decrease in taxes b. an increase in government spending c. an increase in the money growth rate d. an increase in imports ANSWER: d 283. Which would cause a higher growth rate in spending? a. a decrease in wealth b. an increase in taxes c. a decrease in imports d. a decrease in the money growth rate ANSWER: c 284. Which would temporarily cause a reduction in the inflation rate? a. an increase in exports Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. an increase in government spending c. an increase in fear d. a decrease in taxes ANSWER: c 285. The discussion in the textbook indicates that the Great Depression was caused by: a. aggregate demand shocks. b. real shocks. c. neither aggregate demand shocks nor real shocks. d. both aggregate demand shocks and real shocks. ANSWER: d 286. Which of the following describes the process through which a major decline in the stock market leads to a change in aggregate demand? a. Banking panics lead to the removal of deposit insurance and a negative AD shock. b. Increases in net exports generate a negative AD shock. c. Reductions in consumer wealth produce a negative AD shock. d. A stock market bubble bursts, and this leads to a negative supply shock. ANSWER: c 287. The first major event of the Great Depression was: a. a series of bank failures. b. a fall in investment spending. c. a stock market crash. d. the Smoot–Hawley Tariff. ANSWER: c 288. Approximately what percentage of banks failed between 1930 and 1932? a. 20% b. 40% c. 60% d. 80% ANSWER: b 289. By approximately how much did investment fall between 1929 and 1933? a. 25% b. 40% c. 50% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 d. 75% ANSWER: d 290. The U.S. Great Depression began in what year? a. 1927 b. 1929 c. 1933 d. 1939 ANSWER: b 291. What factors triggered the Great Depression? a. decreased consumer spending and tight monetary policy b. decreased investment and increased inflation c. decreased employment and increased money supply d. decreased inflation and increased income taxes ANSWER: a 292. The U.S. stock of physical capital was: a. lower in 1930 than in 1920. b. lower in 1930 than in 1940. c. lower in 1940 than in 1930. d. lower in 1950 than in 1940. ANSWER: c 293. By 1932, the real growth rate of the U.S. economy was: a. –13%. b. –3%. c. 2%. d. 4%. ANSWER: a 294. The largest single shock to aggregate demand in U.S. history occurred in the early 1930s. What was it? a. the Dust Bowl b. the steep fall in capital investment c. unemployment rate rising to 20% d. a one-third drop in the money supply ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 295. What happened to the price level between 1929 and 1932? a. It did not change. b. Inflation reached 20%. c. Inflation hovered around 5%. d. Deflation reached 10%. ANSWER: d 296. Which of the following is a negative real shock that occurred during the Great Depression? a. The Smoot–Hawley Tariff led to a decrease in net exports. b. Bank failures led to a decrease in the money supply. c. Widespread bank failures led to a reduction in the productivity of financial intermediation. d. A stock market crash decreased consumer wealth. ANSWER: c 297. What was one of the federal government policy failures in 1930 that contributed to the Great Depression? a. the Smoot–Hawley Tariff b. the declaration of a bank “holiday” c. the elimination of bank deposit insurance d. the creation of the Federal Reserve ANSWER: a 298. What are some of the economic effects of a tariff? a. Wealth is redistributed from wealthy nations to poor nations, and taxes fall. b. Unemployment and inflation rates both fall. c. A decrease in trade reduces the productivity of capital and labor. d. Trade remains the same in the long run, and GDP rises in the nation that enacts the tariff. ANSWER: c 299. In 1931, the Federal Reserve: a. successfully lessened the severity of the Great Depression. b. held aggregate demand steady in response to the stock market crash. c. acted aggressively to counter the effects of the banking crisis. d. failed to respond to the banking crisis. ANSWER: d 300. Deflation: a. lowers the real value of debts. b. raises the real value of debts. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 c. lowers the nominal value of debts. d. raises the nominal value of debts. ANSWER: b 301. The Smoot–Hawley Tariff of 1930 delivered a: a. boost to aggregate demand in the form of higher velocity of money. b. blow to aggregate demand in the form of lower money growth. c. boost to aggregate demand in the form of new technology. d. blow to aggregate demand by causing a collapse in world trade. ANSWER: d 302. Which of the following best describes the conditions during the Great Depression? a. Both real GDP growth and inflation were negative. b. Real GDP growth was negative while inflation was very high. c. Both real GDP growth and inflation were historically high. d. Real GDP growth was high while inflation was negative. ANSWER: a 303. Which of the following contributed to the deep economic downturn of the Great Depression? a. Money growth declined dramatically. b. Consumption growth declined dramatically. c. Investment growth declined dramatically. d. Money growth, consumption growth, and investment growth all declined dramatically. ANSWER: d 304. Which of the following is a real shock that contributed to the economic contraction during the Great Depression? a. an increase in money supply growth b. tax cuts c. widespread bank failures d. a reduction in tariff and other trade restrictions ANSWER: c 305. Many economists blame the severity of the Great Depression on: a. poor monetary policy conducted by the Federal Reserve. b. the unwillingness of the federal government to increase spending. c. the stock market crash of 1929. d. overinvestment in capital. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: a 306. During the Great Depression, the U.S. aggregate demand curve: a. shifted to the right. b. shifted to the left. c. became steeper. d. became flatter. ANSWER: b 307. Deflation can cause the economy's aggregate demand curve to shift to the left because debt contracts are: a. adjusted for inflation. b. not adjusted for inflation. c. adjusted for changes in the interest rate. d. not adjusted for changes in the interest rate. ANSWER: b 308. During the Great Depression, the long-run aggregate supply curve: a. shifted to the right. b. shifted to the left. c. did not shift at all. d. became flatter. ANSWER: b 309. The Great Depression was due primarily to the: a. excessive amount of money supply. b. extensive underutilization of resources. c. great fall in aggregate demand. d. rising labor unions. ANSWER: c 310. The Smoot–Hawley Tariff of 1930 raised tariff rates on tens of thousands of imported goods, and the results were that: a. exports rose but imports fell, thereby increasing aggregate demand. b. imports rose but exports fell, thereby reducing aggregate demand. c. both exports and imports rose, thereby increasing aggregate demand. d. both exports and productivity fell, thereby reducing aggregate demand and aggregate supply. ANSWER: d 311. Which was NOT among the actions that contributed to the depth and length of the U.S. Great Depression? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 a. a decrease in the U.S. money supply in the early 1930s b. a decrease in government spending as part of the New Deal c. the failure of 40% of U.S. banks in the early 1930s d. the 1929 stock market crash, which reduced wealth ANSWER: b 312. Which was a real shock that contributed to the Great Depression? a. the contraction of the money supply b. the stock market crash c. bank failures d. reduced investment spending ANSWER: c 313. An important lesson learned from the Great Depression is that: a. real shocks and aggregate demand shocks are often linked. b. real shocks can cause recessions but demand shocks cannot. c. demand shocks can cause recessions but real shocks cannot. d. reductions in aggregate demand do not lead to a higher unemployment rate in the short run. ANSWER: a 314. The unemployment rate decreases during a recession. a. True b. False ANSWER: b 315. Economic growth is a smooth process. a. True b. False ANSWER: b 316. A recession is a significant, widespread decline in nominal income and employment. a. True b. False ANSWER: b 317. The slope of the aggregate demand curve is equal to 1. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: b 318. An increase in the growth rate of real output will cause the aggregate demand curve to shift to the right. a. True b. False ANSWER: b 319. A slower money growth rate causes a positive AD shock. a. True b. False ANSWER: b 320. An increase in the growth rate of velocity shifts the aggregate demand curve to the right. a. True b. False ANSWER: a 321. Increased spending growth shifts the AD curve to the left, and decreased spending growth shifts the AD curve to the right. a. True b. False ANSWER: b 322. The aggregate demand curve shows that for specified spending growth rates, inflation rates and real GDP growth rates are inversely related in the short run. a. True b. False ANSWER: a 323. Each aggregate demand curve contains only one combination of inflation and real growth that leads to a distinct level of spending. a. True b. False ANSWER: b 324. The aggregate demand curve has a slope of –1, so that a 1 percentage point reduction in inflation contributes to a 1 percentage point increase in real GDP growth, other things being equal. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. False ANSWER: a 325. The long-run aggregate supply curve describes an economy in which wages and prices are sticky. a. True b. False ANSWER: b 326. In the AD–AS model with SRAS included, prices and wages are assumed to be perfectly flexible in the short run. a. True b. False ANSWER: b 327. At all points along the long-run aggregate supply curve, prices and wages are assumed to be perfectly flexible. a. True b. False ANSWER: a 328. The long-run aggregate supply curve shows that inflation has no impact on real long-term growth. a. True b. False ANSWER: a 329. The long-run growth potential of an economy does not depend on the level of inflation. a. True b. False ANSWER: a 330. The long-run aggregate supply curve has a slope of –1. a. True b. False ANSWER: b 331. A positive real shock causes a shift to the right of the long-run aggregate supply curve. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: a 332. A positive real shock to the economy will result in an increase in the growth rate of output and a decrease in the rate of inflation. a. True b. False ANSWER: a 333. The Black Plague is an example of a real shock. a. True b. False ANSWER: a 334. An increase in the money supply is an example of a real shock. a. True b. False ANSWER: b 335. Large increases in oil prices are positive shocks to aggregate demand. a. True b. False ANSWER: b 336. A decrease in the supply of oil makes capital and labor less productive. a. True b. False ANSWER: a 337. A real shock is a rapid change in economic conditions that affects the productivity of resources. a. True b. False ANSWER: a 338. When the United States experienced its first oil shock in 1973, employment shifted from Houston, Texas, to Detroit, Michigan. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: b 339. Expected increases in the price of oil are the most costly to deal with. a. True b. False ANSWER: b 340. Expected shocks are more difficult to deal with than unexpected shocks. a. True b. False ANSWER: b 341. In a typical year, bad shocks outweigh good shocks, and the economy grows. a. True b. False ANSWER: b 342. In a typical year, good shocks outweigh bad shocks, and the economy grows. a. True b. False ANSWER: a 343. During periods of real shocks, the long-run aggregate supply curve will remain the same in the short term and the long run. a. True b. False ANSWER: b 344. In the AD–AS model, a positive real shock drives up both inflation and the growth rate. a. True b. False ANSWER: b 345. According to the AD–AS model, demand shocks affect real GDP growth while real shocks do not affect real GDP growth. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 346. From an initial equilibrium in the basic model that includes the AD and LRAS only, a shock to aggregate demand has an effect on the inflation rate but no effect on the real growth rate. a. True b. False ANSWER: a 347. Money is always neutral in the AD–AS model. a. True b. False ANSWER: b 348. Money is always neutral in the long run in the AD–AS model. a. True b. False ANSWER: a 349. Money will not be neutral in the short run in the AD–AS model when prices and wages are sticky. a. True b. False ANSWER: a 350. Money is neutral in both the short run and long run in the AD–AS model when prices and wages are completely flexible. a. True b. False ANSWER: a 351. An increase in the inflation rate in the long run only occurs with an increase in money growth. a. True b. False ANSWER: a 352. An unexpected increase in money growth increases both inflation and real growth in the long run. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 353. An unexpected increase in money growth increases inflation but not real growth in the long run. a. True b. False ANSWER: a 354. A temporary decrease in spending decreases both inflation and real growth in the long run. a. True b. False ANSWER: b 355. A temporary decrease in spending decreases inflation but not real growth in the long run. a. True b. False ANSWER: b 356. A temporary decrease in spending has no effect on inflation or real growth in the long run. a. True b. False ANSWER: a 357. In the AD–AS model, both real and demand shocks cause business fluctuations. a. True b. False ANSWER: a 358. In the AD–AS model, wages are sticky but prices are not. a. True b. False ANSWER: b 359. The short-run aggregate supply curve shows that higher-than-expected-inflation will increase output and lower-than-expected-inflation will decrease output. a. True b. False ANSWER: a 360. Sticky wages minimize the effect of negative supply shocks. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. False ANSWER: b 361. Sticky wages will often help end a recession sooner. a. True b. False ANSWER: b 362. A positive shock to spending will shift the aggregate demand curve to the right and increase output in the short run, but not in the long run. a. True b. False ANSWER: a 363. An increase in inflation immediately causes a rightward shift of the short-run aggregate supply curve. a. True b. False ANSWER: b 364. The short-run aggregate supply curve slopes upward because prices and wages are sticky. a. True b. False ANSWER: a 365. Since changes in
,
,
or
do not change the rate of inflation in the long run,
sustained inflation requires ongoing increases in the money supply. a. True b. False ANSWER: a 366. “Animal spirits” can cause a shock to
.
a. True b. False ANSWER: a 367. Decreased import growth represents a positive AD shock. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 b. False ANSWER: a 368. Lower taxes represent a negative AD shock. a. True b. False ANSWER: b 369. Increased wealth represents a positive AD shock. a. True b. False ANSWER: a 370. Greater growth of government spending represents a negative AD shock. a. True b. False ANSWER: b 371. The Great Depression would have been a lot less severe if monetary policy had been better understood and managed at the time. a. True b. False ANSWER: a 372. Productivity shocks were the primary cause of the Great Depression. a. True b. False ANSWER: b 373. Assume that a country's money velocity remains constant and that the rate of money growth is 4%. a. What is the rate of spending growth? b. If money growth increases by 1.5 percentage points and consumption growth increases by 0.5 percentage point, what is the new rate of spending growth? c. Given your answer in part b, what is the long-run rate of real GDP growth at an inflation rate of 4%? ANSWER: a. Spending growth = money growth + velocity growth = 4 + 0 = 4%. b. The increase in spending growth will equal the increase in money growth (1.5) plus the increase in consumption (or velocity) growth (0.5), so the new spending growth rate will be 4 + 1.5 + 0.5 = 6%. c. Since , we have 5.5 + 0.5 = 4 + . Thus = 2%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 374. The largest negative shock to aggregate demand in U.S. history took place during the housing crash of 2007. a. True b. False ANSWER: b 375. Why is the long-run aggregate supply curve vertical in the AD–AS model? ANSWER: The vertical nature of the LRAS curve shows that there is no relationship between inflation and real growth in the economy in the long run. In other words, money (which ultimately drives inflation) is “neutral” in the long run. This means that money does not help produce goods and services in the economy. Instead, the economy's long-run potential or “Solow” growth rate is determined by the existing resources such as labor, capital, and technology. 376. With the aid of a diagram, explain how a shock that raises labor productivity affects the inflation rate and the real growth rate in the long run. ANSWER:
The diagram shows the economy initially at point A, where the inflation rate is 6% and the real GDP growth rate is 6%. A positive productivity shock allows additional goods and services to be produced with smaller increases in price, which causes a shift to the right of the long-run aggregate supply curve. This causes a movement of the economy from point A to point B, where the inflation rate has decreased from 6% to 3% and the real GDP growth rate has increased from 6% to 9%. 377. Compare two economies, one that is highly agricultural and another that is highly manufacturing-based. Discuss what types of shocks might be relevant to each of these economies. ANSWER: Weather shocks and agricultural technology shocks would be particularly relevant to the agricultural economy, while oil shocks or manufacturing technology shocks would be particularly relevant to the manufacturing economy. Of course, both economies are subject to demand side shocks and sticky wages and prices. 378. Stagflation is a situation in which increased unemployment and lower output growth are accompanied by an increase in inflation. Explain how a negative real shock can lead to stagflation. ANSWER: A negative real shock decreases the productivity of capital and labor, thus shifting the LRAS curve Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 to the left. The leftward shift of LRAS indicates a decrease in the economy's long-run potential growth rate. When prices fully adjust to the negative real shock, a new equilibrium will be achieved where the inflation rate is higher than it was initially. 379. The term “stagflation” describes the occurrence of a recession along with high inflation, such as occurred in the mid-1970s. What kind of shock is required to cause stagflation? ANSWER: Only a negative real shock can cause a recession accompanied by higher inflation. (A recession caused by a negative demand shock will result in lower inflation.) A negative real shock will shift the LRAS curve to the left, resulting in lower growth and possibly a recession. When prices adjust to the shock, a new equilibrium will occur with higher inflation. 380. In economics, what is meant by the term “real shock”? What makes a shock “real”? ANSWER: A real shock to an economy is a sudden occurrence that causes rapid changes in economic conditions, increasing or decreasing the level or productivity of capital and labor. This change impacts GDP and employment. The shock can be positive or negative, can vary in size, and shifts the long-run aggregate supply curve. The shock is considered “real” because it impacts not only prices but output as well. 381. What types of shocks can be found in the AD–AS model? Why do these shocks not disappear immediately but rather tend to spread across sectors of an economy? ANSWER: Real shocks are rapid changes in economic conditions that affect the productivity of capital, labor, and other resources. These are also called productivity shocks. These shocks do not disappear immediately because of transmission mechanisms, which are economic forces that tend to amplify shocks by transmitting them across time and sectors of the economy. Demand shocks are unexpected changes in spending or money growth in the economy. These shocks do not disappear immediately because of sticky wages and prices, which prevent the economy from immediately adjusting to the shock. 382. What assumptions about wage and price flexibility are possible in the AD–AS model? What do these different assumptions imply about the slopes of the long-run and short-run aggregate supply curves? ANSWER:
One possible assumption is that wages and prices are perfectly flexible. When wages and prices are perfectly flexible, the actual growth rate of real GDP will be equal to the economy's potential Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 growth rate. As the diagram shows, the potential growth rate, or the Solow growth rate, is 6%. Because the Solow growth rate does not depend on the rate of inflation, the long-run aggregate supply curve is vertical. Another possible assumption is that wages and prices are sticky—or not perfectly flexible in the short run. In this case, the short-run aggregate supply curve (SRAS) slopes upward, as shown in the diagram. The upward-sloped SRAS curve implies that higher-thanexpected inflation will increase output growth and lower-than-expected inflation will decrease output growth. 383. Explain why sticky wages tend to amplify negative productivity shocks. ANSWER: A negative productivity shock means that output and employment will be lower. In this case, the economy's capital stock is less productive, and the less productive capital stock leads to reductions in employment. If wages are flexible, wages will fall as a result. The lower wages will reduce the impact on employment. However, if wages are sticky, wages will not fall as a result of the negative productivity shock. The higher wages mean that firms will employ fewer people. As a result, the impact of the negative productivity shock is amplified. 384. The following question has three parts, which are to be answered independently of each other. Graphically show your response to the following shocks in the AD–AS model: a. If a new round of consumer pessimism abounds, what will happen to the economy's short-run growth rate? b. If there is a positive, but temporary, monetary shock, what will happen to the economy's short-run growth rate? c. If a country's imports temporarily increase but exports stay the same, what will happen to the economy's short-run growth rate? ANSWER: a. The graph should show the AD curve shifting to the left and the short-run growth rate falling. b. The graph should show the AD curve shifting to the right and the short-run growth rate increasing. c. The graph should show the AD curve shifting to the left and the short-run growth rate decreasing. 385. Imagine that an economy experiences a long-lasting banking crisis and that subsequently consumption growth permanently falls. Using the AD–AS model, draw a diagram and explain the effects of the permanent decline in consumption growth on the inflation rate and the real growth rate in both the short run and the long run. ANSWER:
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Chapter 13 The diagram shows the economy initially at point A, where the inflation rate is 5% and real GDP growth is at the long-run potential growth rate of 6%. The decrease in consumption growth causes the AD curve to shift to the left from AD1 to AD2. As a result, the economy moves down along SRAS1 from point A to point B, where inflation has decreased from 5% to 4% and real GDP growth has decreased from 6% to 3%. Since this is a permanent decrease in consumption growth, the AD curve will not return to its initial position. In the long run, the SRAS curve shifts downward from SRAS1 to SRAS2 as inflation expectations adjust and wages become flexible. As a result of the shift of the SRAS curve, the economy moves to a new long-run equilibrium at point C, where real growth returns to the economy's long-run potential growth rate and inflation has decreased to 1%. A banking crisis that leads to a reduction in financial intermediation, such as would happen where bank failures rise, would cause a real shock, which would shift LRAS to the right, reducing the economy's potential growth. 386. Discuss the effects of an unexpected increase in the growth rate of the money supply in the AD–AS model. ANSWER: An unexpected increase in the growth rate of the money supply is a positive shock to aggregate demand. The result is a shift to the right of the AD curve. If wages and prices are flexible, the economy will continue to operate at its long-run potential growth rate as inflation rises immediately in response to the shift of the AD curve (without any effect on the real GDP growth rate). However, if wages and prices are sticky in the short run, the shift to the right of the AD curve results in an increase in the inflation rate as well as an increase in real GDP growth in the short run, as the economy moves up along the SRAS curve. Then, as wages and prices become flexible and unexpected, inflation becomes expected in the long run, the SRAS curve shifts up to the new expected level of inflation, and real GDP growth returns to the long-run potential rate. Thus in the long run, the shock to aggregate demand only raises the inflation rate and leaves the long-run growth rate unchanged. 387. Using an AD–AS model, graphically depict an economy operating in a boom and explain what will happen to this economy in the long run. ANSWER: A boom is depicted as short-run growth beyond the economy's long-run potential growth rate, as seen in the figure.
In the long run, however, prices and wages will both rise, shifting SRAS to the left until it intersects with the long-run aggregate supply curve at the same level of inflation as does the AD curve. Thus, Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 the long-run effect of a booming economy is higher inflation. 388. Using the AD–AS model, show and explain how real GDP growth and inflation will change in both the short run and long run if the growth rate of the money supply increases unexpectedly. ANSWER: The injection of more money into the economy shifts AD to the right, causing a temporary boom in the economy at point b in the figure. Some of the increase in spending is reflected in higher inflation and some of it in higher real growth, since sticky prices in the short run prevent prices from fully adjusting to the monetary shock. Thus, in the short run, both inflation and real growth increase. Once the unexpected inflation turns into expected inflation in the long run, the SRAS curve shifts up and to the left. In the long run, after all price adjustments are complete, all of the increase in money supply growth will be reflected in the inflation rate and the economy will end up at point c, where output growth has returned to its original long-run rate.
389. What impact does an aggregate demand shock have on inflation and growth? Why? ANSWER: An aggregate demand shock is a sudden change in spending in the economy. In the short run, it impacts both inflation and output, but in the long run, it impacts inflation only because the basic ability to produce has not changed in the economy. In the long run, changes in spending will impact prices but not output growth and the real growth rate will be equal to the Solow rate. 390. Why are firms reluctant to change the prices of their products when aggregate demand increases? ANSWER: When aggregate demand increases, spending in the economy increases. Firms typically respond by increasing output but only increase prices reluctantly. There are several reasons that they are reluctant to increase prices. One reason is that there are costs associated with a change in prices, such as the cost of printing new price labels. These costs are called menu costs. Another reason is that firms may be unsure as to whether the increase in spending is temporary or permanent. They know consumers will not like any price increase and so are cautious about making the change. Also, firms realize that when consumers face higher prices, workers will ask for higher wages, which will increase the cost of production and necessitate even higher prices. 391. Briefly discuss three factors that can cause an increase in aggregate demand and three factors that can cause a decrease in aggregate demand. What is currently happening to aggregate demand in the United States? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 ANSWER: The first part of this question can be answered in many different ways depending on which factors the students choose. The chart, Table 13.2 (32.2) from the text, summarizes these factors nicely. Some Factors that Shift the Aggregate Demand Curve Positive Shocks (Increase AD) (=Higher Negative Shocks (Decrease AD) (= Lower Growth Rate of Spending) Growth Rate of Spending) A faster money growth rate A slower money growth rate Confidence Fear Increased wealth Reduced wealth Lower taxes Higher taxes Greater growth of government spending Lower growth of government spending Increased export growth Decreased export growth Decreased import growth Increased import growth Of course, the second part of the question depends on current events at the time students are tested. 392. Suppose consumption growth suddenly falls as a result of a decline in consumer confidence. With the aid of a diagram including the AD and LRAS curves, explain how the change in consumption growth affects the inflation rate and the real growth rate in the long run. ANSWER:
The diagram shows the economy initially at point A, where the inflation rate is 5% and the real GDP growth rate is 6%. A decrease in consumption growth causes a shift to the left of the AD curve. As a result, the economy moves from point A to point B, where the inflation rate has decreased from 5% to 1% and the real GDP growth rate has remained unchanged at 6%. 393. Answer the following three questions about the Great Depression. a. What were the four major shocks that contributed to the Great Depression? b. Using a graph, show how these shocks affected AD. c. Did the monetary authorities have a hand in causing and/or exacerbating the Great Depression? Explain. ANSWER: a. Tight monetary policy is in part to blame for the bursting of the stock market bubble and subsequent stock market crash of 1929 that reduced wealth and caused the initial fall in C and AD (shock 1)—see Figure 13.16 (32.16) in text. Depositors made runs on the banks and banks begin to fail, causing further wealth loss and a decline in the money supply (shock 2). Shocks 1 and 2 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 13 combined to cause a fall in investment (shock 3), as consumers cut back on spending and business profits declined. The Fed failed to increase M in response to the banking crisis and reduced it further instead, leading to a further decrease in AD (shock 4). b. Figure 13.16 (32.16) from the text shows how these shocks affected AD. c. Yes, the monetary authorities' tight hand on the money supply was one of the causes of the stock market crash, and further monetary tightening in response to shock 3 caused the largest negative AD shock in U.S. history. Fortunately, monetary policy is much better understood and handled these days. 394. What happened to the U.S. money supply during the early years of the Great Depression? ANSWER: Money growth initially contracted at the beginning of the Great Depression. After the start of the Great Depression, there was a series of bank failures and bank panics in the United States. These bank failures and panics caused the money supply to contract significantly, and the Federal Reserve failed to respond appropriately to restore money growth. In effect, the Fed allowed a monetary contraction that caused the largest decline in aggregate demand in U.S. history.
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Chapter 14 1. The economic forces that amplify shocks by spreading them across time and sectors of the economy are called: a. irreversible investments. b. intertemporal substitutions. c. transmission mechanisms. d. aggregate demand conveyances. ANSWER: c 2. Transmission mechanisms: a. can amplify positive shocks. b. can amplify negative shocks. c. can amplify both positive and negative shocks. d. amplify neither positive nor negative shocks. ANSWER: c 3. What is taking place when an economy experiences quick changes that have large effects on productivity? a. economic shocks b. geographic capital fluctuations c. decreases in aggregate demand d. time bunching ANSWER: a 4. Rapid changes in economic conditions that have large effects on the productivity of capital and labor are called: a. business cycles. b. recessions. c. shocks. d. transmission mechanisms. ANSWER: c 5. Economic forces that can amplify shocks across time and sectors of the economy are called: a. business cycles. b. cyclical recessions. c. shock magnifiers. d. transmission mechanisms. ANSWER: d 6. A transmission mechanism: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. mitigates shocks by spreading them across time and through sectors of the economy. b. amplifies shocks by spreading them across time and through sectors of the economy. c. causes shocks to have an equal impact across time and sectors of the economy. d. turns negative shocks into positive shocks over time. ANSWER: b 7. Which of the following is (are) NOT a transmission mechanism? a. time bunching b. intertemporal substitution c. reversible investments d. labor adjustment costs ANSWER: c 8. Which of the following is a transmission mechanism? a. intertemporal substitution b. irreversible employment c. labor bunching d. time substitution ANSWER: a 9. Which is (are) NOT an example of a transmission mechanism? a. time bunching b. intertemporal substitution c. labor adjustment costs d. irreversible employment ANSWER: d 10. Which of the following is (are) NOT a transmission mechanism? a. intertemporal substitution b. irreversible investments c. time bunching d. shifts in LRAS ANSWER: d 11. Historical data on India's rainfall amounts and real GDP growth show that: a. economic fluctuations are negatively correlated with real shocks. b. economic fluctuations are positively correlated with real shocks. c. economic fluctuations have no correlation with any shocks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. real shocks affect only long-term economic growth, not short-run economic fluctuations. ANSWER: b 12. When a shock is amplified, a mild _____ shock is transformed into _____. a. negative; a mild positive shock b. negative; an economic boom c. negative; a more serious reduction in output d. positive; a mild negative shock ANSWER: c 13. Which of the following is (are) NOT a transmission mechanism of real shocks and aggregate demand shocks? a. reversible investment b. intertemporal substitutions c. collateral damage d. time bunching ANSWER: a 14. What happens when a real or aggregate demand shock is amplified? a. It is associated with audible noise. b. It reverses course and moves the economy in the opposite direction. c. A mild shock becomes stronger and has a larger impact on the economy. d. A strong shock becomes milder in impact but more narrowly focused. ANSWER: c 15. Which is (are) NOT a transmission mechanism through which shocks to an economy can be amplified? a. collateral damage b. time bunching and network effects c. redistribution intermediation d. intertemporal substitution ANSWER: c 16. Which is (are) NOT a transmission mechanism through which shocks to an economy can be amplified? a. uncertainty and irreversible investments b. intermediation adjustments c. collateral damage d. labor adjustment costs ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 17. Which is (are) a transmission mechanism through which shocks to an economy can be amplified? a. time flow b. capital adjustment costs c. collateral bunching d. labor adjustment costs ANSWER: d 18. Which of the following is the best example of intertemporal substitution? a. Timmy opens a lemonade stand on the weekends when he's not in school to earn money for a new bike. b. Sam works overtime to earn extra money. c. Mary studies an extra 3 hours the night before her economics final exam. d. Sarah decides to stay home from work today because she is feeling ill. ANSWER: c 19. Intertemporal substitution refers to: a. the tendency to work more when the returns to work are higher. b. the decision on how to allocate time between work and leisure. c. the preference for households to smooth their consumption over time. d. the decision to substitute one television show for another during the same time slot. ANSWER: a 20. Which of the following is NOT an example of intertemporal substitution? a. David decides to go to college after high school, since he has graduated in the middle of a big recession and jobs are hard to come by. b. Luke is an accountant who works overtime during tax season. c. Sandy works 10-hour days as a ski instructor during the winter months but takes a 3-week vacation during the summer. d. Thomas studies economics 2 hours every night in order to get a good grade in the course. ANSWER: d 21. Intertemporal substitution tends to amplify business cycles because: a. assets are typically worth more in booms than in recessions. b. the returns to work are higher in booms than in recessions, so people work more during booms and less during recessions. c. the returns to investment are higher when others are investing as well; thus, we see more investment during booms and less during recessions. d. many people are hesitant to change jobs during recessions; thus, resources are stuck in less productive uses. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: b 22. If drought reduces farm output, farmers will probably: a. work harder to try to make up for the lost output. b. work less hard and devote less capital to their fields. c. work the same amount as they normally do. d. celebrate. ANSWER: b 23. Intertemporal substitution is: a. the cost of shifting workers from declining sectors of the economy to growing sectors. b. the tendency for economic activities to be coordinated at common points in time. c. the allocation of consumption, work, and leisure across time to maximize well-being. d. a reduction in the value of collateral. ANSWER: c 24. People are more likely to do each of the following during a recession EXCEPT: a. retire. b. shrink business operations. c. focus on homemaking. d. drop out of school. ANSWER: d 25. The supply of labor: a. increases during a boom and decreases during a recession. b. decreases during a boom and increases during a recession. c. increases during booms and recessions alike. d. decreases during booms and recessions alike. ANSWER: a 26. Intertemporal substitution: a. dampens economic shocks. b. magnifies economic shocks. c. does not affect economic shocks. d. magnifies positive economic shocks and dampens negative economic shocks. ANSWER: b 27. Tom works as an editor for a textbook company and devotes some of his time to his dream of writing a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 novel. Will he devote more time to writing the novel when the textbook company is busy and pays him overtime or when work is slow and no overtime pay is available? a. when work is busy b. when work is slow c. equal amounts of time under both conditions d. He will never actually write it as long as he works with the textbook publishing company. ANSWER: b 28. The term “intertemporal substitution” refers to the allocation of time between: a. making capital goods and making consumption goods. b. consumption and saving. c. friends and family. d. leisure and work. ANSWER: d 29. During an economic boom, the employment-to-population ratio rises because: a. inflation tends to rise at that time. b. the opportunity cost of leisure increases. c. fewer people are available to work. d. real wages tend to fall at that time. ANSWER: b 30. Because of intertemporal substitution, the effect of a negative economic shock on real GDP will: a. be larger than otherwise. b. become a positive shock in the end. c. disappear immediately. d. occur only in the long run but not during the short run. ANSWER: a 31. Intertemporal substitution causes a positive productivity shock to: a. make the LRAS curve less steep. b. make the LRAS curve steeper. c. shift the LRAS curve farther to the right. d. shift the LRAS curve farther to the left. ANSWER: c 32. The idea that a person or business is most likely to work hard when doing so brings the greatest return is called: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. intertemporal substitution. b. irreversible investment. c. labor adjustment cost. d. time bunching. ANSWER: a 33. The allocation of consumption, work, and leisure across time to maximize well-being is called: a. intertemporal substitution. b. labor adjustment cost. c. time bunching. d. collateral damage. ANSWER: a 34. During an economic boom, people are more likely to: a. retire early. b. delay retirement. c. leave retirement plans unchanged. d. take a second job. ANSWER: b 35. When GDP is growing faster than trend, the employment-to-population ratio tends to grow: a. faster than trend. b. more slowly than trend. c. at its trend level. d. unpredictably. ANSWER: a 36. Intertemporal substitution tends to magnify: a. negative shocks only. b. positive shocks only. c. both negative and positive shocks. d. neither negative nor positive shocks. ANSWER: c 37. The allocation of consumption, work, and leisure across time to maximize well-being is called: a. cross-sectional substitution. b. cross-sectional complement. c. intertemporal substitution. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. intertemporal complement. ANSWER: c 38. If rainfall is below average, farmers may: a. work harder and devote more capital to their fields. b. work harder but devote less capital to their fields. c. devote more capital to their fields but work less hard. d. work less hard and devote less capital to their fields. ANSWER: d 39. Which of the following statements is NOT true? a. There is a tendency for fewer people to enter college when wages are increasing. b. People are more likely to retire or take early retirement during a boom. c. Homemakers are more likely to choose to enter the workforce during boom periods. d. There will be more people investing in their education when jobs are scarce. ANSWER: b 40. Which of the following explains why intertemporal substitution magnifies a negative economic shock? a. When things go bad, the return to work and investment fall, and often people work less and invest less. b. When things go well, workers will tend to be less productive and invest less. c. When things go bad, people often work more and harder to maintain their return to work. d. When things go well, the return to work and investing rise, and often people work less and invest less. ANSWER: a 41. People engage in intertemporal substitution because they: a. wish to reduce the overall number of hours they work. b. seek to maximize their well-being. c. are irrational. d. always prefer leisure to work. ANSWER: b 42. People engage in intertemporal substitution because they: a. are required to work longer hours when economies are expanding. b. are rational. c. are trying to achieve consumption smoothing. d. prefer fluctuations in their incomes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: b 43. Which of the following individuals is practicing intertemporal substitution? a. Sharona decides to stop being a stay-at-home mother and enters the workforce to get extra money for future college expenses. b. Malika decides to stop being a stay-at-home mother and enters the workforce because the economy is booming. c. Anneliese studies continuously throughout the semester for her final exams. d. The United States enters a recession, and Tashika loses her job. ANSWER: b 44. Figure: AS–AD Adjustment.
Beginning at point W in the figure, suppose the government greatly increases government expenditure. If workers react by displaying intertemporal substitution and enter the workforce, the economy should move to point _____ in the short run. a. V b. X c. Y Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. Z ANSWER: c 45. Figure: AS–AD
Assume that an economy begins at point 1 in the figure. An increase in government spending accompanied by intertemporal substitution will move the economy to point: a. 2. b. 3. c. 4. d. 6. ANSWER: b 46. When a drought (negative rainfall shock) occurs, farmers tend to put in less effort than they did before to till their farms because: a. agricultural output falls, and even though farmers put in the same level of effort, the effort per hour falls. b. extra hours of labor and capital usage do not yield much extra output. c. people work hardest when their hard work yields lower returns. d. they switch to crops that use less water. ANSWER: b 47. What economic effect has people allocating consumption across time to bring the greatest return? a. sticky wage benefits Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 b. irreversible investment c. intertemporal substitution d. labor adjustment cost ANSWER: c 48. If students decide to stay in college until a recession is over, they are practicing: a. intertemporal substitution. b. time bunching. c. labor adjustment costs. d. replacement wages. ANSWER: a 49. An economy with a long-run potential growth rate of 1% experiences a positive real economic shock that increases the growth rate to 2%. If intertemporal substitution subsequently takes place, what could the eventual new GDP growth rate be? a. 0% b. 1% c. 2% d. 3% ANSWER: d 50. Because of intertemporal substitution, a negative shock to aggregate demand could result in: a. a shift of the LRAS curve to the right. b. a shift of the LRAS curve to the left. c. an upward movement along the LRAS curve. d. a downward movement along the LRAS curve. ANSWER: b 51. Because of intertemporal substitution, real GDP growth tends to be: a. positively related to the employment–population ratio. b. negatively related to the employment–population ratio. c. unrelated to the employment–population ratio. d. positively or negatively related to the employment–population ratio, depending on the stage of the business cycle. ANSWER: a 52. Because of intertemporal substitution, the supply of labor is likely to: a. decrease when the economy grows more rapidly. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 b. increase when the economy grows more rapidly. c. remain constant regardless of how fast the economy grows. d. become unpredictable when a shock occurs in an economy. ANSWER: b 53. Because of intertemporal substitution, an increase in government spending results in a: a. leftward shift of both the LRAS curve and the AD curve. b. leftward shift of the LRAS curve but a rightward shift of the AD curve. c. rightward shift of both the LRAS curve and the AD curve. d. rightward shift of the LRAS curve but a leftward shift of the AD curve. ANSWER: c 54. For a given increase in government spending, intertemporal substitution is more widespread when the impact of AD growth on: a. both inflation and real GDP growth is stronger. b. both inflation and real GDP growth is weaker. c. inflation is stronger and the impact of AD growth on real GDP growth is weaker. d. inflation is weaker and the impact of AD growth on real GDP growth is stronger. ANSWER: d 55. Labor supply tends to: a. remain constant during recessions. b. remain constant during booms. c. increase during recessions. d. increase during booms. ANSWER: d 56. Intertemporal substitution tends to: a. reduce the impact of positive shocks and increase the impact of negative shocks. b. reduce the impact of negative shocks and increase the impact of positive shocks. c. reduce the impact of positive and negative shocks. d. increase the impact of positive and negative shocks. ANSWER: d 57. If, during a recession, a two-income couple become a one-income household and then later, during an economic boom, become a two-income household, their employment decisions are an example of: a. workload substitution. b. intertemporal substitution. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 c. labor adjustments. d. time bunching. ANSWER: b 58. When making intertemporal substitutions, individuals distribute _____ across time to maximize their wellbeing. a. leisure, work, and consumption b. savings, investment, and consumption c. capital, labor, and technology d. income, wealth, and spending ANSWER: a 59. Which is an example of intertemporal substitution amplifying a recession? a. During a recession, savings rise because people realize how fragile their economic situation is. b. During a recession, savings fall, reducing investment and shrinking production capacity. c. During a recession, more people retire early, leaving a smaller labor force with lower production capacity. d. During a recession, more people delay retirement to make up for reduced wages, increasing the labor force. ANSWER: c 60. Which is an example of intertemporal substitution that would amplify an economic boom? a. Some workers reduce work hours because wages are higher since less work yields equal pay. b. Some workers delay retirement to gain the higher income available during the economic boom. c. Workers go on longer vacations because incomes are higher, increasing the hospitality industry revenue. d. Savings fall so that unemployed workers can maintain consumption spending. ANSWER: b 61. When intertemporal substitution amplifies a positive real shock in the economy, the _____ curve shifts farther to the _____. a. aggregate demand; left b. aggregate demand; right c. long-run aggregate supply; left d. long-run aggregate supply; right ANSWER: d 62. When intertemporal substitution amplifies a negative real shock in the economy, the _____ curve shifts farther to the _____. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. aggregate demand; left b. aggregate demand; right c. long-run aggregate supply; left d. long-run aggregate supply; right ANSWER: c 63. Which of the following scenarios explains why uncertainty can lead to increased volatility in economic fluctuations? a. You are not sure whether your fiancé will retain his job in the uncertain economic environment, so you decide not to purchase a home with him. b. Your firm starts laying off workers, and you are not sure whether you will keep your job, so you reduce your spending by half. c. Your friend warns you that your bank is about to collapse, so you withdraw your savings from that bank. d. You anticipate a recession may be coming, so you reduce the number of hours you work. ANSWER: a 64. After 9/11, why were many investors unwilling to engage in new construction in New York City? a. Construction companies were unwilling to work in New York City. b. Uncertainty regarding future terrorist attacks left investors unsure about the demand for new offices. c. The cost of steel had skyrocketed and building new construction became very expensive. d. The mayor of New York abolished new construction for a period of 6 months. ANSWER: b 65. Uncertainty magnifies negative shocks by: a. keeping resources in unproductive areas. b. slowing the speed of transmission of the negative shocks. c. providing clear investment signals. d. increasing the number of irreversible investments. ANSWER: a 66. Waiting to open a factory in a country that has just had a government coup exaggerates that economic shock due to: a. uncertainty. b. labor adjustment costs. c. time bunching. d. flexible investing. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 67. When there is high uncertainty, investors are more likely to hold off on potential investment projects that: a. are irreversible. b. are reversible. c. have many substitutes. d. have low adjustment costs. ANSWER: a 68. Jamie has a fixed amount of savings and is planning to invest in one of two different projects with the same expected return on investment. Other things being equal, Jamie will most likely invest in: a. the project that is more easily reversed. b. the project that is less easily reversed. c. either of the two projects regardless of how reversible they are. d. neither of the two projects because there is always uncertainty in their returns. ANSWER: a 69. _____ have high value only under specific conditions. a. Intertemporal reserves b. Permanent assets c. Irreversible investments d. High-growth prices ANSWER: c 70. Spending on capital goods that cannot be easily moved, adjusted, or reversed is called: a. irreversible investment. b. fixed investment. c. bunched investment. d. intertemporal investment. ANSWER: a 71. Which of the following is the best example of an irreversible investment? a. the decision to work an extra 2 hours per week b. starting a new automobile line c. a first date d. hiring a new employee ANSWER: b 72. Irreversible investments can be costly because they: a. are expensive. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 b. involve a large number of workers. c. involve sunk costs. d. are intertemporal. ANSWER: c 73. Uncertainty tends to amplify business cycles because: a. many investments are irreversible with large sunk costs; thus, investors decrease investment during bad times and wait until they are more certain about the future direction of the economy. b. fewer people tend to go to college during recessions because of the uncertainty in the job market, and thus lower education leads to lower productivity. c. investment tends to correlate with prices, and therefore both prices and investment tend to rise during booms and decrease during recessions. d. resource providers have less demand for their materials during recessions and thus less certain sales expectations. ANSWER: a 74. Irreversible investments: a. are the costs of shifting workers from declining sectors of the economy to growing sectors. b. are valuable assets that are pledged to a lender to secure a loan. c. are the tendency for economic activities to be coordinated at common points in time. d. have high value only under specific conditions—they cannot be easily moved, adjusted, or reversed if conditions change. ANSWER: d 75. After the 9/11 attacks: a. people rushed to invest in New York City. b. the economy's long-run potential growth rate increased. c. people held off on business investment until it became clear that the attacks would not become regular occurrences. d. the need for information about the future went out the window. ANSWER: c 76. The more uncertain the world appears, the: a. harder it is for investors to receive definite signals about where to invest their resources. b. easier it is for investors to receive definite signals about where to invest their resources. c. lower the expected return necessary to justify an investment. d. lower the payoff to waiting. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 77. Suppose that Kristi is unsure about what to do with her life. Should she go to graduate school now or wait until she decides what she wants to do? a. She should go now. b. She should wait until she decides. c. It doesn't matter. d. Each choice is equally valid. ANSWER: b 78. When an investment has a high value under a specific condition but can't be shut down when conditions change, it is said to be: a. irreversible. b. diversified. c. profitable. d. uncertain. ANSWER: a 79. Which investment project is MOST irreversible? a. the construction of an open office space that can be used for different businesses b. the construction of a bank branch location that can be later converted into an insurance company office c. the purchase of a Japanese restaurant that can be easily converted into a bistro d. the construction of a chemical plant that manufactures only a specific type of paint ANSWER: d 80. Which is widely considered to be the MOST irreversible decision for a typical person? a. getting engaged with a loved one b. buying a house c. having a baby d. buying a car ANSWER: c 81. If investors are less certain about the economic outlook, they will: a. reduce capital investments that are less irreversible. b. reduce capital investments that are more irreversible. c. raise capital investments that are less irreversible. d. raise capital investments that are more irreversible. ANSWER: b 82. For a given economic shock, more irreversible investments in an economy will: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. moderate the effect of the shock on the economy. b. amplify the effect of the shock on the economy. c. make the transmission mechanism for the shock longer. d. make the transmission mechanism for the shock shorter. ANSWER: b 83. A negative shock reduces capital investments because: a. capital investments involve sunk costs. b. investments are always very speculative. c. capital investments are easily reversible. d. investors react only to capital investments that bring high returns. ANSWER: a 84. A capital investment is more irreversible if it involves a high: a. sunk cost. b. labor cost. c. maintenance cost. d. depreciation rate. ANSWER: a 85. Negative shocks tend to: a. increase uncertainty. b. decrease uncertainty. c. have no impact on uncertainty. d. first decrease and then increase uncertainty. ANSWER: a 86. The idea that some investments cannot be easily moved, adjusted, or reversed if conditions change is called: a. intertemporal substitution. b. irreversible investment. c. time bunching. d. collateral damage. ANSWER: b 87. Many investments are irreversible because they involve: a. labor costs. b. international costs. c. construction costs. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. sunk costs. ANSWER: d 88. Uncertainty tends to keep resources: a. in more productive uses. b. in less productive uses. c. fully employed. d. moving from country to country. ANSWER: b 89. Many investments involve _____, which are a characteristic of irreversible investments. a. fixed costs b. opportunity costs c. operating costs d. sunk costs ANSWER: d 90. Which of the following is NOT true of irreversible investments? a. When investors wait to see what happens, that means resources are sitting idle rather than being productive. b. Uncertainty usually slows investment and keeps resources in less productive uses. c. Once an investment opportunity is identified, the execution should follow immediately. d. If new information casts suspicion on a potential investment, the truth is typically sought out before proceeding. ANSWER: c 91. Irreversible investments have high: a. value under any circumstance that can be easily moved, adjusted, or reversed with any different circumstance. b. value only under specific conditions that cannot be easily moved, adjusted, or reversed if conditions change. c. cost only under specific conditions that can be easily moved, adjusted, or reversed if conditions change. d. cost under any circumstance that cannot be easily moved, adjusted, or reversed if conditions change. ANSWER: b 92. Which amplification mechanism could explain why investors were reluctant to invest in capital during the COVID-19 recession? a. Uncertainty regarding the changing economic environment increased the risk of investing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 b. Intertemporal substitution by workers meant that a shortage of workers would decrease returns. c. Greater economic disparity between wealthy and poor people made networks more important. d. Increased costs of employment agencies made investing more costly. ANSWER: a 93. What is the term for an investment whose value depends on a specific set of circumstances and it is difficult to recover any of the investment’s value when those circumstances are not present? a. specific investment b. constrained investment c. irreversible investment d. collateral-bounded investment ANSWER: c 94. When economic conditions are changing in ways that are less predictable than usual, investors will be particularly reluctant to make what type of investment? a. irreversible b. flexible c. intertemporal d. network ANSWER: a 95. When an investment has high sunk costs that are not easily recovered and the investment yields a return only under specific conditions, the investment is considered: a. bounded. b. one with collateral damage. c. one that requires a substitution of collateral. d. irreversible. ANSWER: d 96. Assuming that all investments cost the same amount of money, which is an example of an irreversible investment in physical capital? a. the construction of a small office building that could be converted through renovation into either a small factory space or condominiums b. the purchase of a fleet of cars to rent to individuals and firms c. the purchase of a large number of laptop computers for employee use d. the purchase of a specialized piece of equipment useful only in the production of space capsules ANSWER: d 97. One way that uncertainty does NOT affect investors and investments is by: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. reducing the amount of idle resources. b. making it harder for investors to receive signals about what to invest in. c. slowing or reducing investments. d. keeping resources in less productive uses. ANSWER: a 98. Labor adjustment costs refer to the costs of: a. moving workers from declining industries to growth industries. b. firing unproductive workers. c. instituting pay raises for productive workers. d. hiring and training workers. ANSWER: a 99. Workers may display irrationality in labor adjustments to shocks if: a. union actions caused their pre-layoff wages to exceed market-clearing wages. b. they practice intertemporal substitution. c. they voluntarily quit their jobs. d. they find new jobs that are higher paying. ANSWER: a 100. Labor adjustment costs tend to be higher when: a. market wages rise. b. the declining industries are unionized. c. moving costs are low. d. the unemployment rate is low. ANSWER: b 101. When a U.S. air conditioner factory relocates to Mexico, the U.S. community experiences an initial negative shock plus: a. time bunching. b. intertemporal substitutions. c. irreversible investment uncertainty. d. labor adjustment costs. ANSWER: d 102. Labor adjustment costs help amplify the initial negative shock by: a. keeping the unemployment rate high. b. discouraging irreversible investments. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 c. sending inflation higher. d. blocking employment search efforts. ANSWER: a 103. A negative shock to aggregate demand will lead to a higher unemployment rate if: a. time bunching in economic activity is lower. b. intertemporal substitution in labor supply is lower. c. investments are more easily reversible. d. labor adjustment costs are higher. ANSWER: d 104. Suppose a restaurant moves to another city and its manager asks the restaurant's two cooks to move there as well. Cook A is single and has no children to support. Cook B has a family with five children in grades K–8. Which of the following is the most likely outcome? a. Cook A is more likely to move because of a lower labor adjustment cost. b. Cook B is more likely to move because of a lower labor adjustment cost. c. Cook A is more likely to move because of a higher labor adjustment cost. d. Cook B is more likely to move because of a higher labor adjustment cost. ANSWER: a 105. If labor adjustment costs are higher for a negative real shock, then we can expect to see a: a. larger increase in the real GDP growth rate. b. smaller increase in the real GDP growth rate. c. larger decrease in the real GDP growth rate. d. smaller decrease in the real GDP growth rate. ANSWER: c 106. The cost of shifting workers from declining sectors of the economy to growing sectors is known as: a. irreversible employment. b. a labor adjustment cost. c. labor bunching. d. intertemporal substitution. ANSWER: b 107. Labor adjustment costs lead to: a. intertemporal substitution. b. time bunching. c. higher unemployment. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. higher employment. ANSWER: c 108. Labor adjustment costs result in: a. higher unemployment. b. more workers going back to college. c. higher consumption. d. more investment. ANSWER: a 109. Which would create labor adjustment costs? a. a major recession b. higher gas prices that hurt SUV manufacturers but create a boom in the hybrid industry c. a cultural shift that influences more students to attend college d. an increase in the number of foreign workers entering the country ANSWER: b 110. Labor adjustment costs tend to amplify business cycles because: a. assets are typically worth more in booms than in recessions. b. the returns to work are higher in booms than in recessions, so people work more during booms and less during recessions. c. the returns to investment are higher when others are investing as well; thus, we see more investment during booms and less during recessions. d. the uncertainty of recessions tends to increase people's job search time, while greater certainty decreases search time during booms. ANSWER: d 111. Losing a job that pays especially well can result in a long period of unemployment because: a. it may take the worker a while to come to terms with the fact that he will be forced to take a pay cut. b. high-paying jobs are easy to find. c. workers are always purely rational in their employment decisions. d. there are no adjustment costs for high-salary workers. ANSWER: a 112. Employment decisions: a. are best made by flipping a coin. b. can be costly to reverse. c. don't have a big effect on people's lives. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. are easy to undo. ANSWER: b 113. Adam is unemployed and can try to find another job as a bank teller, or he can go back to school for 2 years and become a nurse. Nursing jobs are easy to find and nurses are better paid than bank tellers. Why must he think carefully before making this career change? a. Bank tellers are a dying profession. b. He doesn't like his current career. c. Student loans are easy to secure. d. Nursing school is an irreversible investment. ANSWER: d 114. If a real shock causes a particular sector of the economy to decline, associated labor adjustment costs will _____ the effect of the initial shock. a. amplify b. dampen c. not influence d. eliminate ANSWER: a 115. The text refers to “labor adjustment costs” as the costs of: a. making an educated workforce. b. machines and equipment that replace the use of labor in production. c. increasing a nation's workforce through bringing in migrant workers from overseas. d. shifting workers from one sector of the economy to another sector. ANSWER: d 116. For a given negative economic shock, an economy with higher labor adjustment costs will have a: a. higher economic growth rate. b. smaller effect on employment. c. higher unemployment rate. d. shorter recession. ANSWER: c 117. A laid-off autoworker does not immediately seek employment in a rapidly growing computer industry because: a. he is irrational, not considering the benefits of searching for a new job. b. changing a career is a costly decision. c. being unemployed is always the best decision for a person after a layoff. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. there are benefits to being rationally ignorant. ANSWER: b 118. Labor adjustment costs are higher if: a. workers face higher uncertainty about the permanence of changes in different industries. b. workers are more certain about the direction of the overall economy. c. producers have more accurate information about the availability of workers. d. producers can easily replace workers with machines and computers. ANSWER: a 119. If it takes people more time to make employment decisions, then a given negative economic shock will cause a decline in economic growth: a. smaller in size and shorter in duration. b. larger in size but shorter in duration. c. smaller in size but longer in duration. d. larger in size and longer in duration. ANSWER: d 120. Which of the following does NOT contribute to the high cost of reversing job decisions? a. unemployment b. underemployment c. full-productivity employment d. part-time or casual work ANSWER: c 121. Which of the following would incur the highest labor adjustment costs for people just losing their jobs? a. waiting to be rehired by the same company b. finding another job in the same location c. moving to another more prosperous part of the country d. collecting unemployment checks from the government ANSWER: c 122. Labor _____ costs are the costs of transferring workers from shrinking sectors of the economy to expanding sectors of the economy. a. transfer b. adjustment c. reversible d. collateral Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: b 123. The costs of shifting workers from shrinking sectors of the economy to expanding sectors of the economy do NOT include: a. the costs of moving workers who must relocate. b. changing the wage expectations of workers, who sometimes must accept lower wages. c. the added stress of making a decision that is hard to reverse. d. the lack of desire to work. ANSWER: d 124. Suppose that an industry concentrated in a small geographic area is shrinking and its workers, who have skills specific to that particular industry, are losing their jobs. Which is NOT one of the main options these workers have to face in finding new jobs? a. moving to a new area where the economy and employment opportunities are growing b. seeking employment in another industry in the local area c. waiting to see if the industry will be resuscitated by a growing population d. lobbying the government to adopt laws guaranteeing employment to workers ANSWER: d 125. When the costs of relocating or retraining for a job are high, someone who loses his or her job because the industry is shrinking is likely to be unemployed _____ because _____. a. for some time; the unemployed are not able to work b. briefly; human capital investment is depreciating c. for some time; the costs of available employment options are high d. briefly; he or she has an incentive to search for employment diligently ANSWER: c 126. Many economic activities tend to cluster together in time because: a. of cultural norms that tell us we are supposed to work during the day. b. the returns to working are lower in the evening hours. c. the returns to coordinating with others are high. d. the opportunity cost is higher than when these activities are not clustered. ANSWER: c 127. Time bunching explains why: a. most people work between the hours of 8 AM and 5 PM. b. cities develop. c. some firms pay their workers overtime. d. people choose to get married before they purchase a home together. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: a 128. Time bunching tends to amplify business cycles because: a. assets are typically worth more in booms than in recessions. b. the returns to work are higher in booms than in recessions, so people work more during booms and less during recessions. c. the returns to investment are higher when others are investing as well; thus, we see more investment during booms and less during recessions. d. the uncertainty of recessions tends to increase people's job search time, while greater certainty decreases search time during booms. ANSWER: c 129. Time bunching is: a. the cost of shifting workers from declining sectors of the economy to growing sectors. b. the allocation of consumption, work, and leisure across time to maximize well-being. c. the tendency for economic activities to be coordinated at common points in time. d. a reduction in the value of collateral. ANSWER: c 130. What do we call a cluster of activity in space? a. a colony b. a city c. a satellite d. a solar system ANSWER: b 131. Every night, resources at your school—classrooms, desks, and so on—are unemployed. This is an example of: a. labor adjustment costs. b. irreversible investment. c. collateral damage. d. time bunching. ANSWER: d 132. Which quarter of the year produces the most economic output? a. first b. second c. third d. fourth Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: d 133. The clustering of economic activity in time does NOT: a. make buying and selling more efficient. b. induce intertemporal substitution. c. eliminate long periods of unemployment. d. cause shocks to spread through the economy and through time. ANSWER: c 134. The fact that employment tends to be relatively high during the Christmas season and low during January is an example of: a. intertemporal substitution. b. labor adjustment costs. c. time bunching. d. irreversible investments. ANSWER: c 135. The condition of time bunching implies that: a. people tend to work and invest primarily when other people do. b. people tend to go against what other people do. c. the decisions of some people always offset the effects of other people's decisions. d. it takes a long time for people to make decisions. ANSWER: a 136. As a result of time bunching, the effect of an economic shock on the economy: a. is smaller. b. is larger. c. becomes less certain. d. becomes more certain. ANSWER: b 137. Economic activities tend to cluster in time because: a. it pays to coordinate economic activities with those of others. b. of the vertical LRAS curve. c. of labor unions. d. it is legally required. ANSWER: a 138. Most economic activities bunch or cluster in time because: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. that is how social activities proceed. b. most people have the same biological clock. c. it reduces the possible obstacle of coordinating things among others. d. it pays to coordinate your economic actions with those of others. ANSWER: d 139. Once some economic activity is moving in the upward or downward direction, other parts of the economy tend to: a. deviate from that momentum to alleviate the upward or downward pressure of the trend. b. follow that momentum to gain the advantages of time bunching. c. stay put to gain the next opportunities. d. jump high and reach a higher level of gains. ANSWER: b 140. When a negative shock arrives and the economy slows down in the current period: a. new technology is more likely to be invented. b. worker productivity rises. c. many people are less keen to work. d. people tend to work harder. ANSWER: c 141. What best explains the increases in economic activity that coincide with spring? a. Consumers purchase items for home improvement and landscaping projects that they will engage in over the spring. b. The resources that become unemployed over the January post-Christmas bust are being put to use again. c. States no longer have to spend on snow removal programs. d. Many people receive a tax refund in the spring. ANSWER: a 142. A reason that fourth-quarter economic fluctuations occur is: a. holiday spending. b. spending on vacations. c. spending on renovation projects. d. post-holiday spending declines. ANSWER: a 143. When car dealers offer to do tax returns for customers in February and March, what are they practicing? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. positive shock inertia b. sticky price clustering c. irreversible investing d. time bunching ANSWER: d 144. When people like going to Walmart right after work because it has the most employees working at the check-out counters at that time, they are contributing to the practice known as: a. time bunching. b. intertemporal substitution. c. labor adjustment. d. irreversible investment. ANSWER: a 145. When more people shop during weekends instead of weekdays, it is called: a. time bunching. b. a shock. c. intertemporal substitution. d. an irreversible investment. ANSWER: a 146. The observation of high business activity in the Christmas season and low business activity immediately after Christmas is an example of: a. irreversible investments. b. high labor adjustment costs. c. time bunching. d. intertemporal substitution. ANSWER: c 147. Time bunching results in: a. seasonal cycles of business activity. b. a smooth trend in real GDP over time. c. shocks having a smaller effect on the economy. d. people working more during recessions. ANSWER: a 148. In most advanced economies, economic activity is highest in the _____ quarter. a. first Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 b. second c. third d. fourth ANSWER: d 149. In most advanced economies, economic activity is lowest in the _____ quarter. a. first b. second c. third d. fourth ANSWER: a 150. Tax accountants tend to work more hours in the months before individual and corporate tax returns are due than in the months right after tax returns are due. This is an example of: a. workload substitution. b. intertemporal substitution. c. labor adjustments. d. time bunching. ANSWER: d 151. Why does time bunching of economic activity occur? a. Gains are available to people who coordinate their economic activities with those of others. b. Most people have the same preferences regarding work times. c. Insisting on doing things at different times reduces popularity. d. It is the result of random choices. ANSWER: a 152. What is the busiest quarter of the year in the seasonal business cycle of the United States? a. first quarter (January‒March) b. second quarter (April‒June) c. third quarter (July‒September) d. fourth quarter (October‒December) ANSWER: d 153. Suppose a strong hurricane causes a negative real shock to an island economy. Which is an example of a supply chain or network disruption amplifying the recession caused by this shock? a. Some unemployed workers quit seeking work when they are convinced they cannot find jobs. b. Undamaged factories are idle because the damage to docks prevents the delivery of needed inputs. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 c. Labor regulations make it costly to ask workers to return to work until all safety precautions are in place. d. Uncertainty about future storms hitting the island reduces the incentive for investment in capital. ANSWER: b 154. Rush hour traffic is the result of the_____ of employment. a. intertemporal substitution b. collateral damage c. labor adjustment cost d. time bunching ANSWER: d 155. When banks make loans to firms, which is LEAST likely to be of concern to them? a. the amount of cash on hand b. the strength of a firm's other assets c. the size of a firm's net worth d. a firm's intended use of the money ANSWER: d 156. Collateral damage occurs more frequently during: a. expansions when real assets need to be redeployed. b. recessions when discouraged workers neglect the capital stock. c. expansions when capital stock becomes outdated and useless. d. recessions when capital stock loses value through market forces. ANSWER: d 157. A homeowner's home that was purchased for $125,000 before the housing crisis is experiencing the greatest collateral damage from the recession at which of the following appraisal values? a. $150,000 b. $125,000 c. $115,000 d. $90,000 ANSWER: d 158. Firms are most likely to experience collateral damage during a(n) _____, and their borrowing and investment activities will _____ its severity. a. expansion; amplify b. expansion; dampen Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 c. recession; amplify d. recession; dampen ANSWER: c 159. During a recession, the value of a homeowner's house falls significantly below the amount of debt associated with the home. Which of these entities is (are) harmed as a result? a. the homeowner only b. the homeowner's bank c. the homeowner's neighbors d. the homeowner, the homeowner's bank, and the homeowner's neighbors ANSWER: d 160. The equity in your home refers to the market value of your: a. home. b. home minus the price you paid. c. home minus the amount you still owe on your mortgage. d. home plus the cost of any improvements made. ANSWER: c 161. During a recession, lending typically declines because: a. banks need to hold less as a cushion for themselves. b. asset prices fall and therefore the net worth of firms declines as well, making them look riskier to banks. c. there are fewer collateral shocks. d. there is more demand for investment funding. ANSWER: b 162. Collateral shocks: a. force banks to hold more of their assets as cash. b. typically shift employment from one industry to another. c. force people to sell their homes. d. slow the adjustment of the economy to business cycle fluctuations. ANSWER: d 163. Collateral shocks tend to amplify business cycles because: a. assets are typically worth more in booms than in recessions, and the value of assets tends to be positively correlated with firms' ability to obtain investment funding. b. the returns to work are higher in booms than in recessions, so people work more during booms and less during recessions. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 c. the returns to investment are higher when others are investing as well; thus, we see more investment during booms and less during recessions. d. the uncertainty of recessions tends to increase people's job search time, while greater certainty decreases search time during booms. ANSWER: a 164. Individuals and/or firms have more of an incentive to take care of their assets if: a. they do not own the assets. b. they have a lot of equity in the assets. c. the economy is in a recession. d. others value their assets. ANSWER: b 165. Equity refers to the: a. difference between the value of the asset and the amount of debt owed on the asset. b. value of the asset. c. value of the asset minus the purchase price. d. taxable value of the asset. ANSWER: a 166. Collateral is: a. a valuable asset that is pledged to a lender to secure a loan. b. the cost of shifting workers from declining sectors of the economy to growing sectors. c. the allocation of consumption, work, and leisure across time to maximize well-being. d. the tendency for economic activities to be coordinated at common points in time. ANSWER: a 167. A collateral shock is: a. one shock causing another shock. b. a requirement to pledge an asset to secure a loan. c. a reduction in the value of collateral. d. an increase in the value of collateral. ANSWER: c 168. If a house is worth $600,000 and its owner owes $400,000 on the mortgage, how much equity does the owner have? a. $0 b. $200,000 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 c. $400,000 d. $600,000 ANSWER: b 169. If a house is worth $600,000, its owner owes $400,000 on the mortgage, and the value of the house falls to $300,000, how much equity will the owner have? a. $200,000 b. $0 c. $100,000 d. –$100,000 ANSWER: d 170. An asset used by a borrower to secure a loan is called: a. an opportunity cost. b. interest. c. bunching. d. collateral. ANSWER: d 171. A collateral shock refers to a reduction in: a. the value of collateral so that borrowing becomes more difficult. b. collateral requirements so that borrowing becomes easier. c. interest rates so that it is less costly to borrow. d. the effect of a negative shock on the damage to businesses. ANSWER: a 172. For a given negative economic shock, a country with more collateral will: a. experience a smaller negative effect on its aggregate demand. b. experience a larger negative effect on its aggregate demand. c. take a longer time to see the effect on its aggregate demand. d. more easily confine the shock to the financial sector. ANSWER: b 173. Banks typically lend to firms that have: a. positive net worth. b. negative net worth. c. zero net worth. d. unstable net worth. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: a 174. A reduction in the value of collateral is called: a. intertemporal substitution. b. collateral damage. c. irreversible investment. d. labor adjustment cost. ANSWER: b 175. A valuable asset pledged to a lender as security for a loan is called: a. net worth. b. capital. c. wealth. d. collateral. ANSWER: d 176. Collateral shocks make borrowing: a. more difficult. b. less difficult. c. neither more nor less difficult. d. less expensive. ANSWER: a 177. When the value of a house is less than the amount owed on the house, the borrower: a. has negative equity in the house. b. is underwater. c. must pay any remaining loan balance when the house is sold. d. has negative equity, is underwater, and must pay any remaining loan balance when the house is sold. ANSWER: d 178. A thinly capitalized bank has: a. high capital value. b. low capital value. c. rising capital value. d. falling capital value. ANSWER: b 179. Which of the following best describes a valuable asset used to secure a loan from a lender? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. collateral b. security c. tender offer d. tangible good ANSWER: a 180. Which of the following is the reason banks are usually more concerned about downside risk than upside gain? a. Banks generally are very risk averse and try to minimize any possible level of risk. b. Banks are highly regulated, and therefore they have to manage their risk very efficiently. c. If the firm does poorly, the bank could lose the entire value of its loan, but if the firm does incredibly well, the bank simply gets its loan back plus interest. d. If the firm does poorly, the bank could lose the entire value of its loan, but if the firm does incredibly well, the bank will also receive a higher return. ANSWER: c 181. A house is said to be underwater if the market value of the house is: a. less than the book value of the house. b. the same as the amount of the mortgage. c. less than the amount of the mortgage. d. above the amount of the mortgage. ANSWER: c 182. Which statement explains how real shocks and aggregate demand shocks can reinforce and amplify one another? a. During a boom, higher wealth and lower risk lead to lower consumer spending but higher business investment. b. During a boom, higher wealth and greater risk lead to higher consumer spending but lower business investment. c. During a recession, lower wealth and lower risk lead to lower consumer spending but higher business investment. d. During a recession, lower wealth and greater risk lead to lower consumer spending and less business investment. ANSWER: d 183. Which of the following represents a collateral shock? a. John obtains a mortgage to buy a home for $350,000 with no money down. b. James sells his house for $200,000 and has $20,000 left over after paying off the mortgage. c. Jack sells his house for $650,000 but is short $50,000 to pay off his mortgage. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 d. Jeff buys a house for $150,000 in cash. ANSWER: c 184. An owner's equity is the: a. total value of the owner's assets. b. value of the asset minus the debt. c. value of a company's stock owned by its shareholders. d. total value of the owner's assets and debt. ANSWER: b 185. Which is generally true for firms? a. During a recession, asset values decrease and they have better cash flow. b. During a recession, asset values increase and they have worse cash flow. c. During an economic boom, asset values increase and they have better cash flow. d. During an economic boom, asset values decrease and they have worse cash flow. ANSWER: c 186. Collateral shocks make borrowing _____ and lending _____. a. easier; easier b. easier; more difficult c. more difficult; easier d. more difficult; more difficult ANSWER: d 187. When a collateral shock occurs during a recession, the recession is: a. amplified as it leads to fewer loans and more firm failures. b. amplified as it triggers reduced unemployment and less time bunching. c. lessened as it leads to more loans and fewer firm failures. d. lessened as it triggers more unemployment and more time bunching. ANSWER: a 188. From a lender’s perspective, collateral typically _____ the risk of making a loan; a collateral shock makes loans _____. a. increases; more safe b. increases; less safe c. decreases; more safe d. decreases; less safe ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 189. If a collateral shock reduces the value of collateral by 20%, which of the following has negative equity after the collateral shock? a. A bank makes $100 million in mortgage loans on homes worth $115 million with the homes as collateral. b. A business with a net worth of $100,000 gets a $70,000 loan using the net worth as collateral. c. A couple buys a home valued at $370,000 with a $300,000 mortgage and the home as collateral. d. A firm gets a $10 million loan to build a factory valued at $13 million with the factory as collateral. ANSWER: a 190. Other things being equal, which would make a lender view a borrower as low risk? a. low equity in the collateral on a loan b. a collateral shock c. a borrower who is underwater on a loan d. escalation of the market value of collateral ANSWER: d 191. Which of the following is (are) NOT a factor that helps to amplify economic shocks? a. collateral shocks b. labor adjustment costs c. consumption smoothing d. intertemporal substitution ANSWER: c 192. Which of the following is (are) NOT a transmission mechanism? a. reductions in the money supply b. intertemporal substitution c. uncertainty d. sticky wages and prices ANSWER: a 193. A medium-sized negative shock: a. always produces a medium-sized economic downturn. b. will not have a great impact on GDP. c. can cause a large economic downturn. d. will always cause a large economic downturn. ANSWER: c 194. Which is (are) NOT a factor that amplifies economic shocks? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 a. labor adjustment costs b. technology adjustment costs c. intertemporal substitution in labor supply d. irreversible investment and uncertainty ANSWER: b 195. A medium-sized economic shock may lead to a _____. This is called _____. a. proportionate increase in economic production and employment; par growth b. disproportionately small reduction in economic production and employment; an economic boom c. proportionate decrease in economic production and employment; parity d. disproportionately large decrease in economic production and employment; amplification ANSWER: d 196. When adapted to the real business cycle theory, the Solow model shows that output is dependent on _____ as well as capital, and _____ represents _____. a. technology; F; amplification b. money supply; K; human capital and physical capital c. inflation; Y; the nominal value of output d. labor; A; any factor that influences productivity ANSWER: d 197. Which is NOT one of the three types of decisionmakers that, when adding shocks to the Solow model and adapting it to be a model of the real business cycle theory, allows a better understanding of how three types of individuals make decisions? a. workers b. policymakers c. investors d. savers ANSWER: b 198. The larger a given sector's contribution to a country's GDP is, the larger the impact of a shock to that sector on GDP is. a. True b. False ANSWER: a 199. Because of transmission mechanisms, a real shock takes a shorter time to affect real GDP growth. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: b 200. Firms are willing to supply greater numbers of goods when prices rise. This decision is very similar to the intertemporal substitution decision by a working individual to supply labor. a. True b. False ANSWER: a 201. If you work an extra hour when your boss offers to pay you double, you are time bunching. a. True b. False ANSWER: b 202. Because of intertemporal substitution, a real shock has more of an effect on real GDP growth but less of an effect on inflation. a. True b. False ANSWER: a 203. Economists disagree on the importance of intertemporal substitution in generating real effects from fiscal policy. a. True b. False ANSWER: a 204. When the economy is in recession, we tend to see fewer people entering college. a. True b. False ANSWER: b 205. When the economy is in recession, we tend to see more people entering college. a. True b. False ANSWER: a 206. Intertemporal substitution can magnify the effects of a negative shock, thus leading to a recession. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: a 207. Intertemporal substitution means that a person or a business is LEAST likely to work hard when working hard brings the greatest return. a. True b. False ANSWER: b 208. People tend to work harder and for longer hours during an economic boom than during a recession. a. True b. False ANSWER: a 209. Intertemporal substitution explains why real GDP growth correlates positively with the employment‒population ratio. a. True b. False ANSWER: a 210. Intertemporal substitution refers only to the substitution between work and leisure. a. True b. False ANSWER: b 211. Uncertainty might keep resources in less productive uses. a. True b. False ANSWER: a 212. If your university decides to build five new dormitories in anticipation of higher enrollment next year, this is an example of an irreversible investment. a. True b. False ANSWER: a 213. Many investments involve sunk costs. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: a 214. Because of uncertainty, it takes less time for an entrepreneur to make an investment decision that involves more sunk costs. a. True b. False ANSWER: b 215. Uncertainty usually slows investment and keeps resources in less productive uses. a. True b. False ANSWER: a 216. Negative shocks also increase certainty, which is bad for business investment. a. True b. False ANSWER: b 217. Uncertainty can cause investors to wait for strong and certain signals that will give them assurance of a profitable outcome. a. True b. False ANSWER: a 218. Marriage is a kind of irreversible investment. a. True b. False ANSWER: a 219. The construction of a home is an irreversible investment. a. True b. False ANSWER: a 220. A positive real shock will increase real GDP growth more if there are more irreversible investments. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: a 221. Higher labor adjustment costs increase the effect of a real shock on real GDP growth. a. True b. False ANSWER: a 222. Labor adjustment costs always lead to rational choices. a. True b. False ANSWER: b 223. While people are making necessary but costly labor adjustments, output and employment will be higher than normal. a. True b. False ANSWER: b 224. During a recession, higher labor adjustment costs lead to higher search-related unemployment. a. True b. False ANSWER: a 225. A negative shock to the economy, by remixing opportunities, induces more people to quit their jobs and thus causes more search-related employment. a. True b. False ANSWER: b 226. The high cost of reversing job decisions can lead to unemployment, just as the costs of reversing investment can cause investors to invest more. a. True b. False ANSWER: b 227. Time bunching explains why more investment occurs during booms than during recessions. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 ANSWER: a 228. Most people prefer parties at which each guest arrives and leaves without overlapping with the other guests. a. True b. False ANSWER: b 229. Time bunching causes shocks to spread through the economy. a. True b. False ANSWER: a 230. Seasonally adjusted data would reduce the visibility of time bunching in economic activity. a. True b. False ANSWER: a 231. Time bunching prevents shocks from spreading through time and through the economy. a. True b. False ANSWER: b 232. A collateral shock can either increase or decrease the value of collateral; it depends on the circumstances. a. True b. False ANSWER: b 233. Collateral shocks make borrowing and lending more difficult and help to exacerbate economic fluctuations. a. True b. False ANSWER: a 234. Individuals who are underwater in their home are more likely to take good care of their home. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 235. In recessions, as the prices of assets fall, the owner's equity in these assets falls as well. a. True b. False ANSWER: a 236. People who are evicted from their home during a foreclosure sometimes trash the place first. a. True b. False ANSWER: a 237. Explain the difference between intertemporal substitution and time bunching. Are there any similarities between the two? ANSWER: Intertemporal substitution refers to peoples' responses to changes in the rewards to certain activities. These reward swings often follow ups and downs in the economy. People may choose leisure over work for several years if the economy is in a recession and their potential wages are low. When using intertemporal substitution in a positive economic time, they are much more willing to work extra hours. In time bunching, they are coordinating their economic activities at certain times to take advantage of times when others are doing similar activities. Some of these times tend to be cyclical, as all economic activity tends to pick up when the economy is booming (and vice versa during recessions). Most advanced economies also have a seasonal business cycle within the year. Work tends to be done when other workers are present and during seasons when other activity increases. If others tend to cut back on work because of an economic downturn, then people are more likely to cut back, too. Intertemporal substitution and time bunching can both be initiated by shocks, and sometimes the increased reward for an activity (which drives intertemporal substitution) is the result of time bunching. 238. What is intertemporal substitution? How does intertemporal substitution affect the impact of a negative real shock on an economy? ANSWER: Intertemporal substitution occurs when people decide to work more or less across time to take advantage of higher or lower rewards for work. Intertemporal substitution is a transmission mechanism that amplifies the effect of a negative real shock on real growth. A negative real shock shifts the LRAS curve to the left. Because of intertemporal substitution, workers work less when real growth is lower, since the productivity of capital and labor and thus the return to work are lower. As a result, the LRAS curve shifts even farther to the left, leading to an even lower real GDP growth rate. 239. “Fiscal policy can have a permanent effect on real growth because of intertemporal substitution.” Explain this statement with the aid of an AD–AS diagram. ANSWER: See the accompanying graph. Suppose the government increases government spending so that the AD curve shifts to the right. In the diagram, the economy is initially at point A, where the inflation rate is 1% and the real growth rate is 5%. As a result of the change in government spending, the AD curve shifts to the right from AD1 to AD2. Without intertemporal substitution, the economy would end up at point B in the long run. Because of intertemporal substitution, workers work more to take Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 advantage of higher aggregate demand, leading to a rightward shift of the LRAS curve. With the shift of the LRAS curve, the economy with intertemporal substitution now settles at point C in the long run. The real GDP growth rate at point C is 7%, which is higher than the growth rate of 5% without intertemporal substitution.
240. Using the concept of intertemporal substitution, explain why accountants tend to work nearly 80-hour workweeks during tax season, but then take multiweek vacations during the summer. ANSWER: Intertemporal substitution says that people will work more when the returns to work are greater. For accountants, the return to an extra hour's work during tax season is much higher than during the summer months, when they might sit in the office all day with much less to do. These accountants are making the rational choice to work more when the returns to working are high and work less when returns are low. 241. Explain how intertemporal substitution transmits and amplifies real shocks and aggregate demand shocks. ANSWER: People or businesses are most likely to work hard at times when working hard brings the greatest return and work less when the return is lower. Substituting effort across time in this way is called intertemporal substitution. In particular, people tend to work more and harder when things are going well. When things go bad, the return to work and investment fall and people often work less and invest less, which makes things even worse. The ripple effects of this process help turn an initial shock into a broader recession. 242. Figure: AD–AS Graph
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Chapter 14
Using the AD–AS graph shown, suppose the economy is initially at point A when a reliable forecast is released that indicates a recession is forthcoming. a. Illustrate the effect on the economy as consumers react to this forecast. b. If uncertainty subsequently emerges over the length and severity of the shock shown in part a, how will the economy be affected? Comment on the role of intertemporal substitution and time bunching in this scenario. ANSWER: See the accompanying graph. a. The recession forecast makes consumers more pessimistic and less willing to spend. This represents a negative demand shock that shifts the AD curve to AD, and the economy initially moves to point B in the short run. b. Uncertainty has a negative effect on investment, shifting the AD curve farther to the left to AD, and the economy moves to point C. Intertemporal substitution and time bunching behavior during the downturn in the economy could also contribute to the secondary shift in AD, further amplifying the initial shock. Students may also point out that intertemporal substitution could also shift the LRAS curve to the left, lowering the potential GDP growth rate.
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Chapter 14
243. Explain why negative shocks reduce investment in physical capital. ANSWER: Negative shocks themselves result in a reduction in output. This reduction in output leads to a reduction in investment because the demand (and the return) for additional productive capabilities have decreased. However, negative shocks also lead to increases in uncertainty about future demand for firms' output. The more uncertainty firms face, the less likely they are to invest. This effect is even more exaggerated when investment is to some degree irreversible. 244. How does the nature of irreversible investments affect the impact of a negative shock on the economy? ANSWER: When investments are irreversible, they cannot be easily undone if economic conditions change. Because a negative shock tends to increase uncertainty, investors become less certain about where to commit their resources and thus slow down their investment, especially those projects that cannot be reversed. As a result, the total effect of the negative shock on real growth is even larger when the shock is followed by a decrease in investment spending. 245. Why does the irreversible nature of some investments cause them to be delayed or not undertaken at all? ANSWER: Investment is defined as business purchases of physical capital and inventories. Investment in physical capital tends to be irreversible, or at least extremely difficult to reverse; that is, the physical capital cannot be easily moved or adjusted once it has been built. For example, once an office building has been built, it cannot be moved or remodeled easily. Because of this, individuals usually want to be very sure that the investment will earn a profit before the investment is undertaken; this can lead to delays in the investment and, in some cases, no investment at all. For this reason, uncertainty has an unusually large effect on investment. 246. What are labor adjustment costs? Give an example of how they will make a negative shock worse. ANSWER: Labor adjustment costs are the costs of shifting workers from declining sectors of the economy to growing sectors. If textile mills are shifting overseas, the workers will need to find other employment. If workers need additional training before they can be employed elsewhere, they will Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 need to stay out of the workforce to receive more education. They may wait for another job that does not require retraining, or they may move to another community. In any case, there will be unemployment or underemployment, making the initial shock of the mills closing even worse. 247. In July 2009—one month after the official end of the 2007–2009 recession—the unemployment rate in Detroit topped 17%. This was the highest rate of unemployment of all 49 U.S. urban areas with over 1 million residents and was also the largest 1-year increase in unemployment of any major urban center. Using the transmission mechanisms found in this chapter, explain why Detroit—also known as the Motor City and the center of the automobile industry—experienced such a severe and long-lasting decrease in employment during this time period. ANSWER: During the 2007–2009 recession, the automobile industry was one of the hardest-hit industries. Decreased demand for domestic automobiles led to a significant increase in unemployment in this industry and consequently in Detroit. Those laid off could have looked for jobs in other areas; however, moving families and acquiring new skills are costly labor adjustment costs, and thus many of these unemployed workers remained in Detroit, unemployed and waiting to see if the auto industry was going to turn around. Many also suffered from the housing market collapse, as the value of their homes declined so much that they could not afford to sell them at the time (collateral damage) and thus were unable to look for employment away from their home in Detroit. Both labor adjustment costs and collateral damage helped to increase the severity and duration of the recession in the Detroit area. 248. Describe the labor adjustment costs that may amplify unemployment during a recession. ANSWER: Labor adjustments occur when some industries shrink while others grow. Jobs are lost in the shrinking industries while jobs are gained in the growing industries. During a recession, more jobs are lost than are gained. Besides a change in the number of jobs, labor adjustment costs include changes in the mix of skills required, the locations of jobs, and whether the job positions are associated with a union. Making the adjustments necessary to find a job is costly to unemployed workers. These costs may prolong unemployment, even if there are job openings. For example, if unemployed workers do not have the correct skills for job openings, they may need to invest time and money to acquire these skills. Moving to a new location for a new job is costly, both monetarily and psychologically. Jobs in different locations may have different wages and different costs of living. An unemployed worker may stay unemployed rather than move, hoping that his or her old job will be offered in the future. Union jobs tend to have higher wages than similar non-union jobs. Employers also incur labor adjustment costs. It can be costly to reverse an employment decision, causing an employer to be cautious and slow to hire new workers. 249. What is the seasonal business cycle, and which transmission mechanism(s) is (are) responsible for it? ANSWER: Seasonal fluctuations are similar to regular business cycle fluctuations: December is a boom, and January is a bust. This seasonal effect is a result of both intertemporal substitution and time bunching. Individuals and businesses work harder leading up to the Christmas season because their goods and services are more likely to sell during Christmas than in January. Spending more time working when it is more profitable is an example of intertemporal substitution. But people also are involved in time bunching by doing their shopping when the largest variety is available. 250. Explain what time bunching is and how rush hour traffic is the result of the time bunching of workers. ANSWER: Time bunching occurs when economic activities are coordinated to take place at common points in Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 time because there are gains from such activities occurring together. Most workers at a given company tend to work the same hours because there are gains from them being available to attend meetings together or work on a production line together. These gains move across companies because one company is a supplier to another and they need to coordinate activities. This bunching extends across firms to industries, sectors, and entire economies. One result is that most workers will work similar hours. This means they commute to and from work at similar times, adding to rush hour traffic. 251. Explain what a collateral shock is, and provide an example of how it fills the role of a transmission mechanism. ANSWER: A collateral shock occurs when for some reason the value of an asset (collateral) pledged to a lender to secure a loan decreases in value. This can be the result of market forces, such as a drop in home values during a recession following the burst of a housing bubble; it can also be the result of intentional damage or neglect. Students' examples will vary according to what they're familiar with but should at least include a connection between the initial shock and the subsequent influence on additional economic activity. 252. During the recession that began in 2007, the economy experienced what many called a credit crunch. Investment funds dried up, and banks were not lending. Many people who wanted to (and could afford to!) buy homes during the housing market collapse could not obtain a loan to do so. In addition, before the recession, many homeowners had outstanding lines of credit (basically a loan) on the equity in their homes. This meant that they could borrow money against the equity they already had accumulated in their homes for things like home improvements and other projects. During the recession, however, many of these lines of credit were eliminated, leaving people with no available credit. Explain what transmission mechanism this is and how it contributed to the severity and duration of the recession. ANSWER: This describes a situation of collateral damage. As the value of people's homes (and firms' assets) fell, the equity people had built up declined as well. With lower equity levels, banks were hesitant to lend because these people and firms now looked like riskier borrowers. Without the additional funds available to them, however, people could not afford to make large-scale investment purchases, and thus both investment and consumption continued to decline, worsening the recession. 253. Explain why collateral damage reduces bank lending. ANSWER: The definition of collateral damage is a reduction in the value of a person's or a firm's wealth and collateral. With reduced collateral, banks have less protection against default and thus reduce their lending. 254. How is the collateral damage caused by a negative shock to net worth similar to the effects of irreversible investments as a transmission mechanism? ANSWER: Collateral damage following a shock to net worth is similar to the effects of irreversible investment because both of these transmission mechanisms are driven largely by uncertainty. Negative shocks to net worth increase uncertainty about the ability of individuals and businesses to repay loans. Banks reduce their willingness to lend, which reduces consumer and business spending, thus causing a negative demand shock that exacerbates the effect of the initial shock. Similarly, irreversible investments cause a secondary demand shock (via a reduction in investment) when uncertainty is present. Collateral damage occurs when there is a reduction in the value of an important asset. Irreversible Copyright Macmillan Learning. Powered by Cognero.
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Chapter 14 investment acts as a transmission mechanism when firms wait to make these types of investments due to uncertainty about their future value. Essentially, collateral damage is what happens to an individual or a firm that makes an irreversible investment that declines in value. 255. What adjustments are made to the Solow model, Y = A × F(K), so that it becomes a model of the real business cycle theory? ANSWER: When the Solow model is adjusted to be a model of the real business cycle theory, the model is written as Y = A × F(K, L). Adjustments include: a. A represents any factor that impacts productivity rather than just an index of ideas. A can be considered a productivity shock variable. It can move around rather than moving in a slow trend. b. L is included as well as capital in the production function. c. The Solow model assumes that the investment rate is constant; the real growth theory does not. Also, the investment rate can change quickly. d. In the Solow model, L represents the population. In the real business cycle theory, L is the labor force, which can change in size not only when the population changes, but also when individuals make decisions about labor force participation.
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Chapter 15 1. Who was chair of the Federal Reserve System during the financial crisis of 2008? a. Tim Geithner b. Paul Volcker c. Ben Bernanke d. Janet Yellen ANSWER: c 2. Which institution usually has the most influence over aggregate demand in the United States? a. the Senate Banking Committee b. the U.S. Department of the Treasury c. the Comptroller of the Currency d. the Federal Reserve ANSWER: d 3. Ben Bernanke was _____ during the financial crisis of 2008. a. secretary of the U.S. Treasury b. chairman of the President's Council of Economic Advisors c. vice president of the United States d. chairman of the Federal Reserve ANSWER: d 4. The Federal Reserve can influence the economy by shifting: a. the AD curve. b. the SRAS curve. c. the LRAS curve. d. the AD, SRAS, and LRAS curves. ANSWER: a 5. What institution has more influence over aggregate demand in the United States than any other institution? a. consumers b. the Federal Reserve System c. the private banking system d. the Money Supply Board ANSWER: b 6. Who was the chair of the Federal Reserve during the 2008 financial crisis? a. Janet Yellen b. Milton Friedman Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. John Maynard Keynes d. Ben Bernanke ANSWER: d 7. The Federal Reserve is the: a. federal government's bank. b. U.S. central bank. c. banker's bank in the United States. d. federal government's bank, central bank, and banker's bank in the United States. ANSWER: d 8. The Federal Reserve: a. clears all checks. b. conducts monetary policy. c. prints all currency. d. makes loans to individuals. ANSWER: b 9. The Federal Reserve acquires its exclusive powers through its ability to: a. tax individuals and firms. b. stop economic recessions. c. issue money. d. make loans. ANSWER: c 10. In the United States, bank notes are issued by: a. the leading financial institutions of the United States. b. investment houses and banks. c. the Federal Reserve. d. private banks and the Federal Reserve. ANSWER: c 11. The world's largest bank customer is: a. the Federal Reserve. b. the U.S. Treasury. c. the FDIC. d. the SEC. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: b 12. Which is NOT a function of the Federal Reserve? a. serving as the lender of last resort b. regulating the U.S. financial system c. regulating the U.S. money supply d. providing loans to small businesses ANSWER: d 13. The Federal Reserve: a. clears all checks. b. regulates the banking system. c. prints all currency. d. makes loans to individuals. ANSWER: b 14. When the U.S. Treasury borrows, the borrowing is managed by the: a. Treasury itself. b. Senate Banking Committee. c. Comptroller of the Currency. d. Federal Reserve. ANSWER: d 15. Which is NOT a duty performed by the Federal Reserve System? a. create money b. manage the borrowing and issuing of bonds for the U.S. Treasury c. manage the federal budget deficit d. act as a bank for large commercial banks ANSWER: c 16. Which is NOT a duty performed by the Federal Reserve System? a. manage the nation's payment system b. set the prime interest rate c. regulate the U.S. banking system d. maintain the bank account for the U.S. Treasury ANSWER: b 17. Which is NOT true of the Federal Reserve System? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. It maintains the bank account of the U.S. Treasury. b. It carries out monetary policies passed by the federal government. c. It regulates the nation's money supply. d. It serves as the banker's bank. ANSWER: b 18. The Federal Reserve acquires its unique powers through its ability to: a. set the consumer price index. b. intervene in the bond markets. c. issue money. d. oversee banking operations. ANSWER: c 19. The paper currency circulated in the United States is called: a. an American note. b. a bank note. c. a United States note. d. a Federal Reserve note. ANSWER: d 20. The government's bank and the bankers' bank in the United States are called the: a. central bank. b. Federal Reserve System. c. Bank of America. d. Bank of the United States. ANSWER: b 21. As the government's bank, the Fed does NOT: a. manage the borrowing of the U.S. Treasury. b. maintain the bank account of the U.S. Treasury. c. conduct the issuing, transferring, and redeeming of U.S. Treasury bonds. d. approve the transactions involving corporate bonds and stocks. ANSWER: d 22. What is a Federal Reserve Note? a. a loan agreement between the Federal Reserve and borrowers b. a quarterly update on monetary policy that the Fed gives to Congress c. a U.S. dollar bill Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. a loan that finances the U.S. national debt ANSWER: c 23. Which is NOT a role of the Federal Reserve System? a. banker’s bank b. issuer of currency c. fiscal policymaker d. government’s bank ANSWER: c 24. Which is NOT a service that the Fed provides to the U.S. government as the government’s bank? a. The U.S. Treasury has an account at the Fed. b. Tax payments to the Internal Revenue Service are deposited into a government account at the Fed. c. The Fed holds the deposits that some banks are required to make at the Fed. d. The Fed manages borrowing by the U.S. Department of the Treasury. ANSWER: c 25. Which is NOT TRUE of the Fed as a bank for bankers? a. The Fed serves as a safe, convenient place for banks to place their deposits. b. The Fed lends money to banks. c. The Fed holds the reserve deposits of private banks. d. The Fed lends money to private individuals. ANSWER: d 26. Which is NOT a function of the Federal Reserve System? a. conducting fiscal policy b. regulating the U.S. money supply c. providing banking services to the U.S. government d. serving as a banker for banks ANSWER: a 27. In the United States, the amount of cash per capita is about $4,300. This figure: a. shows how much currency each American holds in their checking accounts. b. misrepresents actual currency holdings in the United States because a lot of dollars are held outside the country. c. accurately represents the size of the underground economy in the United States. d. shows how much the world depends on the U.S. monetary system. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 28. Which asset would you classify as being most liquid? a. demand deposits b. small-time deposits c. a home d. gold bullion ANSWER: a 29. Which asset would you classify as being most liquid? a. small-time deposits b. small-cut diamonds c. an oil painting by Claude Monet d. money market mutual funds ANSWER: a 30. Why are debit cards not listed as money? a. They perform the same function as checks, and checks are counted as money. b. Debit cards cannot be used for payments at most stores. c. Debit cards draw on checkable deposits, which are already counted as money. d. Not all banks issue debit cards. ANSWER: c 31. Table: Statistics for a Small Economy Item Value (millions) Cash held by public $7 Small-time deposits 30 Money market mutual funds 18 Checkable deposits 36 Currency and total reserves at the Fed 12 Large-time deposits 20 Demand deposits 14 The table shows some statistics for a small economy. Based on only the information provided, M1 in this country amounts to: a. $69 million. b. $57 million. c. $43 million. d. $50 million. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 32. Table: Statistics for a Small Economy Item Value (millions) Cash held by public $7 Small-time deposits 30 Money market mutual funds 18 Checkable deposits 36 Currency and total reserves at the Fed 12 Large-time deposits 20 Demand deposits 14 The table shows some statistics for a small economy. Based on only the information provided, M2 in this country amounts to: a. $105 million. b. $121 million. c. $137 million. d. $129 million. ANSWER: a 33. Table: Statistics for a Small Economy Item Value (millions) Cash held by public $7 Small-time deposits 30 Money market mutual funds 18 Checkable deposits 36 Currency and total reserves at the Fed 12 Large-time deposits 20 Demand deposits 14 The table shows some statistics for a small economy. Based on only the information provided, the monetary base amounts to: a. $149 million. b. $71 million. c. $19 million. d. $12 million. ANSWER: d 34. Rank the major means of payment from the largest to the smallest amount of dollars. a. savings deposits, money market mutual funds, small-time deposits b. money market mutual funds, small-time deposits, savings deposits c. money market mutual funds, savings deposits, small-time deposits d. small-time deposits, money market mutual funds, savings deposits ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 35. Which is NOT a reason so much U.S. currency circulates in other countries? a. Several countries use the U.S. dollar as their official currency. b. The U.S. dollar is frequently used in drug trafficking. c. Dollars hold their value in unstable countries. d. The Federal Reserve makes loans to other countries. ANSWER: d 36. Demand deposits are: a. small-time deposits. b. savings deposits. c. checkable deposits. d. money market deposits. ANSWER: c 37. Which is the LEAST liquid asset? a. currencies b. checkable deposits c. small-time deposits d. savings deposits ANSWER: c 38. The monetary base (MB) refers to: a. currency. b. currency plus total reserves held at the Fed. c. currency plus checkable deposits. d. currency, savings deposits, money market mutual funds, and small-time deposits. ANSWER: b 39. M1 refers to: a. currency. b. currency plus total reserves held at the Fed. c. currency plus checkable deposits. d. currency, checkable deposits, savings deposits, money market mutual funds, and small-time deposits. ANSWER: c 40. M2 refers to: a. currency. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 b. currency plus total reserves held at the Fed. c. currency plus checkable deposits. d. currency, checkable deposits, savings deposits, money market mutual funds, and small-time deposits. ANSWER: d 41. Which definition of money has the greatest value in the money supply? a. the monetary base b. M1 c. the monetary base plus M1 d. M2 ANSWER: d 42. What part of the money supply does the Fed have direct control over? a. the monetary base b. M1 c. the monetary base plus M1 d. M2 ANSWER: a 43. Money is best defined as: a. anything that has a high nominal value. b. anything that is a widely accepted means of payment. c. only the amount we spend in a given period. d. the total amount of fixed assets we own. ANSWER: b 44. Which is NOT included in the U.S. money supplies M1 and M2? a. currency in circulation b. checkable deposits c. bond mutual funds d. savings deposits ANSWER: c 45. Which is MOST liquid? a. a mortgage loan b. checkable deposits in a bank c. a new truck d. a diamond Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: b 46. Which is NOT a means of payment in the United States? a. Federal Reserve notes b. checkable deposits c. savings deposits d. stock options ANSWER: d 47. The narrowest measure of the U.S. money supply is: a. the monetary base. b. M1. c. M2. d. the borrowing limit of the federal government. ANSWER: a 48. The main difference between M1 and M2 is that: a. M1 includes some less liquid assets in addition to the assets in M2. b. M1 includes more liquid assets in addition to the assets in M2. c. M2 includes some less liquid assets in addition to the assets in M1. d. M2 includes more liquid assets in addition to the assets in M1. ANSWER: c 49. Table: Money Supply Components Type of Money Amount (billions) Reserves held by banks at the Fed $120 Currency 800 Checkable deposits 650 Savings deposits 375 Small-time deposits 957 Money market mutual funds 486 According to the data in the table, the total amount of M1 equals: a. $920 billion. b. $1,450 billion. c. $3,268 billion. d. $3,388 billion. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 50. The Fed has the most control over: a. the monetary base. b. M1. c. M2. d. money market mutual funds. ANSWER: a 51. To be considered money, an asset must be: a. backed by gold or other precious metals. b. widely accepted as a means of payment. c. currency. d. issued by the Federal Reserve or a major commercial bank in the United States. ANSWER: b 52. Which serves as a means of payment in the United States? a. currency b. checkable deposits c. savings deposits d. currency, checkable deposits, and savings deposits ANSWER: d 53. Reserves held by banks are mainly held in the form of: a. currency. b. checkable deposits. c. electronic claims. d. savings accounts. ANSWER: c 54. In the United States, the largest category of means of payment is: a. currency. b. checkable deposits. c. savings accounts. d. small-time deposits. ANSWER: c 55. Which is the MOST liquid asset? a. currency b. checkable deposits Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. savings deposits d. money market mutual funds ANSWER: a 56. Which is included in M2? a. currency b. checkable deposits c. savings deposits d. currency, checkable deposits, and savings deposits ANSWER: d 57. The monetary base is equal to currency plus: a. checkable deposits. b. total reserves held at the Federal Reserve. c. savings deposits. d. small-time deposits. ANSWER: b 58. M1 is equal to currency plus: a. checkable deposits. b. total reserves held at the Federal Reserve. c. savings deposits. d. small-time deposits. ANSWER: a 59. The Federal Reserve has direct control over: a. the monetary base. b. M1. c. M2. d. Each of these answers is correct. ANSWER: a 60. The largest means of payment in the United States is: a. savings deposits. b. checkable deposits. c. cash. d. credit cards. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: a 61. Which asset is the LEAST liquid? a. cash b. savings deposits c. checkable deposits d. bank reserves ANSWER: b 62. The monetary base consists of currency: a. plus checkable deposits. b. plus checkable and savings deposits. c. plus total reserves held at the Fed. d. with the inclusion of coins. ANSWER: c 63. A liquid asset is: a. an asset that can be used for payments, or can quickly and without loss of value be converted to an asset that can be used for payments. b. an asset that cannot be used for payments, or can quickly and without loss of value be converted to an asset that can be used for payments. c. a very narrowly accepted means of payment. d. gold and only gold. ANSWER: a 64. Which is NOT a widely used means of payment in the United States today? a. currency b. savings deposits c. gold d. checkable deposits ANSWER: c 65. Reserves held at the Fed are: a. kept in a secure vault in Washington, DC. b. electronic claims that can be converted into currency if the bank wishes. c. mostly held by banks in Panama, Ecuador, and El Salvador. d. kept exclusively in the form of gold bars. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 66. The single largest category of means of payment in the United States is: a. currency. b. reserves held at the Fed. c. checkable deposits. d. savings deposits. ANSWER: d 67. Which asset is the LEAST liquid? a. a bar of gold b. a $100 bill c. a pile of dog fur d. a current-edition used textbook ANSWER: c 68. Which asset is the LEAST liquid? a. a mortgage on a house b. recyclable aluminum cans c. knowledge of how to tie one's shoe d. a checkable deposit ANSWER: c 69. Which definition of the money supply includes the most assets? a. currency b. M1 c. M2 d. the monetary base ANSWER: c 70. Over which of the following definitions of the money supply does the Fed have the most control? a. M1 b. M2 c. the monetary base d. savings deposits ANSWER: c 71. Which is NOT a means of payment? a. currency b. checkable deposits Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. savings deposits d. a credit card account limit ANSWER: d 72. Which concept describes the ease with which an asset can be quickly converted into money without losing its value? a. solvency b. opportunity cost c. liquidity d. moral hazard ANSWER: c 73. Which asset is MOST liquid? a. a money market mutual fund b. cash c. a house d. antique furniture ANSWER: b 74. Which money supply component is the smallest? a. monetary base b. M1 c. M2 d. currency ANSWER: d 75. Money is: a. anything that is widely accepted as a means of payment. b. currency only. c. another name for income. d. stocks and bonds. ANSWER: a 76. Withdrawing which asset will incur a penalty before a certain period has passed? a. checkable deposits b. savings deposits c. small-time deposits d. traveler's checks Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: c 77. An asset that without loss of value can be quickly converted into money: a. is a liquid asset. b. is nonexistent. c. is housing. d. must rise in value over time. ANSWER: a 78. The Federal Reserve has direct control over: a. the monetary base. b. M1. c. M2. d. checkable deposits. ANSWER: a 79. Which statement is correct? a. M1 is always larger than M2. b. M2 is always larger than M1. c. M1 is larger than M2 during recessions, while M2 is larger than M1 during expansions. d. M2 is larger than M1 during recessions, while M1 is larger than M2 during expansions. ANSWER: b 80. Which does NOT serve as means of payment in the United States? a. paper bills and coins b. mutual funds c. checking or debit account d. savings deposits ANSWER: b 81. Which is the LEAST liquid means of payment? a. small-time deposits b. money market mutual funds c. savings deposits d. checkable deposits ANSWER: a 82. A money market mutual fund invests in: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. short-term debt and government securities. b. long-term debt and government securities. c. stocks. d. real estate. ANSWER: a 83. Checkable deposits are part of: a. the monetary base. b. M1. c. M2. d. M1 and M2. ANSWER: d 84. Table: The Definition of the Money Supply Type of Money Amount (millions) Currency and reserves held by banks at $50 the Fed Currency held by the public 100 Checkable deposits 250 Savings deposits 150 Money market mutual funds 25 Small-time deposits 10 What is the M1 money supply? a. $150 million b. $250 million c. $350 million d. $400 million ANSWER: c 85. Table: The Definition of the Money Supply Type of Money Amount (millions) Currency and reserves held by banks at $50 the Fed Currency held by the public 100 Checkable deposits 250 Savings deposits 150 Money market mutual funds 25 Small-time deposits 10 What is the M2 money supply? a. $400 million Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 b. $550 million c. $535 million d. $585 million ANSWER: c 86. Which is NOT an asset that serves as a means of payment? a. checkable deposits b. savings deposits, money market mutual funds, and small-time deposits c. credit cards d. currency ANSWER: c 87. Currency is: a. checking account balances. b. cash (dollar bills and coins). c. something that pertains to the present time period. d. an established borrower-lender relationship. ANSWER: b 88. The main asset-based means of payment does NOT include: a. checkable deposits. b. total reserves held by banks at the Fed. c. dollar bills and coins. d. real estate equity. ANSWER: d 89. In the United States, the largest asset that is used as a means of payment is: a. currency. b. savings deposits. c. checkable deposits. d. money market mutual funds. ANSWER: b 90. Total reserves held by banks at the Fed are: a. a means of payment used regularly by the average person. b. used by banks trading with each other and for their dealings with the Fed. c. unable to be converted into currency when desired by banks. d. composed of collected currency and credit balances. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: b 91. Which is the most liquid asset a person can hold? a. cash b. shares of stock c. real estate d. savings account ANSWER: a 92. What measure of the money supply is equal to currency plus checkable deposits? a. M1 b. M2 c. the monetary base d. the payment base ANSWER: a 93. The Fed has direct control over _____, but _____ have the most influence on aggregate demand. a. M1; currency and the monetary base b. M2; M1 and currency c. the monetary base; M1 and M2 d. currency; M1 and the monetary base ANSWER: c 94. If the reserve ratio is 4%, the money multiplier is: a. 4. b. 16. c. 20. d. 25. ANSWER: d 95. Holding reserves is costly for banks because: a. it forces banks to pay for ATMs. b. it leads to the risk of bank robberies. c. it leads to fewer profits. d. the Fed charges banks interest on reserves. ANSWER: c 96. Commercial banks make profits primarily through: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. the interest differential between deposits and loans. b. interest paid on deposits. c. interest paid on reserves. d. bailouts by the Fed. ANSWER: a 97. Banks retain only a small portion of their deposits as reserves in: a. a partial demand deposit arrangement. b. a fractional reserve banking system. c. a banking and reserve lending system. d. a replacement reserve agreement. ANSWER: b 98. The reserve ratio is the ratio of bank reserves to: a. currency demand. b. bank loans. c. bank deposits. d. the monetary base. ANSWER: c 99. The amount by which the money supply expands with each additional dollar in reserves is the: a. reserve ratio. b. prime rate. c. fractional reserve. d. money multiplier. ANSWER: d 100. For this table, assume that all banks observe the same desired reserve ratio. Also assume that the banks are listed in sequential order (thus the loans from the First National Bank become the deposits for the Second National Bank, and the loans from the Second National Bank become the deposits for the Third National Bank, and so on). Also, the banks' balance sheets must always be balanced. Table: Multiple Deposit Expansion First National Bank Assets Liabilities Required reserves Deposits Loans $368,000 Total Total Second National Bank Assets Liabilities
$400,000
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Chapter 15 Required reserves Loans Total Third National Bank Assets Required reserves Loans Total
Deposits Total Liabilities Deposits Total
For the multiple deposit expansion process described in this table, what is the reserve ratio in this banking system? a. 92% b. 20% c. 10% d. 8% ANSWER: d 101. For this table, assume that all banks observe the same desired reserve ratio. Also assume that the banks are listed in sequential order (thus the loans from the First National Bank become the deposits for the Second National Bank, and the loans from the Second National Bank become the deposits for the Third National Bank, and so on). Also, the banks' balance sheets must always be balanced. Table: Multiple Deposit Expansion First National Bank Assets Liabilities Required reserves Deposits Loans $368,000 Total Total Second National Bank Assets Liabilities Required reserves Deposits Loans Total Total Third National Bank Assets Liabilities Required reserves Deposits Loans Total Total
$400,000
For the multiple deposit expansion process described in this table, what is the maximum amount of loans that the Second National Bank can make if it observes the same reserve ratio as First National Bank? a. $338,560.00 b. $30,470.40 c. $308,089.60 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. $311,475.20 ANSWER: a 102. For this table, assume that all banks observe the same desired reserve ratio. Also assume that the banks are listed in sequential order (thus the loans from the First National Bank become the deposits for the Second National Bank, and the loans from the Second National Bank become the deposits for the Third National Bank, and so on). Also, the banks' balance sheets must always be balanced. Table: Multiple Deposit Expansion First National Bank Assets Liabilities Required reserves Deposits Loans $368,000 Total Total Second National Bank Assets Liabilities Required reserves Deposits Loans Total Total Third National Bank Assets Liabilities Required reserves Deposits Loans Total Total
$400,000
For the multiple deposit expansion process described in this table, what is the maximum amount of loans that the Third National Bank can make if it decides to hold an additional 1% of deposits as reserves? a. $338,560.00 b. $30,470.40 c. $308,089.60 d. $311,475.20 ANSWER: c 103. For this table, assume that all banks observe the same desired reserve ratio. Also assume that the banks are listed in sequential order (thus the loans from the First National Bank become the deposits for the Second National Bank, and the loans from the Second National Bank become the deposits for the Third National Bank, and so on). Also, the banks' balance sheets must always be balanced. Table: Multiple Deposit Expansion First National Bank Assets Liabilities Required reserves Deposits Loans $368,000 Total Total
$400,000
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Chapter 15 Second National Bank Assets Required reserves Loans Total Third National Bank Assets Required reserves Loans Total
Liabilities Deposits Total Liabilities Deposits Total
For the multiple deposit expansion process described in this table, what is the money multiplier in this country? a. 8 b. 10 c. 12.5 d. 5 ANSWER: c 104. Suppose the Fed carries out an open market purchase and credits the account of a bank by $160,000. Further suppose that the reserve ratio (RR) is 10%. By how much is the money supply expected to change? a. $160,000 b. $1.6 million c. $16 million d. $1.76 million ANSWER: b 105. Bank A has $100 million in deposits, $15 million in reserves, and $85 million in loans. Bank A's reserve ratio is: a. 10%. b. 15%. c. 20%. d. 75%. ANSWER: b 106. The money multiplier equals: a. the amount of money supply divided by the amount of reserves. b. 1 divided by the difference between the reserve ratio and the amount of deposits. c. 1 divided by the reserve ratio. d. 1 divided by the prime interest rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: c 107. Suppose the reserve ratio is 20% for all banks. If the Fed increases bank reserves by $200, then the money supply will: a. decrease by $400. b. increase by $400. c. decrease by $1,000. d. increase by $1,000. ANSWER: d 108. In a fractional reserve banking system, banks hold only a fraction of their: a. loans as reserves. b. deposits as reserves. c. currency as reserves. d. monetary base. ANSWER: b 109. An increase in the reserve ratio means that banks want to: a. become more liquid. b. make more loans. c. purchase real estate. d. lend in the federal funds market. ANSWER: a 110. If banks are holding 100% of deposits in reserves, the money multiplier will be: a. 0. b. 1. c. 10. d. 100. ANSWER: b 111. Suppose you deposit $1,000 in your checking account. If the reserve ratio is 10%, how much of your deposit can the bank loan out? a. $0 b. $100 c. $900 d. $1,000 ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 112. For a given money multiplier, a decrease in the banking system's reserves will cause the money supply to: a. increase. b. decrease. c. remain constant. d. become difficult to predict. ANSWER: b 113. For a given level of reserves, a decrease in the money multiplier will cause the money supply to: a. increase. b. decrease. c. remain constant. d. become difficult to predict. ANSWER: b 114. An increase in the banking system's willingness to lend will cause the money multiplier to: a. increase. b. decrease. c. remain unchanged. d. become difficult to predict. ANSWER: a 115. As market interest rates rise: a. a bank's opportunity cost of holding reserves rises. b. fewer loans will be extended since they are now more costly to banks. c. the money multiplier falls. d. the reserve ratio required by the Fed also rises. ANSWER: a 116. As the reserve ratio rises: a. a bank's opportunity cost of holding reserves rises. b. the interest rate on money will fall. c. the money multiplier will decrease. d. more loans will be extended. ANSWER: c 117. If the average reserve ratio in the banking system is 20% and the Fed increases bank reserves by $100,000, what will be the total potential increase in the money supply? a. $100,000 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 b. $120,000 c. $500,000 d. $2 million ANSWER: c 118. Under fractional reserve banking, banks: a. hold all deposits in a special kind of vault known as a fraction. b. hold only a fraction of deposits in reserve, lending the rest. c. do not reveal to their customers the fraction of deposits held in reserve. d. make only a fraction of customers' deposits available on demand. ANSWER: b 119. The reserve ratio (RR) is the: a. amount that the money supply expands with each dollar increase in reserves. b. overnight lending rate from one major bank to another. c. ratio of deposits to reserves. d. ratio of reserves to deposits. ANSWER: d 120. The money multiplier (MM) is the: a. amount that the money supply expands with each dollar increase in reserves. b. overnight lending rate from one major bank to another. c. ratio of deposits to reserves. d. ratio of reserves to deposits. ANSWER: a 121. If banks keep one-eighth of their deposits in the form of reserves, and the Fed credits Alex's bank account with $8,000, how much does the money supply increase? a. $1,000 b. $8,000 c. $16,000 d. $64,000 ANSWER: d 122. If the Fed credits Alex's checking account with $8,000 and Alex's bank decides to keep the entire $8,000 in the form of reserves instead of lending it out, how much does the money supply increase? a. $0 b. $1,000 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. $8,000 d. $64,000 ANSWER: c 123. The money multiplier equals 1: a. divided by the reserve ratio. b. plus the reserve ratio. c. minus the reserve ratio. d. divided by the result of 1 minus the reserve ratio. ANSWER: a 124. The money multiplier is greater than 1 because banks: a. hold the entire amount of deposits as reserves. b. do not lend any deposits out as loans. c. hold only a fraction of deposits as reserves. d. borrow loans from the Federal Reserve. ANSWER: c 125. If the reserve ratio is 20%, the money multiplier equals: a. 2. b. 2.5. c. 5. d. 10. ANSWER: c 126. If the reserve ratio is 10%, then a $100 increase in bank deposits can potentially lead to: a. a decrease of $1,000 in the money supply. b. an increase of $1,000 in the money supply. c. a decrease of $90 in the money supply. d. an increase of $90 in the money supply. ANSWER: b 127. If a $500 increase in reserves ultimately leads to a $2,000 increase in the money supply, the money multiplier is: a. 0.5. b. 1. c. 4. d. 40. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: c 128. Because the United States has a fractional reserve banking system, banks hold: a. less than 100% of deposits as reserves. b. more than 100% of deposits as reserves. c. 100% of deposits as reserves. d. no currency in their vaults. ANSWER: a 129. The reserve ratio is the ratio of reserves to: a. loans. b. vault cash. c. net worth. d. deposits. ANSWER: d 130.
is the:
a. fractional reserve multiplier. b. monetary base multiplier. c. money multiplier. d. loan multiplier. ANSWER: c 131. The effective reserve ratio is determined primarily by: a. how liquid banks wish to be. b. how greedy banks wish to be. c. the number of bank customers. d. the size of banks' vaults. ANSWER: a 132. An increase in the reserve ratio will _____ banks' ability to make loans. a. increase b. decrease c. not change d. make it more difficult to predict ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 133. Under fractional reserve banking, banks hold: a. all deposits in reserve for the purpose of lending. b. all deposits in reserve, using other sources of funds for lending. c. no deposits in reserve, lending all deposits. d. only a fraction of deposits in reserve, lending the rest. ANSWER: d 134. If $1 in cash is held in reserve for every $20 of deposits, the reserve ratio is: a. 20%. b. 10%. c. 5%. d. 1%. ANSWER: c 135. If the reserve ratio is 5%, then an increase in bank deposits by $100,000 could expand the money supply by: a. $5,000. b. $100,000. c. $500,000. d. $2 million. ANSWER: d 136. The money multiplier is the amount the: a. money supply can potentially expand with each dollar increase in reserves. b. money supply can potentially expand with each dollar increase in deposits. c. reserves expand with each dollar increase in deposits. d. deposits expand with each dollar increase in reserves. ANSWER: b 137. In fractional reserve banking, banks: a. can accept only a fraction of depositors’ income as deposits, reserving the rest of their income for consumption. b. must lend a set minimum proportion of deposits to households rather than making all of their loans to firms. c. do not lend out all deposits but retain at least a desired percentage of deposits as reserves. d. are required to reserve a set fraction of loans to become deposits. ANSWER: c 138. How do banks profit as financial intermediaries? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. They lend out deposited funds at lower interest rates than they are paying on deposits. b. They lend out deposited funds at higher interest rates than they are paying on deposits. c. They lend out more funds than they have in deposits so that they collect more interest than they pay. d. They lend out less funds than they have in deposits to create shortages in the loanable funds market. ANSWER: b 139. What two factors primarily determine a bank’s reserve ratio? a. the regulation of banks and depositor confidence in the banking system b. depositor confidence in the banking system and the quality of loan applications c. the quality of loan applications and the bank’s desire for liquidity d. the bank’s desire for liquidity and the regulation of banks ANSWER: d 140. Suppose a bank has a reserve ratio of 20 percent and the money supply is $25 billion. What is the maximum possible impact on the money supply if bank reserves rise by $1.5 billion? a. The money supply will rise by $1.5 billion to $26.5 billion. b. The money supply will rise by $6.5 billion to $31.5 billion. c. The money supply will rise by $7.5 billion to $32.5 billion. d. The money supply will rise by $25.0 billion to $50.0 billion. ANSWER: c 141. Suppose a bank has total deposits of $66 billion and reserves of $7 billion. What is the money multiplier? a. 0.106 b. 1.106 c. 7.000 d. 9.400 ANSWER: d 142. Which is incorrect regarding the money multiplier? a. It is determined by multiplying deposits by reserves. b. It is the amount the money supply increases for each dollar increase in reserves. c. It is the inverse of the reserve ratio. d. It is the ratio of deposits to reserves. ANSWER: a 143. Suppose an increase in reserves of $5 billion causes the money supply to rise by $17.5 billion. The money multiplier is _____ and the reserve requirement is _____. a. 3.50; 0.29 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 b. 0.28; 1.25 c. 5.30; 0.23 d. 8.00; 0.12 ANSWER: a 144. Suppose a country’s banking system has total deposits of $120 billion and reserves of $10 billion. If reserves rise by $2 billion, what will the maximum possible increase in the money supply be? a. $8 billion b. $12 billion c. $16 billion d. $24 billion ANSWER: d 145. The Federal Reserve's major tool(s) to control the money supply is (are): a. open market operations. b. changing the reserve ratio. c. paying interest on reserves. d. open market operations and paying interest on reserves. ANSWER: d 146. To increase the money supply in the economy, the Fed would: a. increase the prime interest rate. b. carry out open market sales and/or raise the reserve ratio. c. carry out open market sales. d. carry out open market purchases and/or decrease the interest rate paid on reserves. ANSWER: d 147. To reduce the money supply in the economy, the Fed would: a. engage in actions to increase interest rates. b. carry out open market purchases. c. carry out open market sales and lower the interest rate. d. carry out open market purchases and increase the interest rate paid on reserves. ANSWER: a 148. If the Fed wants short-term interest rates to rise, it could: a. carry out open market purchases. b. engage in a monetary contraction. c. buy T-bills. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. issue a directive for banks to raise interest rates. ANSWER: b 149. The major tools that the Fed uses to control the money supply include: a. controlling the amount of government spending. b. serving as the lender of last resort by making loans to troubled banks. c. open market operations. d. paying interest on reserves held at the Fed and open market operations. ANSWER: d 150. If the Fed wants to increase the money supply, it will typically: a. raise interest rates. b. increase the money multiplier. c. extend new loans. d. purchase additional government bonds. ANSWER: d 151. Open market operations refer to: a. the buying and selling of stocks in the stock market. b. the buying and selling of primarily government bonds by the Fed. c. decisions by the Fed to raise or lower interest rates. d. decisions by the Fed to increase or decrease the money multiplier. ANSWER: b 152. Which are the two major tools the Fed uses to control the money supply? a. making loans to troubled banks and open market operations b. printing paper money and paying interest on reserves held by banks at the Fed c. open market operations and altering the reserve ratio d. paying interest on reserves held by banks at the Fed and open market operations ANSWER: d 153. Open market operations occur when: a. the Fed buys and sells government bonds. b. the Fed loans money to banks and other financial institutions when no one else will. c. banks become insolvent. d. banks are illiquid. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 154. If the Fed wants to increase the money supply, it will _____ Treasury securities. a. sell b. buy c. hold d. issue ANSWER: b 155. What will happen when banks decide to increase their reserve ratios? a. The money supply will not change. b. The money supply might expand or contract. c. The money supply will expand. d. The money supply will contract. ANSWER: d 156. When the Fed buys short-term Treasury securities, short-term interest rates: a. fall. b. rise. c. could rise or fall. d. stay the same. ANSWER: a 157. If instead of buying short-term Treasury securities the Fed decides to purchase the country's supply of paper clips, the money supply: a. will not change. b. might expand or contract. c. will expand. d. will contract. ANSWER: c 158. The Federal Funds rate is the: a. interest rate banks pay when they borrow directly from the Fed. b. overnight lending rate on loans from one major bank to another. c. interest rate on short-term Treasury securities. d. ratio of reserves to deposits. ANSWER: b 159. Quantitative easing is the: a. Fed purchase of longer-term government bonds. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 b. government purchase of private equities. c. interest rate on short-term Treasury securities. d. lowering of the ratio of reserves to deposits. ANSWER: a 160. Tyler owes $100,000, but he owns Mexican Amati paintings that he could sell immediately for $80,000 or within a few months for $120,000. If these are all the assets and liabilities that Tyler has, Tyler is: a. insolvent and illiquid. b. insolvent but liquid. c. solvent and liquid. d. solvent but illiquid. ANSWER: d 161. Paying a higher interest rate on reserves held at the Fed will tend to: a. increase the money supply. b. decrease the money supply. c. not change the money supply. d. have an ambiguous effect on the money supply. ANSWER: b 162. Which is NOT used by the Fed to control the money supply? a. open market operations b. quantitative easing c. paying an interest rate on bank reserves held at the Fed d. prime interest rate lending ANSWER: d 163. When the Fed lowers the Federal Funds target: a. both interest rates and the money supply increase. b. interest rates decrease but the money supply increases. c. interest rates increase but the money supply decreases. d. both interest rates and the money supply decrease. ANSWER: b 164. Which tool(s) can the Federal Reserve use to control the money supply? a. open market operations b. forcing banks to make more/fewer loans c. paying interest on reserves Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. open market operations and paying interest on reserves ANSWER: d 165. Which is used most often by the Federal Reserve to control the money supply? a. open market operations b. serving at the lender of last resort c. altering the reserve ratio d. paying interest of reserves ANSWER: a 166. Open market operations involve the Federal Reserve: a. buying and selling government bonds. b. lending reserves directly to banks. c. providing reserves to banks through auction. d. competing with investment banks for Treasury securities. ANSWER: a 167. The Fed can increase the money supply by: a. selling government bonds. b. decreasing the interest paid on reserves held by banks. c. increasing the interest paid on reserves held by banks. d. selling corporate bonds in lagging sectors of the economy. ANSWER: b 168. Quantitative easing involves the Federal Reserve: a. buying long-term government bonds. b. lending reserves directly to banks. c. providing reserves to banks through an auction. d. competing with investment banks for Treasury securities. ANSWER: a 169. The goal of an open market sale by the Federal Reserve is to: a. reduce bank reserves and increase the money supply. b. increase bank reserves and reduce the money supply. c. reduce bank reserves and reduce the money supply. d. increase bank reserves and increase the money supply. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 170. The Federal Reserve typically affects the real rate of interest in: a. the short run only. b. the long run only. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: a 171. Paying interest on reserves allows the Fed to: a. set the prime rate. b. influence the level of reserves in the economy. c. choose the level of reserves and influence other interest rates in the economy. d. set the prime rate and choose the level of reserves in the economy. ANSWER: c 172. The interest rate that commercial banks charge each other on overnight loans is called the: a. prime rate. b. Federal Funds rate. c. nominal rate. d. Treasury bill rate. ANSWER: b 173. The Federal Reserve controls the Federal Funds rate through its control of: a. the monetary base. b. M1. c. M2. d. currency in circulation. ANSWER: a 174. _____ refers to the Federal Reserve's purchase of longer-term government bonds or other securities. a. An open market purchase b. An open market sale c. Quantitative easing d. Quantitative tightening ANSWER: c 175. An insolvent bank is one that: a. borrows in the market for federal funds. b. borrows from the Fed. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. has more liabilities than assets. d. sells in the open market. ANSWER: c 176. An illiquid bank is one that: a. borrows in the market for federal funds. b. borrows from the Fed. c. has more short-term liabilities than short-term assets. d. has more long-term assets than liabilities. ANSWER: c 177. If the Fed wants to increase the money supply, it will: a. require less reserves to be held. b. sell government bonds. c. require more reserves to be held. d. decrease the rate of interest paid on reserves. ANSWER: d 178. If the Fed wants to increase the money supply, it will: a. buy government bonds. b. sell government bonds. c. require more reserves to be held. d. increase the rate of interest paid on reserves. ANSWER: a 179. If the Fed wants to decrease the money supply, it will: a. buy government bonds. b. lend money to banks. c. decrease the reserve ratio. d. increase the rate of interest paid on reserves. ANSWER: d 180. Which is an example of quantitative easing by the Federal Reserve? a. The Fed purchases $100,000 worth of short-term government bonds. b. The Fed purchases $50,000 worth of long-term government bonds. c. The Fed raises the money multiplier. d. The Fed lowers interest rates. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: b 181. Which would result from open market purchases made by the Fed totaling $50,000? a. The money supply would increase by more than $50,000. b. Interest rates would rise. c. The money multiplier would increase. d. Bank reserves would decrease. ANSWER: a 182. When the Fed conducts open market purchases, it: a. buys government securities. b. sells government securities. c. buys shares of corporations. d. sells shares of corporations. ANSWER: a 183. When the Fed sells government bonds in the open market: a. the monetary base increases and interest rates decrease. b. the monetary base decreases and interest rates increase. c. both the monetary base and interest rates decrease. d. both the monetary base and interest rates increase. ANSWER: b 184. If the Fed wishes to lower interest rates, it should: a. conduct an open market purchase. b. conduct an open market sale. c. increase the rate of interest paid on reserves. d. do nothing. ANSWER: a 185. Quantitative easing occurs when the: a. Fed sells long-term securities. b. Fed buys long-term securities. c. government lowers income and other taxes. d. government raises income and other taxes. ANSWER: b 186. The key difference between quantitative easing and a typical open market purchase is that quantitative easing: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. does not involve the purchase of government securities, while a typical open market purchase involves the purchase of government securities. b. involves short-term government securities, while a typical open market purchase involves long-term government securities. c. involves longer-term government securities and other securities, while a typical open market purchase involves short-term government securities. d. involves state and local government securities, while a typical open market purchase involves federal government securities. ANSWER: c 187. The interest rate that the Fed has the most control over is the: a. Federal Funds rate. b. mortgage loan rate. c. long-term government bond rate. d. prime rate. ANSWER: a 188. Open market operations occur when the Fed: a. lends money to troubled banks. b. changes the rate of interest paid on reserves. c. buys and sells government bonds. d. changes the reserve ratio. ANSWER: c 189. When the Fed buys bonds, it increases the demand for bonds, which pushes: a. up the price of bonds, thus raising the interest rate. b. up the price of bonds, thus lowering the interest rate. c. down the price of bonds, thus raising the interest rate. d. down the price of bonds, thus lowering the interest rate. ANSWER: b 190. When the Federal Reserve makes an open market purchase, the reserves of the banking system will: a. increase. b. decrease. c. remain constant. d. become difficult to predict. ANSWER: a 191. When the Federal Reserve makes an open market purchase, the amount of money available for the banking Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 system to loan: a. increases. b. decreases. c. remains constant. d. becomes difficult to predict. ANSWER: a 192. An open market operation occurs when: a. banks loan funds to one another. b. banks increase the reserve ratio. c. the Fed buys or sells government bonds. d. the Fed enforces regulations on the banking industry. ANSWER: c 193. The Fed will be most effective at changing the money supply when: a. banks have low reserves and the money multiplier is small. b. banks have low reserves and the money multiplier is large. c. banks have high reserves and the money multiplier is small. d. banks have high reserves and the money multiplier is large. ANSWER: b 194. When the Fed buys U.S. government bonds to affect the money supply, it is: a. making a loan to a troubled bank. b. discount borrowing from the U.S. government. c. conducting an open market sale. d. conducting an open market purchase. ANSWER: d 195. If the Fed sells $200 million in government bonds, the total money supply will: a. decrease by more than $200 million. b. decrease by less than $200 million but more than $0 million. c. decrease by exactly $200 million. d. not change. ANSWER: a 196. When the Fed wants to increase interest rates, it: a. instructs banks across the nation that they must raise their rates. b. sells bonds in the open market. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. buys bonds in the open market. d. adjusts the fractional reserve ratio. ANSWER: b 197. The relationship between bond prices and interest rates is: a. neither positive nor negative. b. positive. c. negative. d. sometimes positive and sometimes negative. ANSWER: c 198. When the Federal Reserve buys bonds, the demand curve for bonds: a. does not shift. b. shifts to the right. c. shifts to the left. d. sometimes shifts to the right and sometimes shifts to the left. ANSWER: b 199. When the Federal Reserve buys bonds, the supply curve for bonds: a. does not shift. b. shifts to the right. c. shifts to the left. d. sometimes shifts to the right and sometimes shifts to the left. ANSWER: a 200. What is the overnight lending rate from one bank to another? a. the Federal Funds rate b. the Federal Reserve rate c. the money market rate d. the money multiplier rate ANSWER: a 201. If the Fed buys government bonds, which will likely NOT increase? a. the monetary base b. M1 c. the Federal Funds rate d. bank reserves Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: c 202. The Federal Funds rate is the interest rate charged on a(n): a. low-interest loan from the Federal Reserve to a bank. b. loan from the Federal Reserve to a bank. c. long-term loan from one bank to another. d. overnight loan from one bank to another. ANSWER: d 203. When the Federal Reserve conducts monetary policy, the Federal Reserve usually focuses on: a. M1. b. M2. c. the Federal Funds rate. d. the prime interest rate. ANSWER: c 204. When the Federal Funds rate is near the zero lower bound, the Fed: a. engages in open market operations. b. engages in quantitative easing. c. adjusts the Federal Funds rate. d. raises the required reserve rate. ANSWER: b 205. When the Fed buys and sells government bonds, it is engaging in: a. the manipulation of reserves. b. reserve market operations. c. open market operations. d. the manipulation of open reserves. ANSWER: c 206. Suppose the reserve ratio of a bank is 0.125 and the Fed buys $10 billion worth of government bonds. What is the maximum impact this has on the money supply? a. ‒$15.625 billion b. $15.625 billion c. $80 billion d. $125 billion ANSWER: c 207. Which is NOT true regarding open market operations and the multiplier process? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. A change in the money supply has an increased effect on the number of bonds the Fed buys. b. The size of the multiplier depends on how much of their assets banks choose to hold as reserves. c. The Fed can affect the size of bank reserves by buying or selling government bonds. d. A change in reserves has an increased impact on the money supply. ANSWER: a 208. Which is consistent with the events that occur if the Fed uses open market operations to DECREASE the money supply? a. The Fed buys bonds. b. The funds received from bond sales are deposited in bank accounts. c. Bank reserves decrease. d. The change in reserves times the multiplier is equal to the change in the money supply. ANSWER: c 209. If the Fed wants to increase interest rates, it should _____ bonds so that bond prices _____. a. buy; rise b. buy; fall c. sell; rise d. sell; fall ANSWER: d 210. If the Fed wants to decrease interest rates, it should _____ bonds so that bond prices _____. a. buy; rise b. buy; fall c. sell; rise d. sell; fall ANSWER: a 211. If the Fed buys bonds, bond prices will _____ and interest rates will _____. a. rise; rise b. rise; fall c. fall; rise d. fall; fall ANSWER: b 212. If the Fed sells bonds, bond prices will _____ and interest rates will _____. a. rise; rise b. rise; fall Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. fall; rise d. fall; fall ANSWER: c 213. Which is NOT neutral in the long run? a. aggregate demand b. output c. real interest rates d. money ANSWER: b 214. Quantitative easing refers to: a. any action by the Fed to increase the money supply. b. any action by the Fed to increase the money supply at a faster rate. c. the Fed buying long-term government bonds and securities. d. the Fed buying short-term government bonds and securities. ANSWER: c 215. When the Federal Funds rate is at or near the zero lower bound, actions by the Fed to increase the money supply involve: a. buying short-term bonds. b. selling short-term bonds. c. quantitative easing. d. quantitative constraining. ANSWER: c 216. When the Fed pays interest on bank reserves, it effectively: a. sets a ceiling on the Federal Funds rate. b. sets a floor on the Federal Funds rate. c. discourages banks from holding reserves. d. discourages banks from holding deposits. ANSWER: b 217. If the Fed pursues expansionary monetary policy, interest rates will _____ and loans will _____. a. rise; rise b. rise; fall c. fall; rise Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. fall; fall ANSWER: c 218. A bank will become illiquid if: a. it has short-term liabilities that exceed its short-term assets. b. it is insolvent. c. it is solvent and liquid. d. there is a financial crisis like the one of 2008. ANSWER: a 219. When lowering interest rates has little effect on the economy, it is called a: a. zero lower bound. b. bank run. c. liquidity trap. d. recession. ANSWER: c 220. If the value of a bank's liabilities is greater than its assets, there is a: a. solvency crisis. b. liquidity crisis. c. liability crisis. d. profitability crisis. ANSWER: a 221. When a bank has more liabilities than assets, the bank is considered: a. insolvent. b. illiquid. c. solvent. d. liquid. ANSWER: a 222. When a bank has assets that are difficult to sell, the bank is considered: a. insolvent. b. illiquid. c. solvent. d. liquid. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 223. If the total liabilities of bank A are less than its total assets, but its short-term liabilities are greater than its short-term assets, bank A is: a. both liquid and solvent. b. both illiquid and insolvent. c. liquid, but insolvent. d. illiquid, but solvent. ANSWER: d 224. Banks hold many illiquid assets, including a. short-term loans. b. loans that are payable over long periods of time. c. real estate and office equipment. d. overnight loans to other banks. ANSWER: b 225. The main assets held by banks are: a. deposits. b. bond holdings. c. loans. d. reserves. ANSWER: c 226. When businesses are insured, they tend to take on too much risk. This is called: a. hazard insurance. b. insurance risk. c. overinsurance. d. moral hazard. ANSWER: d 227. A bank run can cause systemic risk because: a. there is significant risk that the banks will fail. b. there is a likelihood that interest rates will rise. c. panics decrease the ability of banks to extend new loans. d. there is a likelihood that the run will extend to other banks and cause a bank panic. ANSWER: d 228. The Fed lends to banks: a. on a regular basis as a way to increase the money supply. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 b. only in dire emergencies to avoid insolvency. c. as an attempt to limit the number of new loans extended by banks. d. as a way of earning profits, which in turn are passed on to the federal government. ANSWER: b 229. A bank is considered illiquid but solvent if: a. it has short-term liabilities greater than its short-term assets, but overall assets greater than liabilities. b. it has liabilities greater than the value of its assets. c. the value of its outstanding loans is greater than the value of its deposits. d. it has lost its FDIC coverage. ANSWER: a 230. The extra lending by the Fed during the 2007–2009 recession was done primarily to: a. lower interest rates. b. restore confidence in the banking system. c. restore liquidity to credit markets. d. increase the money supply. ANSWER: c 231. Moral hazard occurs when: a. businesses don't assume enough risk because of a poor business environment. b. businesses are insolvent. c. banks are illiquid. d. businesses take on too much risk because they are insured. ANSWER: d 232. When a bank has short-term liabilities that are greater than its short-term assets, but overall its assets are greater than its liabilities, the bank is considered: a. liquid and solvent. b. illiquid but solvent. c. liquid but insolvent. d. illiquid and insolvent. ANSWER: b 233. The Fed is the “lender of last resort” because it: a. lends to financial intermediaries during financial crises. b. buys and sells government bonds to increase or decrease the money supply. c. raises or lowers the interest rate paid on reserves to encourage lending. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. buys long-term government bonds. ANSWER: a 234. Systemic risk is present when: a. a bank or other financial institution acts recklessly, hoping that the Fed and regulators will later bail it out. b. the U.S. government defaults on Treasury securities. c. the failure of one financial institution will bring down other institutions as well. d. the Fed increases the money supply when it should decrease it. ANSWER: c 235. The risk that the failure of a few large financial institutions can affect the entire financial system is called: a. systemic risk. b. moral hazard. c. credit risk. d. solvency risk. ANSWER: a 236. When banks take on too much risk with the hope that the Fed will eventually bail them out, a condition of _____ exists. a. systemic risk b. liquidity risk c. a solvency crisis d. moral hazard ANSWER: d 237. The risk that the failure of one financial institution can lead to the failure of other financial institutions is called: a. systemic risk. b. moral hazard. c. liquidity risk. d. solvency risk. ANSWER: a 238. Moral hazard occurs when banks and other financial institutions: a. hesitate to lend because of concern over excessive risk. b. take on too much risk, believing that the Fed and regulators will bail them out. c. fail to ensure that their assets exceed their liabilities. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. fail and then bring down other institutions in the system. ANSWER: b 239. Systemic risk is: a. the risk of contagion that occurs when a failing financial institution owes significant sums of money to other financial institutions. b. a risk that is limited to a specific sector only. c. the risk of a bubble in the entire asset pricing system. d. the risk that, when a financial institution fails, its depositors will lose not only their money but also their trust in the monetary system. ANSWER: a 240. The financial crisis of 2008 illustrates that: a. systemic risk is no longer a serious concern for the U.S. economy. b. the Fed does not concern itself with the actions of investment banks. c. the Fed has the power to control the U.S. president's responses to a financial and economic crisis and supervise fiscal policy. d. the Fed has the power to step outside its normal functions and lend to investment banks when it perceives the risk of financial contagion. ANSWER: d 241. What was the rationale for the Fed lending billions of dollars to the insurance company American International Group (AIG)? a. The Fed knew it would receive a high return on the loan. b. The Fed was following a long-time precedent in rescuing top insurance companies. c. If AIG collapsed, the insurance industry would as well. d. AIG's bankruptcy would pose a systemic risk to financial institutions. ANSWER: d 242. Moral hazard occurs when: a. the failure of one financial institution can bring down other institutions as well. b. financial institutions take on too much risk because they are insured. c. financial institutions become insolvent because they have issued too many loans. d. there are more short-term liabilities than short-term assets. ANSWER: b 243. The Fed loaned money to AIG because it was concerned about: a. moral hazard on the part of this insurance company. b. systemic risk, because AIG's bankruptcy would put other financial institutions at risk of insolvency. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 c. the liquidity of this insurance company. d. the market demands being placed on this insurance company. ANSWER: b 244. Which is an example of moral hazard? a. Only people with very high risk of default on loans borrow from banks. b. Drivers have less incentive to avoid accidents after getting auto insurance. c. When one bank fails, other banks become more cautious in lending. d. People living along the Gulf Coast are more likely to buy flood insurance. ANSWER: b 245. The possibility that the failure of one bank affects the performance of other banks is called: a. moral hazard. b. a liquidity crisis. c. systemic risk. d. credit risk. ANSWER: c 246. An institution is considered insolvent when: a. deposits exceed reserves. b. reserves exceed deposits. c. the value of assets exceeds the value of liabilities. d. the value of liabilities exceeds the value of assets. ANSWER: d 247. An insolvent bank has: a. liabilities of greater value than assets. b. assets of greater value than liabilities. c. a higher interest rate on loans than on deposits. d. a higher interest rate on reserves. ANSWER: a 248. An illiquid bank has _____ and _____. a. assets that exceed liabilities; may or may not be solvent b. liabilities that exceed assets; an inability to make debt payments c. many assets that can be converted into cash quickly without any loss of value; is solvent d. many assets that cannot be converted into cash quickly without any loss of value; may or may not be solvent Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: d 249. From a bank’s perspective, a loan is a(n): a. illiquid asset. b. liquid asset. c. illiquid liability. d. liquid liability. ANSWER: a 250. A systemic risk in the financial industry is a risk in which: a. there are no connections between the successes or failures of financial institutions. b. the failure of one financial institution will trigger the failure of others. c. the Fed changes the reserves of one financial institution and will do so for all. d. the Fed raises the reserves of one financial institution but will not do so for all. ANSWER: b 251. If banks make risky loans based on the assumption that the government will help them from failing if the loans are not repaid, the banks have a problem with: a. illiquidity. b. short-term neutrality. c. reverse insolvency. d. moral hazard. ANSWER: d 252. Figure: AD and Monetary Policy
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Chapter 15
Suppose a given economy starts at point A in the figure. If the Fed engages in an expansionary monetary policy, what would you expect to happen in the short run? a. Aggregate supply will decrease because of higher wages. b. Aggregate demand will decrease because of higher interest rates. c. Aggregate demand will increase because of lower interest rates. d. The economy will move along the AD curve to a lower inflation rate. ANSWER: c 253. The Fed has the greatest influence over _____ interest rates. Investment spending depends on _____ interest rates. a. short-term; short-term b. short-term; long-term c. long-term; short-term d. long-term; long-term ANSWER: b 254. As a result of an increase in the growth rate of the money supply: a. real GDP growth increases only in the short run, and the inflation rate increases in both the short run and the long run. b. real GDP growth increases only in the long run, and the inflation rate increases only in the short run. c. real GDP growth increases in both the short run and the long run, and the inflation rate increases only in the short run. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. both the real growth and the inflation rate increase only in the short run. ANSWER: a 255. If the Fed buys bonds in the open market, which of the following will likely NOT happen? a. Investment spending will increase. b. Short-term interest rates will increase. c. Aggregate demand will increase. d. The monetary base will increase. ANSWER: b 256. Suppose the economy is growing faster than its long-run potential growth rate. To bring the real growth rate back to the long-run potential rate, the Fed should: a. lower the reserve ratio. b. buy government bonds in the open market. c. engage in actions to raise interest rates. d. lower the interest rate on reserves. ANSWER: c 257. When the Fed conducts open market operations to decrease the monetary base, real GDP growth: a. decreases only in the short run. b. increases only in the short run. c. decreases in both the short run and the long run. d. increases in both the short run and the long run. ANSWER: a 258. An increase in money growth will cause the economy's AD curve to: a. not shift. b. shift inward. c. shift outward. d. shift outward during expansions and inward during contractions. ANSWER: c 259. An increase in money growth will cause inflation to increase in: a. the short run only. b. the long run only. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 260. An increase in money growth will cause output growth to increase in: a. the short run only. b. the long run only. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: a 261. Which would typically NOT occur following an increase in the money supply? a. a decrease in interest rates b. an increase in investment c. an increase in AD d. a decrease in the overall price level ANSWER: d 262. If the Fed was concerned about the economy falling into recession, it might try to stimulate the economy by: a. raising the interest rate paid on reserves. b. purchasing additional government securities. c. conducting open market sales. d. raising the interest rates that consumers and businesses pay when taking out loans. ANSWER: b 263. Monetary policy by the Fed is estimated to take _____ to have an impact on the economy. a. 0 to 3 months b. 3 to 6 months c. 6 to 18 months d. 18 to 36 months ANSWER: c 264. The intended effect of an expansionary monetary policy is that aggregate demand: a. increases, raising real GDP growth only in the long run. b. increases, raising inflation and real GDP growth in both the short run and the long run. c. increases, raising real GDP growth in the short run, but only inflation rises in the long run. d. remains unchanged while the economy's long-run potential growth rate increases. ANSWER: c 265. An increase in the money supply will cause the economy's AD curve to: a. become steeper. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 b. become flatter. c. shift leftward. d. shift rightward. ANSWER: d 266. Through its use of monetary policy, the Fed is attempting to: a. shift the aggregate demand curve. b. shift the short-run aggregate supply curve. c. shift the long-run aggregate supply curve. d. shift the short-run aggregate demand curve. ANSWER: a 267. If the Fed wants to increase aggregate demand, it will _____ or _____. a. buy bonds; raise the interest paid on reserves b. buy bonds; lower the interest paid on reserves c. sell bonds; raise the interest paid on reserves d. sell bonds; lower the interest paid on reserves ANSWER: b 268. If the Fed wants to decrease aggregate demand, it will _____ or _____. a. buy bonds; raise the interest paid on reserves b. buy bonds; lower the interest paid on reserves c. sell bonds; raise the interest paid on reserves d. sell bonds; lower the interest paid on reserves ANSWER: c 269. Reasons why conducting monetary policy is complex do NOT include: a. the Fed’s inability to influence interest rates. b. time lags between policy actions and responses. c. uncertainty about how much investment spending will be affected by interest rate changes. d. the difficulty in predicting exactly how much aggregate demand will respond to open market operations. ANSWER: a 270. To design effective monetary policy, the Fed does NOT need to monitor or estimate: a. how much change in interest rates is needed to achieve the desired change in borrowing. b. the extent to which changes in reserves will lead to changes in lending. c. how changes in interest rates impact the number of depositors. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 d. how quickly changes in the monetary base will lead to changes in the money supply. ANSWER: c 271. The members of the Board of Governors of the Federal Reserve have 14-year nonrenewable terms. Thus: a. they are somewhat insulated from the political process. b. the chairman of the Board of Governors also has a 14-year term. c. every president of a Federal Reserve regional bank will serve at least 14 years on the Board of Governors. d. the New York Federal Reserve Bank president can serve only 14 years on the Federal Open Market Committee. ANSWER: a 272. The members of the Board of Governors of the Federal Reserve are appointed for: a. 4 years. b. 7 years. c. 14 years. d. life. ANSWER: c 273. How many regional banks constitute the Federal Reserve System? a. 4 b. 10 c. 12 d. 16 ANSWER: c 274. What is the purpose of the Fed's structure? a. to give the U.S. president as many tools as possible to regulate the economy b. to make sure all states are given equal access to monetary policy decisions c. to keep the private sector out of the monetary policymaking arena d. to keep the power of the Fed dispersed ANSWER: d 275. Which is TRUE of the structure of the Fed? a. All seven members of the Board of Governors are appointed by the U.S. president. b. The U.S. president serves as a member of the Board of Governors. c. The U.S. secretary of the Treasury chairs the Federal Open Market Committee. d. The U.S. president is a member of the Federal Open Market Committee. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: a 276. Which is correct regarding the governance and structure of the Federal Reserve System? a. The 12 regional Federal Reserve banks each have seven directors. b. The seven regional Federal Reserve banks each have 12 directors. c. The 14 members of the Board of Governors are appointed for seven-year terms. d. The seven members of the Board of Governors are appointed for 14-year terms. ANSWER: d 277. The money multiplier: a. is constant. b. varies over time. c. is the inverse of the deposit ratio. d. is a multiple of total deposits. ANSWER: b 278. Which is incorrect regarding the U.S. Federal Reserve System? a. When the Fed sets an interest rate target, its target is achieved through a desired Federal Funds rate. b. The Fed lends to banks and major financial institutions on a regular basis. c. The Fed has little influence over long-run real rates of interest. d. When the Fed sells bonds, the money supply increases. ANSWER: d 279. In a bank’s T-account, loans are _____ and deposits are _____. a. liabilities; liabilities b. liabilities; assets c. assets; liabilities d. assets; assets ANSWER: c 280. In a bank’s T-account: a. assets are greater than liabilities. b. assets are equal to liabilities. c. assets are less than liabilities. d. assets have no relationship with liabilities. ANSWER: b 281. Large private banks keep their own accounts at the Federal Reserve. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. True b. False ANSWER: a 282. The Federal Reserve acquires its unique power through its ability to issue money. a. True b. False ANSWER: a 283. The U.S. Treasury borrows by issuing currency. a. True b. False ANSWER: b 284. The Federal Reserve has the power to create money. a. True b. False ANSWER: a 285. U.S. currency has the words “Federal Reserve Note” on it. a. True b. False ANSWER: a 286. The Federal Reserve lends money to other banks. a. True b. False ANSWER: a 287. The money supply in the United States is measured as the amount of currency, including coins, in circulation. a. True b. False ANSWER: b 288. The Fed has direct control over the M1 supply of money, but only indirect control over M2. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 ANSWER: b 289. If you use a credit card for a payment, you have made a money transaction. a. True b. False ANSWER: b 290. Credit cards are included only in the M2 definition of the money supply. a. True b. False ANSWER: b 291. Very little U.S. currency is used outside the United States. a. True b. False ANSWER: b 292. The more liquid an asset, the more it can serve as money. a. True b. False ANSWER: a 293. The most liquid asset is cash. a. True b. False ANSWER: a 294. M2 is included in M1. a. True b. False ANSWER: b 295. Money market mutual funds are more liquid than savings deposits. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 296. M2 includes M1 and is thus larger than M1. a. True b. False ANSWER: a 297. When a person withdraws money from a savings account, M2 decreases but M1 increases. a. True b. False ANSWER: b 298. Checkable deposits are deposits on which the owner may write checks. a. True b. False ANSWER: a 299. The monetary base is larger than M2. a. True b. False ANSWER: b 300. If banks did not hold reserves, ATMs would not function. a. True b. False ANSWER: a 301. If the reserve ratio is 20%, the money multiplier is 2. a. True b. False ANSWER: b 302. The money multiplier is greater than 1 because most banks keep more than 100% of any increase in bank deposits as reserves. a. True b. False ANSWER: b 303. If the Fed increases the amount of bank reserves by $100 million, the total money supply will potentially increase by more than $100 million. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 a. True b. False ANSWER: a 304. If the Fed decides to increase the money supply by $200 million, it can accomplish this by buying fewer than $200 million worth of government bonds in the open market. a. True b. False ANSWER: a 305. If the average reserve ratio in the banking system is 25% and the Fed increases bank reserves by $20,000, then the change in the money supply will be equal to $500,000. a. True b. False ANSWER: b 306. If the average reserve ratio in the banking system is 25% and the Fed increases bank reserves by $20,000, then the change in the money supply will be equal to $100,000. a. True b. False ANSWER: b 307. If the average reserve ratio in the banking system is 25% and the Fed increases bank reserves by $20,000, then the change in the money supply will be equal to $80,000. a. True b. False ANSWER: a 308. If the reserve ratio is one-tenth, then a $1,000 injection of reserves will increase the money supply by $100. a. True b. False ANSWER: b 309. A higher bank reserve ratio results in an increase in the money supply. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 310. The United States has a fractional reserve banking system. a. True b. False ANSWER: a 311. The size of the money multiplier is not fixed, but instead depends on how much of their assets banks wish to hold as reserves. a. True b. False ANSWER: a 312. Quantitative easing occurs when the Fed sells longer-term government bonds or other securities. a. True b. False ANSWER: b 313. Quantitative easing occurs when the Fed purchases long-term government bonds. a. True b. False ANSWER: a 314. Open market purchases stimulate the economy through both an increased money supply and lower interest rates. a. True b. False ANSWER: a 315. When the Federal Reserve makes an open market purchase, the Federal Reserve buys reserves from the banking system. a. True b. False ANSWER: b 316. When the Fed wants to change the money supply, it usually buys or sells money market mutual funds. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 317. If the money multiplier is large, then open market operations by the Fed will have a relatively large effect on the entire money supply. a. True b. False ANSWER: a 318. The Fed usually focuses on the Federal Funds rate because it is a convenient signal of monetary policy. a. True b. False ANSWER: a 319. The Fed's quantitative easing is designed to encourage borrowing by banks. a. True b. False ANSWER: b 320. Most of the time, a majority of banks borrow from the Federal Reserve. a. True b. False ANSWER: b 321. The Fed will lower the interest rate paid on reserves if it wants to increase the money supply. a. True b. False ANSWER: a 322. An insolvent bank has greater liabilities than assets. a. True b. False ANSWER: a 323. The Fed is most likely to use quantitative easing when the Federal Funds rate is at or near the zero lower bound. a. True b. False ANSWER: a 324. The interest rate that the Fed charges to commercial banks when they borrow money from the Fed is called Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 the Federal Funds rate. a. True b. False ANSWER: b 325. A liquid bank has short-term liabilities that are greater than its short-term assets but overall has assets that are greater than its liabilities. a. True b. False ANSWER: b 326. Other things held constant, if the Fed increases its payment of interest on bank reserves, the money supply will decrease. a. True b. False ANSWER: a 327. If you owe your banker $1 million and can't pay, you have a problem. If you owe your banker $1 billion and can't pay, your banker has a problem. a. True b. False ANSWER: a 328. A decrease in the money supply reduces aggregate demand and real GDP growth in the short run. a. True b. False ANSWER: a 329. As the growth rate of the money supply increases, aggregate demand will increase along with interest rates in the short run. a. True b. False ANSWER: b 330. An increase in the growth rate of the money supply raises both real growth and inflation in the long run. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 331. The Federal Reserve is one of the least independent agencies in the U.S. government. a. True b. False ANSWER: b 332. The Federal Reserve is controlled by the Bilderberger Group and the Trilateral Commission to avoid influence from the political system. a. True b. False ANSWER: b 333. The federal government has considerable control over policy actions of the Federal Reserve because the U.S. president appoints all Federal Reserve Bank presidents. a. True b. False ANSWER: b 334. The Federal Reserve is one of the most independent agencies in the U.S. government. a. True b. False ANSWER: a 335. During the financial crisis of 2008, the Federal Reserve worked closely with the U.S. Treasury. a. True b. False ANSWER: a 336. Describe the structure of the Federal Reserve System and its relationship to the federal government. ANSWER: The Federal Reserve System is the central bank of the United States. It consists of 12 regional banks and a 12-member policymaking committee consisting of the 7-member Board of Governors and 5 of the regional bank presidents. It is relatively independent of the federal government for two reasons: because its funding derives from interest on the government debt that it holds, and because the members of the board are appointed for 14-year terms. Thus, no president can exert reappointment pressure and the Federal Reserve remains largely insulated from politics. 337. What is the central bank in the United States, what is its primary function, and how does it carry out this function? ANSWER: The U.S. central bank is the Federal Reserve System. Its primary function is to control the money supply in the U.S. economy. It affects the money supply by carrying out open market operations and paying interest on reserves it holds for commercial banks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 338. What three measures of the money supply are discussed in this chapter, and what does each measure include? ANSWER: The three measures of the money supply are the monetary base, M1, and M2. The monetary base is currency plus total bank reserves held at the Fed. M1 is currency plus checkable deposits. M2 is M1 plus savings deposits, money market mutual funds, and small-time deposits. 339. How are credit cards related to the money supply? ANSWER: Credit cards themselves are not money because they are not a means of payment, even though they regularly serve as a method of payment. Using a credit card creates a loan to the user through a financial company. When the merchant presents the credit transaction to the financial institution, deposits are created and transferred to the merchant's account just as if the credit card holder had gone in and filled out a loan application, gotten the money, and spent it like any other loan. Thus the loan from the credit card company adds to the money supply the same as any other loan, but the credit card itself is not money, just a preapproved ability to take out a loan. 340. Table: Money Supply Type of Money Reserves held by banks at the Fed Currency Checkable deposits Savings deposits Small-time deposits Large-time deposits Money market mutual funds
Amount (billions) $100 650 500 325 550 670 270
Using information in the table shown, calculate the amount of the monetary base, M1, and M2. ANSWER: The monetary base = currency + reserves held by banks at the Fed = $650 billion + $100 billion = $750 billion. M1 = currency + checkable deposits = $650 billion + $500 billion = $1,150 billion. M2 = M1 + savings deposits + money market mutual funds + small-time deposits = $1,150 billion + $325 billion + $270 billion + $550 billion = $2,295 billion. 341. We often think of the Fed as controlling the money supply. Explain how the Fed, in reality, controls only a small part of the money supply. ANSWER: The Fed directly controls the monetary base (currency plus bank reserves) only. Other components of the money supply, however, are controlled by commercial banks' willingness to make loans and the public's willingness to deposit funds into banks and borrow from banks. 342. Why do banks hold reserves? ANSWER: Banks hold reserves for liquidity purposes, for example, so they will have funds available for customer withdrawals. More recently banks have also been able to earn interest on reserves held at the Federal Reserve. 343. Assume that all banks shown in the table observe the same reserve ratio. Also assume that the banks are listed in sequential order (thus the loans from the First National Bank become the deposits for the Second National Bank, and the loans from the Second National Bank become the deposits for the Third National Bank, and so on). Also, the banks' balance sheets must always be balanced. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 Table: National Banks First National Bank Assets Required reserves $26,000 Loans Total Second National Bank Assets Required reserves Loans Total Third National Bank Assets Required reserves Loans Total
Liabilities Deposits
$520,000
Total Liabilities Deposits Total Liabilities Deposits Total
Use the information in the table to answer the following questions: a. Fill in the balance sheets for all banks in the table. b. What is the initial money multiplier in this country? c. Now suppose that banks fear an increased demand for withdrawals so each bank maintains 3% extra deposits as excess reserves over and above its previous reserve ratio. What is the effective money multiplier now? d. What difficulty associated with monetary policy is illustrated by this question? ANSWER: a. The filled-in table is shown. First National Bank ASSETS Reserves $26,000 Loans $494,000 TOTAL $520,000 Second National Bank ASSETS Reserves $24,700 Loans $469,300 TOTAL $494,000 Third National Bank ASSETS Reserves $23,465 Loans $445,835 TOTAL $469,300
LIABILITIES Deposits $520,000 TOTAL
$520,000
LIABILITIES Deposits $494,000 TOTAL
$494,000
LIABILITIES Deposits $469,300 TOTAL
$469,300
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Chapter 15 b. The money multiplier is initially 20. c. The effective money multiplier is now 12.5. d. This problem illustrates the fact that the Fed has imperfect control over monetary policy if banks do not maintain the exact amount of reserves as expected. 344. Why does a one-dollar change in bank deposits cause a change in the money supply by more than one dollar? ANSWER: Banks keep only a fraction of bank deposits as reserves, so the reserve ratio is less than one. In this case, if a bank's deposits increase by one dollar, it will keep less than one dollar as reserves and lend out the rest. The money that is loaned out will eventually be deposited back into the banking system, thus raising the total amount of money supply further. As this money creation process repeats many times, the total increase in the money supply in the end will be a multiple of one dollar. This money multiplier equals the inverse of the fraction of bank deposits held as reserves. 345. Do you think banks set a higher reserve ratio on checking accounts or savings accounts? Explain. ANSWER: Banks typically set higher reserve ratios on checking accounts, as people typically withdraw money more frequently from their checking accounts than their savings accounts. As a result, banks need to keep a higher fraction of checkable deposits on hand for liquidity purposes relative to savings deposits. 346. How do banks earn profits? ANSWER: Banks are businesses that earn profits when revenue exceeds costs. They are financial intermediaries that buy and sell the use of funds and pay interest to attract deposits. This interest is the price they pay to use their depositor’s money and is a cost that banks incur to provide their services. Banks earn revenue by lending out deposits in return for borrowers to repay their loan with interest. Although banks do not lend out 100% of deposits, they are able to earn a profit if the interest paid by borrowers is greater than the costs incurred by the bank in paying interest to depositors along with other costs of the bank’s operations. 347. Explain how an open market purchase of bonds by the Federal Reserve will increase the money supply. ANSWER: When the Federal Reserve purchases bonds, the Fed's bond holdings increase along with a corresponding increase in bank reserves. With increased reserves, the banking system can make more loans. Through the process of making loans, additional checkable deposits are created, and the money supply increases. The increase in the money supply will be larger than the amount of the initial purchase of bonds because of the money multiplier process (the creation of multiple loans and deposits in the banking system). 348. Why is quantitative easing used? ANSWER: Quantitative easing is used when the Federal Funds rate is at or near the zero lower bound and interest rates cannot be driven lower to effectively help the economy. So in order to push down interest rates on longer-term bonds and spur the economy, the Fed will purchase long-term government bonds. 349. Explain how the Federal Reserve controls the money supply. ANSWER: The Fed uses two major tools: (1) open market operations, which are buying and selling U.S. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 government bonds on the open market to increase or decrease reserves in the banking system; and (2) paying interest on reserves held by banks at the Fed, which influences banks' willingness to hold reserves. 350. What are the two tools the Fed can use to change the money supply in the economy? Briefly explain how they can affect the money supply. ANSWER: To increase (decrease) the money supply, the Fed can first buy (sell) government bonds in the open market. An open market purchase (sale) increases (decreases) the reserves at banks and the increase (decrease) in reserves raises (lowers) the money supply through a multiplier process due to fractional reserve banking. The second tool is changing the interest rate paid on reserves. The Fed can decrease (increase) banks' reserve holdings by lowering (raising) the interest it pays on reserves held by banks. 351. Explain why the existence of the Federal Deposit Insurance Corporation may reduce bank panics. ANSWER: A bank panic is a situation in which many depositors attempt to withdraw deposits at the same time. Bank panics generally occur when depositors fear that a bank is about to fail. Because of the Federal Deposit Insurance Corporation, deposits are insured up to a specified amount of $250,000. Thus, even when banks fail, depositors do not lose their funds, and when depositors need not fear the loss of funds, withdrawals and bank runs are less likely. 352. Why did the Federal Reserve begin to pay interest on reserves held by banks? ANSWER: The Federal Reserve began to pay interest on reserves held by banks to induce banks to hold more reserves than they otherwise would have in anticipation of greater default rates on home mortgages and other loans. By paying interest on reserves, the Federal Reserve hoped to induce banks to increase their reserve holdings and thereby reduce the chance of bank failures. Changing the interest rate paid on reserves encourages banks to hold more or less in reserves on their own, without forcing banks to do so by mandate. 353. Suppose a banking system has reserves of $20 billion. Then the central bank buys $2 billion worth of bonds, leading to an increase of $8 billion in the money supply. What was the size of the deposit before and after the full effect of the multiplier on the action taken by the central bank? Explain your answer. ANSWER: Deposits are $80 billion initially and then rise to $88 billion after the central bank buys $2 billion worth of bonds. Three equations are used to answer this question: MM = 1/RR Change in money supply = MM × Change in reserves RR × Deposits = Reserves When the central bank buys $2 billion of bonds, bank deposits and reserves increase by the size of the purchase, $2 billion. If a $2 billion increase in reserves leads to an $8 billion increase in the money supply, the money multiplier must be 4 based on the following solution: ? × $2 billion = $8 billion. If the money multiplier is 4, then the reserve ratio is 0.25 based on the following solution: 1/? = 4. With a reserve ratio of 0.25 and initial reserves of $20 billion placed into the third equation above, the solution to deposits is $80 billion. After the central bank buys $2 billion worth of bonds, deposits rise to $88 billion. 354. How would the Fed conduct contractionary monetary policy by changing the interest rate paid on reserves? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 Explain how the Fed’s action will lead to subsequent changes in the money supply. ANSWER: When the Fed wants to employ contractionary monetary policy, it wants to contract (or slow the rate of increase of) both the money supply and economic activity. To accomplish this, the Fed will raise the interest rate it pays on reserves. This increases the demand for reserves and triggers increases on other short-term interest rates. With higher returns on reserves, banks do not feel as much need to lend out reserves. The lower supply of loans will push market interest rates up. This reduces total borrowing. Lower borrowing means that there are fewer loans that end up being deposited, so deposits (and the money supply) will end up being smaller than they would have been without the Fed’s action. 355. What is systemic risk, and how does the Fed deal with it? ANSWER: Systemic risk is the risk that the failure of one financial institution will cause other financial institutions to fail, causing a domino effect of failures in the financial system. The Fed is able to guard against systemic risk by acting as a lender of last resort—by lending to troubled institutions when no one else will. 356. If the Fed wishes to implement a policy to influence aggregate demand, what are some of the important variables that it monitors and predicts in order to fine-tune its actions? ANSWER: If the Fed is injecting more reserves in banks' accounts, it must predict whether most of the reserves will be used for lending or if they will be held back as reserves. Also, the timing of additional loans will be monitored to see how quickly M1 and M2 will increase. A key variable that provides insight on how these reserves are making their way through the system and into the money supply is the Federal Funds rate. The Fed can monitor the movement of the Federal Funds rate and adjust its injection of reserves accordingly. 357. Suppose the Fed has increased the interest rate paid on reserves. With the aid of an AD-AS diagram, explain how this monetary policy action will affect real growth and inflation in the short run and the long run. ANSWER:
In the diagram, the economy is initially at point A with a 6% real growth rate and a 5% inflation rate. An increase in the interest rate paid on reserves will cause banks to retain more reserves and make fewer loans. This will cause a decrease in the money supply and higher interest rates. Higher interest rates decrease investment spending and aggregate demand, causing the AD curve to shift Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 left from AD1 to AD2. In the short run, the economy moves from point A to point B, where both real growth and inflation are lower than they were initially. Expected inflation, however, falls over time so that the SRAS curve shifts from SRAS1 (e = 5%) to SRAS2 (e = 1%). In the long run, the new equilibrium point is point C, where real growth returns to 6% but inflation is further reduced to 1%. In other words, the increase in the discount rate lowers the inflation rate in the long run but has no effect on the real growth rate. 358. If money is neutral in the long run, why would the Fed want to increase the money supply? Explain carefully. ANSWER: Money is neutral in the long run, which means that monetary policy does not affect real growth in the long run. Even if monetary policy cannot affect real growth in the long run, it can still affect real growth in the short run. An increase in the money supply lowers interest rates and boosts investment spending. The resulting increase in aggregate demand leads to an increase in real growth. Such short-run increases in growth allow monetary policy to boost growth in times when the Fed wishes to do so. However, as expected, inflation increases over time, short-run aggregate supply decreases, and real growth returns to its long-run level. In the long run, the only effect is a higher inflation rate. However, the economy experiences an increase in real growth in the short run. 359. Figure: Fed Policy
If an economy is operating below its long-run potential growth rate as shown in the graph, what can the Fed do to bring the economy back toward its long-run growth rate? Explain. ANSWER: To boost AD back toward the long-run growth curve, the Fed could engage in open market purchases to increase money growth. The increase in money growth will lower interest rates, thus stimulating investment and shifting the AD curve to the right. This increases the economy's growth rate in the short run, bringing it closer to the long-run potential growth rate shown by the LRAS curve. 360. Use the AD‒AS model to illustrate how real GDP and the inflation rate will change in the short run and in Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 the long run if the Fed conducts an open market purchase.
ANSWER: Assume the economy is initially operating at its long-run potential growth rate, Y1, given by the LRAS curve. As the Fed increases the growth rate of the money supply through purchases of government bonds, the aggregate demand curve shifts outward from AD1 to AD2, moving the economy from point a to point b in the short run. This increases the real growth rate and inflation rate in the short run. In the long run, inflation expectations rise and the SRAS curve shifts to the left. This moves the economy to point c with higher inflation in the long run, but real growth returns to its long-run rate. Thus money is neutral in the long run. 361. In what ways is the Federal Reserve System independent of the political process in the United States? ANSWER: Although members of the Board of Governors (BOG) are appointed by the U.S. president, they each have 14-year terms, which means they outlast the maximum 8-year term for a reelected president. Thus they are separated from the political cycle of the economy. It is also not easy for BOG members to be fired. Moreover, monetary policy does not require the approval of the president in order to be effected, and the Fed funds its operations from profits it earns in its banking business rather than from congressional funding. 362. Explain how the Fed is structured and controlled. ANSWER: The Fed is a quasi-private, quasi-public institution. There are 12 regional banks. Each is a nonprofit bank with nine directors: six of these directors are elected by commercial banks from the region, and three are elected by the Board of Governors (BOG). Six of the directors must be nonbankers and are drawn from business, labor, academia, and other fields. The directors of the regional bank appoint a regional president. Five of the presidents (on a rotating basis) and the BOG are on the Federal Open Market Committee. The BOG is composed of seven members who are appointed by the U.S. president and confirmed by the Senate. They serve a single 14-year, nonrenewable term. The chairman is one of the members of the BOG who is appointed by the U.S. president and confirmed by Congress for a term of four years (which is renewable). The structure of the Fed is such that it has many checks and balances. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 15 363. The Federal Reserve System is known to be one of the more independent parts of the U.S. federal government. Why is it independent, and why is the Fed’s independence controversial? ANSWER: The Fed is viewed as independent because its directors are appointed by the president and confirmed by the Senate for 14-year terms without the possibility of reappointment. The structure is such that any president is unlikely to appoint a majority of the board. The chair is appointed by the president for a four-year term. The president cannot require the Fed to conduct monetary policy in desired ways, and it is difficult to remove a governor. The Fed’s independence, however, is controversial. Some say that the Fed is too independent and should be more closely tied, and more responsible to, the voice of the people. Others feel that the Fed is not independent enough because, while not required to please government leaders, the board may give in to political pressures to take measures such as expanding the economy right before an election.
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Chapter 16 1. Which is NOT a tool that the Federal Reserve can use to influence AD? a. open market operations b. quantitative easing c. interest rate paid on reserves d. printing money ANSWER: d 2. Which is NOT one of the three main tools used by the Fed to influence aggregate demand? a. changes in the interest rate paid on reserves b. lending to banks and other financial institutions c. open market operations d. distributing currency ANSWER: d 3. Three key practical questions that are important to the central bank’s use of monetary policy do NOT include whether the: a. Fed is able to shift both the aggregate demand and short-run aggregate supply curves. b. Fed will be able to influence aggregate demand. c. Fed’s influence on aggregate demand will lead to higher GDP growth rates. d. Fed should try to influence aggregate demand. ANSWER: a 4. Which is more difficult for the Fed to respond to through monetary policy tools? a. positive real shocks b. negative real shocks c. positive aggregate demand shocks d. negative aggregate demand shocks ANSWER: b 5. When the Fed uses the tools of monetary policy, what economic impact is it seeking to accomplish? a. a shift of the real shock demand curve b. a shift of the long-run aggregate supply curve c. a shift of the short-run aggregate supply curve d. a shift of the aggregate demand curve ANSWER: d 6. In the absence of monetary intervention following a negative shock to aggregate demand: a. inflation, real growth, and nominal wage growth will all decrease. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 b. inflation will decrease, but real growth and nominal wage growth will increase. c. inflation will increase, real growth will decrease, and nominal wage growth will stay the same. d. inflation and real growth will decrease, but nominal wage growth will stay the same. ANSWER: a 7. In the case of a negative shock to aggregate demand, the central bank should: a. decrease the rate of growth of the money supply to control inflation. b. increase the rate of growth of the money supply to restore spending growth. c. decrease the rate of growth of the price level to keep real growth high. d. do nothing. ANSWER: b 8. What is a reason it might be hard for the Fed to restore aggregate demand in the face of a negative demand shock? a. The Fed might run out of money. b. Banks usually don't do what the Fed demands of them. c. The Fed must operate in real time, when a lot of the data about the state of the economy are unknown. d. The economy responds to the Fed's actions with no lag. ANSWER: c 9. When the Fed supplies “too much” monetary stimulus in the face of a negative aggregate demand shock: a. inflation, real growth, and nominal wage growth all decrease. b. inflation increases, but real growth and nominal wage growth decrease. c. inflation and nominal wage growth decrease, but real growth increases. d. inflation, real growth, and nominal wage growth all increase. ANSWER: d 10. If the Fed adheres to a strict “money growth rule” of 3% (i.e., it keeps happens if velocity growth (
at 3% no matter what), what
) drops?
a. Inflation, real growth, and nominal wage growth all decrease. b. Inflation increases, but real growth and nominal wage growth decrease. c. Inflation and nominal wage growth decrease, but real growth increases. d. Inflation, real growth, and nominal wage growth all increase. ANSWER: a 11. Disinflation is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. a decrease in prices, that is, a negative inflation rate. b. a reduction in the rate of inflation. c. an increase in prices. d. an increase in the rate of inflation. ANSWER: b 12. Deflation is: a. a decrease in prices, that is, a negative inflation rate. b. a reduction in the rate of inflation. c. an increase in prices. d. an increase in the rate of inflation. ANSWER: a 13. Disinflation is more painful when the central bank: a. increases the rate of inflation. b. runs out of money. c. is credible. d. is not credible. ANSWER: d 14. In the face of a negative shock to consumer confidence, politicians are on the fence about whether to implement policies based on the advice of economists or to make decisions on the basis of Tarot card readings. What would happen during the period in which they are making up their minds about which strategy to pursue? a. would rise. b.
would fall.
c.
would rise.
d.
would rise.
ANSWER: b 15. If initially
= 5%,
= 3%,
= 2%, and
= 6% and then because of economic uncertainty
falls
to 1%, what should the Fed do? a. quietly raise to 8% to offset the decrease in b. publicly lower
to 3% so that
stays constant at 2%
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Chapter 16 c. publicly demonstrate a commitment to keep d. quietly raise
at 8% by raising
without telling anyone, as only unexpected inflation is expansionary
ANSWER: c 16. To offset the effect of negative growth in money velocity ( ), the central bank should: a. decrease the growth rate of the money supply. b. increase the growth rate of the money supply. c. apply a policy that stabilizes the growth in money velocity. d. apply a policy that reduces the growth in money velocity. ANSWER: b 17. In the AD–AS diagram, a “tight” monetary policy shifts the: a. AD curve to the left. b. AD curve to the right. c. LRAS curve to the left. d. LRAS curve to the right. ANSWER: a 18. Which is a limitation of monetary policy in stabilizing the economy? a. Central banks have too much control over the money supply. b. Most central bank policymakers are controlled by the government. c. Monetary policy is subject to uncertain lags. d. Central banks have no discretion over policy tools. ANSWER: c 19. Monetary policy is used to stabilize the economy by changing factors that shift the: a. AD curve. b. SRAS curve. c. LRAS curve. d. aggregate demand, short-run aggregate supply, and LRAS curves. ANSWER: a 20. If the Fed overreacts to a negative spending shock by increasing money growth too much: a. both real GDP growth and inflation will decrease more than the Fed prefers. b. both real GDP growth and inflation will increase more than the Fed prefers. c. real GDP growth will increase more and inflation will increase less than the Fed prefers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. real GDP growth will increase less and inflation will increase more than the Fed prefers. ANSWER: b 21. Which shock can the Fed deal with most effectively? a. a major oil shock b. a shock to the LRAS curve c. a shock that shifts the SRAS curve d. a shock to AD ANSWER: d 22. The economy's AD curve is: a. upward sloping. b. downward sloping. c. vertical. d. horizontal. ANSWER: b 23. The economy's SRAS curve is: a. upward sloping. b. downward sloping. c. vertical. d. horizontal. ANSWER: a 24. The economy's LRAS curve is: a. upward sloping. b. downward sloping. c. vertical. d. horizontal. ANSWER: c 25. The BEST type of negative shock for the Federal Reserve to respond to is a negative shock to: a. AD. b. SRAS. c. LRAS. d. inflation. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 26. A decrease in money supply growth will cause the: a. AD curve to shift to the left. b. SRAS curve to shift to the left. c. LRAS curve to shift to the left. d. price level to rise. ANSWER: a 27. In the short run, a negative AD shock will cause the growth rate of output to: a. increase. b. decrease. c. remain unchanged. d. become more volatile. ANSWER: b 28. In the short run, a negative AD shock will cause the inflation rate to: a. increase. b. decrease. c. remain unchanged. d. become more volatile. ANSWER: b 29. If the Federal Reserve wishes to avoid short-run increases in the unemployment rate, the correct response to a negative AD shock would be: a. an increase in government spending growth. b. a tax cut. c. an increase in money supply growth. d. a lower goal for inflation. ANSWER: c 30. Many economists worry about the Federal Reserve overstimulating the economy because such overstimulation will lead to rising: a. unemployment. b. inflation. c. output growth. d. Solow growth. ANSWER: b 31. A significant decrease in the rate of inflation is called: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. deflation. b. credible inflation. c. disinflation. d. quantitative easing. ANSWER: c 32. In the short run, a monetary contraction leads to increased unemployment because: a. wages and prices are sticky. b. wages and prices are flexible. c. wages are sticky, while prices are flexible. d. wages are flexible, while prices are sticky. ANSWER: a 33. Increased uncertainty will cause the economy's AD curve to: a. shift inward. b. shift outward. c. become steeper. d. become flatter. ANSWER: a 34. Shortly after September 11, 2011, the Federal Reserve: a. decreased its lending to banks. b. increased its lending to banks. c. decreased its lending to individuals. d. increased its lending to individuals. ANSWER: b 35. If the growth rate of the money supply slows, there will be a(n): a. decrease in aggregate demand. b. decrease in aggregate supply. c. increase in aggregate demand. d. increase in aggregate supply. ANSWER: a 36. If the Federal Reserve offsets a negative shock to aggregate demand with increased money growth: a. inflation will rise, but real GDP growth will remain unchanged compared to if the Fed had not acted. b. inflation will fall, but real GDP growth will remain unchanged compared to if the Fed had not acted. c. both inflation and real GDP growth will rise compared to if the Fed had not acted. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. both inflation and real GDP growth will fall compared to if the Fed had not acted. ANSWER: c 37. Which describes one of the difficulties that make it hard for the Fed to effectively implement monetary policy? a. The Fed has too much data to sort through quickly. b. All monetary policies must be approved by Congress before being implemented. c. The Fed's control of the money supply is incomplete and subject to uncertain lags. d. The effects of monetary policy always offset those of fiscal policy. ANSWER: c 38. Although the Federal Reserve may increase the monetary base, the larger monetary aggregates (M1 and M2) and thus aggregate demand won't increase very much in response if: a. the interest rate is too high. b. the tax rate is too high. c. banks are slow to lend. d. the economy is in recession. ANSWER: c 39. An increase in the money supply typically affects the economy with a lag that varies in time from _____ months. a. 1 to 2 b. 3 to 6 c. 6 to 18 d. 18 to 36 ANSWER: c 40. If businesses react to a pessimistic outlook and decrease spending, the Fed can counteract this by: a. decreasing money supply growth to spur the economy out of the recession. b. increasing money supply growth, lowering real interest rates, and encouraging borrowing. c. increasing government expenditures to spur the economy out of the recession. d. decreasing corporate taxes to encourage firms to increase their spending. ANSWER: b 41. The Fed's job in manipulating monetary policy is made harder by the fact that: a. monetary authorities do not have a good understanding of how monetary policy works. b. monetary policy is usually pulling the economy in the opposite direction from fiscal policy. c. the Fed operates in real time and information on recessions becomes available with a lag. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. monetary policy is hardly ever effective in influencing business fluctuations. ANSWER: c 42. When aggregate demand decreases, the Fed will want to use its policy tools to: a. keep aggregate demand lower until wages catch up. b. quickly bring aggregate demand back to its original position. c. push aggregate demand higher than it was originally to make up for lost growth potential. d. shift aggregate supply to the left to balance with lower demand. ANSWER: b 43. Figure: Monetary Policy
Assume that the economy is initially at point Y in the graph. In the best-case scenario, the Fed will: a. increase money supply to take the economy to point X. b. decrease money supply to take the economy to point W. c. increase money supply to take the economy to point W. d. decrease money supply to take the economy to point X. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: a 44. Figure: Monetary Policy
Assume that the economy is initially at point Y in the graph. If the Fed took the appropriate action with monetary policy but banks were slow to lend, then: a. the Fed action would be magnified and the economy would move to point X. b. the Fed action would be nullified and the economy would remain at point Y. c. the Fed action would be partially effective and the economy would move to point Z. d. the LRAS curve would shift to the left. ANSWER: c 45. Figure: Monetary Policy
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Chapter 16
Assume that the economy is initially at point Y in the graph. If the Fed took the appropriate action with monetary policy but overestimated how serious the recession is, then: a. the LRAS curve would shift to the left. b. the Fed would take the economy to point X. c. the Fed would fail to stimulate the economy and it would remain at point Y. d. the Fed would overshoot and the economy would move to point W. ANSWER: d 46. What is a possible reason for the Fed's inability to prevent a recession? a. The Fed has too much power over M1 and M2 and can flood the money supply. b. Much of the information about the economy is unknown when the Fed is making policy. c. Firms and individuals do not often understand the goals of the Fed. d. The Fed often performs complex and conflicting maneuvers at the same time. ANSWER: b 47. An increase in the money supply can typically affect the economy with a lag of _____ months. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. 2 to 3 b. 4 to 10 c. 6 to 18 d. 10 to 24 ANSWER: c 48. When a negative shock to aggregate demand occurs, the inflation rate will: a. increase. b. remain the same. c. decrease. d. be automatically adjusted by the Fed. ANSWER: c 49. When an economy is adjusting to a recent reduction in the money supply, what is a likely consequence? a. Inflation remains high. b. Growth stays positive. c. Interest rates continue to rise. d. Unemployment is high. ANSWER: d 50. How can the Fed offset a positive shock to aggregate demand? a. increase the growth rate of the money supply b. decrease the growth rate of the money supply c. increase the growth rate of government spending d. decrease the growth rate of government spending ANSWER: b 51. In the AD–AS diagram, an increase in money supply growth causes: a. a shift of the aggregate demand curve to the left. b. a shift of the aggregate demand curve to the right. c. a downward movement along the aggregate demand curve. d. an upward movement along the aggregate demand curve. ANSWER: b 52. Suppose the Fed reacts to an economic shock and quickly restores the economy to its long-run potential growth rate. It is most likely that this shock was: a. an aggregate demand shock. b. a real shock. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 c. a productivity shock. d. a supply shock. ANSWER: a 53. The economy is growing at its long-run potential growth rate of 3% with an inflation rate of 4%. If a positive aggregate demand shock occurs and the Fed responds by decreasing money growth but fails to fully offset the aggregate demand shock, then in the short run: a. the real growth rate will be 3% and the inflation rate will be 4%. b. the real growth rate will be lower than 3% and the inflation rate will be lower than 4%. c. the real growth rate will be higher than 3% and the inflation rate will be lower than 4%. d. the real growth rate will be higher than 3% and the inflation rate will be higher than 4%. ANSWER: d 54. Figure: Monetary Policy and Demand Shocks
In the figure, assume that the initial real growth rate of the economy is 3% when a negative aggregate demand shock shifts the AD curve from AD1 to AD2. As a result of the Fed's policy response, the AD curve shifts to AD5 in the short run. Which of the following is TRUE about the Fed's policy response? a. The Fed responded too little to the shock. b. The Fed responded too much to the shock. c. The Fed provided just the right amount of response to the shock. d. The Fed was too fast in responding to the shock. ANSWER: b 55. Figure: Monetary Policy and Demand Shocks Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16
In the figure, assume that the initial real growth rate of the economy is 3% when a positive aggregate demand shock shifts the AD curve from AD1 to AD4. The correct monetary policy response is to: a. reduce money supply growth so that the AD curve shifts back to AD1. b. reduce money supply growth so that the AD curve remains at AD4. c. increase money supply growth so that the AD curve shifts to AD3. d. increase money supply growth so that the AD curve shifts to AD5. ANSWER: a 56. Figure: Monetary Policy and Demand Shocks
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Chapter 16
In the figure, assume the initial real growth rate of the economy is 3% when a negative aggregate demand shock shifts the AD curve from AD1 to AD2. The correct monetary policy response is to: a. increase money supply growth so that the AD curve shifts back to AD1. b. increase money supply growth so that the AD curve remains at AD2. c. reduce money supply growth so that the AD curve shifts to AD3. d. reduce money supply growth so that the AD curve shifts to AD5. ANSWER: a 57. Figure: Monetary Policy and Demand Shocks
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Chapter 16
In the figure, assume that the initial real growth rate of the economy is 3% when a positive aggregate demand shock shifts the AD curve from AD1 to AD4. As a result of the Fed's policy response, the AD curve shifts to AD3 in the short run. Which of the following is TRUE about the Fed's policy response? a. The Fed responded too little to the shock. b. The Fed responded too much to the shock. c. The Fed provided just the right amount of response to the shock. d. The Fed was too fast in responding to the shock. ANSWER: b 58. Figure: Monetary Policy and Demand Shocks
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Chapter 16
In the figure, assume that the initial real growth rate of the economy is 3% when a negative aggregate demand shock shifts the AD curve from AD1 to AD3. As a result of the Fed's policy response, the AD curve shifts to AD2 in the short run. Which of the following is TRUE about the Fed's policy response? a. The Fed responded too little to the shock. b. The Fed responded too much to the shock. c. The Fed provided just the right amount of response to the shock. d. The Fed was too fast in responding to the shock. ANSWER: a 59. A negative shock to AD will cause the inflation rate to increase in: a. the short run. b. the long run. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: d 60. A negative shock to AD will cause the growth rate of real GDP to increase in: a. the short run. b. the long run. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 61. In the best-case scenario, the Federal Reserve is most successful at counteracting a negative _____ shock. a. AD b. SRAS c. LRAS d. real ANSWER: a 62. An increase in money growth will cause the inflation rate to increase in: a. the short run. b. the long run. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: c 63. In the AD–AS model, an increase in money growth will cause the growth rate of real GDP to increase in: a. the short run. b. the long run. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: a 64. The first signs of trouble in the subprime mortgage market came in August: a. 2006. b. 2007. c. 2008. d. 2009. ANSWER: b 65. The lags associated with monetary policy make its implementation more difficult during: a. recessions. b. expansions. c. both expansions and recessions. d. neither expansions nor recessions. ANSWER: c 66. A potential problem with expansionary monetary policy is that banks can: a. be loaned up prior to open market operations. b. be unwilling to lend. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 c. decide that a recession is best for the economy. d. choose not to hold any reserves. ANSWER: b 67. The problem associated with too much expansionary monetary policy is: a. additional inflation. b. additional unemployment. c. higher interest rates. d. reduced economic growth. ANSWER: a 68. An economy in which the central bank overstimulates aggregate demand will suffer from: a. inflation. b. unemployment. c. increases in money supply. d. deflation. ANSWER: a 69. Why do many people think the Fed overstimulated the money supply in the 1970s? a. because of a presidential dictate to do so b. to induce a recession c. because of the high unemployment associated with the oil crises d. because it was trying to control inflation ANSWER: c 70. The disinflation experiment reduced inflation in the United States, but at the cost of: a. an increase in the long-run growth rate of the economy. b. high unemployment. c. high inflation. d. deflation. ANSWER: b 71. What is the difference between disinflation and deflation? a. Disinflation is a slower increase in prices, whereas deflation is a decrease in prices. b. Deflation is a slower increase in prices, whereas disinflation is a decrease in prices. c. The Fed can engineer disinflation, but not deflation. d. There is no difference between disinflation and deflation. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: a 72. Table: Annual Inflation Year Rate of Inflation 1998 4.5% 1999 7.1 2000 8.3 2001 2.9 2002 1.3 2003 -0.3 2004
-0.8
2005
-1
2006
1.2
This table shows inflation data for an economy. During what period did this economy experience deflation? a. 2003 to 2005 b. 2005 to 2006 c. 1998 to 2000 d. 2000 to 2002 ANSWER: a 73. Table: Annual Inflation Year Rate of Inflation 1998 4.5% 1999 7.1 2000 8.3 2001 2.9 2002 1.3 2003 -0.3 2004
-0.8
2005
-1
2006
1.2
This table shows inflation data for an economy. During what period did this economy experience disinflation? a. 2001 to 2002 b. 2003 to 2006 c. 2005 to 2006 d. 1998 to 2000 ANSWER: a 74. If a country's central bank becomes more credible and announces a monetary contraction in advance, then: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. more firms will invest now before the threat materializes. b. wages will fall more slowly. c. wages will rise in anticipation of the fall in incomes. d. unemployment costs will be lower. ANSWER: d 75. What do many economists think contributed to the greater than 13% inflation rates experienced by the United States in the 1980s? a. The Fed was inflexible in its rule of 3% growth. b. The Fed did not do enough to increase the money supply. c. The Fed overstimulated the economy with too much money in the 1970s. d. The Fed did not react to the oil shocks of the 1970s. ANSWER: c 76. Under Paul Volcker, the Fed reduced the inflation rate in the early 1980s by more than 10 percentage points, causing: a. unemployment to decrease. b. housing prices to soar and interest rates to remain high. c. GDP growth to rise to 6% and consumer confidence to grow. d. a severe recession to take place. ANSWER: d 77. A reduction in the rate of inflation is called: a. deflation. b. disinflation. c. stagflation. d. devaluation. ANSWER: b 78. When the price level actually falls, what is the economy experiencing? a. deflation b. disinflation c. stagflation d. devaluation ANSWER: a 79. If a central bank wishes to reduce inflation, it should announce its intentions and follow through with them, thereby using _____ monetary policy. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. visible b. integral c. credible d. authoritative ANSWER: c 80. Which BEST describes U.S. economic conditions in the 1980s? a. Deflation occurred because the Fed reacted too much to AD shocks. b. High inflation occurred because the Fed reacted too little to AD shocks. c. High real growth occurred because of the deliberate actions of the Fed. d. Disinflation occurred because of the deliberate actions of the Fed. ANSWER: d 81. Disinflation occurs when the Fed: a. raises the growth rate of the money supply. b. reduces the growth rate of the money supply. c. sets the money supply growth rate above the inflation rate. d. does nothing when a shock occurs. ANSWER: b 82. The Fed dealt with high inflation in the 1980s by: a. reducing the money supply and causing aggregate demand to fall. b. increasing the money supply and causing aggregate demand to rise. c. reducing the money supply and causing aggregate demand to rise. d. increasing the money supply and causing aggregate demand to fall. ANSWER: a 83. When people believe that a central bank will stick with its policy, monetary policy is likely to have: a. high credibility. b. low credibility. c. a high bandwagon effect. d. a low bandwagon effect. ANSWER: a 84. When the Fed reacts to a positive aggregate demand shock, which is likely to make the period of disinflation shorter? a. credibility on the part of the Fed b. higher uncertainty about investment returns Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 c. flexible wages and prices d. an increase in the velocity of money ANSWER: a 85. A reduction in the rate of inflation is called: a. reversing course. b. Volcker's regret. c. disinflation. d. deflation. ANSWER: c 86. A decrease in the price level is called: a. reversing course. b. Volcker's regret. c. disinflation. d. deflation. ANSWER: d 87. The disinflation of the 1980s led to: a. high unemployment. b. sticky wages and prices. c. reduced credibility for the Federal Reserve. d. extremely low interest rates. ANSWER: a 88. Disinflation in the 1980s was a result of: a. leftward shifts in the aggregate demand curve due to money supply reductions. b. leftward shifts in the aggregate supply curve due to sticky wages and prices. c. leftward shifts in the LRAS curve due to negative real shocks. d. rightward shifts in the LRAS curve due to positive real shocks. ANSWER: a 89. Disinflation in the 1980s would have been shorter if: a. the Fed had taken more discretionary actions. b. monetary policy had been more credible. c. prices had been stickier. d. the economy had been hit by more real shocks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: b 90. Tight monetary policy results in a long period of disinflation and high unemployment if: a. the monetary policy is credible. b. nominal wages are sticky. c. prices are flexible. d. market confidence is high. ANSWER: b 91. Which is the MOST credible monetary policy action? a. The central bank makes policy actions in secret to avoid speculation. b. The central bank attempts to confuse the public by changing its policy stance frequently. c. The central bank announces its policy in public and sticks with the policy over time. d. The central bank does nothing to the economy regardless of any economic shock. ANSWER: c 92. If the Federal Reserve overstimulates the economy by increasing money growth too much, then inflation will: a. make long-term planning and contracting easier. b. create arbitrary redistributions of wealth. c. make price signals much easier to interpret. d. bring the economy into a recession. ANSWER: b 93. _____ is a significant reduction in the rate of inflation, while _____ is a reduction in the level of prices. a. Stagflation; deflation b. Disinflation; stagflation c. Deflation; disinflation d. Disinflation; deflation ANSWER: d 94. A monetary contraction is most successful when it is credible, namely, when: a. disinflation supersedes inflation. b. the effect of fiscal policy is weakening. c. market participants expect the central bank to carry through with its tough stance. d. market participants are uncertain about the current state of the economy. ANSWER: c 95. When a major negative aggregate demand shock hits the economy, a central bank can “maintain market Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 confidence” by: a. raising the Federal Funds rate. b. buying stocks in the stock market. c. selling Treasury securities in the open market. d. promising to increase the growth rate of money if the economy worsens further. ANSWER: d 96. In response to a negative spending shock, a condition of lower market confidence makes monetary policy easing: a. more effective in raising real GDP growth. b. less effective in raising real GDP growth. c. just as effective in raising real GDP growth as higher market confidence. d. lead to increases in both real GDP growth and inflation. ANSWER: b 97. The Federal Reserve's influence over _____ is more powerful than its influence over _____. a. expectations; aggregate supply b. expectations; the money supply c. the money supply; expectations d. aggregate supply; aggregate demand ANSWER: b 98. _____ and _____ are some of the most important aggregate demand shifters, and affecting _____ is one of the Federal Reserve's most powerful tools. a. Money; resources; the money supply b. Fear; confidence; market confidence c. The interest rate; the exchange rate; currency control d. Exports; imports; the exchange rate ANSWER: b 99. Uncertainty drives people away from: a. liquid assets and toward investment spending. b. liquid assets and away from investment spending. c. investment spending and toward more liquid assets. d. investment spending and toward less liquid assets. ANSWER: c 100. An increase in uncertainty will lead to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. an increase in
but a decrease in
.
b. a decrease in
but an increase in
.
c. an increase in both
and
d. a decrease in both
and
. .
ANSWER: d 101. How did the Fed encourage business confidence after the September 11 terrorist attacks? a. by lowering corporate taxes b. by reducing the money supply c. by lending billions to banks d. by putting a moratorium on bank loans ANSWER: c 102. One of the Fed's greatest powers is its ability to: a. boost market confidence. b. perfectly control the supply of M1 and M2. c. help stabilize commodity prices. d. always keep a nation on its LRAS curve. ANSWER: a 103. If uncertainty causes people to increase their demand for cash and, at the same time, the Fed raises money supply growth, then the Fed's action will: a. shift the AD curve further to the right than if the uncertainty did not exist. b. shift the AD curve less to the right than if the uncertainty did not exist. c. shift the AD curve further to the left than if the uncertainty did not exist. d. cause the economy to move to a new long-run equilibrium. ANSWER: b 104. If the Fed wants to increase real GDP growth by increasing the money supply growth, which condition will make monetary policy more effective in raising real GDP growth? a. uncertainty causing people to increase their demand for cash b. people losing confidence and reducing investment spending c. people believing the Fed will abandon its policy d. prices continuing to remain very sticky ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 105. When uncertainty causes a delay in investment activity, it leads to a: a. scarcity of information. b. delay in action by the Fed. c. coordination failure. d. bandwagon effect. ANSWER: d 106. The bandwagon effect causes investment to be: a. evenly distributed over time. b. unevenly distributed over time. c. more responsive to monetary policy changes during recessions. d. more responsive to monetary policy changes during expansions. ANSWER: b 107. If the public's demand for holding cash increases, the growth rate of money velocity will: a. remain unchanged. b. increase. c. decrease. d. become unpredictable. ANSWER: c 108. Following the terrorist attacks of September 11, 2001, the Federal Reserve increased: a. its lending to banks. b. tax deductions for taxpayers. c. open market sales of bonds. d. interest rates. ANSWER: a 109. Which is NOT needed for the Fed to design and implement effective monetary policy to reduce the severity and length of a recession? a. reliable, accurate data about the state of the economy b. the ability to control the money supply in a timely manner c. the ability to change taxes d. banks that are responsive to the Fed’s actions ANSWER: c 110. What results if the Fed stimulates aggregate demand too much in an attempt to end a recession? a. higher national debt Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 b. shrinking output c. unemployment d. inflation ANSWER: d 111. Which is not a likely outcome of the Fed’s response to a reduction in aggregate demand? a. inflation if the Fed increases the money supply too much b. continued unemployment if the Fed does not increase the money supply enough c. an increase in unemployment if the Fed increases the money supply too much d. a return to full employment if the Fed increases the money supply just enough ANSWER: c 112. Tight monetary policy is typically followed by: a. a reduction in the growth rate. b. an increase in inflation. c. a reduction in unemployment. d. an increase in the real growth rate. ANSWER: a 113. Why is the Fed’s ability to influence expectations a powerful tool toward achieving long-run potential output? a. Uncertainty increases aggregate demand, and certainty decreases aggregate demand. b. Uncertainty decreases aggregate demand, and certainty decreases aggregate demand. c. Fear decreases aggregate demand, and confidence increases aggregate demand. d. Fear increases aggregate demand, and confidence decreases aggregate demand. ANSWER: c 114. The bandwagon effect on investments is caused by: a. disinflation. b. time bunching of investments. c. time lags d. credibility markers. ANSWER: b 115. What is certain about the impact of a given monetary policy action taken by the Fed? a. the length of time until the full effect is evident b. how much it will affect bank loans c. how much it will impact national output and inflation Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. the direction aggregate demand will shift ANSWER: d 116. How long is the time lag between implementation of monetary policy and its impact? a. 20 to 36 months b. 3 to 12 months c. 12 to 20 months d. 6 to 18 months ANSWER: d 117. Which is true about investment spending? a. Lower uncertainty leads to more saving, which drains investment funds. b. Lower uncertainty lengthens the time lags for monetary policy to have its impact on investment. c. Higher uncertainty raises investment returns and investment spending. d. Higher uncertainty leads to lower investment spending. ANSWER: d 118. Monetary policymaking is about: a. changing expectations and manipulating numbers and equations. b. manipulating numbers and equations regardless of expectations. c. changing expectations regardless of numbers and equations. d. neither changing expectations nor manipulating numbers and equations. ANSWER: a 119. Which is NOT an impact of monetary policy? a. changing expectations b. changing aggregate demand c. changing the inflation rate d. changing potential GDP ANSWER: d 120. One reason that investment spending varies a lot over the business cycle is because of: a. time lags. b. the bandwagon effect. c. unchanging expectations during changing conditions. d. the excessive credibility of monetary policy. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 121. Monetary policy works best to counteract: a. negative aggregate demand shocks. b. negative supply shocks. c. positive supply shocks. d. LRAS shocks. ANSWER: a 122. Why is monetary policy not fully effective in combating a negative supply shock? a. The Fed has no tools that stimulate an economy after a negative supply shock. b. When countering a negative supply shock, Fed action will cause deflation. c. When countering a negative supply shock to reduce inflation, Fed action will raise unemployment. d. When countering a negative supply shock to reduce unemployment, Fed action will raise inflation. ANSWER: d 123. Figure: Negative Supply Shock
This economy initially begins at point A and a negative supply shock takes it to point Y. If the Fed reacts by Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 increasing money growth by 3%, this will take the economy to: a. point A. b. point B. c. point X. d. point V. ANSWER: c 124. Figure: Negative Supply Shock
This economy initially begins at point A and a negative supply shock takes it to point Y. If the Fed reacts by increasing money growth by 9%, this will take the economy to: a. point A. b. point B. c. point X. d. point V. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 125. Figure: Negative Supply Shock
This economy initially begins at point A and a negative supply shock takes it to point Y. Taking the economy back to a 3% real GDP growth rate would require: a. a monetary expansion of 21%. b. an inflation rate much greater than 16%. c. an inflation rate of 16%. d. an unemployment rate of –2%. ANSWER: b 126. A significant real shock in an economy can result in: a. a leftward shift of the LRAS curve. b. a leftward shift of the SRAS curve. c. consumer pessimism and a leftward shift of the AD curve. d. a leftward shift of the LRAS, SRAS, and AD curves. ANSWER: d 127. When the Fed increases the money supply to counteract a negative real shock: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. growth usually returns to the level it was before the shock. b. half of the increase is seen in growth and half in inflation. c. inflation increases a lot and growth increases a little. d. growth remains stuck at the level of the negative real shock. ANSWER: c 128. When hit with a negative real shock, the Fed, wishing to respond, must choose between a growth rate that's too: a. low and an unemployment rate that's too high. b. low and an inflation rate that's too high. c. high and wages that are too low. d. high and a savings rate that's too low. ANSWER: b 129. Monetary policy is: a. equally effective in dealing with real shocks and aggregate demand shocks. b. more effective in dealing with real shocks than with aggregate demand shocks. c. less effective in dealing with real shocks than with aggregate demand shocks. d. totally ineffective in dealing with real shocks and aggregate demand shocks. ANSWER: c 130. In the short run, if the Fed responds to a negative real shock by raising the growth rate of the money supply, inflation will be: a. lower than the rate without responding to the negative shock. b. higher than the rate without responding to the negative shock. c. the same as the rate without responding to the negative shock. d. lower or higher than the rate without responding to the negative shock, depending on the size of money supply growth. ANSWER: b 131. Which statement is TRUE regarding the effects of monetary policy when a real shock occurs? a. Monetary policy can always be used to simultaneously achieve a high real growth rate and lower the inflation rate. b. Monetary policy cannot simultaneously achieve a high real growth rate and lower the inflation rate. c. Monetary policy can be used to change only the real growth rate, but not the inflation rate. d. Monetary policy can be used to change only the inflation rate, but not the real growth rate. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 132. If the Fed reacts to a series of negative real shocks by raising money growth every time: a. the inflation rate will increase over time. b. the inflation rate will decrease over time. c. deflation will occur. d. the inflation rate will remain unchanged. ANSWER: a 133. Suppose the central bank targets a low rate of unemployment. If a negative real shock occurs, the real growth rate will be: a. higher if the central bank counters the shock than if it does not react. b. lower if the central bank counters the shock than if it does not react. c. the same whether the central bank counters the shock or not. d. higher or lower if the central bank counters the shock than if it does not react, depending on people's expectations. ANSWER: a 134. Suppose a central bank targets a fixed rate of inflation. If a negative real shock occurs, then the central bank will use monetary policy to shift the: a. AD curve to the right. b. AD curve to the left. c. SRAS curve to the right. d. SRAS curve to the left. ANSWER: b 135. In a worst-case scenario, the Federal Reserve is least successful at counteracting a negative _____ shock. a. AD b. real c. velocity d. spending ANSWER: b 136. If the Federal Reserve responds to a negative real shock with a decrease in money growth, the Federal Reserve's response will cause inflation to: a. remain constant. b. decrease to a lower point than it was before the shock. c. increase by less than it otherwise would have. d. increase by more than it otherwise would have. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 137. Uncertainty always causes: a. investment to increase. b. consumption to increase. c. government spending to increase. d. investment to decrease. ANSWER: d 138. Increased uncertainty causes the AD curve to: a. become flatter. b. shift to the left. c. shift to the right. d. become steeper. ANSWER: b 139. When a negative real shock hits the economy, in the absence of any monetary intervention: a. both inflation and real growth will decrease. b. inflation increases, but real growth decreases. c. inflation decreases, but real growth increases. d. both inflation and real growth will increase. ANSWER: b 140. If the Fed reduces
to fight inflation after a negative real shock, what should occur?
a. higher inflation b. lower real growth c. higher real growth d. no change in real growth ANSWER: b 141. If the Fed increases
to fight slower real growth after a negative real shock, what should occur?
a. no change in real growth b. lower real growth c. lower inflation d. higher inflation ANSWER: d 142. Some economists argue that the Fed should commit to keeping Copyright Macmillan Learning. Powered by Cognero.
fixed at a particular value, say 5%. Page 35
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Chapter 16 How would this rule require the Fed to respond in the event of a negative spending shock? A negative real shock? a. increase ; do nothing b.
increase
; increase
c. increase
; decrease
d. decrease
; increase
.
ANSWER: a 143. If a negative real shock affects the economy's long-run potential growth rate and the Fed responds by lowering the money supply growth rate, then the economy will experience: a. too little real growth and low inflation. b. too little real growth and high inflation. c. high real growth and low inflation. d. high real growth and high inflation. ANSWER: a 144. If the economy is hit by a negative real shock that reduces real GDP growth below its long-run potential rate, what is the appropriate monetary policy to move real GDP growth back to the long-run rate without raising inflation? a. increase the growth rate of the money supply b. decrease the growth rate of the money supply c. keep the growth rate of the money supply constant while lowering interest rates d. No monetary policy can achieve this goal. ANSWER: d 145. If a real economic shock shifts the LRAS curve to the left, which of the following will NOT further reduce real GDP growth and inflation? a. a decrease in money growth b. uncertainty that reduces consumption c. a monetary policy rule that is credible d. loss of market confidence about the power of monetary policy ANSWER: c 146. In response to a real shock, the Fed's monetary policy action will lead to _____ moving in opposite directions. a. unemployment and inflation b. real GDP growth and inflation Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 c. aggregate demand and real GDP d. the economy's long-run growth rate and inflation ANSWER: a 147. A negative real shock causes the economy's: a. AD and SRAS curves to shift to the left. b. AD and LRAS curves to shift to the left. c. SRAS and LRAS curves to shift to the left. d. AD curve to shift to the left. ANSWER: c 148. In the short run, a negative real shock will cause output growth to: a. increase. b. decrease. c. remain unchanged. d. become more difficult to predict. ANSWER: b 149. In the short run, a negative real shock will cause the inflation rate to: a. increase. b. decrease. c. remain unchanged. d. become more difficult to predict. ANSWER: a 150. In the long run, a negative real shock will cause output growth to: a. increase. b. decrease. c. remain unchanged. d. become more difficult to predict. ANSWER: b 151. In the long run, a negative real shock will cause the inflation rate to: a. increase. b. decrease. c. remain unchanged. d. become more difficult to predict. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: a 152. In the short run, if the Federal Reserve responds to a negative real shock with an increase in money supply growth, the inflation rate will increase because of: a. the real shock. b. the increase in money growth. c. both the real shock and the increase in money growth. d. some reason other than the real shock and the increase in money growth. ANSWER: c 153. In the short run, if the Federal Reserve responds to a negative real shock with an increase in money supply growth, output growth will increase because of: a. the real shock. b. the increase in money growth. c. both the real shock and the increase in money growth. d. some reason other than the real shock and the increase in money growth. ANSWER: b 154. An example of a negative real shock is a rapid increase in: a. oil prices. b. money supply growth. c. government debt. d. housing prices. ANSWER: a 155. When the Federal Reserve increases the growth rate of the money supply to combat a negative real shock, the growth rate of real GDP: a. will increase more than the inflation rate. b. will increase less than the inflation rate. c. and the inflation rate will both increase by the same amount. d. and the inflation rate will both decrease by the same amount. ANSWER: b 156. If the Federal Reserve reduces the growth rate of the money supply to combat a negative real shock, the inflation rate will be: a. lower, but the growth rate will be higher. b. lower, but the growth rate will be even lower. c. higher, but the growth rate will be lower. d. higher, but the growth rate will be even higher. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: b 157. When facing a real shock, a central bank will encounter a dilemma that forces it to choose between too: a. low a rate of growth or too high a rate of inflation. b. high a rate of growth or too low a rate of inflation. c. low a rate of growth or too low a rate of inflation. d. high a rate of growth or too high a rate of inflation. ANSWER: a 158. A negative real shock is often amplified, creating short-run aggregate supply and aggregate demand shocks due to: a. sticky wages and flexible prices. b. flexible wages and sticky prices. c. sticky wages and prices. d. flexible wages and prices. ANSWER: c 159. To restore growth and reduce unemployment in response to a negative real shock, the Federal Reserve would: a. decrease the money growth rate, which will lower both the inflation rate and the economic growth rate. b. decrease the money growth rate, which will increase both the inflation rate and the economic growth rate. c. increase the money growth rate, which will lower both the inflation rate and the economic growth rate. d. increase the money growth rate, which will increase both the inflation rate and the economic growth rate. ANSWER: d 160. To reduce inflation in response to a negative real shock, the Federal Reserve would: a. decrease the money growth rate, which would lower both the inflation rate and the economic growth rate. b. decrease the money growth rate, which would increase both the inflation rate and the economic growth rate. c. increase the money growth rate, which would lower both the inflation rate and the economic growth rate. d. increase the money growth rate, which would increase both the inflation rate and the economic growth rate. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 161. Which creates the most difficult combination of economic problems for a monetary policymaker to address? a. a rightward shift of the aggregate demand curve b. a leftward shift of the aggregate demand curve c. a rightward shift of the short-run aggregate supply curve d. a leftward shift of the long-run aggregate supply curve ANSWER: d 162. Suppose an economy experiences a negative real shock. Monetary policymakers respond using expansionary monetary policy with the expectation that it will _____ in the short run. a. decrease inflation and decrease unemployment b. decrease inflation and increase unemployment c. increase inflation and decrease unemployment d. increase inflation and increase unemployment ANSWER: c 163. Suppose an economy experiences a negative real shock. Monetary policymakers respond using contractionary monetary policy with the expectation that it will _____ in the short run. a. decrease inflation and decrease unemployment b. decrease inflation and increase unemployment c. increase inflation and decrease unemployment d. increase inflation and increase unemployment ANSWER: b 164. Which is NOT a reason that negative supply shocks are difficult for monetary policymakers to resolve? a. Often they are accompanied by aggregate demand shocks. b. Reducing unemployment will increase inflation. c. Reducing inflation will increase unemployment. d. Using monetary policy tools under this condition will increase both inflation and unemployment. ANSWER: d 165. What impact can be expected if the Fed responds to a negative real shock by increasing the money supply? a. Inflation will increase but there may be a reduction in unemployment. b. Inflation will increase and unemployment will increase. c. Inflation will decrease but there may be a reduction in unemployment. d. Inflation will decrease and unemployment will increase. ANSWER: a 166. What impact can be expected if the Fed responds to a negative real shock by decreasing the money supply? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. Inflation will increase but there may be a reduction in unemployment. b. Inflation will increase and unemployment will increase. c. Inflation will decrease but there may be a reduction in unemployment. d. Inflation will decrease and unemployment will increase. ANSWER: d 167. Which policy would the Fed’s Board of Governors choose following a negative real shock if they are more concerned about inflation than unemployment? a. increase the money supply to shift the aggregate demand curve to the left b. increase the money supply to shift the aggregate demand curve to the right c. decrease the money supply to shift the aggregate demand curve to the left d. decrease the money supply to shift the aggregate demand curve to the right ANSWER: c 168. Which policy would the Fed’s Board of Governors choose following a negative real shock if they are more concerned about unemployment than inflation? a. increase the money supply to shift the aggregate demand curve to the left b. increase the money supply to shift the aggregate demand curve to the right c. decrease the money supply to shift the aggregate demand curve to the left d. decrease the money supply to shift the aggregate demand curve to the right ANSWER: b 169. What is likely to result if the Fed increases the money supply in response to a negative real shock? a. Unemployment will increase and inflation will increase. b. Unemployment will increase and inflation will decrease. c. Unemployment will decrease and inflation will increase. d. Unemployment will decrease and inflation will decrease. ANSWER: c 170. What is likely to result if the Fed decreases the money supply in response to a negative real shock? a. Unemployment will increase and inflation will increase. b. Unemployment will increase and inflation will decrease. c. Unemployment will decrease and inflation will increase. d. Unemployment will decrease and inflation will decrease. ANSWER: b 171. Which does NOT explain why the 1997–2006 housing boom increased aggregate demand? a. The construction sector created new employment and higher wages. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 b. Homeowners felt wealthier as they saw their homes rising in value every year. c. Homeowners tended to spend more money and even borrow money, hoping that rising wealth from the home values would let them repay the money in the future. d. During the boom, some builders were working 60 or 80 hours a week instead of 40. ANSWER: d 172. In the late 1990s, America's economy: a. grew at its historical pace. b. was booming and unemployment was very low. c. experienced stagflation: high inflation and low real growth. d. suffered from several severe nominal shocks, producing low inflation and low growth. ANSWER: b 173. The recession that began in 2001 was: a. long and deep. b. short, but very deep. c. mild and had little effect on unemployment. d. mild and didn't last long, but employment did not recover, even two years after the recession ended. ANSWER: d 174. In 2003–2004, the Fed kept the Federal Funds rate: a. low because the recession had not ended yet. b. low, even though the recession had ended. c. high because the recession had ended. d. high because the recession had not ended yet. ANSWER: b 175. Low interest rates in 2003–2004: a. made it more difficult to borrow. b. lowered real growth. c. increased demand for homes. d. decreased demand for homes. ANSWER: c 176. Low interest rates are a signal that: a. credit is easy and it is a good idea to borrow money. b. credit is tight and it is a bad idea to borrow money. c. deflation is on the way. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. people are no longer out for profit. ANSWER: a 177. Suppose the government subsidizes the price of bananas, making it so low that you buy an enormous number of bananas and store them on your roof. If your roof caves in, it's a. the government's fault. b. your fault. c. no one's fault. d. the fault of banana vendors. ANSWER: b 178. In 2006, house prices started to _____, making homeowners feel _____. a. rise; poorer b. rise; richer c. fall; richer d. fall; poorer ANSWER: d 179. The Fed responded to the 1997–2006 housing boom by: a. adopting contractionary monetary policy. b. conducting expansionary monetary policy. c. applying a monetary policy rule that targets a zero inflation rate. d. actively regulating the housing and lending industries. ANSWER: b 180. Which is a reasonable cause for the formation of the housing bubble in the 2000s? a. high market confidence b. credible monetary policy c. low Federal Funds rate d. the Fed's use of a monetary policy rule ANSWER: c 181. The most appropriate monetary policy response to an asset price bubble by a central bank is to: a. react to asset price bubbles because they can easily be identified. b. not react to asset price bubbles because the bank’s actions will lead to a recession. c. react to asset price bubbles aggressively because they cannot be popped any other way. d. not react to asset price bubbles because monetary policy can affect only aggregate demand, not demand in a specific market. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: d 182. U.S. housing prices peaked in: a. 1997. b. 2001. c. 2006. d. 2008. ANSWER: c 183. Rising housing prices increased homeowners' purchases of goods and services because rising housing prices caused homeowners': a. interest income to rise. b. wage income to rise. c. unemployment to rise. d. wealth to rise. ANSWER: d 184. The Federal Reserve reduced the Federal Funds rate during the recession of 2000–2001. Directly following the recession, the Federal Funds rate: a. increased. b. continued to decrease but remained positive. c. continued to decrease and became negative. d. remained relatively constant. ANSWER: b 185. The bursting of the bubble in the housing market caused homeowners to: a. increase spending. b. reduce spending. c. leave spending relatively constant. d. become more unpredictable in their spending habits. ANSWER: b 186. Many economists have argued that the Federal Reserve should have taken actions to burst the U.S. housing bubble. However, bursting of the housing bubble by the Federal Reserve would have caused: a. the AD curve to shift to the left. b. the SRAS curve to shift to the left. c. the LRAS curve to shift to the left. d. interest rates to fall even further. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: a 187. The Fed's power to influence aggregate demand is constrained by: a. the president and Congress. b. contracting fiscal policy. c. uncertainty and people’s inability to fully understand the complexity of the economy. d. the significant amount of U.S. dollars held in foreign reserves. ANSWER: c 188. Low interest rates are, in essence, a signal to market participants that credit is: a. tight and it is a good idea to lend money. b. tight and it is a good idea to borrow money. c. easy and it is a good idea to lend money. d. easy and it is a good idea to borrow money. ANSWER: d 189. When a “bubble” arises, asset prices are driven by: a. policymakers. b. changes in aggregate demand and aggregate supply. c. shifts in the money growth rate. d. shifts in market psychology and successive waves of irrational exuberance. ANSWER: d 190. Why did Alan Greenspan receive criticism during the 2008 financial crisis and recession? a. Critics argued that Greenspan should have tried to control the rise in AD by reducing the money supply. b. Critics argued that Greenspan should have put a cap on home values. c. Critics argued that Greenspan left the Fed without any direction as to monetary policy. d. Critics argued that Greenspan should have increased the money supply to lower housing price inflation. ANSWER: a 191. When homeowners saw the value of their homes rise in the 1997–2006 boom, they felt wealthier and: a. saved more. b. spent more. c. worked more. d. spent less. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 192. How did the housing boom of 1997–2006 increase aggregate demand? a. It created more jobs and increased wages in the construction sector. b. Interest rates increased to keep pace with housing demand. c. More consumers saved, so they could afford the higher housing prices. d. Higher interest rates created a boom in the banking sector. ANSWER: a 193. The housing boom of the 2000s caused a: a. negative aggregate demand shock. b. positive aggregate demand shock. c. negative real shock. d. positive real shock. ANSWER: b 194. U.S. real GDP growth turned negative in: a. 2006. b. 2007. c. 2008. d. 2009. ANSWER: c 195. If Alan Greenspan had reduced the money supply to limit the housing bubble, the result would have been: a. a slowdown in the rise of housing values. b. a slowdown in overall economic growth. c. a slowdown in both the rise of housing values and overall economic growth. d. a slowdown in neither the rise of housing values nor overall economic growth. ANSWER: c 196. If, during a boom, the Fed attempts to pop an asset price bubble, such as one in the housing sector, what sector of the economy is it most sure of having the ability to influence? a. residential real estate b. residential and commercial real estate c. the GDP of the broader economy d. consumer spending in general ANSWER: c 197. The Fed could have popped the housing bubble in the 2000s by: a. lending directly to homeowners. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 b. regulating the stock markets more. c. reducing the growth rate of the money supply. d. doing nothing. ANSWER: c 198. Between 1997 and 2006, U.S. housing prices: a. remained relatively constant. b. decreased rapidly. c. increased slowly. d. increased rapidly. ANSWER: d 199. Monetary policy is a _____ means of popping a bubble because monetary policy _____ push down the price of specific commodities. a. good; can b. good; can't c. crude; can d. crude; can't ANSWER: d 200. The collapse of a financial bubble in 2008 is best regarded as a: a. negative shock to aggregate demand. b. positive shock to aggregate demand. c. negative shock to long-run aggregate supply. d. positive shock to long-run aggregate supply. ANSWER: a 201. In addition to conducting monetary policy, the Fed also has the power to: a. control the mortgage market. b. oversee Treasury transactions. c. regulate banks. d. monitor the housing market. ANSWER: c 202. Which would be an example of using rules to conduct monetary policy? a. A 5% increase in money supply automatically leads to a 2% increase in real GDP. b. An increase in money supply growth automatically leads to an increase in inflation. c. The Fed will increase money growth to different levels, depending on the severity of the recession. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. A 1% drop in real GDP growth will automatically elicit a 2% increase in money growth. ANSWER: d 203. What kind of monetary policy rule did Milton Friedman advocate? a. The money supply should increase by 3% every year. b. Prices should increase by 3% every year. c. Velocity growth should be 3% every year. d. Long-run economic growth should be 3%. ANSWER: a 204. What was Milton Friedman's reasoning behind the 3% growth rule for the money supply? a. monetary neutrality b. increasing long-run economic growth rates c. minimization of negative supply shocks d. price stability ANSWER: d 205. What happens to GDP if the Fed is too responsive to changes in aggregate demand? a. Volatility increases. b. Volatility decreases. c. GDP is difficult to influence in the short run and the long run. d. It ends up being lower in all cases. ANSWER: a 206. If the Fed sets a target rate of inflation below 4%, it is an example of the Fed using: a. a monetary policy rule. b. discretion. c. unofficial influence. d. the bully pulpit. ANSWER: a 207. What strict rule did Milton Friedman believe would provide for greater price stability? a. GDP should not go above 5%. b. Unemployment should never be above 10%. c. Inflation should stay below 3% a year. d. Money supply should grow by 3% annually. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 208. What monetary policy philosophy is against tying the hands of the central bank? a. rules b. discretion c. prudence d. inclination ANSWER: b 209. Because the Fed can easily provide too much or too little response to economic shocks, many economists advocate: a. policy discretion. b. policy rules. c. no response to any shock. d. a wait-and-see policy. ANSWER: b 210. When a central bank reacts the same way to a shock every time, it is likely using: a. policy discretion. b. a policy rule. c. a bandwagon policy. d. a wait-and-see policy. ANSWER: b 211. According to Milton Friedman, if the economy's long-run growth rate is 3%, then the Fed should set the annual money growth rate at: a. 3%. b. less than 3%. c. more than 3%. d. 3% plus or minus an amount to compensate for any shocks. ANSWER: a 212. Economists who believe that the Federal Reserve is likely to make lots of mistakes in the implementation of monetary policy believe: a. in monetary policy discretion. b. in monetary policy run by the federal government. c. in monetary policy rules. d. that the Federal Reserve should be abolished. ANSWER: c 213. Which is regarded as a policy rule? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. making policy on a case-by-case basis b. discretionary changes to the money supply growth rate c. adjusting policy actions to deal with the nature of economic shocks d. keeping the money supply growth rate consistent with a given inflation rate ANSWER: d 214. When the Fed responds to a negative spending shock by increasing the money supply, it is using: a. a policy rule. b. a discretionary policy. c. its political power. d. its credibility. ANSWER: b 215. Economist Milton Friedman called for a policy rule that keeps the growth rate of the money supply at 3% because: a. real shocks on average are 3% of real GDP. b. spending shocks on average are 3% of real GDP. c. the economy's long-run potential growth rate is 3%. d. the money supply has grown on average at 3% historically. ANSWER: c 216. Economists who think that the Fed is likely to make a lot of mistakes believe that the Fed is best advised to: a. adjust to every aggregate supply shock. b. adjust to every aggregate demand shock. c. follow a consistent policy. d. follow a discretionary policy. ANSWER: c 217. Nobel Prize winner Milton Friedman advocated what as an adequate monetary policy? a. a discretionary rule in which the money supply should be adjusted to control the level of inflation b. a discretionary rule in which the money supply should be adjusted to counteract aggregate demand shocks c. a strict rule in which the money supply should grow 2% higher than the long-run economic growth rate d. a strict rule in which the money supply should grow at the long-run economic growth rate ANSWER: d 218. Advocates of Fed discretion think that the Fed's adjustments, on average, push the economy in the: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. wrong direction and lower GDP volatility. b. right direction and lower GDP volatility. c. wrong direction and increase GDP volatility. d. right direction and increase GDP volatility. ANSWER: b 219. A problem with a monetary rule that requires the Fed to keep money growth constant is that: a. the Fed has no control over money growth. b. constant money growth implies more volatility in inflation. c. constant money growth implies more volatility in real output growth. d. the Fed must ignore changes in money velocity. ANSWER: d 220. Monetary rules work best when: a. the Fed loses control of the money supply. b. interest rates are high. c. money velocity is stable. d. inflation expectations are high. ANSWER: c 221. A rule that has been suggested to compensate for unexpected changes in velocity is a(n) _____ rule. a. real GDP b. nominal GDP c. constant money growth d. inflation-targeting ANSWER: b 222. A nominal GDP rule says that _____ should always grow at a constant rate. a. M b. Mv c. P d. YR ANSWER: b 223. A nominal GDP rule requires the Fed to: a. keep the money supply constant. b. keep the rate of money growth constant. c. adjust the money supply enough to make up for changes in velocity. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. adjust interest rates in the opposite direction of real GDP growth. ANSWER: c 224. What constraints can cause the Fed to make booms and recessions more severe rather than less severe? a. overconfidence and too much focus on the details of the economy b. overconfidence and a lack of understanding about the economy c. uncertainty and too much focus on the details of the economy d. uncertainty and a lack of understanding about the economy ANSWER: d 225. Uncertainty and the inability to understand the economy cause the Fed’s policies to: a. sometimes make swings in the business cycle bigger than what would have occurred without the Fed’s policies. b. consistently make recessions bigger than necessary while sometimes reducing inflation. c. consistently reduce unemployment while sometimes increasing inflation. d. consistently make swings in the business cycle smaller than what would have occurred without the Fed’s policies. ANSWER: a 226. During the three years after the U.S. recession in 2001, monetary policy _____ and the unemployment rate _____. a. kept interest rates low; gradually fell b. kept interest rates low; remained at least as high as it was during the recession c. raised interest rates; gradually fell d. raised interest rates; remained at least as high as it was during the recession ANSWER: b 227. Which is NOT a factor contributing to the development of the speculative bubble in real estate that preceded the recession that began in December 2007? a. successive waves of irrational exuberance b. excessive caution and risk avoidance c. underestimation of the prospect of loss d. shifts in market psychology ANSWER: b 228. Low interest rates and available credit tend to _____ of homes by investors. a. increase the demolition b. decrease the demolition c. increase the flipping Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. decrease the flipping ANSWER: c 229. A distorted price signal occurs when: a. action by market participants decreases the risk so much that the price is not an effective signal. b. action by market participants increases the risk so much that the price magnifies the risks. c. government policy moves the price in such a manner that discourages investors from taking risks. d. government policy moves the price in such a manner that encourages investors to take risks. ANSWER: d 230. When government policy moves the price in a manner that encourages investors to take risks, the price: a. provides a distorted price signal. b. is a valid indicator of risk and encourages prudent behavior. c. cannot be in equilibrium. d. is a multiple of the fair market value. ANSWER: a 231. Which did NOT precede and contribute to the negative economic growth rate in the United States in the fall of 2008? a. freezing up of financial intermediation b. a reduction in aggregate demand c. faster growth in the money supply d. falling real estate prices ANSWER: c 232. Which is NOT a reason that the Fed was slow to respond to the housing bubble prior to the recession that began in December 2007? a. an underestimation of the havoc that the collapsing of the bubble would cause b. monetary policy that impacts total spending, not spending in particular industries c. the belief that delaying policy action would make its impact more potent d. the failure to recognize that there was a housing bubble in the first place ANSWER: c 233. What is the overall view of economists regarding what policy action the Fed should take in response to bubbles in the prices of assets such as stock or real estate? a. There is general agreement that aggressive expansionary policy should be used. b. There is general agreement that aggressive contractionary policy should be used. c. There is general agreement that expansionary policy followed by contractionary policy should be used. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 d. There is uncertainty and some disagreement about what action should be used. ANSWER: d 234. Advocates for monetary policy based on rules believe that discretionary monetary policy: a. is ineffective and has little impact on the economy. b. is the proper use of monetary policy tools. c. will be prone to mistakes except when there are extreme problems. d. will do more harm than good under all conditions. ANSWER: c 235. A monetary policy rule tends to work best when: a. swings in the economy are extreme. b. velocity is constant. c. the money supply is shrinking. d. the money supply is expanding. ANSWER: b 236. Which is FALSE regarding the Fed’s influence over the growth rate of GDP? a. When the Fed decreases interest rates, aggregate demand tends to increase. b. The Fed’s influence over the growth rate of GDP stems from its influence on the money supply. c. When the Fed decreases the money supply, aggregate demand tends to increase. d. The Fed has some influence over the growth rate of GDP. ANSWER: c 237. When the Fed tries to achieve disinflation, _____ often results. a. higher inflation b. higher employment c. a boom d. a recession ANSWER: d 238. In the best-case scenario, the Federal Reserve can increase the money supply after a negative shock to AD and restore the growth rate. a. True b. False ANSWER: a 239. The central bank should respond to a negative shock to AD with a decrease in money growth. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. True b. False ANSWER: b 240. The Federal Reserve must operate in real time, even though a lot of the data about the state of the economy are unknown. a. True b. False ANSWER: a 241. The central bank should respond to a positive shock to AD with a decrease in money growth. a. True b. False ANSWER: a 242. Disinflation is a decrease in prices. a. True b. False ANSWER: b 243. One of the Federal Reserve's most powerful tools is its influence over expectations, not its influence over the money supply. a. True b. False ANSWER: a 244. Monetary policy can deal with a spending shock more effectively than a real shock. a. True b. False ANSWER: a 245. In practice, the Fed has been able to totally offset all spending shocks by changing the growth rate of the money supply. a. True b. False ANSWER: b 246. Wages tend to be especially sticky in the upward direction. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 a. True b. False ANSWER: b 247. The Federal Reserve's control of the money supply is subject to uncertain lags. a. True b. False ANSWER: a 248. Economists who believe that the Federal Reserve is likely to make a lot of mistakes in the conduct of monetary policy believe that the Federal Reserve should not respond to all AD shocks. a. True b. False ANSWER: a 249. The key to a less painful disinflation is to reduce the flexibility in nominal wages. a. True b. False ANSWER: b 250. One of the Federal Reserve's least powerful tools is its control over expectations. a. True b. False ANSWER: b 251. The Federal Reserve can offset a negative shock to aggregate demand with a decrease in the money growth rate. a. True b. False ANSWER: b 252. One reason the Fed has difficulty adjusting to a decrease in aggregate demand is that it must spend time persuading politicians to agree to its actions. a. True b. False ANSWER: b 253. The Fed must spend time gathering and interpreting economic data, making it difficult to immediately Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 correct a decrease in AD. a. True b. False ANSWER: a 254. A central bank can always keep an economy at its long-run growth rate by exactly offsetting any shock to aggregate demand. a. True b. False ANSWER: b 255. It is easier for a central bank to stabilize both inflation and real growth following an aggregate demand shock than following a real shock. a. True b. False ANSWER: a 256. At the time the Federal Reserve must make a decision, the actual state of the economy may be unknown. a. True b. False ANSWER: a 257. At the onset of the subprime mortgage crisis, most investors had no idea how many banks and other financial firms would fail. a. True b. False ANSWER: a 258. The Federal Reserve has complete control of the money supply. a. True b. False ANSWER: b 259. Monetary policy is more effective in changing real GDP growth if the policy is more credible. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 260. Deflation has occurred if the economy's price index for this year is lower than the same economy's price index for last year. a. True b. False ANSWER: a 261. Disinflation is engineered through monetary expansions. a. True b. False ANSWER: b 262. Disinflation in the early 1980s was a result of tight monetary policy. a. True b. False ANSWER: a 263. Disinflation is a decrease in prices, while deflation is a significant reduction in the rate of inflation. a. True b. False ANSWER: b 264. Part of the Fed's job is convincing people of its credibility. a. True b. False ANSWER: a 265. Milton Friedman was chair of the Fed in 1980 and quickly brought inflation rates down. a. True b. False ANSWER: b 266. A central bank has market credibility when people expect that it will stick with its policy. a. True b. False ANSWER: a 267. Bringing inflation down is more difficult than raising it because wages and prices are sticky downward. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 b. False ANSWER: a 268. The Fed boosts market confidence by stabilizing AD in times of uncertainty. a. True b. False ANSWER: a 269. The Fed can boost market confidence only if its policy is credible. a. True b. False ANSWER: a 270. After September 11, 2001, the Fed resisted the temptation to loan billions of dollars to banks and boost short-run confidence. a. True b. False ANSWER: b 271. Uncertainty drives people away from investment projects. a. True b. False ANSWER: a 272. If the Fed reacts to a negative real shock by raising aggregate demand, it can keep the inflation rate stable. a. True b. False ANSWER: b 273. Monetary policy is much less effective at combating a real shock than a demand shock. a. True b. False ANSWER: a 274. Following a negative real shock, the Fed cannot pursue policies to simultaneously reduce the inflation rate and the unemployment rate. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 ANSWER: a 275. Following a major oil price shock, a central bank can achieve low inflation and low unemployment by applying discretionary monetary policy actions. a. True b. False ANSWER: b 276. Monetary policy is more effective at combating real shocks than AD shocks. a. True b. False ANSWER: b 277. The Fed can fight the inflationary effects of a negative real shock by decreasing money growth. a. True b. False ANSWER: a 278. Decreasing money growth following a negative real shock allows the Fed to address both the higher inflation and the higher unemployment that accompany such shocks. a. True b. False ANSWER: b 279. The appropriate policy in response to a negative real shock will depend on whether the Fed wishes to fight high inflation or low growth, but it can't address both problems with the same policy. a. True b. False ANSWER: a 280. If the Fed reverses course and attempts to reduce inflation, it must be willing to accept lower growth as a consequence. a. True b. False ANSWER: a 281. The housing boom of the 2000s is an example of a negative real shock. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 b. False ANSWER: b 282. Bubbles in asset markets are usually easy to identify. a. True b. False ANSWER: b 283. Monetary policy is easy if the central bank sticks to a few simple rules of thumb. a. True b. False ANSWER: b 284. Easy credit can start or intensify a housing bubble. a. True b. False ANSWER: a 285. When it is difficult to know the size and timing of monetary policy effects, the central bank should use policy discretion to deal with shocks. a. True b. False ANSWER: b 286. Supporters of discretionary monetary policy want to see the course of the economy guided by certain targets. a. True b. False ANSWER: b 287. If, too often, the Federal Reserve responds to shocks with policies that move the economy in the wrong direction or that are of insufficient strength, GDP will increase rather than decrease. a. True b. False ANSWER: b 288. A constant money growth rule requires the Fed to ignore changes in velocity. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 b. False ANSWER: a 289. A nominal GDP rule requires the Fed to keep the growth rate of M constant. a. True b. False ANSWER: b 290. A nominal GDP rule requires the Fed to keep Mv constant. a. True b. False ANSWER: a 291. A nominal GDP rule requires the Fed to adjust money growth enough to offset changes in velocity. a. True b. False ANSWER: a 292. Monetary authorities in a country say that there have been no recent negative supply shocks. The economy in this country is currently experiencing high inflation, and its productive capacity cannot be increased much. Explain how monetary policy could work to address this scenario. Are there any negative consequences of your recommended policy? ANSWER: Since there have been no negative supply shocks and the economy is experiencing high inflation, this means that it is probably above the economy's long-run potential growth rate. Thus, inflation pressures are the central bank's primary concern. To reduce inflation, the central bank should lower money supply growth to raise interest rates and decrease aggregate demand. This would cause a decrease in inflation and, in the best-case scenario, a return to the economy's long-run growth rate. The downside of such a policy is that the economy's growth rate may decrease in the short run. But if the central bank sticks to its policy (i.e., if the policy is credible), inflation expectations will decline and the economy will return to its long-run growth rate with lower inflation. 293. Monetary authorities in a country face the following situation: Consumers are not spending, investment is low, and unemployment is relatively high. Explain how monetary policy could work to improve this situation. ANSWER: Low aggregate demand and the resulting unemployment are the central bank's primary concerns in this situation. The central bank should therefore increase money supply growth to lower interest rates and increase aggregate demand. This would cause a fall in unemployment and, in the best-case scenario, a return to the economy's long-run potential growth rate. 294. What is the appropriate monetary policy response to a positive demand shock that leaves the economy operating above its long-run potential growth rate? ANSWER: The appropriate policy is a decrease in the growth rate of the money supply—that is, contractionary monetary policy. This policy shifts the AD curve back to the left and, in the best-case scenario, Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 restores growth to the long-run rate. 295. Briefly explain why monetary policy cannot beat both inflation and unemployment at the same time. ANSWER: Monetary policy is a demand-side tool that shifts the aggregate demand curve only. When contractionary monetary policy is pursued, aggregate demand falls in the short run, leading to a fall in inflation but a rise in unemployment. When expansionary monetary policy is conducted, aggregate demand expands in the short run, leading to a fall in unemployment but a rise in inflation. Since shifts in demand generally cause inflation and unemployment to move in opposite directions, monetary policy cannot address both problems at once. 296. Suppose the spending habits of consumers suddenly change so that consumption increases. What should the central bank do to restore the economy to the old equilibrium point? Explain your answer with the aid of an AD–AS diagram. ANSWER:
The increase in consumption growth is an example of a positive shock to aggregate demand. In the AD–AS diagram, the economy is initially at point A, with 1% inflation and 4% real growth. A positive demand shock shifts the AD curve from AD1 to AD2 so that the economy moves from point A to point B in the short run. The central bank can act quickly by reducing the growth rate of the money supply. In the best-case scenario, lower money growth shifts the AD curve from AD2 back to AD1, and the economy moves back to point A so that inflation returns to 1% and real growth returns to 4%. 297. Using monetary policy to deal with aggregate demand shocks is much easier in theory than in practice. Describe three major difficulties that a central bank might face. ANSWER: In practice, monetary policy is much more difficult than just shifting the aggregate demand curve on the chalkboard. First, a central bank must operate in real time when much of the data about the state of the economy are unknown. Second, the central bank's control of the money supply is incomplete and subject to uncertain lags. Third, other factors can shift the AD or SRAS curve, making monetary policy less effective. For instance, a loss in consumer and investor confidence can shift the AD curve to the left, while sticky wages and prices can prevent the SRAS curve from adjusting very Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 quickly. Together, these problems make it difficult to get the timing and precision of monetary policy just right. 298. Explain the role of “expectations” and “credibility” in monetary policy when the policy goal is fighting inflation and keeping it low. ANSWER: Expectations are important because an increase in expected inflation can cause a leftward shift of the SRAS curve and a rise in actual inflation. This is especially important for monetary policy when the Fed's desire is to keep inflation low. Credibility means the Fed is committed to keeping inflation low and is willing to use—and stick to—its policy to achieve this goal. A credible policy keeps expected inflation from rising, thus keeping actual inflation lower. Similarly, reducing inflation expectations is crucial when policy is deliberately designed to bring high inflation down—a socalled disinflation policy. Inflation will be lower in the long run only if the Fed can engineer a decrease in inflation expectations to shift the SRAS curve to the right so that growth can be restored at the economy's long-run rate with permanently lower inflation. Policy credibility, which lowers inflation expectations, allows this transition to lower inflation to occur more quickly and with lower costs (in terms of high unemployment) in the short run. 299. What is a “disinflation” policy? What dilemma does it present for the Fed? ANSWER: A disinflation policy is a policy to reduce inflation in the economy. It presents a dilemma for the Fed because it requires contractionary monetary policy (a decrease in money growth), which can push the economy into recession. 300. Why is it important for contractionary monetary policy to be credible? ANSWER: Monetary policy is credible when people believe that the Fed will follow through with its announced intentions. If the Fed announces contractionary monetary policy, then decision makers have confidence that the money supply will be tighter only if the policy is credible. A decrease in the money supply associated with contractionary monetary policy typically triggers a reduction in aggregate demand, and with it, unemployment along with disinflation. Unemployment occurs because wages and prices tend to be sticky in the short run and it takes time for wages and prices to adjust to the new labor market equilibrium and the new product market equilibrium. When monetary policy is credible, people believe the policy will occur and expect its outcome. If they expect unemployment and disinflation after an announced contractionary policy, people may adjust their expected wages and prices more quickly, resulting in a move to a long-run equilibrium. This reduces the amount and the duration of unemployment compared to a policy that is not credible. 301. Briefly explain why the Fed is not very effective when a negative real shock occurs. ANSWER: A negative real shock raises inflation and raises unemployment (more so if wages are sticky). The negative real shock reduces productive capacity in the economy. Thus, even when the Fed increases the money supply and lowers interest rates to stimulate aggregate demand, most of the rise in aggregate demand will lead to higher inflation with only a limited effect on real growth in the economy. 302. During the late 1970s and first part of the 1980s, the Fed seemed to react in a counterintuitive manner to the 1970s oil shocks. Explain the reasoning behind the Fed's policy decisions and the effect that they had on the economy. ANSWER: The negative supply shocks of the 1970s came about as a result of the two oil shocks in 1973 and Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 1979. This resulted in a situation called stagflation where there was both high inflation and high unemployment. The Fed's ability to increase growth in response to these real shocks was limited, and the Fed was particularly concerned about the inflation rate at the time, so it decided to reduce money growth to prevent inflation from rising further. The contractionary effect on aggregate demand resulted in a fall in the inflation rate but a rise in the unemployment rate. These policies seem counterintuitive if the Fed is viewed as being concerned mainly with unemployment. But the Fed cannot fight both unemployment and inflation with the same policy and so must choose which problem to address, with an understanding that addressing one problem will mean worsening the other problem in the short run. 303. Explain carefully why monetary policy deals more successfully with aggregate demand shocks than real shocks. ANSWER: Monetary policy affects the economy by shifting the AD curve. Since an aggregate demand shock affects the AD curve, a central bank can offset the effect of the shock by acting quickly to shift the AD curve back to the original position. With sufficient speed and precision, such a policy can restore both inflation and real growth to their old levels. A real shock causes a shift of the LRAS curve—and the central bank has no power to restore LRAS to its original position. If the central bank reacts to a negative real shock by shifting the AD curve to the right, it may increase growth somewhat but inflation will increase further. (Monetary policy has only a limited effect on growth in response to a real shock because increases in demand cannot restore the economy's productive capacity.) On the other hand, if the central bank shifts the AD curve to the left to fight inflation, then inflation will be lower but a more severe recession will occur. In other words, a negative real shock makes it impossible for the central bank to simultaneously achieve a higher real growth rate and a lower inflation rate. 304. Explain why the Federal Reserve did not reduce the growth rate of the money supply in response to rising oil prices in 2007 and 2008. ANSWER: Rising oil prices are a negative real shock. This negative real shock shifts the LRAS curve inward. This inward shift increases the inflation rate and reduces output. If the Federal Reserve had reduced money growth as a way to fight inflation, AD would have been shifted to the left. The leftward shift in AD would have reduced output and employment even more in the middle of the recession. Furthermore, there was little or no inflationary pressure in the economy in spite of the oil shock, giving the Fed little reason to pursue a policy to fight inflation. The negative demand shock associated with the bursting of the housing bubble and the subsequent financial crisis effectively eliminated the inflationary pressure that might otherwise have resulted from the oil shocks. This was good news for the Fed, which could concentrate on stimulating demand to increase growth. 305. Many economists now believe that rising U.S. housing prices in the early 2000s were a bubble. Explain why the Federal Reserve did not pop the bubble. ANSWER: There are two main reasons that the Federal Reserve did not attempt to pop the bubble. First, at the time it was unclear whether the increase in housing prices was a bubble or simply part of a longterm trend of increasing housing prices. Second, it is difficult, if not impossible, to reduce the price of one type of asset (housing) without reducing the prices of all assets and GDP more generally, since monetary policy affects aggregate demand and not any specific market in an economy. That is, the Federal Reserve likely could not have reduced housing prices without causing deflation and/or a recession in the economy as a whole. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 16 306. Why is a negative real shock more difficult to mitigate through monetary policy than an aggregate demand shock? ANSWER: An aggregate demand shock creates a problem with either inflation or unemployment. In the short run, inflation can be addressed by contractionary monetary policy and unemployment can be addressed by expansionary monetary policy. A negative real shock to the economy creates concurrent problems with both inflation and unemployment. Because these problems are addressed with opposing uses of monetary policy tools, policymakers must decide which problem will be addressed and risk increasing the other problem to an even higher level. 307. Explain what factors led to the 2006 decrease in housing prices that caused a reduction in aggregate demand. ANSWER: Several factors attributable to the fall in housing prices in 2006 contributed to the subsequent reduction in aggregate demand. Two of the main factors were a reduction in wealth and a reduction in the availability of credit. Lower housing prices caused a reduction in the wealth of homeowners. With less wealth, homeowners reduced their consumption spending. The reduction in consumption spending caused a shift to the left of AD. Falling housing prices also caused mortgage defaults to increase, which caused the banking system to reduce lending. With fewer loans available, household consumption and business investment fell. These reductions in consumption and investment further reduced AD.
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Chapter 17 1. In 1940, Ida May Fuller received the first Social Security check after contributing only $24.75 in Social Security taxes before she retired and lived to be 100 years old. Her case is an example of how: a. Social Security payments were not issued to people who were close to retirement. b. people can choose not to contribute to Social Security. c. people begin to get Social Security payments before they retire. d. the first Social Security recipients benefited much more from the program than will workers entering the program today. ANSWER: d 2. The Social Security payment system began issuing Social Security checks: a. at the end of World War II. b. in 1940. c. during the Great Depression. d. in 1913. ANSWER: b 3. Since the mid-1950s, federal government spending has been about _____ of GDP. a. 5% b. 10% c. 20% d. 40% ANSWER: c 4. Since the mid-1950s, federal government taxation has been about _____ of GDP. a. 5% b. 10% c. 18% d. 38% ANSWER: c 5. The first payment of Social Security benefits began in: a. 1929. b. 1935. c. 1940. d. 1955. ANSWER: c 6. Since 1950, the U.S. federal government spending has been about _____ of GDP. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. 10% b. 15% c. 20% d. 30% ANSWER: c 7. Since 1950, the amount that the U.S. federal government collects in revenue is about _____ of GDP. a. 12% b. 18% c. 20% d. 22% ANSWER: b 8. The benefits each person receives from the federal government _____ the amount of taxes that person pays. a. are equal to b. are greater than c. are less than d. may be greater than, less than, or equal to ANSWER: d 9. What sources of tax revenues make up more than 90% of all federal government revenue? a. individual income tax, corporate income tax, and excise taxes b. corporate income tax, Social Security and Medicare taxes, and estate taxes c. individual income tax, corporate income tax, and Social Security and Medicare taxes d. corporate income tax, Social Security and Medicare taxes, and excise taxes ANSWER: c 10. What is the largest source of tax revenue for the U.S. federal government? a. individual income tax b. corporate income tax c. Social Security and Medicare taxes d. estate taxes ANSWER: a 11. In 2017, the U.S. federal government received about _____ in tax revenue. a. $3.6 billion b. $578 billion c. $3.6 trillion Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 d. $578 trillion ANSWER: c 12. The largest source of revenue for the U.S. federal government is: a. the corporate income tax. b. the individual income tax. c. excise taxes, such as taxes on gasoline and alcohol. d. Social Security and Medicare taxes. ANSWER: b 13. The second-largest source of revenue for the U.S. federal government is: a. the corporate income tax. b. the individual income tax. c. excise taxes, such as taxes on gasoline and alcohol. d. Social Security and Medicare taxes. ANSWER: d 14. What accounts for the largest source of tax receipts for the U.S. federal government? a. excise tax b. corporate income tax c. Social Security tax d. individual income tax ANSWER: d 15. What are the three main sources of funds for the U.S. federal government? a. individual income taxes, corporate income taxes, and Social Security and Medicare taxes b. interest on government bonds, corporate income taxes, and Social Security and Medicare taxes c. interest on government bonds, individual income taxes, and Social Security and Medicare taxes d. interest on government bonds, individual income taxes, and corporate income taxes ANSWER: a 16. What is NOT one of the main sources of tax revenue for the federal government? a. individual income tax b. Social Security and Medicare taxes c. sales tax d. corporate income tax ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 17. As of 2017, the level of per capita federal taxes collected in the United States was about: a. $900. b. $2,000. c. $7,000. d. $11,000. ANSWER: d 18. What are the three largest sources of tax revenue for the U.S. federal government? a. corporate income tax, excise taxes, and Social Security and Medicare taxes b. individual income tax, corporate income tax, and sales tax c. Social Security and Medicare taxes, corporate income tax, and customs duties d. individual income tax, Social Security and Medicare taxes, and corporate income tax ANSWER: d 19. As income rises, the U.S. marginal tax rate: a. decreases smoothly. b. decreases in steps. c. increases smoothly. d. increases in steps. ANSWER: d 20. As income rises, the average tax rate in the United States: a. decreases smoothly. b. decreases in steps. c. increases smoothly. d. increases in steps. ANSWER: c 21. Since 1960, marginal tax rates in the United States have decreased for individuals: a. at all income levels. b. with high incomes only. c. with low incomes only. d. at no income level. ANSWER: a 22. Income that is not subject to taxation is called: a. marginal income. b. average income. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. exempt income. d. excluded income. ANSWER: c 23. Figure: U.S. Marginal and Average Tax Rates
According to the tax rates shown in the figure, an individual who earns $63,700 a year, has no deductions, and claims no exemptions will pay income tax of: a. $8,772.50. b. $9,555.00. c. $15,925.00. d. $1,565.00. ANSWER: a 24. Figure: U.S. Marginal and Average Tax Rates
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Chapter 17
According to the tax rates shown in the figure, an individual who earns $85,000 a year will pay income tax of: a. $5,325.00 b. $7,202.50. c. $14,097.50. d. $21,250.00 ANSWER: c 25. Figure: U.S. Marginal and Average Tax Rates
According to the tax rates shown in the figure, an individual who earns $150,000 a year has an approximate average tax rate of: a. 28%. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 b. 25%. c. 20%. d. 15%. ANSWER: c 26. Figure: U.S. Marginal and Average Tax Rates
Using the tax rates shown in the figure, assume that your annual income is $15,000, that you have a deduction of $1,800 for moving expenses, and that you claim four exemptions of $3,300 each: one for yourself and one for each of your three children. How much are you expected to pay in taxes? a. $0 b. $120 c. $132 d. $138 ANSWER: a 27. What represents a change that has been made since the individual income tax was first levied in 1913? a. In 1969, the overall tax system was changed from a regressive to a progressive set of tax rates. b. In 1969, the alternative minimum tax was introduced to prevent the rich from paying no taxes. c. The alternative minimum tax has been adjusted for inflation. d. Social Security payments are no longer indexed to wages. ANSWER: b 28. The tax rate paid on an additional dollar of income is the: a. higher tax rate. b. secondary tax rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. marginal tax rate. d. reserve tax rate. ANSWER: c 29. The two lowest marginal tax brackets in the United States are: a. 5% and 10%. b. 7% and 15%. c. 10% and 15%. d. 15% and 25%. ANSWER: c 30. Which tax rate determines whether it is worth it to work an extra day? a. marginal b. average c. payroll (FICA) d. capital gains ANSWER: a 31. Which statement about individual income taxes in the United States is TRUE? a. All individuals pay the same average tax rate. b. There is a huge difference in the tax rate paid within each bracket. c. Taxes rates include and vary between 10% and 91%. d. Marginal tax rates are flatter and lower today than in the past. ANSWER: d 32. In 2020, taxpayers in the United States received a standard tax deduction for a couple of: a. $3,650. b. $8,420. c. $16,400. d. $24,800. ANSWER: d 33. The tax rate on an additional dollar of income is the _____ tax rate. a. average b. total c. marginal d. alternative minimum ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 34. The U.S. income tax system is: a. proportional. b. progressive. c. regressive. d. marginal. ANSWER: b 35. Suppose the tax rate on the first $20,000 of income is 0%; 10% on the next $20,000 earned; and 20% on any additional income earned. The marginal tax rate for a person earning $30,000 is: a. 10%. b. 15%. c. 20%. d. more than 20%. ANSWER: a 36. Suppose the tax rate on the first $20,000 of income is 0%; 10% on the next $20,000 earned; and 20% on any additional income earned. The average tax rate for a person earning $35,000 is: a. 0%. b. 3.5%. c. 4.3%. d. 10.0%. ANSWER: c 37. Suppose the tax rate on the first $20,000 of income is 0%; 10% on the next $20,000 earned; and 20% on any additional income earned. A person earning $35,000 pays an income tax of: a. $1,000. b. $1,500. c. $2,000. d. $3,500. ANSWER: b 38. In a progressive tax system, if a person moves from one income bracket to a higher income bracket: a. both the marginal tax rate and average tax rate will be higher. b. both the marginal tax rate and average tax rate will be lower. c. the marginal tax rate will be lower and the average tax rate will be higher. d. the marginal tax rate will be higher and the average tax rate will be lower. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 39. Suppose a high-income individual, subject to a 15% capital gains tax rate, sells 100 shares of company X for a price of $9 per share (purchased at $10 each) and 500 shares of company Y for a price of $51 per share (purchased at $50 each). How much in capital gains tax will he pay? a. $60 b. $75 c. $210 d. $3,690 ANSWER: a 40. Suppose a high-income individual, subject to a 15% capital gains tax rate, sells 100 shares of company X and makes a loss of $500. She also sells 100 shares of company Y and makes a profit of $1,200. How much in capital gains tax will she pay? a. $75 b. $105 c. $180 d. $255 ANSWER: b 41. The marginal tax rate is the: a. average tax rate paid on all earned income. b. tax rate paid on capital gains. c. minimum tax rate paid on income in the United States. d. tax rate paid on each additional dollar earned. ANSWER: d 42. The marginal tax rate is: a. the tax rate paid on an additional dollar of income. b. higher on people with lower incomes. c. the total tax payment divided by total income. d. a separate income tax code begun in 1969 to prevent the rich from paying income taxes. ANSWER: a 43. The average tax rate is: a. the tax rate paid on an additional dollar of income. b. higher on people with lower incomes. c. the total tax payment divided by total income. d. a separate income tax code begun in 1969 to prevent the rich from paying income taxes. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 44. Is the marginal income tax rate or the average income tax rate higher for a typical person in the United States? a. The marginal income tax rate is higher. b. The average income tax rate is higher. c. They are equal. d. It depends on the person. ANSWER: a 45. A country has two income tax brackets: people pay 10% on their first $50,000 and 20% on everything they earn over $50,000. If someone earns $75,000, how much tax does that person pay? a. $5,000 b. $7,500 c. $10,000 d. $15,000 ANSWER: c 46. A country has two income tax brackets: people pay 10% on their first $50,000 and 20% on everything they earn over $50,000. If someone earns $75,000, what is that person's marginal tax rate? a. 10.0% b. 13.3% c. 15.0% d. 20.0% ANSWER: d 47. A country has two income tax brackets: people pay 10% on their first $50,000 and 20% on everything they earn over $50,000. If someone earns $75,000, what is that person's average tax rate? a. 10.0% b. 13.3% c. 15.0% d. 20.0% ANSWER: b 48. A country has two income tax brackets: people pay 10% on their first $50,000 and 20% on everything they earn over $50,000. It also has a personal exemption of $5,000. Who benefits more from the personal exemption, a person making $35,000 or a person making $75,000? a. the person making $35,000 b. the person making $75,000 c. They benefit equally. d. It is impossible to tell. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: b 49. If tax rates are 10% on income up to $10,000, 20% for income between $10,001 and $20,000, and 30% for income over $20,000, the marginal tax rate for a person earning $25,000 is: a. 10%. b. 20%. c. 25%. d. 30%. ANSWER: d 50. If tax rates are 10% on income up to $10,000, 20% for income between $10,001 and $20,000, and 30% for income over $20,000, the average tax rate for a person earning $25,000 is: a. 10%. b. 18%. c. 25%. d. 30%. ANSWER: b 51. If tax rates are 10% on income up to $10,000, 20% for income between $10,001 and $20,000; and 30% for income over $20,000, the total tax payment for a person earning $25,000 is approximately: a. $2,000. b. $2,500. c. $3,000. d. $4,500. ANSWER: d 52. The tax rate paid on an additional dollar of income is called the _____ tax rate. a. last b. marginal c. total d. average ANSWER: b 53. Total tax payments divided by total income is called the _____ tax rate. a. last b. marginal c. total d. average Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: d 54. At income levels above the limit for the lowest tax bracket, the average tax rate is: a. greater than the marginal tax rate. b. less than the marginal tax rate. c. equal to the marginal tax rate. d. below the marginal tax rate at first but above the marginal tax rate as income rises. ANSWER: b 55. The most important tax rate for determining an individual's incentive to work is the _____ tax rate. a. last b. marginal c. total d. average ANSWER: b 56. Currently, marginal tax rates are: a. greater than in the past. b. lower than in the past. c. equal to average marginal tax rates of the past. d. more unpredictable than in the past. ANSWER: b 57. What reduces taxable income? a. deductions b. exemptions c. both deductions and exemptions d. neither deductions nor exemptions ANSWER: c 58. The tax deduction for interest paid on home mortgages tends to: a. increase housing prices. b. decrease housing prices. c. have no impact on housing prices. d. make housing prices unpredictable. ANSWER: a 59. The marginal tax rate is the tax rate paid on an: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. average amount of income. b. additional dollar of income. c. average amount of spending. d. additional dollar of spending. ANSWER: b 60. The income standard tax deduction for a couple in 2020 was: a. $500. b. $2,850. c. $8,420. d. $24,800. ANSWER: d 61. If your income is $65,000, with income up to $17,000 subject to a 10% tax rate and income above $17,000 subject to a 15% tax rate, then your average tax rate is: a. 11.2%. b. 12.5%. c. 13.7%. d. 14.2%. ANSWER: c 62. If your marginal tax rate is 25% and you can exempt $3,650 of your income for each member of your family (yourself, your spouse, and your one child), then the exemption means you will save _____ in taxes. a. $912.50 b. $1,825.00 c. $2,737.50 d. $3,650.00 ANSWER: c 63. The legislation Congress passed in 1969 to make sure that the rich pay at least some income taxes was called the: a. flat tax code. b. regressive tax code. c. Social Security Tax. d. alternative minimum tax. ANSWER: d 64. The alternative minimum tax has become an added tax burden on many upper-middle-class families because: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. Congress intended it to be that way. b. it is not indexed to inflation. c. it is indexed to inflation. d. it is a regressive tax. ANSWER: b 65. Because the alternative minimum tax (AMT) is not indexed to inflation: a. more American families have become subject to the AMT over time. b. fewer American families have become subject to the AMT over time. c. every American family is subject to the AMT today. d. no American family is subject to the AMT today. ANSWER: a 66. If you purchased 10 shares of Goldman Sachs stock for $1,200 five years ago and continue to hold the stock today but its value has risen to $1,500, how much will you owe in capital gains tax on your 10 shares? Assume the tax rate on capital gains is set at 15%. a. $0 b. $45 c. $180 d. $225 ANSWER: a 67. If you purchased 10 shares of Goldman Sachs stock for $1,200 five years ago and decide to sell the stock today at a price of $1,500, how much will you owe in capital gains tax on your 10 shares? Assume the tax rate on capital gains is set at 15%. a. $0 b. $45 c. $180 d. $225 ANSWER: b 68. An increase in the capital gains tax will most likely: a. decrease investment. b. raise the marginal tax rate. c. raise the average tax rate. d. increase investment. ANSWER: a 69. Capital gains taxes are paid: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. anytime an asset rises in value. b. on bonds only. c. only when an asset is actually sold. d. mainly in times of deflation. ANSWER: c 70. If you receive a capital gain of $2,000 from selling a stock but also incur a capital loss of $1,500 from selling another stock, the total amount of tax you pay based on a 15% capital gains tax rate is: a. $0. b. $75. c. $225. d. $300. ANSWER: b 71. What is the income tax NOT a tax on? a. labor income b. interest income c. dividends and capital gains d. welfare benefits ANSWER: d 72. Originally the alternative minimum tax was supposed to: a. alleviate the tax burden for low-income households. b. ensure a minimum tax payment among super-rich households. c. decrease taxes among the middle class to the minimum level. d. help low-income households with more than two children. ANSWER: b 73. The alternative minimum tax: a. is the tax rate paid on an additional dollar of income. b. has higher tax rates on people with higher incomes. c. is the total tax payment divided by total income. d. is a separate income tax code that began in 1969 to prevent the rich from not paying income taxes. ANSWER: d 74. The objective of the alternative minimum tax is to: a. balance the federal budget. b. ensure that even the poor pay some income taxes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. prevent the rich from not paying any income taxes. d. raise the Social Security trust fund for retirees. ANSWER: c 75. The alternative minimum tax has effectively made the federal income tax: a. a more regressive tax system. b. a more progressive system. c. a flat tax system. d. the same in dollar terms for every taxpayer. ANSWER: b 76. The original purpose of the alternative minimum tax was to prevent the: a. poor from paying income tax. b. poor from not paying income tax. c. rich from paying income tax. d. rich from not paying income tax. ANSWER: d 77. The FICA tax burden is: a. paid entirely by the employer. b. shared equally by employer and employee. c. borne more by the employee even though the employer contributes an equal dollar amount. d. the same amount as the alternative minimum tax burden. ANSWER: c 78. The purpose of FICA taxes is to fund: a. health services for elderly people. b. defense expenditures. c. presidential campaigns. d. Social Security payments. ANSWER: d 79. The Social Security program in the United States is financed by: a. individual income tax revenue. b. corporate income tax revenue. c. FICA tax revenue. d. excise tax revenue. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: c 80. Who appears to pay the FICA tax? a. mostly employees b. mostly employers c. employees and employers in equal amounts d. Congress ANSWER: c 81. Who actually bears the burden of the FICA tax? a. mostly employees b. mostly employers c. employees and employers in equal amounts d. Congress ANSWER: a 82. The Federal Insurance Contributions Act tax is used to fund: a. the Federal Deposit Insurance Corporation. b. federal defense spending. c. Social Security payments. d. unemployment insurance. ANSWER: c 83. Which statement is CORRECT? a. The burden of the FICA tax is equally split between workers and employers. b. Most of the burden of the FICA tax falls on workers. c. Most of the burden of the FICA tax falls on employers. d. Employees face no burden from the FICA tax. ANSWER: b 84. Which statement about Medicare taxes is TRUE? a. People who are self-employed do not share the burden of this tax with employers. b. People who own their own businesses do not have to pay this tax on themselves. c. Medicare taxes are larger in percentage terms than Social Security taxes. d. Medicare taxes are used to provide free medical care for children. ANSWER: a 85. How much FICA tax does your employer pay on the taxable portion of your income? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. 1.45% b. 6.20% c. 12.40% d. 15.30% ANSWER: b 86. The Federal Insurance Contributions Act taxes are paid to fund: a. Medicaid. b. Medicare. c. Social Security. d. the operation of the Federal Emergency Management Agency. ANSWER: c 87. Workers bear at least a majority, if not all, of the burden of the employers' share of FICA and Medicare tax payments because the: a. workers would have earned lower wages without the tax payments. b. workers would have earned higher wages without the tax payments. c. workers would have earned the same wages as those without the tax payments. d. employers will force the workers to pay the taxes at the end of the year. ANSWER: b 88. What is the U.S. corporate tax rate? a. 6.2% b. 15.0% c. 21.0% d. 37.0% ANSWER: c 89. The U.S. corporate tax rate is _____ and U.S. corporations on average pay _____ on their corporate income. a. 35%; more than 35% b. 21%; less than 21% c. 60%; more than 60% d. 60%; 0% ANSWER: b 90. Who bears the burden of corporate income tax? a. shareholders b. consumers Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. employees d. shareholders, consumers, and employees ANSWER: d 91. In the United States, the corporate income tax rate is generally: a. 25%. b. 30%. c. 21%. d. 45%. ANSWER: c 92. The U.S. corporate income tax rate is: a. one of the lowest in the world. b. near average but on the low side for rich countries. c. near average but on the high side for rich countries. d. one of the highest in the world. ANSWER: b 93. The burden of the corporate income tax ultimately falls on the corporation's: a. stockholders. b. workers. c. customers. d. stockholders, workers, and customers. ANSWER: d 94. Under a regressive tax, people with higher incomes: a. have higher average tax rates. b. have lower average tax rates. c. have the same average tax rates as those with lower incomes. d. pay fewer tax dollars. ANSWER: b 95. Under a flat tax: a. the marginal tax rate is zero, but the average tax rate is one. b. people with higher incomes pay fewer tax dollars. c. the average tax rate is the same for people with different income levels. d. the amount of tax payment is the same for people with different income levels. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: c 96. Under a progressive tax system, tax payments will _____ if a person's income doubles. a. double b. more than double c. less than double d. remain unchanged ANSWER: b 97. Who pays the most federal taxes? a. top 20% of income earners b. middle 20% of income earners c. second 20% of income earners d. bottom 20% of income earners ANSWER: a 98. In what tax systems do people with higher incomes end up paying more tax dollars? a. progressive b. regressive c. proportional d. progressive, regressive, and proportional ANSWER: d 99. The U.S. individual income tax system can best be described as a _____ tax system. a. regressive b. flat c. zero d. progressive ANSWER: d 100. Table: A Cross-Country Comparison Country A Country B Household Tax Paid Household Income Income $5,000 $1,000 $5,000 15,000 1,000 15,000 25,000 1,000 25,000 35,000 1,000 35,000
Tax Paid $500 2,250 5,000 8,750
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Country C Household Income $5,000 15,000 25,000 35,000
Tax Paid $500 1,500 2,500 3,500
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Chapter 17 This table shows data on taxes paid by three individuals living in each of three countries: A, B, and C. The tax paid in dollars is based on the marginal tax rates assessed in each of the three countries. Assume that each individual earns an income of exactly $37,000 and there are no deductions or exemptions that need to be applied. According to the data in the table, which countries have a progressive tax system? a. A and B b. B and C c. B d. None of the countries has a progressive tax system. ANSWER: c 101. Table: A Cross-Country Comparison Country A Country B Household Tax Paid Household Income Income $5,000 $1,000 $5,000 15,000 1,000 15,000 25,000 1,000 25,000 35,000 1,000 35,000
Tax Paid $500 2,250 5,000 8,750
Country C Household Income $5,000 15,000 25,000 35,000
Tax Paid $500 1,500 2,500 3,500
This table shows data on taxes paid by three individuals living in each of three countries: A, B, and C. The tax paid in dollars is based on the marginal tax rates assessed in each of the three countries. Assume that each individual earns an income of exactly $37,000 and there are no deductions or exemptions that need to be applied. According to the data in the table, which country has a flat tax rate system? a. A and B b. A and C c. C d. None of the countries has a flat tax rate system. ANSWER: c 102. Table: A Cross-Country Comparison Country A Country B Household Tax Paid Household Income Income $5,000 $1,000 $5,000 15,000 1,000 15,000 25,000 1,000 25,000 35,000 1,000 35,000
Tax Paid $500 2,250 5,000 8,750
Country C Household Income $5,000 15,000 25,000 35,000
Tax Paid $500 1,500 2,500 3,500
This table shows data on taxes paid by three individuals living in each of three countries: A, B, and C. The tax paid in dollars is based on the marginal tax rates assessed in each of the three countries. Assume that each individual earns an income of exactly $37,000 and there are no deductions or exemptions that need to be applied. According to the data in the table, which country has a regressive tax rate system? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. A b. B and C c. C d. None of the countries has a regressive tax rate system. ANSWER: a 103. The entire U.S. tax system is moderately: a. flat. b. progressive. c. regressive. d. value-added. ANSWER: b 104. The top 20% of all income earners pay almost _____ of all federal taxes in the United States. a. 10% b. 25% c. 50% d. 70% ANSWER: d 105. The top 1% of all income earners pay about _____ of all federal taxes in the United States. a. 1% b. 10% c. 25% d. 50% ANSWER: c 106. Moving from a progressive tax system to a flat tax system would most likely: a. raise taxes on the rich. b. raise taxes for poor and middle-income households. c. decrease investment. d. lower overall tax revenue. ANSWER: b 107. Nearly 70% of all U.S. federal income taxes are paid by: a. the bottom 20% of income earners. b. the middle class: the twentieth percentile to the eightieth percentile of income earners. c. the top 20% of income earners. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 d. the top 1% of income earners. ANSWER: c 108. A progressive tax: a. is the tax rate paid on an additional dollar of income. b. places higher tax rates on people with higher incomes. c. equals the total tax payment divided by total income. d. is a separate income tax code that began in 1969 to prevent the rich from not paying income taxes. ANSWER: b 109. The U.S. federal government has a(n) _____ income tax system. a. progressive b. flat c. regressive d. efficient ANSWER: a 110. If tax rates are 10% on income up to $10,000; 20% for income between $10,001 and $20,000; and 30% for income over $20,000, then the income tax system is: a. progressive. b. proportional. c. flat. d. regressive. ANSWER: a 111. If a household's income tax increases by 80% when the household's income increases by 100%, then the tax system is: a. progressive. b. proportional. c. flat. d. regressive. ANSWER: d 112. In a regressive tax system, income tax as a share of income: a. decreases as income increases. b. remains the same as income increases. c. increases as income increases. d. is zero regardless of the income level. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: a 113. Under a flat tax system, a person earning an additional 10% in income has to pay _____ income tax. a. 10% less in b. the same amount of c. 10% more in d. more than 10% more in ANSWER: c 114. What is an example of a progressive tax system? a. U.S. federal income tax b. state sales tax c. property tax d. Social Security tax ANSWER: a 115. On average, U.S. households with income in the bottom 20% pay _____ of their incomes in federal income tax. a. less than 5% b. between 5% and 15% c. between 15% and 25% d. more than 25% ANSWER: a 116. On average, U.S. households with incomes in the top 20% pay_____ of their incomes in federal income tax. a. less than 5% b. between 5% and 15% c. between 15% and 20% d. about 25% ANSWER: d 117. A tax with higher rates applied to people with higher incomes is called: a. progressive. b. regressive. c. flat. d. aggressive. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 118. A tax with lower tax rates applied to people with higher incomes is called: a. progressive. b. regressive. c. flat. d. aggressive. ANSWER: b 119. A tax whose rates remain constant regardless of income level is called: a. progressive. b. regressive. c. flat. d. aggressive. ANSWER: c 120. A _____ tax has higher rates on people with lower incomes. a. progressive b. flat c. regressive d. marginal ANSWER: c 121. If you pay an average tax rate of 25% on your salary of $20,000 and your neighbor pays an average tax rate of 10% on his salary of $300,000, the tax system is: a. flat. b. progressive. c. regressive. d. proportional. ANSWER: c 122. Households in the bottom 20% of the income distribution pay approximately what percentage of their income in federal taxes? a. less than 5% b. about 10% c. about 20% d. more than 20% ANSWER: a 123. Households in the top 20% of the income distribution pay approximately what percentage of their income in federal taxes? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. less than 5% b. about 10% c. about 20% d. more than 20% ANSWER: d 124. Compared with the federal individual income tax, sales taxes are: a. more progressive. b. less progressive. c. paid by corporations. d. fixed for all families. ANSWER: b 125. State and local taxes are about _____ the level of federal taxes. a. one-fifth b. one-fourth c. one-third d. one-half ANSWER: d 126. Which is NOT one of the three main sources of tax revenue for the U.S. federal government? a. the corporate income tax b. property taxes c. the individual income tax d. Social Security and Medicare taxes ANSWER: b 127. The individual income tax, the corporate income tax, and Social Security and Medicare taxes account for about _____ of the U.S. federal government tax revenue. a. 50% b. 70% c. 90% d. 95% ANSWER: c 128. What are the two biggest sources of revenue for the U.S. federal government? a. individual income tax and Social Security and Medicare taxes b. corporate income tax and Social Security and Medicare taxes Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. sales tax and Social Security and Medicare taxes d. sales tax and individual income tax ANSWER: a 129. Table: Income and Income Tax Income Income Tax Owed Year 1 $40,000 $3,600 Year 2 43,000 4,000 Year 3 47,000 4,600 Year 4 50,000 5,200 The marginal income tax rate on the increase in income from year 2 to year 3 is: a. 9.79%. b. 13.33%. c. 15.00%. d. 20.00%. ANSWER: c 130. Table: Income and Income Tax Income Income Tax Owed Year 1 $40,000 $3,600 Year 2 43,000 4,000 Year 3 47,000 4,600 Year 4 50,000 5,200 The marginal income tax rate on the increase in income from year 1 to year 2 is: a. 9.30%. b. 13.33%. c. 15.00%. d. 20.00%. ANSWER: b 131. Table: Marginal Tax Rates Income Bracket Marginal Tax Rate $0‒12,000 0% 12,001‒24,000 8 24,001‒40,000 12 40,001‒70,000 16 How much income tax is owed on an income of $36,000? a. $960 b. $1,440 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. $2,400 d. $4,320 ANSWER: c 132. Table: Marginal Tax Rates Income Bracket Marginal Tax Rate $0‒12,000 0% 12,001‒24,000 8 24,001‒40,000 12 40,001‒70,000 16 How much income tax is owed on an income of $50,000? a. $1,600 b. $4,480 c. $6,080 d. $8,000 ANSWER: b 133. Which marginal tax rate would have the biggest impact in reducing work incentive? a. 8% b. 15% c. 37% d. 52% ANSWER: d 134. How does a family’s average tax rate compare to its marginal tax rate if the marginal tax rate rises as income rises? a. The average tax rate is equal to the marginal tax rate. b. The average tax rate is higher than the marginal tax rate. c. The average tax rate is lower than the marginal tax rate. d. There is no clear relationship between the average tax rate and the marginal tax rate. ANSWER: c 135. Table: Income and Income Tax Income Income Tax Owed Year 1 $40,000 $3,600 Year 2 43,000 4,000 Year 3 47,000 4,600 Year 4 50,000 5,200 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 The average income tax rate in year 3 is: a. 9.30%. b. 9.79%. c. 10.40%. d. 15.00%. ANSWER: b 136. Individuals pay income tax on: a. their total income. b. a set fraction of their income. c. their income after the subtraction of adjustments and deductions. d. their income after the addition of adjustments and deductions. ANSWER: c 137. Which is true about income tax on capital gains? a. Capital gains are taxed the same as other types of income. b. Capital gains have a higher tax rate than other types of income. c. Capital gains have a lower tax rate than other types of income. d. Capital gains are not taxed. ANSWER: c 138. Which statement is FALSE regarding the alternative minimum tax? a. It is paid as income tax only if it is higher than the person’s income tax according to the tax schedule. b. It was designed to prevent wealthy people from avoiding payment of income taxes. c. It was added to the U.S. tax law in 1979. d. Because it is not indexed for inflation, it applies to upper- and middle-income taxpayers. ANSWER: c 139. The FICA tax taken out of workers’ paychecks is: a. used to fund Social Security. b. used to fund education. c. part of the general tax revenue used for government expenses. d. a fee that pays for health insurance for low-income households. ANSWER: a 140. In the United States, corporations pay corporate income tax on their: a. accounting profits. b. economic profits. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. after-tax profits. d. total sales revenue. ANSWER: a 141. Which is CORRECT regarding who bears the cost when corporate tax rates increase? a. Corporate owners bear the full burden of the increase. b. Consumers of corporate products bear the full burden of the increase. c. Corporate owners and workers bear the burden of the increase. d. Corporate owners, workers, and consumers each bear the burden of the increase. ANSWER: d 142. Table: Income and Income Tax Income Income Tax Owed Year 1 $40,000 $3,600 Year 2 43,000 4,000 Year 3 47,000 4,600 Year 4 50,000 5,200 The tax system in the table is what type of tax system? a. fractional tax rate system b. regressive tax rate system c. flat tax rate system d. progressive tax rate system ANSWER: d 143. Table: Income Tax Income Income Tax Owed Year 1 $40,000 $4,000 Year 2 43,000 4,300 Year 3 47,000 4,700 Year 4 50,000 5,000 The tax system in the table is what type of tax system? a. fractional tax rate system b. regressive tax rate system c. flat tax rate system d. progressive tax rate system ANSWER: c 144. Future Social Security recipients with similar life expectancies have fewer benefits relative to older people who have already been receiving them for a while because: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. Social Security payments are now no longer paid out when the government has a budget deficit. b. the retirement age when one becomes eligible for Social Security will likely increase. c. Social Security payments have fallen as a percentage of the federal government's spending. d. Social Security payments are not indexed to wages. ANSWER: b 145. The largest spending program for the U.S. federal government is: a. Social Security. b. Medicaid. c. unemployment insurance. d. Medicare. ANSWER: a 146. Together, Social Security, defense, Medicare, and Medicaid make up approximately _____ of the U.S. federal budget. a. one-quarter b. one-third c. one-half d. two-thirds ANSWER: d 147. Of the following, which is the smallest component of U.S. federal government spending? a. defense b. Social Security c. unemployment and welfare d. interest payments on government debt ANSWER: d 148. Together, Social Security, defense, Medicare, and Medicaid made up approximately _____ of federal government spending in 2017, the year illustrated in the text. a. 38% b. 49% c. 58% d. 63% ANSWER: d 149. In recent years, the average retiree has been paid _____ per month in Social Security benefits. a. $763 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 b. $1,440 c. $2,121 d. $3,206 ANSWER: b 150. In 2017, the largest component of government spending was: a. national defense. b. Social Security. c. unemployment and welfare. d. “everything else” (roads, education, police, prisons, science and technology, agriculture, the environment, and other various stimulus programs). ANSWER: b 151. U.S. government spending on Social Security, defense, Medicare, and Medicaid makes up approximately _____ of federal government spending. a. 25% b. 33% c. 50% d. 63% ANSWER: d 152. What is NOT one of four programs that make up nearly two-thirds of the federal budget in the United States? a. Social Security b. Medicare c. Medicaid d. unemployment insurance ANSWER: d 153. Which statement about the Social Security program is CORRECT? a. Women, who generally live longer than men, benefit more from the system. b. The earlier you retire, the greater the benefits you receive from the Social Security system. c. Your Social Security withholdings from your paychecks are deposited into an account for you. d. On average, retirees in the United States receive about $8,000 per month in Social Security payments. ANSWER: a 154. The money you pay into Social Security currently goes to: a. an individual account. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 b. a trust that earns interest to help pay your benefits. c. pay current beneficiaries. d. the investment fund of your choice. ANSWER: c 155. The Social Security system is becoming: a. less generous. b. more generous. c. more profitable. d. more reliable. ANSWER: a 156. If you were born after 1960, you will not be eligible to draw full Social Security retirement benefits until you reach age: a. 62. b. 65. c. 67. d. 70. ANSWER: c 157. If you were born after 1960, you will be eligible to draw partial Social Security retirement benefits when you reach age: a. 62. b. 65. c. 67. d. 70. ANSWER: a 158. The Social Security system redistributes income from: a. low-wage workers to high-wage workers. b. people with longer life expectancies to people with shorter life expectancies. c. women to men. d. people with shorter life expectancies to people with longer life expectancies. ANSWER: d 159. The single item on which the U.S. federal government spent the most in 2017 was: a. foreign aid. b. defense. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. Social Security. d. interest on the debt. ANSWER: c 160. Social Security has become _____ over time. a. less generous and less progressive b. less generous and more progressive c. more generous and less progressive d. more generous and more progressive ANSWER: b 161. The U.S. Social Security tax (FICA) is an example of a _____ tax. a. progressive b. proportional c. regressive d. flat ANSWER: c 162. Social Security benefits are NOT based on: a. how long a person has worked. b. average earnings during a person's working life. c. whether a person is married. d. how wisely a person's FICA contributions are invested. ANSWER: d 163. Social Security is run on a _____ basis. a. pay-as-you-go b. contract c. trust fund d. prepaid ANSWER: a 164. Currently, the Social Security program pays out _____ it collects in taxes. a. more than b. less than c. significantly less than d. about the same amount as Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: a 165. The United States spends _____ on defense. a. much less than any other country b. about as much as other countries c. a little more than other countries d. much more than any other country ANSWER: d 166. Which country had the highest military expenditure in 2018? a. China b. Russia c. North Korea d. the United States ANSWER: d 167. Which country spends the most on its military? a. China b. Japan c. Russia d. the United States ANSWER: d 168. Included among the top 10 nations in the category of military spending are: a. Saudi Arabia and France. b. North Korea and Pakistan. c. Iran and Israel. d. Turkey and Greece. ANSWER: a 169. The Medicare program offers health-care benefits for the: a. elderly. b. disabled. c. poor and disabled. d. poor. ANSWER: a 170. Which statement about Medicare and Medicaid is NOT correct? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. Medicaid covers the poor and disabled. b. Medicare reimburses the elderly for much of their medical care. c. An individual must be at least 65 years old to qualify for Medicare. d. Social Security and Medicare together make up about 15% of the federal budget. ANSWER: d 171. The main difference between Medicare and Medicaid is that Medicare covers medical care of: a. the elderly, while Medicaid covers medical care of the poor and disabled. b. the poor and disabled, while Medicaid covers medical care of the elderly. c. foreigners, while Medicaid covers medical care of only U.S. citizens. d. full-time workers, while Medicaid covers medical care of part-time workers. ANSWER: a 172. Whereas _____ covers the elderly, _____ covers the poor and the disabled. a. HMO; PPO b. PPO; HMO c. Medicaid; Medicare d. Medicare; Medicaid ANSWER: d 173. The Medicaid program offers health-care benefits for the: a. elderly and disabled. b. poor and disabled. c. unemployed. d. disabled only. ANSWER: b 174. The federal government's main income redistribution program is: a. the Earned Income Tax Credit program. b. the Social Security system. c. Medicaid. d. Medicare. ANSWER: a 175. The federal tax system assists people below the poverty level through the: a. alternative minimum tax. b. Earned Income Tax Credit. c. Temporary Assistance for Needy Families program. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 d. provision of tax assistance to the working poor. ANSWER: b 176. The largest amount of federal dollars goes to which group? a. the unemployed b. the disabled c. the elderly d. the poor ANSWER: c 177. Suppose you are a married person with one child, and your whole family earns less than $20,000 a year. What will supplement your income? a. Federal Insurance Contribution Act b. alternative minimum tax c. Social Security d. Earned Income Tax Credit ANSWER: d 178. The maximum amount of time that a person can receive payments under the Temporary Assistance for Needy Families (TANF) program is _____ years during a lifetime. a. 2 b. 5 c. 10 d. 25 ANSWER: b 179. The Earned Income Tax Credit makes the U.S. federal income tax: a. more regressive. b. more progressive. c. flatter. d. irrelevant to most taxpayers except for the rich. ANSWER: b 180. Social Security and Medicare transfer wealth primarily to: a. children. b. the unemployed. c. the poor. d. the elderly. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: d 181. What is true of government spending? a. The money spent by the government may not be as valuable in its use as it would be if spent by the taxpayer. b. The money spent by the government is likely to be more valuable in its use than it would be if spent by the taxpayer. c. The money spent by the government will be as valuable in its use as it would be if spent by the taxpayer. d. All money should be spent by the government to reach its highest value. ANSWER: a 182. Unemployment and welfare constitute about _____ of the U.S. federal budget. a. 1% b. 5% c. 10% d. 40% ANSWER: c 183. What percentage of the federal budget is spent on defense? a. 1% b. 4% c. 15% d. 41% ANSWER: c 184. Combined, federal agencies such as the FDA, FBI, NASA, and the National Science Foundation make up approximately _____ of the federal budget. a. 1% b. 8% c. 21% d. 49% ANSWER: c 185. Unemployment insurance makes payments to: a. only the poor who are out of work. b. all people who are unemployed or who are not working as much as they would like. c. only those who earn above $10,000 per year prior to being unemployed. d. anyone who is out of work and meets the requirements, regardless of income. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: d 186. Social Security makes up approximately what percentage of the U.S. federal government budget? a. 1 b. 5 c. 10 d. 23 ANSWER: d 187. Which is NOT one of the four largest categories of expenditures funded by the U.S. federal government? a. defense b. education c. Social Security d. Medicaid ANSWER: b 188. The funds to pay current Social Security benefits come from: a. the saved FICA tax payments that the beneficiaries made during their working years. b. the income tax revenues paid on all types of income. c. earnings on government bonds. d. the FICA tax payments of current workers. ANSWER: d 189. Which is TRUE regarding Social Security? a. There are fewer workers per beneficiary today than when the program began. b. Current benefits are funded from the saved FICA taxes paid when the beneficiaries were working. c. Benefits have not changed in the past 40 years. d. Full benefits are available at age 62. ANSWER: a 190. Which is TRUE regarding defense spending by the U.S. federal government and defense spending by other countries? a. The three countries with the largest defense expenditures are the United States, China, and Saudi Arabia. b. The United States is the only North American country that ranks among the top 10 countries in national defense expenditures. c. The United States spends more than 10 times as much as Russia on defense. d. The United States spends four times more on defense than the country with the second-largest defense expenditure. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: d 191. Social Security and Medicare both are programs that: a. are funded by the contributions by beneficiaries accumulated during their working years. b. are designed to provide enough income to completely fund retirement. c. transfer wealth to the elderly. d. together account for the fourth-largest category of expenditures in the national budget. ANSWER: c 192. What is a difference between Medicare and Medicaid? a. Medicare covers hospital expenses while Medicaid covers nonhospital expenses. b. Medicaid has co-payments and deductibles while Medicare does not. c. Medicare is for the elderly while Medicaid is for the poor and disabled. d. Medicaid is supplemented by private insurance while Medicare is not supplemented by private insurance. ANSWER: c 193. Which is NOT a type of welfare payment in the United States? a. housing vouchers b. Earned Income Tax Credit c. Medicare d. Temporary Assistance for Needy Families ANSWER: c 194. Which type of government expenditure varies greatly over each business cycle? a. unemployment compensation b. defense c. Social Security d. Medicare ANSWER: a 195. Why are Medicare and Social Security not considered to be welfare programs? a. They are funded by the accumulated contributions of beneficiaries and not by taxes on current workers. b. They have automatic monetary payments rather than vouchers for goods and services. c. Eligibility for benefits is not based on employment status. d. Eligibility for benefits is not based on income. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 196. Two reasons why government leaders do NOT spend tax revenue as carefully as individuals spend their own income are that: a. government leaders pay premium prices for standard products and there is little incentive to spend carefully. b. taxes can always be raised to cover the costs and they face competing pressures to spend on many different programs. c. they face competing pressures to spend on many different programs and they do not want to anger those seeking programs from the government. d. they do not know the priorities of the public and there is little incentive to spend carefully. ANSWER: d 197. Why is wasteful spending by the government difficult to control? a. Most of the waste is in the larger spending programs like Social Security. b. Providing decision makers with necessary information and creating incentives to control costs are both difficult to achieve. c. Politicians are usually reelected because they provide more benefits to potential voters and voters do not care how high taxes are. d. Raising taxes is easier than analyzing expenditures more carefully. ANSWER: b 198. Two reasons that there was considerable waste in U.S. government spending in Iraq and Afghanistan were that: a. spending was part of the foreign relations initiative and taxes were being raised to cover the costs. b. the desires of the Iraqi and Afghan people were not clearly known to decision makers in the United States and American taxpayers could not easily monitor the U.S. spending in Iraq and Afghanistan. c. the expenditures were necessary and the recipients of U.S. funding in Iraq and Afghanistan agreed to reimburse the United States for any wasted funds. d. corruption was widespread and recipients of U.S. funding in Iraq and Afghanistan demanded it. ANSWER: b 199. Bill Clinton's administration experienced a federal budget surplus. What is therefore CORRECT? a. The federal budget was still in deficit, but the deficit was smaller than in previous years. b. The national debt reached record high levels. c. The national debt held by the public decreased. d. Government expenditure was no longer counted as part of the federal budget. ANSWER: c 200. Government spending on “interest on the debt” refers to: a. interest paid to owners of government debt held by the public. b. interest charged by the U.S. government for U.S. foreign aid to other countries. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. spending by the U.S. government on education and highways. d. interest charged by the U.S. government on loans to states for education programs. ANSWER: a 201. Debt held outside the U.S. government is called the: a. total U.S. national debt. b. debt-to-GDP ratio. c. national debt held by the public. d. debt to foreign investor holdings. ANSWER: c 202. In which year did the United States have the highest debt-to-GDP ratio? a. 1929 b. 1935 c. 1946 d. 1995 ANSWER: c 203. What is the annual difference between federal spending and revenues called? a. the deficit b. the national debt held by the public c. tax revenue shortfall d. spending as a percentage of GDP ANSWER: a 204. If the federal government spends 12% of GDP and collects revenues of 10% of GDP, what is the deficit as a percentage of GDP? a. 1% b. 2% c. 11% d. 12% ANSWER: b 205. The annual difference between federal spending and revenues is called the: a. national deficit. b. national debt. c. debt held by the public. d. debt-to-GDP ratio. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: a 206. About one-quarter of the total U.S. national debt is held by: a. China. b. private citizens. c. agencies in the federal government. d. the Federal Reserve. ANSWER: c 207. The highest debt-to-GDP ratio in U.S. history occurred: a. during the Reagan administration. b. in 2009, after the stimulus package was put into place. c. during the Great Depression. d. immediately following World War II. ANSWER: d 208. The government finances its debt by: a. printing money. b. borrowing from the Fed. c. issuing bonds. d. borrowing from foreign investors such as China. ANSWER: c 209. As of 2020, the U.S. government's debt held by the public was just over: a. $18 million. b. $18 billion. c. $18 trillion. d. $18 quadrillion. ANSWER: c 210. In 2017, the U.S. debt-to-GDP ratio was over: a. 40%. b. 123%. c. 80%. d. 20%. ANSWER: c 211. The national debt held by the public is the amount of: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. government debt plus household debt. b. government debt at the federal, state, and local levels. c. federal debt held by individuals and organizations outside the federal government. d. federal debt held by foreign countries. ANSWER: c 212. The debt-to-GDP ratio in 2020 was a little over: a. 4%. b. 10%. c. 80%. d. 90%. ANSWER: c 213. What refers to the situation in which the annual spending of the federal government exceeds its annual revenues? a. government deficit b. government surplus c. government debt d. government insolvency ANSWER: a 214. Suppose the federal government incurred a $1 billion deficit in 2011. What was true of the national debt? a. The national debt was $1 billion. b. The national debt decreased by $1 billion. c. The national debt increased by $1 billion. d. The national debt was not related to the deficit. ANSWER: c 215. The U.S. Congressional Budget Office has projected the debt-to-GDP ratio to increase dramatically in the future. One of the major reasons is the: a. forecast of a recession. b. forecast of negative economic growth. c. projection of a high population growth rate. d. projected increasing health-care costs for the aging population. ANSWER: d 216. Which category of government spending as a percentage of GDP is most likely to increase in the future? a. Medicare and Medicaid payments Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 b. unemployment benefits c. national defense d. foreign aid programs ANSWER: a 217. In which U.S. president's term of office did the federal government run a budget surplus? a. Ronald Reagan b. Bill Clinton c. George W. Bush d. Barack Obama ANSWER: b 218. The average interest rate of government debt in 2020 was about: a. 1.4%. b. 2.0%. c. 4.0%. d. 14.0%. ANSWER: b 219. When the text refers to the current U.S. national debt, it means the: a. national debt held by the public. b. public debt held by investors. c. private debt held by households. d. total debt held by foreign governments. ANSWER: a 220. What description of the “government deficit” is incorrect? a. A deficit occurs when spending is greater than revenue. b. The deficit is caused by foreign aid spending. c. A deficit is the difference between federal spending and revenues. d. The deficit is the annual change in the national debt. ANSWER: b 221. Over the past 15 years, the U.S. debt-to-GDP ratio has been: a. steady and unchanging. b. rising. c. falling. d. unstable, particularly during periods of expansion. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: b 222. In 2020, interest payments on the U.S. national debt were approximately _____ of government revenue. a. 2% b. 5% c. 10% d. 13% ANSWER: d 223. Based on the national debt in 2020, if the interest rate on the debt were to rise from 2% to 5%, the interest payment on the debt would rise from _____ to _____ of government revenue. a. 2.0%; 5.0% b. 5.0%; 12.5% c. 13.0%; 32.5% d. 7.0%; 17.5% ANSWER: c 224. The amount by which expenditures exceed revenue in a given year is known as _____. The total amount owed is the total _____. a. insolvency; debt b. a deficit; insolvency c. a deficit; debt d. debt; a deficit ANSWER: c 225. A strict balanced budget requirement for the national government would limit: a. waste and taxes. b. government expenditures regardless of tax revenue. c. taxes to be no bigger than expenditures. d. the government’s ability to address issues during wars and recessions. ANSWER: d 226. What is a reason for waste and inefficiency in government spending? a. weak incentives b. lack of information on how to spend the money effectively c. both weak incentives and lack of information on how to spend the money effectively d. neither weak incentives nor lack of information on how to spend the money effectively ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 227. Even if the United States experiences no more recessions and the federal government spends nothing extra on any particular program, its expenditures will still rise because: a. unemployment benefits will rise. b. the government has committed to increasing Medicare payments for the next three decades. c. it will receive less foreign aid in the future. d. the population is aging and thus Social Security and Medicare payments will rise. ANSWER: d 228. If the U.S. government decides to decrease the budget deficit in the future, it could: a. raise taxes. b. decrease Social Security payments. c. reduce spending on health-care programs. d. raise taxes, decrease Social Security payments, or reduce health-care spending. ANSWER: d 229. What is the expected future trend of the debt-to-GDP ratio? a. There are too many unknown variables to make a prediction. b. The ratio will remain stable. c. The ratio will decrease slightly. d. The ratio will increase greatly. ANSWER: d 230. What demographic change in the United States will cause government spending to increase in the next 50 years? a. The population older than 65 will grow. b. The population will be younger. c. Women will have more children. d. Immigration will increase. ANSWER: a 231. What is TRUE of projections for government spending and revenue as a share of GDP for the next 50 years? a. Total spending will rise at the same rate as the total revenue. b. Total spending will rise more slowly than the total revenue. c. Total spending will rise more rapidly than the total revenue. d. Both total spending and total revenue will fall. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 232. As the U.S. population ages and retires, Social Security payments will have to increase approximately _____ in order to maintain the level of promised benefits. a. 10% b. 24% c. 41% d. 56% ANSWER: c 233. If current spending patterns are maintained, most of the increase in planned spending over the next 50 years will be on: a. defense. b. Social Security. c. Medicare and Medicaid. d. foreign aid. ANSWER: c 234. Current projections regarding the debt-to-GDP ratio are that: a. under any plausible scenario, the federal budget is on a sustainable path. b. under any plausible scenario, the federal budget is on a continuous path. c. the federal debt will grow much more slowly than the economy over the long run. d. the federal debt will grow much faster than the economy over the long run. ANSWER: d 235. The main forces driving the projections of the debt-to-GDP ratio are: a. recessions. b. increasing national defense expenses. c. increasing health-care costs. d. declining demographics of aging. ANSWER: c 236. The main cause of higher government spending in the future will be: a. Medicare, Medicaid, and Social Security. b. national defense and foreign aid. c. unemployment insurance and welfare spending. d. spending on roads, bridges, and infrastructure. ANSWER: a 237. Compared to most developed nations, the U.S. total government spending as a percentage of GDP is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. about average. b. less than that of many countries. c. greater than that of many countries. d. decreasing at a greater rate than that of other countries. ANSWER: b 238. Government spending as a percentage of GDP in the United States today is: a. larger than in any other developed country in the world. b. about average as compared with other developed countries. c. one of the smallest among developed countries. d. comparable with that in countries such as Germany, the Netherlands, and Italy. ANSWER: c 239. Government spending in the United States is: a. not likely to fall in the future, given the aging population. b. not likely to fall in the future, given the rising interest payments on the national debt. c. likely to fall in the future, given the consciousness of the American people regarding our growing debt. d. likely to fall in the future, given the cyclical nature of business cycles. ANSWER: a 240. Which country has the highest ratio of government spending to GDP? a. United States b. China c. Japan d. Sweden ANSWER: d 241. What kind of rising costs will mostly cause U.S. government spending to skyrocket in the future? a. defense b. environmental protection c. education d. health care ANSWER: d 242. Which is NOT one of the concerns about the rising U.S. debt-to-GDP ratio in 2020? a. Per person health-care costs and health care as a portion of GDP are rising. b. Defense expenditures associated with unrest in the Middle East are rising. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 c. The COVID-19 pandemic triggered a rapid increase in government expenditures. d. A larger share of the population will be beneficiaries of Social Security and Medicare. ANSWER: b 243. How does the United States compare to other developed nations in regards to government spending and taxes? a. They are higher in the United States than in most developed nations. b. They are lower in the United States than in most developed nations. c. About half of developed nations have levels higher than the United States. d. The United States has the same levels as most other developed nations. ANSWER: b 244. What was Milton Friedman's argument for a volunteer army instead of a military draft? a. The societal cost of a draft was much higher than the paychecks of a volunteer army because of the significant opportunity cost of drafted soldiers. b. A volunteer army would cost less in dollar terms than a drafted army. c. The United States would no longer need an active army because the country could protect itself adequately with just a few volunteer soldiers. d. The opportunity cost of an all-volunteer army is higher than that of the draft. ANSWER: a 245. If the opportunity cost of resources used for government programs is ignored, then the government budget _____ the role of government in the economy. a. overestimates b. underestimates c. correctly reflects d. is totally unrelated to ANSWER: b 246. What is TRUE when measuring the role of the government in an economy by the amount of its government spending? a. The amount of government spending overstates the role of the government in the economy because it ignores the costs associated with corruption in the government. b. The amount of government spending understates the role of the government in an economy because of the effects of government policies on economic activity. c. The amount of government spending overstates the role of the government in the economy because most government actions have negative effects on free markets. d. Government spending is not related to the role of government in the economy because most government actions are motivated by politics. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: b 247. The influence of the government tends to be _____ when measures of government spending and revenues are used as indicators. a. overcounted b. undercounted c. accurately counted d. sometimes overcounted and sometimes undercounted ANSWER: b 248. According to the U.S. budget, what types of transfer payments are larger than welfare payments? a. interest payments b. Medicaid payments c. defense transfers d. general transfers to the elderly ANSWER: d 249. Social Security taxes account for the largest source of U.S. federal government receipts today. a. True b. False ANSWER: b 250. Corporate income tax provides the largest share of federal tax receipts. a. True b. False ANSWER: b 251. Corporate income taxes bring in as much revenue to the federal government as do individual income taxes. a. True b. False ANSWER: b 252. U.S. marginal tax rates today are lower and flatter than they were in the 1960s. a. True b. False ANSWER: a 253. For a progressive income tax system, the marginal tax rate is higher than the average tax rate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 a. True b. False ANSWER: a 254. In the United States, every dollar of individual income is taxed. a. True b. False ANSWER: b 255. The alternative minimum tax is assessed only on high-income families. a. True b. False ANSWER: b 256. Capital gains taxes are paid only when assets are sold. a. True b. False ANSWER: a 257. In most cases, Republicans and Democrats agree about how much investment income should be taxed. a. True b. False ANSWER: b 258. The AMT has significantly increased the tax burden for more than 4 million households. a. True b. False ANSWER: a 259. The alternative minimum tax is indexed to inflation. a. True b. False ANSWER: b 260. More than half of the burden of the FICA tax falls on workers, not employers. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: a 261. Workers and employers bear an equal burden from the FICA tax. a. True b. False ANSWER: b 262. The corporate income tax makes up nearly half of U.S. federal tax revenue. a. True b. False ANSWER: b 263. The corporate income tax is the single largest source of revenue for the federal government. a. True b. False ANSWER: b 264. Corporations ultimately bear the entire burden of the corporate income tax. a. True b. False ANSWER: b 265. If country A has mostly rich people and country B has mostly poor people and they have identical progressive tax systems, we should expect tax revenues to be higher in country A. a. True b. False ANSWER: a 266. If most people in country A fall in the lowest tax bracket and most people in country B fall in the highest tax bracket and the countries have identical progressive tax systems, we should expect tax revenues to be higher in country A. a. True b. False ANSWER: b 267. People earning a higher income pay fewer tax dollars than lower-income earners in a regressive tax system and pay more tax dollars than lower-income earners in a progressive tax system. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: b 268. The U.S. federal income tax system is regressive. a. True b. False ANSWER: b 269. Because of loopholes and good tax accountants, the rich do not pay any taxes in the United States. a. True b. False ANSWER: b 270. Well over half of all income tax revenue received by the federal government is paid by the richest one-fifth of income earners. a. True b. False ANSWER: a 271. The largest component of government spending is paying interest on the national debt. a. True b. False ANSWER: b 272. Individuals receive different Social Security benefits depending on their wealth, life expectancy, marital status, and other factors. a. True b. False ANSWER: a 273. Women tend to benefit more than men from the Social Security program because of their higher life expectancy. a. True b. False ANSWER: a 274. Measured in terms of dollars paid out, Social Security is the largest single government program in the world. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 b. False ANSWER: a 275. When individuals make payments into Social Security, the funds go into an account identified by their Social Security number. a. True b. False ANSWER: b 276. Social Security benefits have become more generous over time. a. True b. False ANSWER: b 277. Social Security redistributes wealth across income classes. a. True b. False ANSWER: a 278. Social Security will pay you less if you live longer. a. True b. False ANSWER: b 279. Most of the burden of Social Security taxes falls on workers. a. True b. False ANSWER: a 280. Social Security benefits have become less generous over time. a. True b. False ANSWER: a 281. The Earned Income Tax Credit (EITC) serves as the main form of antipoverty assistance at the federal level. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: a 282. Most of the spending in the federal budget goes to welfare programs. a. True b. False ANSWER: b 283. The biggest spending item in the U.S. budget is foreign aid. a. True b. False ANSWER: b 284. In the 1940s, the U.S. debt-to-GDP ratio was higher than 100%. More recently, the debt-to-GDP ratio has been around 80%. a. True b. False ANSWER: a 285. To balance the U.S. budget, it is sufficient to reduce spending on defense. a. True b. False ANSWER: b 286. The debt held by the public in 2007 was approximately $5 trillion but has risen to over $18 trillion today. a. True b. False ANSWER: a 287. The current U.S. debt-to-GDP ratio is the highest in U.S. history. a. True b. False ANSWER: b 288. It is possible for a country to have a high positive national debt and also have a large budget surplus. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 289. Approximately one-quarter of the total national debt is held by other U.S. government agencies. a. True b. False ANSWER: a 290. The deficit is all federal debt held outside the U.S. government. a. True b. False ANSWER: b 291. The debt-to-GDP ratio for the United States has increased significantly over time since the beginning of World War II. a. True b. False ANSWER: b 292. The national debt held by the public increases when the federal government runs a deficit. a. True b. False ANSWER: a 293. Economists are more concerned about the future than the current debt-to-GDP ratio. a. True b. False ANSWER: a 294. The main forces driving the projections of exponential debt growth in the future are recessions and the rising costs of welfare programs. a. True b. False ANSWER: b 295. Spending on defense, law enforcement, and scientific research are all projected to increase as a percentage of GDP. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 296. In recent decades, health-care costs per capita have risen more than twice as fast as GDP per capita. a. True b. False ANSWER: a 297. A good way to judge the fiscal health of the federal government is by looking at today's budget deficit. a. True b. False ANSWER: b 298. The level of government spending is an accurate measure of government's influence in the economy. a. True b. False ANSWER: b 299. What are the two biggest sources of tax revenue for the U.S. government? What are the two biggest expenses for the U.S. government? What can you conclude about the way these expenses will change in the future? ANSWER: The biggest sources of tax revenue are the individual income tax and the Social Security and Medicare (FICA) taxes. The biggest expenses for the U.S. government are Social Security and national defense. The United States currently has an aging population because of the ongoing retirement of the baby boomers. Thus, spending on programs for the elderly, such as Medicare and Social Security, is likely to grow significantly in the future. 300. Explain the difference between an average tax rate and a marginal tax rate. ANSWER: An average tax rate is a person's total tax divided by that person's total income. A marginal tax rate is the tax rate paid on an additional dollar of income. 301. Using what you know about the U.S. tax code, answer the following questions. a. Why is the Social Security tax like a welfare system? b. How do health-care advances affect the Social Security payments system? c. On average, why do you think women benefit more from Social Security than men? d. How might corporate dividends be double-taxed? ANSWER: a. Social Security is like a welfare program because it rewards poorer people more than wealthier people by providing poorer people with more benefits relative to what they paid into the system. b. The more health-care advances lengthen lives, the greater the payments for Social Security benefits will be because Social Security rewards those who live longer. c. Women tend to benefit more than men because they live longer on average than men. d. Corporate dividends are double-taxed because the corporation pays taxes when the income is earned by the corporation and then shareholders pay taxes when they receive the dividends as income. 302. What kinds of tax deductions are described in the text? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 ANSWER: People can get exemptions for themselves and their children and dependents. They can also get a deduction for interest paid on mortgages. 303. Table: Tax Brackets Income Marginal Tax Rate $0–17,000 10% 17,001–69,000 15 69,001–139,350 25 139,351–212,300 28 212,301–379,150 33 379,151 and above 35 Consider the tax brackets shown in the accompanying table. If your income is $90,000, what will be your tax liability, marginal tax rate, and average tax rate? ANSWER: Tax liability = $17,000 × 10% + ($69,000 – 17,000) × 15% + ($90,000 – 69,000) × 25% = $14,750; marginal tax rate = 25%; average tax rate = $14,750/$90,000 = 16.39%. 304. All taxes on businesses, such as the payroll tax and corporate income tax, are actually paid by individual human beings. Explain this argument. ANSWER: Businesses can pass the tax burden onto individual taxpayers. For instance, an employer who has to pay a payroll tax for an employee can lower the worker's wage because of the tax payment. Similarly, the corporate income tax is first paid by shareholders of a corporation. In addition, a corporation that has to pay the corporate income tax may lower wages for workers and charge higher prices for their goods and services. As a result, workers and consumers also bear the corporate tax burden. 305. Proponents of the United States moving from its current progressive tax system to a flat tax system argue that the efficiency gains associated with a flat tax system would mean that even people who are paying a higher tax rate, with increased economic growth, would be better off. Explain this argument. ANSWER: The argument is that the current progressive tax system is very inefficient given the amount of resources that individuals dedicate each year to simply calculating their taxes (or paying others to find loopholes). A flat tax system would eliminate this complication and allow for these resources to be better used in more productive activities that generate economic growth. The higher level of economic growth would mean that all households would have more income on average, and thus even though some would be faced with a higher tax rate, their incomes would also be higher, thus resulting in higher after-tax income for most Americans. 306. Explain what a flat tax is, and discuss its advantages and disadvantages. ANSWER: A flax tax is a constant tax rate applied to income at all levels of earning. It includes the elimination of all deductions, including the deductions for mortgage interest and charitable giving. The advantages include simplification of the tax code—something that would be appreciated by many taxpayers—and the elimination of deductions and loopholes that encourage people to make investment, consumption, and work decisions for tax advantages rather than sound economic reasons. The disadvantage of a flat tax is that moving to a flat tax would require lowering rates on the rich and raising rates on the middle class and poor. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 307. Table: Marginal Tax Rates Income Tax Rate $0–20,000 0% 20,001.01–40,000 10 40,001.01–60,000 20 For a family earning $45,000, use the tax rates from the accompanying table and determine its marginal tax rate, average tax rate, and total income tax payment. Is this a progressive, regressive, or flat tax code? Explain. ANSWER: The family earning $45,000 is in the $40,000.01–$60,000 income bracket, so it has to pay 20% in income tax for each additional dollar of income earned over $40,000. Its marginal tax rate is therefore 20%. The total income tax payment is $20,000 × 0% + ($40,000 – $20,000) × 10% + ($45,000 –$40,000) × 20%= $3,000. The average tax rate is $3,000/$45,000 × 100 = 6.67%. This income tax code is progressive because the tax rate is higher for higher income brackets. 308. How does the marginal tax rate compare with the average tax rate in a flat tax system? How do these two tax rates compare in a progressive tax system and a regressive tax system? ANSWER: The marginal tax rate is the tax rate paid on an additional dollar of income, while the average tax rate is the amount of the tax divided by total income. In a flat tax, people pay the same proportion of any additional income earned, so the marginal tax rate is the same as the average tax rate. In a progressive tax system, the marginal tax rate increases as income rises, so the marginal tax rate is higher than the average tax rate for most income brackets except the lowest. In a regressive tax, the marginal tax rate decreases as income rises, so the marginal tax rate is lower than the average rate for most income brackets except the lowest. 309. Social Security operates on a pay-as-you-go basis. What does this mean? ANSWER: Pay-as-you-go means that the funds you pay into the Social Security system do not go into an account or trust to pay for your future retirement. Instead, the funds that you pay into the Social Security system are immediately used to finance payments to current retirees. In a like manner, when you are retired, the funds that current workers are then paying into the Social Security system will be used to pay you during your retirement years. 310. Explain the difference between Medicare and Medicaid. ANSWER: Both Medicare and Medicaid are used to pay medical expenses. Medicare is used to pay the medical expenses of the elderly (those older than 65 years) and the disabled. Medicaid is used to pay the medical expenses of the poor and the disabled. Some individuals qualify for both Medicare and Medicaid. These individuals must be older than 65 and disabled or poor. 311. Suppose you see the following claim made in a local newspaper: “The United States is a welfare economy, where taxes are used to redistribute wealth to the poor.” Do you agree or disagree with this statement? Why or why not? ANSWER: The statement is true for some, but not all, tax revenue. The U.S. tax system does not redistribute all of its tax revenue to the poor. Taxes are used to pay for Social Security payments, Medicare, Medicaid, and assistance programs for the poor such as the Earned Income Tax Credit. Out of these programs, the only ones that provide assistance specifically targeted for the poor are Medicaid (for health care) and assistance programs such as the Earned Income Tax Credit. The largest elements of the federal budget are Social Security payments and Medicare, and these programs are targeted Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 toward the elderly. 312. Suppose a politician claims that he will eliminate the government deficit by reducing wasteful spending. Why is he unlikely to achieve this? ANSWER: There are several reasons why the government deficit is unlikely to be eliminated by reducing waste. First, larger spending programs are likely to have less waste than smaller programs as they are under greater scrutiny already. It is hard to identify waste and harder to reduce a large amount of waste when it is spread across many smaller programs. Second, there is little real incentive to reduce waste because there is no direct reward for it when other people’s money is being spent. Third, the politician does not have clear information on the priorities of the public and thus does not know which types of spending cuts would be viewed most favorably or unfavorably. 313. What are the arguments for reducing the national debt in the United States? What is the difference between the national debt and the budget deficit? ANSWER: The higher the national debt is, the greater the interest expense the U.S. government will pay on outstanding debt. Thus, the ratio of interest to GDP will increase unless GDP increases at a faster rate. This could negatively affect government programs in the future, including Social Security. A lot of people fear that this means increased taxes in the future to cover these expenses. The national debt is the accumulation of all borrowing by the federal government over time, while the deficit is the annual difference between federal spending and revenue. Thus, a given year's deficit is the change in the national debt in that year. 314. A nation has $6 billion in revenue in year 1 and $7 billion in spending. In year 2, it has $8 billion in revenue and $10 billion in spending. In year 2, what is the national debt and what is the deficit, assuming the nation can borrow at 0% interest without paying on the principal? ANSWER: The national debt in year 2 is $3 billion. It is the $1 billion deficit carried over from year 1 and the additional $2 billion deficit from year 2, making the total owed $3 billion. The deficit in year 2 is $2 billion, the difference between $10 billion in spending and $8 billion in revenue. 315. At the beginning of 2007, the interest rate paid on the national debt was 5%. In 2010, it was only 2%. Explain why the interest rate on the national debt fell so much between 2007 and 2010 even as the national debt increased dramatically. Do you expect it to continue to fall? Explain why or why not. ANSWER: In 2007, the economy was doing well and interest rates were higher. In 2010, however, the economy was struggling from the 2007–2009 recession and the Federal Reserve was keeping interest rates historically low in an attempt to stimulate the economy. The government was thus able to borrow fairly cheaply and its interest payments declined even as the national debt grew larger. As the economy rebounds further from the recession, interest rates will eventually rise and the interest payments on the national debt will rise. 316. What are the main causes of the increased federal government deficits since 2007? ANSWER: A recession began in 2007. Because of the recession, tax receipts fell and government spending, including stimulus packages, increased. The combination of increased government spending and falling tax receipts caused the deficits to increase. 317. The Congressional Budget Office (CBO) estimates that if spending and taxes remain on their current trajectories, the U.S. debt-to-GDP ratio will approach 500% in the next 50 years. Discuss two of the main Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 factors that are driving these CBO predictions. ANSWER: The main factors driving these projections are (1) the continued increases in government spending on health care (Medicare and Medicaid) due to the aging of the population and (2) the increase in health-care costs. In other words, the number of people who will need coverage will rise and the cost of coverage per person will rise if current trends continue. Spending on other programs for the elderly, such as Social Security, will also increase with the aging population. These programs are already the largest spending programs funded by the government, and they are likely to grow even larger as a result of these trends. 318. What is the difference between the deficit and the national debt? ANSWER: The deficit is the difference between federal government revenues and federal government expenditures during a given year. National debt is the total amount of federal government borrowing. Another way to say this is that national debt is the total amount of government debt that has accumulated over the years. The current level of government debt is the sum of all past government deficits and surpluses. 319. Except for during the 1990s, the federal deficit has shown a rising trend over time. Does this mean that the U.S. government will go bankrupt soon? If so, explain why. If not, then what are many economists worried about? ANSWER: Bankruptcy means that an entity is no longer able to meet its financial obligations. With the power to tax and borrow and print money, bankruptcy seems unlikely for the United States. It is also important to take the growing size of the economy into consideration. Despite the rising trend in its absolute size, the U.S. government deficit as a percentage of GDP has been rather stable. Similarly, the debt-to-GDP ratio has been quite stable historically. However, many economists are worried about the future trends of these ratios. Programs such as Social Security, Medicare, and Medicaid are already the largest in terms of government spending and will continue to grow even larger as the population ages in the United States. This will allow total spending to continue to rise at a rate faster than the rate of total revenue without significant changes in these programs and/or taxes. This means that the debt-to-GDP ratio will continue to rise over time unless tax and spending trends change significantly in the future. Without change, we may not be able to tax and borrow enough, and printing enough money would be disastrous in terms of the potential inflation it would cause. 320. Why did the U.S. debt-to-GDP ratio rise rapidly in 2020, and why are there concerns that it may continue rising? ANSWER: The large government expenditures to cope with the COVID-19 pandemic caused the U.S. debt-toGDP ratio to rise rapidly in 2020. However, there were concerns before the pandemic that it will continue to rise due to changing demographics and rising health-care costs. The share of the U.S. population aged 65 and older is rising. For this reason, the government will face Social Security and Medicare costs as a rising percentage of GDP while a smaller percentage of the population is of working age and paying taxes for those programs. Also, health-care costs per person are rising. Thus, programs such as Medicare, Medicaid, and health insurance subsidies will take up a larger share of the federal budget. 321. Explain why government spending and revenue undercount the role of the government in the U.S. economy. ANSWER: Tracking government spending and revenue as percentages of GDP provides easy-to-compute Copyright Macmillan Learning. Powered by Cognero.
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Chapter 17 measures of the size of the government in the U.S. economy. However, these measures fail to reflect the many ways that the government influences other sectors of the economy. Government regulations can influence private sector economic activity, causing it to be smaller, or, in the case of investment, larger than it would have been otherwise. The government can also fund research that helps the economy to become more productive. Finally, government actions, like a military draft, coerce the use of labor in ways that might not be the most productive.
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Chapter 18 1. Fiscal policy can BEST be defined as the use of: a. government expenditure and taxation to mitigate recessions. b. government expenditure, borrowing, and taxation to influence the business cycle. c. money supply manipulation to influence the business cycle. d. international political relations to influence the business cycle. ANSWER: b 2. The primary tools of fiscal policy are: a. money supply and money demand. b. government expenditure and money supply. c. government expenditure and taxation. d. taxation and interest rates. ANSWER: c 3. Which federal government policy influences business cycle fluctuations by taking action on taxes, spending, and borrowing? a. real business cycle policy b. fiscal policy c. monetary policy d. growth policy ANSWER: b 4. Which of these would help a government fight a recession? a. raising taxes b. cutting taxes c. cutting spending d. paying down the national debt ANSWER: b 5. The largest spending component of GDP is: a. consumption. b. investment. c. government spending. d. imports. ANSWER: a 6. As the recession continued in early 2009, consumer confidence most likely: a. increased. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. decreased. c. remained constant. d. became too difficult to calculate accurately. ANSWER: b 7. Fiscal policy involving _____ is designed to influence business cycle fluctuations. a. the taxation of income b. government spending c. government borrowing d. taxation, government spending, and borrowing ANSWER: d 8. Fiscal policy: a. is the decrease in private spending that occurs when the government increases spending. b. occurs when people see that lower taxes today means higher taxes in the future, so instead of spending their tax cut, they save it to pay future taxes. c. is federal government policy on taxes, spending, and borrowing that is designed to influence business fluctuations. d. is central bank policy on the monetary base, interest rates, and bank reserves that is designed to influence business fluctuations. ANSWER: c 9. Fiscal policy refers to changes in: a. government regulations that affect the level of market competition. b. interest rates that affect the credit markets. c. the money supply in an attempt to raise the standard of living. d. government spending or taxes in an attempt to influence the overall economy. ANSWER: d 10. To fight a recession, the federal government can: a. increase taxes. b. increase its spending. c. increase interest rates. d. decrease the discount rate. ANSWER: b 11. Fiscal policy includes federal government policy on: a. government spending only. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. taxes only. c. both government spending and taxes. d. neither government spending nor taxes. ANSWER: c 12. President Obama's fiscal policy response to the 2008 recession involved changes in: a. government spending only. b. taxation only. c. both taxation and government spending. d. neither government spending nor taxation. ANSWER: c 13. _____ is federal government policy on taxes, spending, and borrowing that is designed to influence business fluctuations. a. Business policy b. Fiscal policy c. Monetary policy d. Trade policy ANSWER: b 14. One way the government can use fiscal policy to fight a recession is to: a. spend less money. b. decrease Social Security payments. c. cut taxes. d. reduce welfare subsidies. ANSWER: c 15. What policy on taxes, spending, and borrowing is designed to influence business fluctuations? a. tax-and-spend policy b. cycle-smoothing policy c. fiscal policy d. monetary policy ANSWER: c 16. Fiscal policy is a policy: a. to change the money supply and interest rates to influence business fluctuations. b. on taxes, spending, and borrowing that is designed to influence business fluctuations. c. designed to increase incomes and decrease household debt and borrowing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. to change regulations to reduce corporate borrowing and increase corporate financial stability. ANSWER: b 17. The fiscal policy response to a recession includes what two tools? a. raising taxes and raising government spending b. raising taxes and reducing government spending c. reducing taxes and raising government spending d. reducing taxes and reducing government spending ANSWER: c 18. People holding more cash because of a decrease in consumer confidence would cause: a. a decrease in the growth rate of both output and inflation. b. a decrease in the growth rate of output and an increase in the inflation rate. c. an increase in the growth rate of output and a decrease in the inflation rate. d. an increase in the growth rate of both output and inflation. ANSWER: a 19. A decrease in consumers' confidence in banks would lead to _____ in the velocity of money and result in the AD curve shifting to the _____. a. an increase; left b. an increase; right c. a decrease; left d. a decrease; right ANSWER: c 20. If the economy is in a recession, the most appropriate fiscal policy would be to: a. decrease government spending to balance the budget. b. decrease both government spending and taxes. c. increase government spending and cut taxes, thus running a higher budget deficit. d. increase government spending and increase taxes to keep the budget balanced. ANSWER: c 21. When
falls, the aggregate demand curve:
a. shifts to the right. b. shifts to the left. c. becomes steeper. d. becomes flatter. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 ANSWER: b 22. When
falls, the LRAS curve:
a. shifts to the right. b. shifts to the left. c. becomes flatter. d. does not move. ANSWER: d 23. In the absence of any policy intervention, when
falls the result in the short run will be:
a. higher inflation and lower real growth. b. lower inflation and lower real growth. c. higher inflation and higher real growth. d. lower inflation and higher real growth. ANSWER: b 24. The economist John Maynard Keynes said, “In the long run, we are all _____.” a. old b. tired c. dead d. sticky ANSWER: c 25. When the government conducts fiscal policy, it makes up for a decrease in a. an increase in
.
b. a decrease in
.
c. an increase in
.
d. a decrease in
with:
.
ANSWER: a 26. An increase in government spending causes: a. the aggregate demand curve to shift to the left. b. the aggregate demand curve to shift to the right. c. an upward movement along the aggregate demand curve. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. a downward movement along the aggregate demand curve. ANSWER: b 27. A decrease in consumption growth will cause: a. AD to shift to the left. b. SRAS to shift to the left. c. LRAS to shift to the left. d. AD, SRAS, and LRAS to shift to the left. ANSWER: a 28. In the short run, a decrease in consumption growth will cause the inflation rate to: a. increase. b. decrease. c. remain unchanged. d. become unpredictable. ANSWER: b 29. In the short run, a decrease in consumption growth will cause real GDP growth to: a. increase. b. decrease. c. remain unchanged. d. become unpredictable. ANSWER: b 30. In the short run, an increase in government spending growth will cause the inflation rate to: a. increase. b. decrease. c. remain unchanged. d. become unpredictable. ANSWER: a 31. In the short run, an increase in government spending growth will cause the real GDP growth to: a. increase. b. decrease. c. remain unchanged. d. become unpredictable. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 32. The BEST type of negative shock for fiscal policy to respond to is a negative shock to: a. aggregate demand. b. short-run aggregate supply. c. the LRAS curve. d. inflation. ANSWER: a 33. During a recession, consumers hold more money by cutting back on their spending, resulting in _____ in inflation and _____ in real growth. a. a decrease; an increase b. a decrease; a decrease c. an increase; an increase d. an increase; a decrease ANSWER: b 34. A problem that makes fiscal policy less effective is that: a. fiscal policy must be offset by monetary policy. b. government spending is a relatively large portion of GDP. c. government spending does not directly affect aggregate demand. d. higher taxes or increased borrowing to fund government spending can reduce aggregate demand. ANSWER: d 35. In working to correct a recession with fiscal policy, the government can: a. wait for wages and prices to become more flexible. b. increase the money supply. c. increase its expenditures and/or decrease taxes to shift the LRAS curve. d. raise its expenditures and/or lower taxes to increase aggregate demand. ANSWER: d 36. When using fiscal policy to fight a recession, the government will: a. decrease taxes and/or increase government expenditures. b. increase taxes and/or decrease government expenditures. c. institute technological advancement in the economy. d. decrease government expenditures. ANSWER: a 37. Figure: Aggregate Demand and Fiscal Policy
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Chapter 18
In the best-case scenario, effective fiscal policy would take which action to correct an economy in recession at point Z? a. increase aggregate demand to move the economy to point X. b. increase the LRAS curve to a level above 3%. c. decrease the LRAS curve to a level below 2%. d. increase aggregate demand to move the economy to point W. ANSWER: a 38. Figure: Aggregate Demand and Fiscal Policy
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Chapter 18
In the best-case scenario, an economy in a recession at point Y would use fiscal policy to increase spending growth to: a. 5%. b. 7%. c. 15%. d. 10%. ANSWER: d 39. Which could be sources of funding for a government that wants to increase government expenditures? a. taxes only b. borrowing only c. both taxes and borrowing d. neither taxes nor borrowing ANSWER: c 40. When consumers cut back on spending, _____ fall(s). Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. the velocity of money b. the money supply c. interest rates d. tax rates ANSWER: a 41. Which statement is NOT a reason that government spending sometimes increases growth? a. Spending can lower inflation and keep prices and wages steady. b. Spending can move unemployed factors of production into productive activities. c. Spending can encourage additional private investment. d. Spending can increase consumer confidence. ANSWER: a 42. When consumers reduce spending, the reduction in the velocity of money is split between: a. a decrease in growth and an increase in inflation. b. a decrease in growth and a decrease in inflation. c. a decrease in money supply and a decrease in growth. d. a decrease in money supply and a decrease in inflation. ANSWER: b 43. Fiscal policy involves: a. government borrowing to finance the national debt. b. government taxes and spending that affect the income distribution among people. c. government taxes, spending, and borrowing that affect business fluctuations. d. a change of the money supply that affects business fluctuations. ANSWER: c 44. To fight a recession, the government can: a. increase spending. b. increase taxes. c. pay down government debt. d. increase interest rates. ANSWER: a 45. Examples of expansionary fiscal policy include increases in: a. government spending. b. income taxes. c. the money supply. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. interest rates. ANSWER: a 46. Fiscal policy can offset a positive shock to aggregate demand by raising: a. the discount rate. b. the growth rate of the money supply. c. taxes. d. government spending. ANSWER: c 47. Figure: Aggregate Demand Shifts 1
Suppose the economy is initially at point A in the diagram. If an increase in investment spending causes a shift of the AD curve from AD1 to AD4, then the government can avoid a short-run increase in inflation by: a. increasing taxes so that the AD curve shifts back to AD1. b. increasing taxes so that the AD curve shifts further out to AD5. c. increasing government spending so that the AD curve shifts back to AD1. d. increasing government spending so that the AD curve shifts further out to AD5. ANSWER: a 48. Other things being equal, a decrease in government spending causes: a. the AD curve to shift to the right. b. the AD curve to shift to the left. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. the LRAS curve to shift to the right. d. the LRAS curve to shift to the left. ANSWER: b 49. A decrease in consumption will cause aggregate demand to: a. shift left. b. shift right. c. remain unchanged. d. first shift right and then shift left. ANSWER: a 50. A decrease in consumption will cause the LRAS curve to: a. shift left. b. shift right. c. remain unchanged. d. first shift right and then shift left. ANSWER: c 51. A decrease in consumption will cause inflation to fall in: a. the short run only. b. the long run only. c. both the short run and the long run. d. neither the short run nor the long run. ANSWER: a 52. Figure: Aggregate Demand Shifts 2
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Chapter 18
Suppose the economy is initially at point A in the diagram. If a decrease in investment spending causes a shift of the AD curve from AD1 to AD2, then the government can avoid a short-run recession by: a. increasing taxes so that the AD curve shifts back to AD1. b. increasing taxes so that the AD curve shifts further in to AD3. c. increasing government spending so that the AD curve shifts back to AD1. d. increasing government spending so that the AD curve shifts further in to AD3. ANSWER: c 53. An increase in government spending will cause the AD curve to: a. shift left. b. shift right. c. remain unchanged. d. first shift right and then shift left. ANSWER: b 54. An increase in government spending will cause the LRAS curve to: a. shift left. b. shift right. c. remain unchanged. d. first shift right and then shift left. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 55. If consumption decreases, the government spending “multiplier effect” means that in order to counter the recession: a. the government cannot use fiscal policy. b. the government is forced to use both tax cuts and increases in . c.
fiscal policy needs to raise
by less than the decrease in
d. fiscal policy needs to raise
by more than the decrease in
. .
ANSWER: c 56. Assume that the government begins a large infrastructure program, causing construction firms in the area to earn more and hire more workers. Consequently, businesses in the area enjoy an increase in sales. This story illustrates: a. a multiplier effect. b. a decrease in aggregate demand. c. a negative technology shock. d. the crowding out effect. ANSWER: a 57. Imagine an economy in a recession resulting from a decrease in consumer spending. In the best-case scenario, increased government spending to fight the recession would: a. be offset by a decrease in inflation. b. need to be a little more than the initial fall in consumer spending to make up for lost GDP. c. not need to be as large as the initial fall in consumer spending. d. need to be exactly the same amount as the initial fall in consumer spending. ANSWER: c 58. As the government builds new schools, the construction workers and material vendors employed on the project spend more in the community where they live. What is the economic term for this effect? a. hastening b. multiplier c. duplicator d. spending ANSWER: b 59. The multiplier effect is the: a. subsequent consumer spending that increases AD as a result of expansionary fiscal policy. b. subsequent consumer spending that increases AD as a result of contractionary fiscal policy. c. increase in GDP from an increase in the money supply and a decrease in taxes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. increase in GDP from increased consumer savings and private investment. ANSWER: a 60. When the government increases its spending, the subsequent increase in nongovernment spending stimulates aggregate demand and is called the _____ effect. a. crowding out b. endowment c. multiplier d. automatic stabilizing ANSWER: c 61. Figure: Aggregate Demand Shifts 3
If the government reduces its spending so that the AD curve shifts from AD1 to AD2, the multiplier effect will cause the AD curve to: a. shift back to AD1. b. remain at AD2. c. shift farther to AD3. d. shift all the way out to AD4. ANSWER: c 62. Because of the multiplier effect, if a shock causes aggregate demand to increase by $200 million, then the government should _____ to restore the economy to its original growth rate. a. do nothing Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. increase government spending by more than $200 million c. reduce government spending by less than $200 million d. increase government spending by $200 million and cut taxes by $200 million ANSWER: c 63. When expansionary fiscal policy leads to an increase in incomes and consumer spending beyond the size of the initial expansionary fiscal policy, the subsequent increase in AD is called the _____ effect. a. expansionary b. secondary c. multiplier d. crowding out ANSWER: c 64. In order for fiscal policy to effectively offset a $1 million decrease in consumer spending, the government would MOST likely have to: a. keep a balanced budget. b. increase spending by $1 million. c. increase spending by more than $1 million. d. increase spending by less than $1 million. ANSWER: d 65. The multiplier concept is important because it shows: a. why fiscal policy is always effective. b. how small changes in government spending may have large impacts on overall output. c. how changes in taxes are multiplied into larger government revenues. d. why decreases in the tax rate may actually increase tax revenues overall. ANSWER: b 66. When expansionary fiscal policy increases income and thus consumer spending, the additional increase in AD it causes is called the: a. crowding out effect. b. secondary effect. c. spending effect. d. multiplier effect. ANSWER: d 67. As a result of the multiplier effect, a tax cut causes a: a. larger shift of the aggregate demand curve to the left. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. smaller shift of the aggregate demand curve to the left. c. larger shift of the aggregate demand curve to the right. d. smaller shift of the aggregate demand curve to the right. ANSWER: c 68. The multiplier effect from an increase in government spending causes additional increases in aggregate demand through: a. a decrease in taxes. b. even more government spending. c. an increase in consumer spending. d. a decrease in interest rates. ANSWER: c 69. The multiplier's effect comes from: a. an increased response of consumption to a change in income. b. a decreased response of consumption to a change in income. c. an increase in the income tax rate on marginal income. d. an increase in consumer purchases of imports in response to a change in income. ANSWER: a 70. Which statement, if true, will NOT limit the effectiveness of fiscal policy? a. Changes in private spending offset the effects of government spending or taxation. b. Changes in government spending are small in the short run. c. There is a lot of unemployment in the economy. d. Increased government spending and tax cuts increase incomes and thus increase consumer spending further. ANSWER: d 71. Which of the following limits the effectiveness of fiscal policy? a. crowding out b. the multiplier effect c. the big bucket effect d. free-riding behavior ANSWER: a 72. Which statement does NOT describe a major limit to the effectiveness of fiscal policy? a. A single increase in government spending may not be enough to stimulate the economy. b. The crowding out effect is transmitted through financial markets. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. Fiscal policy is not very effective in combating supply side shocks. d. A multiplier effect is associated with changes in spending and taxation. ANSWER: d 73. In what way are monetary and fiscal policies similar? a. They both target aggregate demand to overcome business fluctuations. b. They are both effective when the economy suffers from real shocks. c. Both are insulated from the political process. d. Neither involves a lag. ANSWER: a 74. What are the major limits to fiscal policy? a. crowding out, timing, and real shocks b. poor information, the multiplier effect, the bandwagon effect, and election timing c. sticky wages, Ricardian equivalence, recognition lag, and crowding out d. aggregate demand deficiency, unemployed resources, long-run expenses, and implementation lag ANSWER: a 75. The difficulties of using fiscal policy to affect the economy include: a. the automatic stabilizing effect. b. the crowding out effect. c. too much consumer spending in response to tax cuts. d. the multiplier effect. ANSWER: b 76. Which poses a limit to fiscal policy? a. crowding out b. the size of government expenditures c. legislative lags d. crowding out, the size of government expenditures, and legislative lags ANSWER: d 77. Which refers to the decrease in private spending when government spending increases? a. the multiplier effect b. the timing effect c. the automatic stabilizing effect d. the crowding out effect Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 ANSWER: d 78. When an increase in government spending leads to a decrease in private spending, it is called: a. crowding out. b. a drop in the bucket. c. bad timing. d. the implementation lag. ANSWER: a 79. If the government increases its spending, financing methods that can cause crowding out include: a. raising taxes. b. borrowing. c. both raising taxes and borrowing. d. neither raising taxes nor borrowing. ANSWER: c 80. Figure: A Real Shock
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Chapter 18 After a real shock, the economy is operating at point Y in the figure. Assuming there is no crowding out, fiscal policy that shifts aggregate demand from AD0 to AD2 will move the economy to point: a. A. b. B. c. V. d. X. ANSWER: c 81. Figure: A Real Shock
After a real shock, the economy is operating at point Y in the figure. In the presence of crowding out, fiscal policy that would have shifted aggregate demand from AD0 to AD2 will only move the economy to point: a. A. b. B. c. V. d. X. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 82. Crowding out: a. limits fiscal policy's ability to increase aggregate demand. b. affects contractionary fiscal policy. c. increases the multiplier effect. d. shifts the LRAS curve to the left. ANSWER: a 83. Crowding out occurs when: a. higher government spending leads to less private spending. b. personal consumption increases due to a decrease in savings. c. overall output is crowded out by lower government spending. d. increases in government spending lead to increases in taxes. ANSWER: a 84. Crowding out: a. is the decrease in private spending that occurs when government spending increases. b. occurs when people see that lower taxes today means higher taxes in the future, so they quickly spend the tax cut. c. is federal government policy on taxes, spending, and borrowing that is designed to influence business fluctuations. d. is central bank policy on the monetary base, interest rates, and bank reserves that is designed to influence business fluctuations. ANSWER: a 85. The crowding out effects of fiscal policy are smaller if: a. real GDP growth is above the economy's long-run potential rate. b. nominal wages and prices are flexible. c. the economy is in a recession caused by low aggregate demand. d. the spending multiplier is also smaller. ANSWER: c 86. The crowding out effect of fiscal policy refers to: a. the decrease in private spending as a result of higher government spending. b. the decrease in real GDP growth as a result of higher government spending. c. how more federal government spending affects the size of state and local governments. d. the increase in tax revenues as a result of an increase in government spending. ANSWER: a 87. If an increase in government spending of $100 million causes an increase in aggregate spending of less than Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 $100 million, we call this phenomenon: a. crowding in. b. crowding out. c. the multiplier. d. the Ricardian effect. ANSWER: b 88. The decrease in private spending that occurs when the government increases spending is called: a. crowding out. b. a drop in the bucket. c. a matter of timing. d. a real shock. ANSWER: a 89. Crowding out is the _____ in private spending that occurs when government _____ spending. a. increase; increases b. increase; decreases c. decrease; increases d. decrease; decreases ANSWER: c 90. Which statement pertains to the condition of crowding out? a. Government cuts spending by $300 million, resulting in a decrease in consumption by $500 million. b. Government cuts taxes, resulting in an increase in investment spending by $270 million. c. Government increases spending by $300 million on new highway construction, resulting in an increase in consumption by $500 million. d. Government raises taxes by $300 million to finance new spending on highway construction, resulting in a decrease in consumption spending by $270 million. ANSWER: d 91. Government spending is a more effective policy tool when: a. the economy is above the LRAS curve. b. the government raises taxes to finance spending. c. consumers are pessimistic and not spending. d. interest rates in the economy are rising simultaneously. ANSWER: c 92. An increase in government spending is MOST effective at improving aggregate demand when: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. private sector spending is very low. b. wages stay low. c. banks are not lending. d. consumers are increasing their spending. ANSWER: a 93. When fiscal policy is funded through taxes, government spending primarily crowds out: a. velocity. b. consumer spending. c. investment. d. real growth. ANSWER: b 94. Raising taxes to finance increases in government spending will be an effective means of increasing aggregate demand only if: a. the private sector is saving a high percentage of its income. b. the private sector is spending a high percentage of its income. c. the public sector is larger than the private sector. d. crowding out is present. ANSWER: a 95. As the savings rate in the private sector rises: a. the government spending multiplier will also rise. b. aggregate demand will be less responsive to changes in fiscal policy. c. increases in government spending become a more effective means of stimulating aggregate demand. d. the crowding out effect will have more of a negative effect on aggregate demand. ANSWER: c 96. When consumers receive tax rebates and use them to pay down debt rather than to increase spending: a. the resulting fiscal stimulus will be much larger than the initial tax rebate. b. the resulting fiscal stimulus will be much smaller than the initial tax rebate. c. the resulting fiscal stimulus will be the same size as the initial tax rebate. d. it is impossible to say whether the resulting fiscal stimulus will be larger or smaller. ANSWER: b 97. Other things being equal, will a temporary individual tax rebate or a permanent individual tax rebate provide the largest increase in aggregate demand? a. a temporary tax rebate Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. a permanent tax rebate c. They will both produce the same amount of stimulus. d. Neither will provide any stimulus. ANSWER: b 98. If $500,000 in new taxes is raised and spent on building a new school and $300,000 in private spending would have been spent anyway, how much is added to short-run aggregate demand? a. $100,000 b. $200,000 c. $300,000 d. $500,000 ANSWER: b 99. When fiscal policy is funded by government borrowing, government spending primarily crowds out: a. velocity. b. consumer spending. c. investment. d. real growth. ANSWER: c 100. Increases in government spending financed through additional borrowing will typically: a. provide more stimulus than when government spending is financed through higher taxes. b. lead to higher taxes. c. stimulate both consumption and investment. d. lead to higher interest rates. ANSWER: d 101. The primary concern of economists worried about the crowding out effect is the: a. growing size of the national debt. b. size of the interest payments on the national debt as compared with GDP. c. debate over future generations. d. upward pressure that increased borrowing places on interest rates. ANSWER: d 102. Increases in government spending financed through additional borrowing will typically have the largest impact on aggregate demand when: a. the stock market and other private investments are booming. b. increased uncertainty has caused a decrease in private sector investing. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. interest rates are high. d. private sector spending is high. ANSWER: b 103. New government spending financed by government borrowing is MOST likely to be effective when: a. banks are eager to make loans. b. the federal government is running a large deficit. c. the private sector is eager to spend. d. the private sector is reluctant to spend. ANSWER: d 104. A government can finance its spending by: a. lending money to corporations. b. borrowing money by selling bonds. c. decreasing interest rates. d. cutting taxes. ANSWER: b 105. Given the possibilities for crowding out, expansionary fiscal policy financed through government borrowing is MOST likely to be effective when the: a. public sector is keen to spend or invest. b. public sector is reluctant to spend or invest. c. private sector is keen to spend or invest. d. private sector is reluctant to spend or invest. ANSWER: d 106. When the government borrows money by selling bonds, some of the funds that would have gone to private investments go to the government. This situation is called: a. overcrowding. b. funneling. c. crowding out. d. underbidding. ANSWER: c 107. When the government borrows more, what happens? a. Interest rates go down and consumer spending rises. b. Interest rates go down and savings go up. c. Interest rates go up and consumer spending rises. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. Interest rates go up and savings go up. ANSWER: d 108. When consumers are very reluctant to spend in a recessionary environment, the government's MOST effective strategy is to: a. increase spending through increased government borrowing. b. decrease income taxes. c. decrease corporate taxes. d. do nothing; the economy will self-correct in the short run. ANSWER: a 109. Suppose taxpayers are given a one-time-only rebate on previous taxes paid. If consumers spend all of their tax rebate checks, what takes place in the economy? a. Aggregate demand shifts to the right. b. Aggregate demand shifts to the left. c. The LRAS curve shifts left. d. Inflation decreases. ANSWER: a 110. If households use tax rebate checks to pay off their existing debt (such as credit cards and mortgages), this type of fiscal stimulus: a. is likely to have a large impact on aggregate demand. b. is likely to have a negligible impact on aggregate demand. c. will only lead to higher inflation, not to an increase in the growth rate of output. d. will lead to a higher growth rate of output, but not to higher inflation. ANSWER: b 111. If the goal of a government policy change is to increase the incentive for taxpayers to work and/or invest, which policy is MOST likely to be successful? a. an increase in marginal tax rates b. an increase in taxes on savings c. a decrease in marginal tax rates d. an increase in interest rates ANSWER: c 112. Which is the MOST effective fiscal policy for influencing the economy? a. a temporary tax rebate b. a permanent tax cut c. a tax hike with no change in consumption in response to the income change Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. a tax hike that is matched by a government spending cut ANSWER: b 113. Another form of expansionary fiscal policy in addition to government spending is: a. a subsidy. b. a tax rebate. c. unemployment insurance. d. a welfare program. ANSWER: b 114. As a result of consumption smoothing, a one-time-only tax rebate tends to create a: a. big increase in spending now. b. big increase in spending over many years. c. small increase in spending now. d. small increase in spending over many years. ANSWER: d 115. Which is NOT a way to accelerate aggregate demand during an economic slowdown? a. temporary reductions in taxes on savings b. temporary investment tax credit c. temporary reduction in the payroll tax d. temporary reduction in the sales tax ANSWER: a 116. As a result of _____, a one-time-only tax rebate tends to create a small increase in spending over many years rather than a big increase in the present. a. crowding out b. intertemporal substitution c. consumption smoothing d. the bandwagon effect ANSWER: c 117. Which fiscal stimulus policy will provide a greater incentive to work? a. a one-time-only tax rebate b. an income tax rate cut c. an income tax increase d. a government borrowing program ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 118. What primary benefit can a temporary investment tax credit have? a. It can accelerate capital outlays in an economic downturn. b. It can encourage workers to work extra hours. c. It can encourage consumers to save more. d. It can encourage firms to hire more workers. ANSWER: a 119. Why do tax cuts stimulate the economy? a. A tax cut increases the income a consumer has available to spend after taxes are paid and thus increases consumption. b. Consumers see that tax cuts today will lead to higher taxes in the future, so they save most of the tax cut. c. A tax cut decreases incentive. d. A tax cut only decreases the incentive to spend. ANSWER: a 120. Which of these is (are) the tool(s) used to conduct fiscal policy? a. changes in government spending b. changes in interest rates c. changes in tax rates d. changes in government spending and changes in tax rates ANSWER: d 121. Suppose the federal government gives taxpayers a tax cut financed by borrowing. If taxpayers use the tax cut to pay off their debts, total spending will: a. increase. b. decrease. c. remain unchanged. d. first increase and then decrease. ANSWER: c 122. Consumers are more likely to spend the additional income they retain after a tax cut if the tax cut is believed to be: a. permanent. b. temporary. c. large. d. small. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 123. Ricardian equivalence: a. will occur less when consumers practice consumption smoothing. b. does not occur when a political administration is set to change. c. has not occurred in the United States. d. is less significant when consumers deem tax cuts or rebates as permanent. ANSWER: d 124. When consumers save their tax cut for a future tax increase, they are adhering to: a. the bandwagon effect. b. intertemporal substitution. c. the multiplier effect. d. Ricardian equivalence. ANSWER: d 125. If Ricardian equivalence holds, then an expansionary fiscal policy will: a. decrease aggregate demand in the short run. b. increase aggregate demand in the short run, but not in the long run. c. increase aggregate demand in both the short run and in the long run. d. have no effect on aggregate demand either in the short run or in the long run. ANSWER: d 126. If the government passed a tax cut to the people, but aggregate demand remained unchanged, the MOST likely reason is that: a. people saved all the additional money from the tax cut to pay for future tax increases. b. people spent all the additional money from the tax cut. c. the government spent the same amount as the total amount of the tax cut. d. the government financed the tax cut by printing more money. ANSWER: a 127. If Ricardian equivalence is correct, any tax cut will cause consumer spending to: a. increase. b. decrease. c. remain unchanged. d. change in an unpredictable manner. ANSWER: c 128. If Ricardian equivalence holds: a. taxpayers respond to lower tax rates today with increased savings today. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. taxpayers respond to lower tax rates today with increased spending today. c. consumption smoothing is less important than when Ricardian equivalence doesn't hold. d. changes in fiscal policy are more likely to have a larger impact on aggregate demand. ANSWER: a 129. Ricardian equivalence refers to the situation where taxpayers equate: a. higher budget deficits today with higher levels of government spending. b. higher government spending with lower marginal tax rates. c. budget deficits today with higher interest rates. d. lower taxes today with higher taxes in the future. ANSWER: d 130. Ricardian equivalence: a. is the decrease in private spending that occurs when government increases spending. b. occurs when people see that lower taxes today means higher taxes in the future, so instead of spending their tax cut, they save it to pay future taxes. c. is federal government policy on taxes, spending, and borrowing that is designed to influence business fluctuations. d. is central bank policy on the monetary base, interest rates, and bank reserves that is designed to influence business fluctuations. ANSWER: b 131. Which theory states that a tax cut does NOT affect aggregate demand because people save all they gain from the tax cut? a. quantity theory of money b. inefficient market hypothesis c. purchasing power parity d. Ricardian equivalence ANSWER: d 132. If Ricardian equivalence holds, then a $100 million tax cut financed by increased government borrowing means that: a. private saving will increase by $100 million. b. consumption will increase by $100 million. c. government spending will increase by $100 million. d. aggregate demand will increase by $100 million. ANSWER: a 133. Ricardian equivalence refers to the case when lower taxes today lead to higher: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. government spending in the future. b. taxes in the future. c. aggregate demand in the future. d. inflation in the future. ANSWER: b 134. Ricardian equivalence occurs when: a. the amount of tax increase is equivalent to the amount of private spending decrease. b. a tax cut now is equivalent to a tax cut in the future. c. people see that lower taxes today means higher taxes in the future. d. the amount of tax cut is equivalent to the amount of government spending reduction. ANSWER: c 135. When Ricardian equivalence holds, a tax cut: a. increases aggregate demand in the long run. b. increases aggregate demand in the short run. c. doesn't decrease aggregate demand even in the long run. d. doesn't increase aggregate demand even in the short run. ANSWER: d 136. In September 2010, after most of the funds from the American Recovery and Reinvestment Act of 2009 had been spent: a. the economy had completely recovered. b. unemployment had fallen to 4.8%. c. Keynesians were satisfied with the size of the stimulus. d. unemployment remained at 9.6%. ANSWER: d 137. The U.S. federal government fought the 2007–2009 recession with a nearly $900 billion fiscal stimulus spread over three to four years. At its peak, the stimulus was equivalent to about _____ of annual GDP. a. 2% b. 50% c. 100% d. 200% ANSWER: a 138. When the economy is at full employment, the main impact of an increase in total spending is: a. an increase in output. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. a decrease in output. c. an increase in the average price level. d. a decrease in the average price level. ANSWER: c 139. Suppose the economy is at full employment and there is an increase in government spending. What impact will this have on output? a. National output will rise. b. National output will fall. c. National output will remain the same. d. The change in national output is not predictable. ANSWER: c 140. Which is an example of crowding out? a. An increase in private spending generates an increase in tax revenue that reduces government borrowing. b. An increase in tax revenue reduces after-tax income and consumer spending. c. An increase in unemployment is offset by a decrease in inflation. d. An increase in government spending is offset by a decrease in private spending. ANSWER: d 141. Due to the multiplier effect on fiscal policy, an increase in government spending will: a. necessitate a large increase in taxes to pay for the spending. b. lead to an even larger increase in total spending. c. lead to an even larger increase in government spending. d. reduce private spending by the change in government spending. ANSWER: b 142. David Ricardo said that tax change will be ineffective fiscal policy when: a. people adjust their savings rather than spending when their after-tax income changes. b. people adjust their spending rather than savings when their after-tax income changes. c. the tax change is offset by a change in government spending. d. the tax change has a large impact on total spending. ANSWER: a 143. To the extent that people behave according to the Ricardian equivalence, fiscal policy: a. is more effective. b. is less effective. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. affects employment and output, but not price levels. d. affects price levels, but not employment and output. ANSWER: b 144. If government borrowing rises, interest rates will _____ and private spending will _____. a. rise; rise b. rise; fall c. fall; rise d. fall; fall ANSWER: b 145. Suppose the government borrows to fund increased spending. If that borrowing affects interest rates, then private spending may _____, causing fiscal policy to be _____. a. rise; effective b. rise; ineffective c. fall; effective d. fall; ineffective ANSWER: d 146. The multiplier is likely to be bigger when: a. the economy is at full employment. b. the government is unable to target its spending directly on the unemployed. c. tax cuts go to people who are likely to spend the tax cuts quickly. d. government borrowing crowds out private consumption and investment. ANSWER: c 147. Estimates during the 2008 financial crisis indicate that _____ have the highest multiplier effect. a. two-year tax cuts for lower- and middle-income people b. transfer payments to individuals c. one-time payments to retirees d. purchases of goods and services by the federal government ANSWER: d 148. The types of spending included in the American Recovery and Reinvestment Act of 2009: a. were limited to infrastructure projects. b. focused on transfer payments, and not on government purchases. c. focused on long-term, rather than short-term, spending. d. included types of spending with low multiplier effects. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 ANSWER: d 149. It is difficult for the federal government to increase aggregate demand through additional spending because: a. crowding out magnifies the impact of changes in government spending. b. discretionary government spending is a small part of its annual expenditures. c. changes in government spending are accompanied by matching changes in taxes. d. the government spending change creates a real shock that freezes the economy. ANSWER: b 150. In a typical year, changes in government spending compared to overall spending are relatively: a. small. b. large. c. unpredictable. d. well timed. ANSWER: a 151. Which is NOT a lag associated with fiscal policy? a. the time it takes to implement a policy once it's decided b. the time to collect the data to assess the condition of the economy c. the time it takes to assess whether the policy has worked d. the time it takes to assess whether to use fiscal or monetary policy ANSWER: d 152. Mistimed contractionary fiscal policy can cause: a. a real shock. b. rising interest rates. c. a recession. d. inflation. ANSWER: c 153. The time it takes to _____ creates difficulty in implementing fiscal policy to deal with an economic downturn that is magnified when the downturn is short-term rather than long-term? a. recognize the problem b. propose a plan c. implement the plan d. recognize the problem, propose a plan, and implement the plan ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 154. Which statement is TRUE about the difference between monetary and fiscal policy? a. Monetary policy is more quickly implemented. b. There is little debate over the appropriate fiscal policy response. c. Only monetary policy is subject to long lags. d. Monetary policy can affect the economy regardless of the actions banks take. ANSWER: a 155. The time between when an economic shock is recognized and when the government passes a plan to carry out a policy response is called the: a. recognition lag. b. legislative lag. c. effectiveness lag. d. adjustment lag. ANSWER: b 156. The time needed to determine that an economic problem exists is called the: a. legislative lag. b. recognition lag. c. implementation lag. d. effectiveness lag. ANSWER: b 157. The time needed for Congress to propose and pass a fiscal policy plan is called the: a. legislative lag. b. recognition lag. c. implementation lag. d. effectiveness lag. ANSWER: a 158. The time needed for government bureaucracies to carry out a fiscal policy plan is called the: a. legislative lag. b. recognition lag. c. implementation lag. d. effectiveness lag. ANSWER: c 159. The time needed for a fiscal policy plan to have an impact is called the: a. legislative lag. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. recognition lag. c. implementation lag. d. effectiveness lag. ANSWER: d 160. Which is NOT a lag associated with the implementation of fiscal policy? a. legislative lag b. recognition lag c. monetary lag d. effectiveness lag ANSWER: c 161. Which statement is TRUE? a. It may be difficult for the Fed to print enough money to have a noticeable effect on the economy. b. The effectiveness lag associated with monetary policy is likely to be near zero. c. Monetary policy has no recognition lag. d. By the time fiscal policy is in place, it is likely that macroeconomic conditions may have changed entirely. ANSWER: d 162. Fiscal policy lags: a. are generally shorter than monetary policy lags. b. are generally longer than monetary policy lags. c. are generally the same length as monetary policy lags. d. may be shorter or longer than monetary policy lags. ANSWER: b 163. The time it takes Congress to propose and pass a plan for fiscal policy is called the: a. recognition lag. b. legislative lag. c. effectiveness lag. d. adjustment lag. ANSWER: b 164. In 2011, most of the 2009 federal stimulus package had been spent, but the unemployment rate remained exceptionally high at nearly 10%. This is an example of the: a. recognition lag. b. legislative lag. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. implementation lag. d. effectiveness lag. ANSWER: d 165. In a recession, some aspects of fiscal policy can stimulate aggregate demand without the deliberate actions of policymakers. This occurs as a result of: a. crowding out. b. the multiplier effect. c. automatic stabilizers. d. Ricardian equivalence. ANSWER: c 166. In the United States, federal government expenditures must be approved by the: a. House of Representatives. b. Senate. c. president of the United States. d. House of Representatives, the Senate, and the president of the United States. ANSWER: d 167. The problem with fiscal policy that is created because of the recognition, legislative, implementation, effectiveness, and evaluation and adjustment lags is called: a. crowding out. b. a drop in the bucket. c. a matter of timing. d. a real shock. ANSWER: c 168. Which is NOT a relevant lag that would delay the effect of fiscal policy? a. recognition lag b. implementation lag c. effectiveness lag d. observation lag ANSWER: d 169. Fiscal policies that help an economy in a recession without deliberate actions by policymakers are called: a. consumption smoothers. b. Ricardian equalizers. c. automatic stabilizers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. multiplier effects. ANSWER: c 170. Which is NOT an automatic stabilizer? a. unemployment compensation b. defense spending c. progressive tax system d. welfare programs ANSWER: b 171. Automatic stabilizers are components of federal revenue and spending that affect _____ without the need for explicit action by policymakers. a. aggregate demand b. the LRAS curve c. short-run aggregate supply d. aggregate demand and short-run aggregate supply ANSWER: a 172. In a recession, automatic stabilizers cause: a. an increase in tax revenues or a decrease in government spending. b. a decrease in tax revenues or an increase in government spending. c. an increase in both tax revenues and government spending. d. a decrease in both tax revenues and government spending. ANSWER: b 173. Examples of automatic stabilizers include: a. food stamps. b. unemployment benefits. c. income taxes. d. food stamps, unemployment benefits, and income taxes. ANSWER: d 174. Which provide(s) an automatic stabilizer when the economy is declining? a. money supply b. government borrowing c. regressive tax system d. welfare and transfer programs ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 175. Automatic stabilizers are: a. federal spending and tax policies that stimulate aggregate demand in a recession without the need for explicit action by policymakers. b. subject to significant lags. c. a result of the U.S. regressive tax system. d. not very effective fiscal policy. ANSWER: a 176. Which is NOT true regarding the 2009 stimulus plan enacted under President Obama? a. The stimulus plan included new spending and tax cuts totaling $800 billion to $900 billion. b. Many of the tax cuts were saved rather than spent. c. Federal grants to states prevented massive state layoffs but also made state agencies highly dependent on the federal government for revenue. d. The stimulus plan led to a high degree of crowding out of private investment. ANSWER: d 177. When fiscal policy is done through tax cuts instead of spending increases: a. individuals rather than government employees will decide how the stimulus gets spent. b. there are likely to be many “bridges to nowhere.” c. the resulting spending won't pass the cost–benefit test. d. the resulting fiscal stimulus will be spent by the government. ANSWER: a 178. Regarding fiscal stimulus, Republicans tend to favor _____; Democrats tend to favor _____. a. increased government spending; tax cuts b. tax cuts; increased government spending c. tax cuts; tax cuts d. increased government spending; increased government spending ANSWER: b 179. Suppose the unemployed are mostly construction workers by profession. Which government spending project will MOST effectively target unused labor resources? a. increasing teacher quality b. investing in research on solar energy c. improving funding for medical care for the elderly d. renovating the nation's highway system ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 180. Fiscal policy under the 2009 American Recovery and Reinvestment Act took the form of: a. government spending. b. tax cuts. c. a mix of government spending and tax cuts. d. neither government spending nor tax cuts. ANSWER: c 181. According to the text, the consensus about the effects of the 2009 fiscal stimulus was that: a. a lot of the tax cuts did not turn into consumer spending. b. most state governments did not benefit from the stimulus program. c. the spending on infrastructure created many new permanent jobs. d. the massive government spending programs almost completely crowded out private spending. ANSWER: a 182. The implementation lag is likely to be: a. longer for changes in government spending than for changes in taxation. b. shorter for changes in government spending than for changes in taxation. c. indefinitely long for both changes in government spending and changes in taxation. d. similar in length for both changes in government spending and changes in taxation. ANSWER: a 183. The difficulty with increasing government purchases as a fiscal policy stimulus is that: a. discretionary government spending is a small portion of total government spending. b. government purchases have multipliers with values below 1. c. it is easier to reduce government purchases than it is to increase government purchases. d. spending changes occur so quickly that they are hard to control. ANSWER: a 184. Which is NOT one of the time lags that make it difficult for fiscal policy to be used to offset swings in the business cycle? a. evaluation and adjustment lag b. implementation lag c. smoothing lag d. recognition lag ANSWER: c 185. Which is one of the types of time lags that prevent fiscal policy from being implemented in a timely manner? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. partitioning lag b. legislative lag c. structuring lag d. impact lag ANSWER: b 186. Which is NOT among the difficulties of using tax cuts as a fiscal policy stimulus? a. The cuts are usually a very small portion of national income. b. Tax cuts for the rich usually result in more saving than spending. c. Tax cuts for the poor have little impact on total taxes paid. d. Tax cuts are tied to decreases in government spending, so aggregate demand is unchanged. ANSWER: d 187. Which is TRUE regarding the time lags associated with monetary policy and fiscal policy? a. Time lags are identical for monetary policy and fiscal policy. b. Time lags compare unpredictably for monetary policy and fiscal policy. c. Time lags are shorter for fiscal policy than for monetary policy. d. Time lags are shorter for monetary policy than for fiscal policy. ANSWER: d 188. An automatic stabilizer is a: a. government program that is designed to stimulate aggregate demand during recessions without the need for specific actions by policymakers. b. type of fiscal policy tool that automatically adjusts the size of the multiplier to meet stabilization needs. c. discretionary action taken by policymakers to address current economic conditions. d. government program that maintains a constant level of spending regardless of economic conditions. ANSWER: a 189. Which does NOT function as an automatic stabilizer? a. unemployment insurance b. Medicaid c. the construction of a new school d. food stamps ANSWER: c 190. Which type of tax functions as an automatic stabilizer? a. flat tax Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 b. sales tax c. progressive income tax d. regressive income tax ANSWER: c 191. If an income tax system is designed to serve as an automatic stabilizer, when incomes fall then: a. policymakers take action to increase tax rates. b. policymakers take action to reduce tax rates. c. after-tax income falls more than income itself. d. after-tax income falls less than income itself. ANSWER: d 192. What behavior pattern has the impact of an automatic stabilizer? a. an increase in savings during a recession b. consumption smoothing c. spending based on current incomes d. spending more when incomes are high ANSWER: b 193. Which fiscal policy action to offset a recession would increase the size of the government as a share of the economy? a. an increase in taxes b. a decrease in taxes c. an increase in government purchases d. a decrease in government purchases ANSWER: c 194. Which fiscal policy action to offset a recession would decrease the size of the government as a share of the economy? a. an increase in taxes b. a decrease in taxes c. an increase in government purchases d. a decrease in government purchases ANSWER: b 195. What types of expansionary fiscal policy actions can be offset by crowding out? a. tax changes but not government spending changes b. government spending changes but not tax changes Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. both tax changes and government spending changes d. neither tax changes nor government spending changes ANSWER: c 196. Which is NOT the result of an expansionary fiscal policy used to combat a negative real shock? a. Expansionary fiscal policy will impact inflation rather than increases in output. b. Expansionary fiscal policy will shift the aggregate demand curve to the right. c. Crowding out will reduce the impact of expansionary fiscal policy. d. The short-run aggregate supply curve will shift to the right. ANSWER: d 197. When a recession is caused by a real shock to the economy, it is difficult to recover through fiscal policy because: a. low output is not caused by inefficiency. b. shifts in aggregate demand do not affect output in the short run. c. real shocks affect only prices and not output. d. a real shock offsets fiscal policy. ANSWER: a 198. To recover from a negative real shock to the economy, fiscal policy: a. moves the economy back to its original growth rate but with a lower inflation rate. b. moves the economy back to its original growth rate and inflation rate. c. affects inflation more than output. d. affects output more than inflation. ANSWER: c 199. When a negative real shock occurs, fiscal policy cannot: a. increase government spending. b. affect taxes. c. affect the inflation rate. d. move output above its new long-run growth rate. ANSWER: d 200. Which statement is TRUE? a. Fiscal policy is equally effective in resolving recessions caused by real shocks and aggregate demand shocks. b. Fiscal policy is more effective in resolving recessions caused by aggregate demand shocks than by real shocks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. Fiscal policy has shorter time lags than monetary policy. d. The problems fiscal policy attempts to resolve are different from the problems monetary policy attempts to resolve. ANSWER: b 201. Which is the MOST effective fiscal policy to fight a recession if people react to uncertainty by saving all additional money that they earn or receive? a. a tax cut b. a tax increase c. an increase in government spending d. a do-nothing strategy that relies on automatic stabilizers ANSWER: c 202. After a negative real shock, government spending only improves growth minimally and aggregate demand doesn't fully recover because of: a. crowding out. b. Ricardian equivalence. c. effectiveness lags. d. wealth effects. ANSWER: a 203. Fiscal policy is MOST effective in keeping both inflation and real growth stable when there is a: a. shock to the LRAS curve. b. shock to aggregate demand. c. real shock. d. change in expected inflation that shifts the SRAS curve. ANSWER: b 204. When an economy experiences a negative real shock, fiscal policy: a. using tax cuts is appropriate. b. using increased government expenditures is appropriate. c. is generally not appropriate. d. is never used by politicians. ANSWER: c 205. Fiscal policy is MOST effective in offsetting the effects of: a. shocks to aggregate demand. b. real shocks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. shocks to the short-run aggregate supply curve. d. shocks to the LRAS curve. ANSWER: a 206. If the economy is hit by a negative real shock that raises inflation and unemployment, which fiscal policy action should the government take to keep inflation and unemployment stable? a. cut taxes b. raise taxes c. increase government spending d. No government action can achieve those goals. ANSWER: d 207. A negative real shock causes the LRAS curve to: a. shift left. b. shift right. c. become flatter. d. become steeper. ANSWER: a 208. Increases in government spending are NOT very effective in offsetting real shocks because they shift the: a. AD curve. b. SRAS curve. c. LRAS curve. d. demand for loanable funds. ANSWER: a 209. When a recession is caused by a real shock, an expansionary fiscal policy will result in an increase in: a. the growth rate that is higher than the increase in the inflation rate. b. productivity. c. the inflation rate that is higher than the increase in the growth rate. d. the unemployment rate. ANSWER: c 210. Expansionary fiscal policy today might mean: a. increased taxes in the future. b. contractionary fiscal policy in the future. c. increased public borrowing in the future. d. increased taxes, contractionary fiscal policy, and increased public borrowing in the future. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 ANSWER: d 211. What explains why Argentina had a greater than 100% crowding out during the 1999 to 2002 period? a. The government accidentally contracted expenditure instead of expanding it. b. uncertainty and pessimism c. implementation lags d. recognition lags ANSWER: b 212. What can happen when a government continues to use expansionary fiscal policy even as government debt becomes a problem? a. Real growth can only happen slowly. b. Real growth can be inconsistent. c. Real growth can continue to fall. d. The interest rate on government debt is likely to fall. ANSWER: c 213. Expansionary fiscal policy can reduce real growth if the increase in government spending: a. causes a large enough increase in private spending. b. causes a large enough decrease in private spending. c. is believed to be temporary. d. is believed to be permanent. ANSWER: b 214. When countries have severe debt problems: a. fiscal policy is an especially good idea. b. expansionary fiscal policy can reduce real growth. c. it makes no difference for fiscal policy. d. they can continue to borrow forever without any adverse consequences. ANSWER: b 215. An increase in government spending can reduce real GDP growth if: a. most government spending is used to reduce the national debt. b. decreases in private spending more than offset the increase in government spending. c. taxes do not increase enough to finance the increase in government spending. d. the credibility of the government is too high. ANSWER: b 216. Ideal fiscal policy will: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. decrease aggregate demand in good times and pay off the debt in bad times. b. decrease aggregate demand in bad times and pay off the debt in good times. c. increase aggregate demand in good times and pay off the debt in bad times. d. increase aggregate demand in bad times and pay off the debt in good times. ANSWER: d 217. Debt can be such a problem that: a. expansionary fiscal policy can increase real growth. b. expansionary fiscal policy can reduce real growth. c. contractionary fiscal policy can increase real growth. d. contractionary fiscal policy can reduce real growth. ANSWER: b 218. Which is an example of countercyclical fiscal policy? a. increasing taxes during a recession b. decreasing taxes during a recession c. increasing government purchases during an expansion d. decreasing government purchases during a recession ANSWER: b 219. If the government decreases spending during recessions and increases spending during expansions, business cycles will be: a. more volatile than if spending were steady. b. less volatile than if spending were steady. c. the same as if spending were steady. d. erratic with no predictable pattern. ANSWER: a 220. Which of the following would be a “common sense” fiscal policy according to the text? a. increasing government spending during a recession b. increasing taxes during a recession c. decreasing government spending during an expansion d. increasing government spending during an expansion ANSWER: d 221. Fiscal policy is MOST effective if: a. nominal wages and prices are totally flexible. b. taxpayers care about how fiscal policy is financed. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 c. the economy is hit by a shock to aggregate demand. d. most resources are fully employed. ANSWER: c 222. Fiscal policy is MOST effective when: a. interest rates are high. b. government can only borrow at high interest rates. c. the money supply is falling. d. there are many unemployed resources. ANSWER: d 223. The macroeconomic case for increased government spending is strongest when: a. economic performance is robust. b. national infrastructure is significantly depreciated. c. the government faces some immediate emergency. d. private spending is strong. ANSWER: c 224. Government spending is BEST for the economy when it is worth incurring some: a. short-run costs to get long-run economic growth. b. long-run costs to get a short-run economic boost. c. short-run costs to get a short-run boost and long-run economic growth. d. long-run costs to get a permanent increase in economic growth. ANSWER: b 225. Which does NOT explain when fiscal policy is most likely to matter? a. when the economy needs a short-run boost even at the expense of the long run b. when the problem is a deficiency in aggregate demand rather than a real shock c. when monetary policy lags behind fiscal policy d. when many resources are unemployed ANSWER: c 226. Under which scenario would expansionary fiscal policy work BEST? a. when two real shocks have occurred b. when the economy is at equilibrium in the long run c. when the economy has had a large negative supply shock d. when AD is low compared with the long-run equilibrium position of the economy Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 ANSWER: d 227. Fiscal policy is: a. equally effective in dealing with real shocks as with aggregate demand shocks. b. more effective in dealing with real shocks than with aggregate demand shocks. c. less effective in dealing with real shocks than with aggregate demand shocks. d. not effective in dealing with either real shocks or aggregate demand shocks. ANSWER: c 228. Fiscal policy is a good option to stimulate an economy when: a. unemployment is very high. b. the economy is very close to its long-run potential growth rate. c. a real shock occurs. d. the economy is suffering from a decrease in productivity. ANSWER: a 229. Fiscal policy is a good option to stimulate an economy when: a. consumer saving is very low. b. consumer spending is very low. c. there has been a negative technological shock in the economy. d. LRAS has suddenly shifted to the left. ANSWER: b 230. Under which circumstance should an economic advisor for a small economy recommend a large increase in government spending? a. The country is in a recession that seems to be turning into a depression. b. The government has a record high budget deficit. c. It has become more difficult for the government to borrow. d. The economy is struggling primarily because of high oil prices. ANSWER: a 231. Fiscal policy is well suited to counteract a recession or depression when: a. unemployment is low. b. taxes are high. c. a real negative shock occurs. d. resources are underused. ANSWER: d 232. Fiscal policy is more effective in impacting economic activity if: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. many resources are unemployed. b. there is a real shock instead of an aggregate demand shock. c. the economy returns to its long-run potential growth rate almost immediately. d. there is a long implementation lag. ANSWER: a 233. Which is NOT an area of consensus regarding fiscal stimulus during the Obama administration? a. Automatic stabilizer spending was well timed and targeted those who were more likely to spend. b. A lot of the tax cuts were saved or used to pay off debts rather than being spent. c. Direct expenditures by the federal government had a large range of multipliers. d. Grants to state and local governments had low multipliers and contributed to layoffs. ANSWER: d 234. The case for deficit-spending countercyclical fiscal policy is weak in which situation? a. wars b. emergencies c. loss of exports d. natural disasters ANSWER: c 235. Fiscal policy is most likely to be effective when: a. the economy needs a long-run boost. b. government spending is efficient and productive. c. the problem is large and the fiscal stimulus targets the economy as a whole. d. the problem is a real shock to the economy. ANSWER: b 236. Fiscal policy is unlikely to be effective when: a. the problem is a decrease in aggregate demand rather than a real shock. b. the fiscal stimulus targets everyone. c. government spending is efficient and productive. d. the economy needs a short-run boost. ANSWER: b 237. What two opposing forces affect the degree of impact that fiscal policy has on the economy? a. progressive taxes and regressive taxes b. deficits and surpluses c. crowding out and the multiplier effect Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 d. business cycles and trends ANSWER: c 238. The tools of fiscal policy are government expenditure and taxation. a. True b. False ANSWER: a 239. Fiscal policy is most desirable when the economy has returned to its long-run equilibrium immediately after a shock occurs. a. True b. False ANSWER: b 240. A tax cut causes the AD curve to shift to the right. a. True b. False ANSWER: a 241. Economists who believe that fiscal policy can be effective in smoothing out business cycles created by shifts in aggregate demand also believe strongly in the idea that “supply creates its own demand.” a. True b. False ANSWER: b 242. When a fiscal stimulus is used to address a decrease in
that causes a reduction in AD, the increase in
government spending must be the same size as the change in
.
a. True b. False ANSWER: b 243. The best case for fiscal policy occurs when the economy is hit by a real shock. a. True b. False ANSWER: b 244. The worst case for fiscal policy is when a recession is caused by a decrease in aggregate demand. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. True b. False ANSWER: b 245. Fiscal policy will be most effective when people have been eager to spend their money. a. True b. False ANSWER: b 246. An increase in government spending increases incomes and thus also increases personal consumption. a. True b. False ANSWER: a 247. Small changes in government spending can end up producing larger changes in the overall growth rate of output. a. True b. False ANSWER: a 248. Because of the multiplier effect, a smaller change in government spending can generate a larger change in aggregate demand. a. True b. False ANSWER: a 249. The multiplier effect is the increase in AD when private spending augments the effect of expansionary fiscal policy. a. True b. False ANSWER: a 250. The multiplier effect occurs when a change in government spending raises the incomes of people, who in turn increase their spending. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 251. The crowding out effect refers to an increase in private spending that leads to a decrease in government spending. a. True b. False ANSWER: b 252. An effective way to combat real shocks is to change the growth in government spending. a. True b. False ANSWER: b 253. Expansionary fiscal policy is enhanced by the multiplier effect but compromised by the crowding out effect. a. True b. False ANSWER: a 254. The crowding out effect reduces the effectiveness of fiscal policy in combating economic shocks. a. True b. False ANSWER: a 255. Raising taxes to finance increases in government spending will only be an effective means of increasing aggregate demand if private savings rates are very low. a. True b. False ANSWER: b 256. Fiscal policy is most effective when people are otherwise unwilling to spend money. a. True b. False ANSWER: a 257. When the government borrows to finance government expenditures, it actually encourages more household saving. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 258. Expansionary fiscal policy financed through increased government borrowing is least likely to be effective when the private sector is reluctant to spend or invest. a. True b. False ANSWER: b 259. If consumers believe a tax cut is permanent, they will spend more of it. a. True b. False ANSWER: a 260. Tax cuts are likely to have a larger impact on consumer spending if they are permanent rather than temporary. a. True b. False ANSWER: a 261. Tax cuts will be effective in stimulating aggregate demand if funds from the cuts are saved. a. True b. False ANSWER: b 262. An investment tax credit provides an incentive for immediate investment spending. a. True b. False ANSWER: a 263. If Ricardian equivalence holds, fiscal policy has no effect on either inflation or real growth. a. True b. False ANSWER: a 264. Total Ricardian equivalence will render a tax cut ineffective in stimulating AD. a. True b. False ANSWER: a 265. If an economy is 2% below its long-run potential growth rate, the federal government can offset the Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 recession with a 2% increase in discretionary spending. a. True b. False ANSWER: b 266. The majority of the federal budget is nonsecurity discretionary spending, and this enables policymakers to influence the economy through flexibility in the budget process. a. True b. False ANSWER: b 267. The stimulus plan passed under President Obama in 2009 increased government spending and cut taxes by nearly $900 billion, but unemployment still remained above 9% for nearly two years. a. True b. False ANSWER: a 268. Most changes in government spending are large relative to the size of the economy. a. True b. False ANSWER: b 269. The U.S. fiscal stimulus plan passed in 2009 was the largest fiscal stimulus in the United States since World War II. a. True b. False ANSWER: a 270. Fiscal policy is often implemented very quickly and effectively. a. True b. False ANSWER: b 271. Compared with monetary policy, fiscal policy generally involves a shorter implementation lag. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 272. Monetary policy lags are generally shorter than fiscal policy lags. a. True b. False ANSWER: a 273. Automatic stabilizers automatically keep private spending lower during bad economic times. a. True b. False ANSWER: b 274. Tax cuts often have an immediate impact on redirecting an economic downturn. a. True b. False ANSWER: b 275. Lags associated with monetary policy are generally longer than lags associated with fiscal policy. a. True b. False ANSWER: b 276. President Bush favored increases in government spending as a way to stimulate the economy, while President Obama favored tax cuts. a. True b. False ANSWER: b 277. People who think that the government is spending enough will generally prefer that fiscal policy work through tax policy changes. a. True b. False ANSWER: a 278. The worst case for fiscal policy is when a recession is caused by a real shock. a. True b. False ANSWER: a 279. Fiscal policy is especially effective when used to combat real shocks. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 a. True b. False ANSWER: b 280. To keep inflation and GDP growth stable, the government can apply fiscal policy in the presence of a real shock. a. True b. False ANSWER: b 281. When countries have extremely high debt levels, expansionary fiscal policy could cause AD to contract. a. True b. False ANSWER: a 282. The fiscal stimulus undertaken by Argentina from 1999 to 2002 was counterproductive. a. True b. False ANSWER: a 283. Increases in government spending do little to change long-run economic growth. a. True b. False ANSWER: a 284. What conditions are important for fiscal policy to occur in the best-case scenario? ANSWER: In the best-case scenario, fiscal policy is used in response to a recession caused by a demand shock that results from a decrease in consumer spending. In the best case, fiscal policy encourages more private spending through the multiplier effect and the negative impact of crowding out is small. These conditions are most likely to be met when there is a general unwillingness to spend in the private sector. In addition, the timing problems caused by the various lags that affect fiscal policy will be outweighed by the need for a short-run boost (perhaps because the recession is relatively severe). 285. According to the AD–AS model, the economy always returns to its long-run potential growth rate in the long run. Why then should government intervene and do anything when the economy suffers a negative aggregate demand shock and falls into a recession? ANSWER: A negative AD shock can lead the economy to a recession in the short run when wages and prices are sticky. In the long run, wages and prices become flexible and consumption growth will recover, so the economy moves back to its long-run growth rate. John Maynard Keynes argued, however, Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 that “in the long run, we are all dead,” meaning that the natural recovery process would simply take too long. To ensure that the economy recovers more quickly, the government can use expansionary fiscal policy to offset the negative AD shock. To do so, the government can quickly raise spending and/or cut taxes so that the AD curve shifts back to its original position. In short, the use of fiscal policy is about getting the economy back to its long-run growth rate more quickly. 286. Explain the multiplier effect. ANSWER: The multiplier effect occurs when the increase in aggregate spending that results from an increase in government spending exceeds the increase in government spending alone. The increase in government spending leads to an initial increase in income, which causes private consumption to rise. The increase in consumption leads to additional increases in income, and this process repeats itself throughout the economy. The result is a combined increase in spending, and thus aggregate demand exceeds the initial increase in government spending. 287. What are the multiplier effect and the crowding out effect? Using an AD–AS diagram, contrast the implications for fiscal policy of multiplier effects with those of crowding out effects. ANSWER:
The multiplier effect occurs when an increase in government spending causes a subsequent increase in private consumer spending, thus increasing AD by a larger amount than the initial fiscal policy action. As a result of the multiplier effect, fiscal policy is more effective. Crowding out occurs when expansionary fiscal policy leads to private spending changes in the opposite direction. As a result of the crowding out effect, fiscal policy is less effective. In the AD–AS diagram, suppose the economy is initially at point A. If the government increases its spending, the AD curve shifts from AD1 to AD2. As a result of the multiplier effect, consumer spending also increases, so that the AD curve with the consumption increase shifts to AD3. When crowding out occurs, some of the increase in aggregate demand is offset by private spending reductions and aggregate demand does not remain at AD3, but will be represented by either AD2 or possibly AD4, depending on the size of the crowding out effect. If the increase in government spending totally “crowds out” private spending, then the AD curve will remain at AD1 and fiscal policy will be ineffective. 288. Explain the fundamental reason that fiscal policy can work and pay for itself. ANSWER: The fundamental reason that fiscal policy can work is that when resources are not being used, the Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 economy is operating inefficiently and there is room for output to increase. If spending more can lead to more resources being used, then the spending can, in principle, pay for itself. 289. Discuss the four major limits to fiscal policy. ANSWER: The first difficulty is related to the crowding out effect, in which a decrease in private spending follows an increase in government spending; this reduces the ability of fiscal policy to increase aggregate demand. The second difficulty is related to the size of the economy, which is too large for modest or even large increases in government spending to have a meaningful impact on real growth or inflation. The third difficulty is related to the various lags in passing and implementing the policy plan. These lags make it difficult to get the timing right when using policy to offset aggregate demand shocks—and badly timed policy can actually make business fluctuations more volatile. The preceding three difficulties arise from using fiscal policy to influence aggregate demand. The fourth difficulty is that fiscal policy is not effective in dealing with an economy experiencing real shocks. Fiscal policy works by shifting AD, so it is poorly equipped to fix problems caused by shocks on the supply side. 290. Is fiscal policy effective in reducing both inflation and unemployment at the same time? ANSWER: Generally not. Fiscal policy is primarily a demand-side policy tool, and unless it induces changes in productive behavior by either firms or workers, it suffers from the same problem as monetary policy. If, for example, it only affects spending behavior by increasing (or decreasing) AD, then inflation will rise (fall) and unemployment will fall (rise). 291. Explain why a negative real shock followed by an increase in government spending will lead to higher inflation. ANSWER: The negative real shock causes the LRAS curve and the SRAS curve to shift to the left, leading to an increase in inflation following the shock. If the government responds with an increase in government spending, the aggregate demand curve will shift to the right, causing a further increase in the inflation rate. And once inflation expectations adjust in the long run, SRAS will shift farther to the left and inflation will rise yet again. 292. Suppose an economy suffers a real shock that lowers the economy's long-run potential growth rate. Will fiscal policy be effective in taking the economy back to its original point? How would the existence of crowding out affect your answer? Illustrate your answer with the use of a diagram.
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Chapter 18 ANSWER:
Expansionary fiscal policy is a demand-side policy that is not as effective when dealing with a real shock. A real shock as described in the question would move the economy from point A to point Y in the figure. Expansionary fiscal policy would then move the economy to point V. But if crowding out is present, private spending will subsequently decline and the economy will move only to point X. Note that even without the crowding out effect, the ability of fiscal policy to restore growth at its original level is limited. This is because the real shock has decreased the productivity of resources, and increases in demand brought about by policy cannot overcome this fact. The result is a limited effect on growth and a modest rise in the inflation rate following the use of policy. 293. Many economists believe that the most harmful consequence of continuing to finance high budget deficits through borrowing is the upward pressure placed on interest rates. Explain this argument. (That is, explain why higher budget deficits may lead to higher interest rates and why this may be detrimental to the economy in the long run.) ANSWER: When the government runs a budget deficit, it must finance that deficit by borrowing the money it needs (or raise taxes, but then the deficit problem is resolved). When borrowing to finance a deficit, the government competes with private sector borrowers for its funds and this ultimately drives up the cost of borrowing. Higher interest rates thus make borrowing for investment purchases more expensive, leading to a decrease in private sector investment, hence lower aggregate demand and GDP. This form of crowding out is damaging to the country's long-run growth potential, since less investment means that less capital stock is put in place. 294. What, if any, timing challenges exist with the use of discretionary fiscal policy? If there are any, compare and contrast them with the timing challenges of monetary policy. ANSWER: The same timing challenges, or lags, exist for fiscal policy that we encounter for monetary policy; their lengths, however, vary somewhat. The first lag is the recognition lag, the length of time between a problem's occurrence and its recognition. Monetary policy faces this lag, as well; data must be collected, refined, and analyzed. The second lag is the legislative lag. The Constitution requires that Congress and the president approve all federal expenditures. Reaching an agreement that satisfies both parties in Congress and the president can be a challenging and lengthy process. In contrast, the Federal Reserve only needs to convene the FOMC and can act more quickly when it Copyright Macmillan Learning. Powered by Cognero.
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Chapter 18 recognizes a problem. Thus, the legislative lag is not an issue with monetary policy. After political approval, spending is in the hands of the government bureaucracy. Often it must adhere to numerous legal requirements that go along with the spending of federal funds. This is the implementation lag, which again is generally not present with monetary policy. Then there is the question of how long it takes for aggregate demand to shift once the spending or tax cut occurs. This is known as the effectiveness lag. Fiscal policy can be effective in shifting demand more quickly than monetary policy, since the money will be put directly into the economy. Monetary policy relies on the willingness of banks to lend and the public to borrow in order for an increase in reserves to actually increase aggregate demand. Thus, the effectiveness lag can be longer for monetary policy than fiscal policy. Finally, both fiscal and monetary policies require time for evaluation and adjustment. Evaluation and adjustment lags occur as additional information is gathered. 295. Identify and explain the lags relevant to the use of fiscal policy. ANSWER: (1) Recognition lag: The problem must be recognized. (2) Legislative lag: Congress must propose and pass a plan that the president agrees to. (3) Implementation lag: Bureaucracies must implement the plan. (4) Effectiveness lag: The plan takes time to work. (5) Evaluation and adjustment lag: It takes time to see how the plan works and to make adjustments if necessary. 296. How is a country’s ability to use countercyclical fiscal policy to resolve recessions hindered if the government does not run budget surpluses during expansionary periods? ANSWER: If the government uses countercyclical fiscal policy to resolve recessions, it will have budget deficits during recessions. Deficits build up debt, and obligations to pay interest on loans come with such debt. If the government runs surpluses during expansionary periods, it can pay off the debt from the previous recession or at least reduce the debt. This keeps interest payments low so that they constitute a small portion of the national budget. If the government does not reduce debt during expansionary periods and continues deficit spending, interest payments will grow, potentially becoming a large portion of government expenditures. If interest obligations become a large portion of government expenditures, discretionary spending will be a smaller portion of government expenditures, leaving less room for the countercyclical spending changes that come from discretionary spending. 297. Explain the dilemma policymakers face with respect to fiscal policy when government deficits and the national debt reach burdensome levels. ANSWER: If policymakers decide to reduce budget deficits and the national debt, a contractionary policy will be required—since higher taxes and/or lower spending is required to reduce deficits and pay off debt. The dilemma is that contractionary policy will reduce growth in the economy. This means that policymakers will be forced to choose between two bad options: accepting high deficit and debt levels or reducing them with a policy that weakens the economy. If debt levels become severe enough, continued use of expansionary policy can increase investor uncertainty (about the government's ability to service the debt and not default) to the point that private spending falls and real growth actually declines.
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Chapter 19 1. After World War I, the nations of the world: a. enacted the General Agreement on Tariffs and Trade. b. believed that international trade was an important part of international cooperation. c. ended the globalization that had grown before the war, and protectionism grew. d. worked hard to bring nations back together. ANSWER: c 2. After World War II, the nations of the world: a. signed the General Agreement on Tariffs and Trade for the exclusive purpose of increasing trade between nations. b. signed the General Agreement on Tariffs and Trade to reduce barriers to international trade and to promote peaceful cooperation. c. failed to sign any trade agreements to improve international trade. d. continued enacting protective measures to increase trade barriers. ANSWER: b 3. Under the General Agreement on Tariffs and Trade, tariffs _____ and trade _____. a. fell; increased b. fell; decreased c. rose; increased d. rose; decreased ANSWER: a 4. In early 2018, President Trump imposed new tariffs on washing machines produced outside the United States because: a. China imposed new tariffs on U.S. imports of washing machines. b. low- to medium-skilled jobs were under pressure from the international production of goods and from the automation of factories. c. the World Trade Organization suggested that it was a good idea. d. trade was making consumers in the United States worse off. ANSWER: b 5. Consider the following statements: I. Relative to a no-trade situation, if the United States exported wheat, the U.S. domestic wheat price would rise and domestic production of wheat would expand. II. Relative to a no-trade situation, international trade causes the prices of all goods to rise. a. I is true; II is false. b. I is false; II is true. c. Both I and II are true. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 d. Both I and II are false. ANSWER: a 6. Figure: Foreign Trade 1
What quantity would be traded in a free trade environment? a. 600 units b. 1,400 units c. 1,000 units d. 800 units ANSWER: b 7. Figure: Foreign Trade 1
What quantity would be produced domestically in a free trade environment? a. 600 units b. 1,400 units c. 1,000 units d. 800 units ANSWER: d 8. Figure: Foreign Trade 1 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19
What quantity would be imported? a. 600 units b. 1,400 units c. 1,000 units d. 800 units ANSWER: a 9. Figure: Foreign Trade 1
What quantity would be traded in the absence of any international trade? a. 600 units b. 1,400 units c. 1,000 units d. 800 units ANSWER: c 10. If the world price of cotton is less than the price that would occur domestically without trade, then a country will: a. decrease its demand for cotton and increase its demand for cotton substitutes. b. increase its demand for cotton and decrease its demand for cotton substitutes. c. import cotton. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 d. export cotton. ANSWER: c 11. Figure: Trade 1
If this figure represents the market for oil and the country imposes no tariffs on international trade, domestic consumption will be: a. 500 units. b. 1,000 units. c. 1,150 units. d. 1,300 units. ANSWER: d 12. Figure: Trade 1
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Chapter 19
With free international trade, the country in this figure will find that the good: a. becomes cheaper for domestic consumers. b. becomes more expensive for domestic consumers. c. does not change in price. d. may get cheaper or more expensive for domestic consumers, but it is impossible to tell. ANSWER: a 13. Figure: Trade 1
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Chapter 19
If the world price for the good in this figure is higher than the domestic price, a move to free international trade means that the domestic economy will become: a. a net importer of the good. b. a net exporter of the good. c. neither a net importer nor a net exporter of the good. d. either a net importer or a net exporter of the good, but it is impossible to say which. ANSWER: b 14. When a country adopts free trade and becomes a net exporter of a good, that good: a. becomes cheaper for domestic consumers. b. becomes more expensive for domestic consumers. c. does not change in price. d. may get cheaper or more expensive for domestic consumers. ANSWER: b 15. Protectionism: a. benefits domestic consumers and foreign producers. b. places a tax on exports. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 c. restricts trade through policies that favor domestic producers. d. restricts the quantity of goods that can be exported. ANSWER: c 16. Figure: International Trade 1
According to the figure, which of the following statements is TRUE? a. After international trade, price falls by $4 and consumption increases by 4 units. b. After international trade, price falls by $4 and consumption decreases by 4 units. c. After international trade, price rises by $4 and consumption increases by 8 units. d. After international trade, price stays the same and consumption increases by 8 units. ANSWER: a 17. Figure: International Trade 1
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Chapter 19
With the international trade in this figure, domestic consumption is _____ units, and _____ of those units are imported. a. 9; 5 b. 13; 5 c. 13; 8 d. 20; 9 ANSWER: c 18. Table: Semiconductors Price (per unit) Quantity Demanded of Semiconductors (Domestic) $3.00 500 2.50 580 2.00 600 1.50 700 1.00 850
Quantity Supplied of Semiconductors (Domestic) 700 650 600 550 500
If the domestic economy in this table opens up to international trade at the world price of $1.50 per semiconductor, this economy will: a. export 550 semiconductors. b. export 150 semiconductors. c. import 550 semiconductors. d. import 150 semiconductors. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: d 19. World supply of a good _____ domestic supply. a. is less elastic than b. is more elastic than c. is equally elastic to d. has indeterminate elasticity compared with ANSWER: b 20. An increase in import trade tends to _____ domestic prices. a. increase b. decrease c. hold constant d. have an indeterminate effect on ANSWER: b 21. Import trade tends to _____ the domestic quantity of a good exchanged. a. increase b. decrease c. hold constant d. have an indeterminate effect on ANSWER: a 22. According to the supply and demand framework in the text, an increase in import trade tends to _____ domestic production of a good. a. increase b. decrease c. hold constant d. have an indeterminate effect on ANSWER: b 23. Which of the following is TRUE about the economic policy of “protectionism”? a. It raises the prices of foreign goods in domestic markets. b. It restricts competitive forces in domestic markets. c. It can be achieved through quotas and tariffs. d. All of the statements are correct. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 24. Economic policies of protectionism include: I. reduced trade barriers. II. tariffs. III. quotas. a. I and II only b. II and III only c. I and III only d. I, II, and III ANSWER: b 25. Imposing a restrictive quota on the import of sugar will likely: a. increase the price of sugar and decrease the quantity consumed. b. increase the price of sugar and increase the quantity consumed. c. leave the price of sugar unchanged and decrease the quantity consumed. d. leave the price of sugar unchanged and increase the quantity consumed. ANSWER: a 26. Protectionism refers to government policies that: a. restrict imports of foreign products. b. give foreign producers tax credits in an effort to increase their exports. c. stimulate trade between countries and increase domestic producers’ profit. d. restrict the output of domestic producers to keep their prices high. ANSWER: a 27. The U.S. government restricting the quantity of sugar imports into the country is an example of a(n): a. trade quota. b. embargo. c. trade settlement. d. market hanger. ANSWER: a 28. A tariff is a: a. tax on imports. b. subsidy on exports. c. restriction on the quantity of domestic goods consumed by foreigners. d. restriction on the quantity of imports from foreign producers. ANSWER: a 29. A tariff is a: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 a. tax credit for domestic exports. b. tax on imports. c. temporary grant of monopoly rights. d. renewable subsidy to the energy industry. ANSWER: b 30. Figure: Foreign Trade with a Tariff
A $1 tariff results in: a. an increase in imports of 80 million units. b. a decrease in imports of 80 million units. c. an increase in imports of 100 million units. d. a decrease in imports of 100 million units. ANSWER: b 31. Figure: Foreign Trade with a Tariff
A $1 tariff generates government revenue of: a. $100 million. b. $140 million. c. $180 million. d. $200 million. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: a 32. Figure: Foreign Trade with a Tariff
A $1 tariff generates increased domestic production by: a. 40 million units. b. 90 million units. c. 140 million units. d. 180 million units. ANSWER: a 33. Figure: Trade 2
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Chapter 19
In this figure representing the market for oil, by how much will domestic oil consumption increase or decrease following a tariff on imported oil? a. increase by 250 units b. increase by 300 units c. decrease by 500 units d. decrease by 150 units ANSWER: d 34. Figure: Trade 2
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Chapter 19
In this figure representing the market for oil, what are the total revenues generated by the tariff? a. $25,000 b. $20,000 c. $10,000 d. $5,000 ANSWER: c 35. Which of the following results from a tariff on imported goods? I. Domestic production increases. II. Domestic consumption increases. III. Government revenues increase. a. I and III only b. II and III only c. I and II only d. I, II, and III ANSWER: a 36. A tariff is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 a. the restriction of trade through regulations on domestic producers. b. a restriction on the quantity of goods that can be imported. c. equal to exports minus imports. d. a tax on imports. ANSWER: d 37. A trade quota is: a. a restriction on the quantity of goods that can be imported. b. a tax on imports. c. a tax on exports. d. the restriction of trade through regulations on domestic producers. ANSWER: a 38. When the world price is lower than the domestic price, a tariff on a good leads to: a. tariff revenues that will be lower than under free trade. b. domestic imports that will be higher than under free trade. c. lower domestic consumption of the good than under free trade. d. lower domestic production of the good than under free trade. ANSWER: c 39. Figure: Shirts
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Chapter 19
If a $5 tariff were levied on shirts, how much tax revenue would the government collect? a. $0 b. $100 million c. $200 million d. $375 million ANSWER: a 40. Figure: Shirts
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Chapter 19
If a tariff raised the world price to $4 a shirt, how much deadweight loss would it create? a. $5,000,000 b. $10,000,000 c. $120,000,000 d. $200,000,000 ANSWER: a 41. Figure: Shirts
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Chapter 19
If a tariff raised the world price to $4 a shirt, how much consumer surplus would be lost? a. $5,000,000 b. $10,000,000 c. $85,000,000 d. $30,000,000 ANSWER: c 42. Figure: Tariffs
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Chapter 19
In the domestic market with no trade, the equilibrium price is _____ and the quantity traded is _____units. a. $90; 1,150 b. $60; 650 c. $60; 1,150 d. $40; 1,800 ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 43. Figure: Tariffs
In the domestic market with international trade and no tariffs, the price is _____ and the quantity purchased in the United States is _____units. a. $90; 1,150 b. $60; 650 c. $60; 1,150 d. $40; 1,800 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: d 44. Figure: Tariffs
When the domestic market opens to international trade without tariffs, domestic consumption of the good: a. increases by 250 units. b. decreases by 400 units. c. increases by 650 units. d. decreases by 250 units. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: c 45. Figure: Tariffs
In the domestic market with international trade and a $20 tariff, the price is _____ and the quantity purchased in the United States is _____units. a. $90; 1,150 b. $60; 1,550 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 c. $60; 1,150 d. $40; 1,800 ANSWER: b 46. Figure: Tariffs
In the domestic market with international trade and a $20 tariff, revenues collected from the tariff are: a. $18,000. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 b. $54,000. c. $31,000. d. $13,000. ANSWER: a 47. Figure: Tariffs
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Chapter 19 increases by: a. 650 units. b. 300 units. c. 350 units. d. 250 units. ANSWER: b 48. Figure: Tariffs
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Chapter 19 In the domestic market with international trade and a $20 tariff, domestic consumption after the tariff is imposed decreases by: a. 650 units. b. 300 units. c. 350 units. d. 250 units. ANSWER: d 49. Dividing the total tariff revenue in the trade diagram introduced in this chapter by the size of the tariff yields: a. imports with free trade. b. imports with tariff. c. the size of increase in domestic production. d. the size of decrease in domestic consumption. ANSWER: b 50. Figure: Bananas
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Chapter 19
If there is a $3 tariff on bananas, domestic consumers buy _____ fewer bananas and domestic producers grow _____ additional bananas. a. 50,000; 10,000 b. 75,000; 10,000 c. 50,000; 20,000 d. 75,000; 20,000 ANSWER: a 51. Figure: Bananas
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Chapter 19
If there is a $3 tariff on bananas, approximately what percentage of banana consumption comes from imports? a. 8% b. 10% c. 90% d. 93% ANSWER: c 52. Figure: Bananas
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Chapter 19
If there is a $3 tariff on bananas, what is the total tariff revenue? a. $135,000 b. $180,000 c. $270,000 d. $360,000 ANSWER: c 53. The diagram indicates the revenue distribution of a $299 30GB Apple iPod. Most of the non-hardware costs are product development (e.g., software and R&D), but they also include advertising and retail costs. If the key industry argument has merit, what does this diagram suggest about which industries are actually key?
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Chapter 19
a. hard drives b. electronic parts c. advertising d. product development ANSWER: d 54. Figure: International Trade 2
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Chapter 19 What is the size of the tariff in this figure? a. $8 b. $3 c. $5 d. $1 ANSWER: b 55. Figure: International Trade 2
With the tariff in this figure, the domestic quantity demanded is _____ units, and the quantity supplied domestically is _____ units. a. 10; 8 b. 8; 8 c. 10; 10 d. 9; 7 ANSWER: a 56. Figure: International Trade 2
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Chapter 19
At the tariff equilibrium in this figure, the quantity of imports is _____, which is _____ than at the free trade equilibrium. a. 2; 10 units fewer b. 2; 6 units fewer c. 10; 2 units more d. 10; 2 units fewer ANSWER: b 57. Figure: International Trade 2
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Chapter 19
How much revenue does the tariff in this figure generate for the government? a. $30 b. $24 c. $6 d. $54 ANSWER: c 58. What is the difference between a tariff and a trade quota? a. A tariff is a tax on imported goods, and a trade quota is a quantity restriction on imported goods. b. A tariff is a cash payment to domestic exporters, and a trade quota restricts the quantity of domestically produced goods foreigners can buy. c. A tariff is a lump-sum tax on imported goods, and a trade quota is a sales tax on imported goods. d. A tariff is a quantity trade restriction on imported goods, and a trade quota is a quantity tax on imported goods. ANSWER: a 59. A tariff _____ the amount of output produced by domestic firms and _____ the amount of goods bought by domestic consumers. a. increases; increases b. increases; decreases c. decreases; increases Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 d. decreases; decreases ANSWER: b 60. The U.S. price of sugar is higher than the world price of sugar due primarily to a: a. subsidy. b. quota. c. local content requirement. d. tariff. ANSWER: d 61. A tariff _____ the world supply of a good. a. reduces b. increases c. does not change d. has no measurable effect on ANSWER: a 62. Figure: Coffee Trade
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Chapter 19
In the domestic market with no international trade, the wasted resources from domestic production are: a. $148.75. b. $297.50. c. $35.00. d. $17.50. ANSWER: a 63. Figure: Coffee Trade
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Chapter 19
In the domestic market with no international trade, the lost gains from trade from domestic production are: a. $148.75. b. $297.50. c. $35.00. d. $17.50. ANSWER: d 64. Figure: Trade
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Chapter 19
In the domestic market with no international trade, the lost gains from trade from domestic production are: a. area B. b. area C. c. area D. d. area E. ANSWER: b 65. Figure: Trade
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Chapter 19
In the domestic market with no international trade, the wasted resources from domestic production are: a. area B. b. area C. c. area D. d. area E. ANSWER: a 66. Figure: Foreign Trade 2
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Chapter 19
What is the dollar value of wasted resources as a result of prohibiting trade in this market? a. $30,000 b. $5,000 c. $2,500 d. $22,500 ANSWER: c 67. Figure: Foreign Trade 2
What is the dollar value of the deadweight loss created as a result of prohibiting trade in this market? a. $2,500 b. $10,000 c. $7,500 d. $5,000 ANSWER: c 68. Figure: Foreign Trade 2
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Chapter 19
What is the dollar value of the producer surplus gained as a result of prohibiting trade in this market? a. $15,000 b. $30,000 c. $12,500 d. $22,500 ANSWER: d 69. Figure: Foreign Trade 2
What is the dollar value of the consumer surplus that consumers could gain if the trade restriction were removed? a. $35,000 b. $22,500 c. $30,000 d. $25,000 ANSWER: c 70. Figure: Foreign Trade Market
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Chapter 19
What is the dollar value of wasted resources as a result of prohibiting trade in this market? a. $10,000 b. $4,000 c. $7,500 d. $6,000 ANSWER: d 71. Figure: Foreign Trade Market
What is the dollar value of the deadweight loss created by the loss of foreign trade? a. $10,000 b. $4,000 c. $36,000 d. $6,000 ANSWER: a 72. Figure: Foreign Trade Market
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Chapter 19
What is the dollar value of the lost consumer surplus as a result of prohibiting trade in this market? a. $26,000 b. $28,000 c. $32,000 d. $36,000 ANSWER: d 73. If quotas on sugar were eliminated in the United States, domestic production of sugar would fall. Why would this be a benefit in economic terms for the United States? I. Resources would be freed up that could be used more efficiently elsewhere. II. It would be beneficial because it would allow foreign producers of sugar to earn income, and thus those countries would be better off. III. U.S. consumers would be able to enjoy increased consumer surplus because of the lower prices of imported sugar. a. I and II only b. I and III only c. II and III only d. I, II, and III ANSWER: b 74. Which, if any, of the following conditions for efficient market functioning do tariffs and quotas violate? I. Demanders with the highest willingness to pay purchase the supply of goods. II. Producers with the lowest costs produce and sell the supply of goods. III. The sum of consumer and producer surplus is maximized. a. I only b. II and III only c. I, II, and III d. III only ANSWER: b 75. Figure: A Tariff on Imports Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19
Suppose the government intervenes with a $2 tariff; the total value of deadweight loss as a result of the tariff is: a. $150 million. b. $350 million. c. $400 million. d. $550 million. ANSWER: b 76. Figure: A Tariff on Imports
Suppose the government intervenes with a $2 tariff; the total cost of the tariff for the citizens in that country is: a. $350 million. b. $400 million. c. $550 million. d. $700 million. ANSWER: a 77. Economists consider tariffs to be: a. necessary. b. beneficial to domestic consumers. c. harmful to domestic producers. d. obstacles that reduce gains from trade. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: d 78. Which of the following decreases the volume of international trade? a. increasing tariffs b. decreasing quotas c. lower transportation costs d. stable monetary conditions ANSWER: a 79. One of the costs of protectionism is: a. increases in total national output. b. a reduction in the variety of goods in domestic markets. c. greater competition. d. lower opportunity costs of domestic production. ANSWER: b 80. Which of the following statements is TRUE? I. If the United States bans the importation of bananas, consumer surplus will decrease. II. If the United States bans the importation of bananas, producer surplus will decrease. III. If the United States bans the importation of bananas, it will produce bananas at a cost exceeding their world purchase price. a. I, II, and III b. I and II only c. I and III only d. II and III only ANSWER: c 81. Figure: World Imports
The equilibrium for a country without trade restrictions is where the price and quantity are _____, respectively. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 a. $20 and 4 units b. $40 and 11 units c. $20 and 11 units d. $20 and 20 units ANSWER: d 82. Figure: World Imports
An imposition of extreme trade restrictions that eliminated all trade in this market would generate wasted resources of: a. $70. b. $530. c. $90. d. $160. ANSWER: a 83. Figure: World Imports
The imposition of a $20 tariff would generate a value of lost gains from trade of: a. $45. b. $90. c. $70. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 d. $160. ANSWER: b 84. Without trade restrictions, the price of tennis shoes is $30, and with trade restrictions the price of tennis shoes is $45. The difference in the two prices reflects: a. per unit profits. b. the value of the extra resources for domestic production of an additional pair of tennis shoes. c. the gain in consumer surplus from free trade. d. All of the answers are correct. ANSWER: b 85. As a result of tariffs: a. the opportunity cost of domestic production falls. b. domestic producers waste resources producing goods for which they are not low-cost producers. c. foreign producers gain additional profits at the expense of domestic consumers. d. both domestic producers and consumers are protected from international competition. ANSWER: b 86. Figure: Costs of Tariffs
In the figure representing the market for leather, domestic suppliers are the high-cost producers of leather. However, import restrictions push domestic prices up to $100. Which area represents the value of wasted resources? a. A b. B Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 c. C d. D ANSWER: c 87. Figure: Costs of Tariffs
In the figure representing the market for leather, domestic suppliers are the high-cost producers of leather. However, import restrictions push the domestic price up to $100. Which area represents the deadweight loss that results? a. A b. B c. C d. D ANSWER: d 88. Figure: Costs of Tariffs
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Chapter 19
In the figure representing the market for leather, what price would consumers pay for leather in the absence of a tariff or other import restrictions? a. a price less than $50 b. $50 c. a price somewhere between $50 and $100 d. $100 ANSWER: b 89. As a result of U.S. quotas on sugar imports, all of the following are true EXCEPT: a. the United States pays 50% to 100% more than the world price for sugar. b. the gains to American producers are greater than the losses to American consumers. c. foreign sugar producers—mostly in poor countries—suffer. d. a small group of domestic sugar producers benefit. ANSWER: b 90. Suppose that a tariff increases domestic production of a good from 25 million units to 75 million units and raises the domestic price by $1.50. Assuming a linear domestic supply curve and a perfectly elastic world supply curve, what is the value of the resources wasted by increased domestic production? a. $37.5 million b. $50 million c. $75 million d. $150 million ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 91. If a tariff decreases domestic consumption of a good from 230 million units to 150 million units and raises the domestic price by $1.50, given a linear domestic demand curve and a perfectly elastic world supply curve, what is the value of the unexploited gains from trade caused by decreased domestic consumption? a. $45 million b. $60 million c. $80 million d. $120 million ANSWER: b 92. When the world price is below the domestic price, the elimination of a tariff decreases domestic production and provides a benefit because: a. it causes unemployment when workers are laid off. b. it makes producers better off. c. no one is harmed by the decreased production, and everybody pays lower prices. d. it frees up resources that can be used to produce other goods and services. ANSWER: d 93. Whom does protectionism hurt? a. domestic producers only b. domestic consumers only c. international producers only d. international producers and domestic consumers ANSWER: d 94. In 1845, French economist Frédéric Bastiat famously compared tariffs to blocking out the sun, since both low-priced imports and free sunlight discourage domestic industry. What part of the trade diagram best describes the encouragement of domestic industry if Bastiat's “blockade” were taken seriously? a. deadweight loss b. fall in consumer surplus c. fall in producer surplus d. wasted resources ANSWER: d 95. The U.S. government's policies on foreign-made sugar: a. result in U.S. consumers paying 50% to 100% more than the world price of sugar. b. result in U.S. consumers paying less than half the world price of sugar. c. make it difficult for domestic sugar growers to compete with foreign-made sugar. d. result in U.S. consumers buying inefficiently large quantities of sugar. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 96. Figure: International Trade 3
If the government in this diagram eliminates all imports with a tariff, the value of the wasted resources will be: a. $4.50. b. $81.00. c. $27.00. d. $36.00. ANSWER: a 97. Figure: International Trade 3
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Chapter 19
If the government in this diagram eliminates all imports with a tariff, the value of the lost gains from trade is: a. $4.50. b. $81.00. c. $27.00. d. $36.00. ANSWER: a 98. When the government increases tariffs: a. production switches from low-cost foreign producers to high-cost domestic producers, causing resources to be wasted. b. domestic consumers buy more goods, increasing the gains from trade. c. domestic producers produce more output, increasing the gains from trade. d. deadweight losses are eliminated because foreign producers sell their product below cost. ANSWER: a 99. Eliminating tariffs on imported sugar would: a. cause resources in the sugar industry to be allocated to inferior uses. b. allow U.S. producers to sell more sugar. c. cause resources to be reallocated from sugar production to higher-valued uses. d. harm domestic consumers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: c 100. The losses from trade protection include: a. deadweight loss only. b. wasted resources only. c. neither deadweight loss nor wasted resources. d. both deadweight loss and wasted resources. ANSWER: d 101. _____ have a similar effect on domestic consumption levels. a. Subsidies and tariffs b. Tariffs and quotas c. Quotas and subsidies d. Subsidies, tariffs, and quotas ANSWER: b 102. According to the text, the sugar tariff wastes _____ worth of resources. a. $0.9 billion b. $1.0 billion c. $1.1 billion d. $1.2 billion ANSWER: c 103. A tariff results in a higher: I. consumer surplus. II. producer surplus. III. government revenue. a. I and II only b. II and III only c. I and III only d. I, II, and III ANSWER: b 104. A trade quota on imports: a. benefits domestic producers and hurts domestic consumers. b. benefits domestic consumers and hurts domestic producers. c. benefits both domestic producers and domestic consumers. d. hurts both domestic producers and domestic consumers. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: a 105. Which of the following statements describes reasons why free trade is beneficial for the United States? a. Free trade increases consumer surplus for imported goods that are cheaper than U.S. goods. b. Free trade directs U.S. resources to those goods and services for which the United States has a comparative advantage. c. Through specialization, the United States and its trading partners can use the same overall amount of resources to produce and consume a larger amount of goods. d. All of the statements are correct. ANSWER: d 106. Restricting the importation of foreign automobiles will: a. raise the price of foreign automobiles but decrease the price of domestic automobiles. b. raise the price of both foreign and domestic automobiles. c. cause domestic producers to sell their automobiles at lower prices because of reduced competition. d. lower the price of foreign automobiles but raise the price of domestic automobiles. ANSWER: b 107. As a result of tariffs, domestic producers tend to: a. gain more than domestic consumers lose. b. spend less money on lobbying. c. have a greater incentive to lower their production costs. d. lose more than the government gains. ANSWER: a 108. Which statement provides an explanation for tariffs decreasing market efficiency? a. The supply of goods is not purchased by the buyers with the highest willingness to pay. b. The supply of goods is not produced by the lowest-cost suppliers. c. Prices are not equal to the equilibrium price. d. Deadweight loss is equal to zero. ANSWER: b 109. Figure: International Trade 4
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Chapter 19
If, in this figure, the government allowed free trade, consumer surplus would: a. increase by $118.00. b. increase by $31.50. c. decrease by $81.00. d. increase by $66.50. ANSWER: b 110. Figure: International Trade 4
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Chapter 19
If, in this figure, the government eliminated free trade, producer surplus would: a. increase by $18.00. b. increase by $50.00. c. decrease by $36.00. d. increase by $22.50. ANSWER: d 111. If the government eliminated tariffs: a. the gains in consumer surplus would outweigh the losses in producer surplus. b. the gains in producer surplus would outweigh the losses in consumer surplus. c. the gains in consumer surplus would equal the losses in producer surplus. d. the gains in producer surplus would equal the gains in consumer surplus. ANSWER: a 112. In most cases, trade restrictions will: a. save jobs without any other costs. b. save some jobs and destroy other jobs. c. benefit both producers and consumers. d. benefit only the government. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 113. Why does economic growth require job destruction? a. Economic growth requires international trade, which has been proven to cause short-term job loss. b. Economic growth comes from creating and producing goods that use resources more productively, causing job loss in industries that use outdated technology. c. Excessive job creation can destroy economic growth. d. When economic growth occurs, there are not enough resources left over for worker retraining and reeducation programs. ANSWER: b 114. Which of the following statements is TRUE about the removal of trade barriers? a. Consumers are harmed while some suppliers benefit. b. Consumers benefit while some suppliers are harmed. c. Everyone benefits. d. Everyone is harmed. ANSWER: b 115. A tariff on washing machines will _____ in the United States. a. increase jobs b. decrease jobs c. increase jobs in the production of washing machines, but decrease jobs in other areas d. decrease jobs in the production of washing machines, but decrease jobs in other areas ANSWER: c 116. Protectionism can _____ jobs in industries that import and _____ jobs in industries that export. a. decrease; increase b. increase; increase c. increase; decrease d. decrease; decrease ANSWER: c 117. Trade restrictions: a. help to save jobs in the protected industry, which causes these workers to spend more money in other industries, netting increased output and job opportunities throughout the economy. b. are a very inexpensive way of saving jobs and are cheaper than job retraining programs. c. may save jobs in one industry but at a cost of less job growth in other industries. d. often have little support from politicians, media, and the public. ANSWER: c 118. Between 1996 and 2006, imports from China: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 a. decreased from $300 billion per year to $50 billion per year. b. increased by a factor of six. c. decreased by 50%. d. increased by 72%. ANSWER: b 119. If the United States bans the importation of Japanese automobiles: a. U.S. consumers of cars will be better off because their consumer surplus will increase. b. there will likely be more U.S. auto workers but fewer Americans working in other industries. c. U.S. producers of cars will be worse off because their producer surplus will shrink. d. everyone in the United States will be much better off. ANSWER: b 120. Which of the following is NOT true regarding job destruction due to trade? a. Trade does not destroy jobs; it simply moves jobs to different industries. b. Short-run worker transition may be hard, but in the long run the result is increased wages. c. Trade results in the United States over the past 100 years include decreased employment and lower living standards. d. Trade encourages workers to transition to industries that are low-cost producers of goods. ANSWER: c 121. During the COVID-19 pandemic, many workers lost their jobs. Amy, for example, lost her job as a pharmaceutical salesperson. After 5 months of unemployment, she spent $6,000 on a class that taught her the skills she would need to sell medical devices. Today Amy makes 25% more than she did in pharmaceutical sales and enjoys her new job much more than her old job. Which of the following concepts best illustrates this scenario? a. Trade restrictions result in loss of jobs. b. Trade reallocates jobs across industries. c. Trade results in a misallocation of resources. d. Unemployment is a bad thing. ANSWER: b 122. Under free trade, some jobs will be lost, but increased consumer spending power means there will be more jobs in other industries. However, these new jobs are: a. less real than the lost jobs. b. more difficult to see than the lost jobs. c. not likely to be good jobs. d. not very patriotic. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 123. Trade: a. decreases the number of jobs. b. increases the number of jobs. c. moves jobs from export industries to import-competing industries. d. moves jobs from import-competing industries to export industries. ANSWER: d 124. Trade: a. destroys jobs in the short run but increases the standard of living in the long run. b. creates jobs in the short run but decreases the standard of living in the long run. c. cannot continue to increase forever. d. decreases the standard of living of the importing country. ANSWER: a 125. After a pair of wars in the late seventeenth and early eighteenth centuries, French–British relations decayed to the point that England began putting high tariffs on French wines. A large part of the support for this law came from British brewers and distillers who feared the return of French competition after the wars. These tariffs help explain why, to this day, the English prefer beer over wine. Of the arguments against free trade, which seems most likely to apply here, given the information provided? a. saving domestic jobs b. preventing child labor c. the importance of national security d. alcohol being a key industry ANSWER: a 126. Which statement(s) is(are) TRUE? I. When U.S. consumers buy lower-priced imports, they have more money to buy other goods, leading to increased jobs in other industries. II. Free trade reduces total employment. III. When foreign producers receive U.S. dollars for their exports, some of these dollars are used to buy U.S. goods and assets, increasing employment in U.S. exporting industries. a. I only b. II only c. I and III only d. III only ANSWER: c 127. Which statement(s) is(are) TRUE? I. Tariffs on washing machines applied only to the first 1.2 million washing machines imported to the United Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 States. II. The first 1.2 million washing machines were taxed at a rate of 20%, while the rest were taxed at 50%. III. The tariffs were put in place for 3 years, with declines in the tariffs in years 2 and 3. a. I only b. II only c. I and III only d. I, II, and III ANSWER: d 128. Before the tariffs on washing machines: a. prices for washing machines had been increasing for about 20 years. b. 1.2 million washing machines were imported every year. c. quotas prevented more than 1.2 million washing machines from being imported every year. d. prices for washing machines had been decreasing for about 5 years. ANSWER: d 129. Economists estimate that tariffs on washing machines increased the price of washing machines by about: a. 20%. b. 2%. c. 12%. d. 17%. ANSWER: c 130. Which of the following statement(s) is(are) TRUE? I. The price of washing machines increased after tariffs were placed on washing machines. II. The price of dryers increased after tariffs were placed on washing machines. III. Producers increased the price of washing machines less than predicted, but increased the price of dryers to spread the tariff costs over both washing machines and dryers. a. I only b. II only c. I and II only d. I, II, and III ANSWER: c 131. Which of the following statement(s) is(are) TRUE? I. Protection is much more costly if other countries respond to U.S. tariffs with tariffs of their own. II. When President Trump increased tariffs on thousands of products, other countries retaliated with tariffs of their own. III. Retaliatory tariffs generally affect every industry in a country equally. IV. Retaliatory tariffs can be targeted to do political damage. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 a. I only b. II only c. All are true d. I and III only ANSWER: c 132. China retaliated to the tariffs placed on Chinese goods through President Trump by: a. increasing tariffs on soybeans rather than aircrafts because it is easier to find substitute producers of soybeans than aircrafts. b. decreasing tariffs on many good in the hopes that President Trump would also decrease tariffs on Chinese goods. c. increasing tariffs on soybeans and aircrafts. d. decreasing tariffs on soybeans. ANSWER: a 133. Government sometimes supports protectionist tariffs because: a. the losses are spread over millions of consumers so the cost per consumer is small. b. producers always gain much more than what consumers altogether lose. c. producers lose less than what consumers gain. d. the losses are spread over millions of producers, so the cost per producer is small. ANSWER: a 134. The United States has a comparative advantage in: a. goods produced by unskilled workers. b. goods produced by skilled workers. c. all goods. d. no goods. ANSWER: b 135. Which of the following arguments is valid in the economics of international trade? a. Trade restrictions are good ways to raise a country's employment. b. Protectionism increases the well-being of domestic consumers. c. Trade restrictions help to reduce child labor in poor countries. d. Trade can result in a net job gain in the whole country. ANSWER: d 136. Which of the following is NOT an argument against international trade? a. It is wrong to trade with nations that use child labor. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 b. International trade reduces the number of jobs in the United States. c. International trade leads to lower prices for domestic consumers. d. Certain key industries should remain at “home” for the interest of national security. ANSWER: c 137. The paradox of trade restrictions on countries with child labor is that: a. these restrictions aim to reduce child labor, but because they make the countries poorer, they actually cause more child labor. b. children from those countries are actually more efficient than adults. c. children can be hired at lower wages than adults. d. restrictions on trade cause losses in consumer surplus. ANSWER: a 138. History has shown that one of the most effective tools against child labor is: a. regulations. b. laws. c. economic growth. d. quotas. ANSWER: c 139. Studies show that more openness to trade _____ income and _____ child labor. a. increases; increases b. increases; decreases c. decreases; decreases d. decreases; increases ANSWER: b 140. Because of pressure from the United States, the garment industry in Bangladesh dismissed 30,000 to 50,000 child laborers. This action: a. was very beneficial, since most of the children returned to school full time. b. resulted in many of the children turning to prostitution and taking jobs with worse conditions and lower pay. c. led to a civil uprising in Bangladesh, claiming the lives of almost 4,000 of these children. d. None of the answers is correct. ANSWER: b 141. Which statement is TRUE? a. Although inefficient, trade restrictions are effective at reducing child labor. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 b. Most child labor around the world takes place in factories that export products. c. Rising real GDP per capita has been an important force in reducing child labor. d. About 50% of the world's children age 10 to 14 years work. ANSWER: c 142. Child labor is primarily a result of: a. increased demand for foreign goods. b. trade restrictions such as tariffs and quotas. c. absence of schools in developing nations. d. poverty in the child's circumstances. ANSWER: d 143. In poor countries, when child laborers get laid off, they: a. have more time to play on the playground. b. start attending school. c. take lower-quality jobs with worse pay. d. don't experience a serious impact. ANSWER: c 144. All of the following reduce child labor EXCEPT: a. greater wealth. b. trade restrictions. c. openness to trade. d. a lower opportunity cost of education. ANSWER: b 145. Which economic concept best explains why poorer countries have higher concentrations of child labor? a. producer surplus b. opportunity cost c. deadweight loss d. marginal cost ANSWER: b 146. Because of pressure from Western countries, garment producers in Bangladesh quit employing 30,000 to 50,000 child workers. What happened to these children? a. The majority of children found higher-paying jobs, with better labor protections. b. Many children went to work in jobs with worse conditions and lower pay, many in prostitution. c. Almost all the children went back to school to learn a more lucrative trade. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 d. The majority of the children went back to being children: playing in parks, hanging out with friends, going to the mall, and so forth. ANSWER: b 147. Restrictions on trade: a. reduce income, increasing the necessity of child labor. b. reduce child labor by making countries more reliant on adult labor. c. allow children to leave jobs in agriculture for higher-paying jobs in manufacturing. d. lead to higher income for developing countries but not industrialized countries. ANSWER: a 148. The real cause of child labor is: a. free trade agreements. b. impoverished circumstances in the child's life. c. multinational corporations that are concerned only about profit maximization. d. poor enforcement of existing international child labor treaties. ANSWER: b 149. As GDP per capita increases, child labor tends to: a. increase. b. decrease. c. remain the same. d. change unpredictably. ANSWER: b 150. Consider the following two statements and select the best answer. I. The national security argument might be a valid argument for trade protection. II. Industries with spillover effects should be protected from foreign competition. a. I and II are both true. b. I and II are both false. c. I is likely to be true, and II is likely to be false. d. I is likely to be false, and II is likely to be true. ANSWER: c 151. Trade restrictions based on national security concerns: a. might be beneficial in certain cases, like vaccinations. b. have never been granted in the United States. c. have no merit and are always unwise. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 d. give little incentive for industry lobbyists to declare their product vital for national security purposes. ANSWER: a 152. You are a policymaker and a lobbyist comes to you, arguing that his industry is important for national security and has important spillover benefits. Why might you be suspicious of his claims? a. He may not know anything about the industry he represents. b. His industry benefits from tariffs that decrease foreign competition. c. The lobbyist has the same interests as the rest of the country. d. Every industry is important for national security. ANSWER: b 153. The flu pandemic of 1918 provides an example of: a. a situation for which it makes sense to protect a domestic industry from international competition. b. how trade restrictions lead to deaths and suffering. c. how child labor affects trade flows between countries. d. strategic trade protectionism. ANSWER: a 154. Lobbyists for many industries argue each of the following EXCEPT: a. their industry is important for national security. b. competing workers in foreign countries are oppressed. c. their industry needs protection and subsidization. d. their industry should face more foreign competition. ANSWER: d 155. Some goods generate spillover benefits from production, but it is: a. difficult to know in advance which goods those are. b. in the government's interest to hear such arguments. c. not possible to encourage the production of those goods. d. not true that the spillover benefits are very large. ANSWER: a 156. It is possible for the United States to gain a larger slice of the gains from trade by imposing tariffs than if there was free trade if: a. the U.S. demand for the good is inelastic. b. the international supply of the good is elastic. c. the international supply of the good is relatively less elastic than demand. d. the international supply of the good is relatively more elastic than demand. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: c 157. Enacting a tariff on a good for which the world supply is relatively inelastic and the local demand is relatively elastic results in: a. a small deadweight loss and relatively larger tax revenues. b. only a large deadweight loss. c. a large deadweight loss and relatively smaller tax revenues. d. relatively smaller tax revenues and no deadweight loss. ANSWER: a 158. Strategic trade protectionism makes: a. all countries better off. b. no one better off. c. foreign countries better off at the expense of the domestic country. d. the domestic country better off at the expense of foreign countries. ANSWER: d 159. Figure: Inelastic Foreign Supply
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Chapter 19
When the United States enacts a tariff on imports of a good, the deadweight loss is area(s): a. A. b. BC. c. DE. d. CE. ANSWER: d 160. Figure: Inelastic Foreign Supply
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When the United States enacts a tariff on imports of a good, tax revenues are area(s): a. A. b. BD. c. DE. d. CE. ANSWER: b 161. The economics of international trade is substantially different from that of ordinary trade. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 162. International and intranational trade are very different in terms of economic analysis. a. True b. False ANSWER: b 163. Both domestic production and consumption increase because of tariffs. a. True b. False ANSWER: b 164. In the case of sugar, moving from a situation of no trade to free trade causes both domestic consumption and domestic production to increase. a. True b. False ANSWER: b 165. If, at a world price of $200, domestic consumers buy 900 units and domestic producers sell 600 units, imports equal 1,500. a. True b. False ANSWER: b 166. Trade makes people better off when preferences are the same. a. True b. False ANSWER: b 167. Trade makes people better off through specialization. a. True b. False ANSWER: a 168. Protectionism protects domestic industries from the competitive forces exerted by foreign firms. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 169. With free trade, the domestic price of a good must be equal to the world price of a good. a. True b. False ANSWER: a 170. If the United States imports teacups from other countries, then U.S. producers of teacups are better off, and U.S. consumers of teacups are worse off, as a result of trade. a. True b. False ANSWER: b 171. Economic benefits to tariffs and import quotas include more jobs in the protected industry, lower prices to consumers, and increased gains from trade. a. True b. False ANSWER: b 172. Trade increases competition for domestic producers and results in lower prices of domestic goods. a. True b. False ANSWER: a 173. A quota is a stated quality standard that an imported good must reach before it can be allowed into the borders of the importing country. a. True b. False ANSWER: b 174. In a demand and supply diagram, the effects of a tariff and a quota on the supply and demand curves are identical. a. True b. False ANSWER: b 175. If the world price of a good is greater than the domestic price in a country that can engage in international trade, then that country becomes an importer of that good. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 ANSWER: b 176. The tariff diagram illustrates that if the absolute values of the slopes of the demand and supply curves are equal, then the deadweight loss of any tariff always equals the wasted resources due to increased domestic production. a. True b. False ANSWER: a 177. Rising tariffs increase domestic production but reduce domestic consumption. a. True b. False ANSWER: a 178. Removing tariffs and quotas will ensure that goods are sold by low-cost producers and increase the sum of consumer and producer surplus. a. True b. False ANSWER: a 179. Imposing tariffs results in both wasted resources and lost gains from trade. a. True b. False ANSWER: a 180. The United States is the only government that engages in protectionist policies. a. True b. False ANSWER: b 181. Protectionism tends to create a society that pits one interest group against another and that seeds social discord. a. True b. False ANSWER: a 182. Protectionism restrains trade through price controls that burden foreign producers but not domestic producers. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 b. False ANSWER: b 183. Protectionism acts to encourage trade. a. True b. False ANSWER: b 184. A quota caps the quantity of an import. a. True b. False ANSWER: a 185. A tariff benefits domestic producers but hurts domestic consumers. a. True b. False ANSWER: a 186. Economic theory supports the existence of specialized majors in college. a. True b. False ANSWER: a 187. Domestic consumers lose more than domestic producers gain because of import restrictions. a. True b. False ANSWER: a 188. Reducing tariffs causes consumer surplus to increase but producer surplus to decrease. a. True b. False ANSWER: a 189. There is strong evidence to support the idea that protectionism increases domestic job growth. a. True b. False ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 190. We pay for our exports with our imports. a. True b. False ANSWER: b 191. Economic growth requires job destruction, since the destroyed jobs free up resources for more productive activities. a. True b. False ANSWER: a 192. Trade moves jobs from import-competing industries to export industries. a. True b. False ANSWER: a 193. Free trade has reduced the number of jobs in U.S. manufacturing as well as the overall number of jobs in the U.S. economy. a. True b. False ANSWER: b 194. The tariffs enacted on washing machines in 2018 increased the price of both washing machines and dryers. a. True b. False ANSWER: a 195. China retaliated against U.S. tariffs by no longer buying American-made aircraft. a. True b. False ANSWER: b 196. The United States has a comparative advantage in products produced by relatively unskilled workers. a. True b. False ANSWER: b 197. The prevalence of child labor tends to increase as countries get richer. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 a. True b. False ANSWER: b 198. The total number of child laborers is usually smaller for middle-income countries than for very poor countries. a. True b. False ANSWER: a 199. Briefly describe a few activities that a typical student might do on any given day that reflect the effects of globalization. ANSWER: This answer could of course be personalized, but an answer might be as follows: Globalization allows us to enjoy goods from around the world and expand the variety of goods we consume as well as interact more with people from other countries and regions. A student perhaps wakes up in the morning to the ring of an alarm clock made in China. That student then has breakfast that includes Colombian coffee, cereal that uses corn made in the United States, and bananas grown in Honduras. The student wears a shirt that has a “Made in Bangladesh” label. The student then picks up her textbooks made with paper that came from trees grown in Canada, and goes to a class where the teacher is a visiting instructor from Turkey. In class the student sits between two other students from Iraq and Kenya. Later in the evening, the student unwinds by playing games on a Nintendo Wii made in Japan. Dinner might consist of Indian cuisine, and dessert might be Italian tiramisu. Finally, the student goes back to bed and sleeps under a blanket made in Korea. 200. What are the three major benefits of trade? Explain briefly. ANSWER: Trade requires people or countries to specialize. The first benefit of trade comes when people with differing preferences are made better off from their voluntary trades. The second benefit of trade comes from increased productivity as a result of specialization and the division of knowledge. Specialization followed by trade greatly increases productivity. The third benefit of trade comes from taking advantage of differences in opportunity costs. According to the theory of comparative advantage, people or countries can specialize in producing goods that involve the lowest opportunity costs. As a result, everyone can benefit from trade. 201. With the aid of demand and supply curves, compare the amounts of imports and the prices of goods under (i) free trade, (ii) trade with a tariff, and (iii) a closed economy without trade. ANSWER: The following diagram shows the domestic supply curve and domestic demand curve. In a closed economy without trade, the equilibrium price of the domestic market is P1 and the equilibrium quantity is Q1 . There are no imports. In case of an open economy, if the world supply curve is the horizontal line at PTrade, then the amount of imports equals (Q5 – Q4 ) under free trade, and the price of goods equals PTrade. A tariff is a tax on imports, so the world supply curve shifts upward to the horizontal line at PTariff. As a result of the tariff, the amount of imports reduces to (Q 3 – Q2), and the price of goods with the tariff rises from PTrade to PTariff. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19
202. Figure: Consumption with and Without Trade
Suppose this diagram represents the market for sugar in the United States. a. What is the equilibrium price of sugar before trade? b. What is the equilibrium quantity of sugar before trade? c. What is the price of sugar after trade is allowed? d. What is the quantity of sugar imported after trade is allowed? e. What is the amount of consumer surplus before trade? f. By how much does consumer surplus increase after trade? g. What is the amount of producer surplus before trade? h. What is the amount of producer surplus after trade? ANSWER: a. $0.29 per pound b. 20 billion pounds c. 9 cents per pound d. 23.6 billion pounds e. unknown f. by ($0.20 × 20 billion) + ($0.20 × 3.6 × 0.50) = $4.36 billion g. ($0.20 × 20 billion × 0.50) = $2 billion h. 0 203. Figure: Market Activity with and Without Trade Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19
Using the diagram for market activity with and without trade to consider the effects of a trade restriction that eliminates foreign trade in an economy, answer the following questions. a. What is the dollar amount of deadweight loss created as a result of the trade restriction? b. What is the dollar value of wasted resources as a result of the trade restriction? c. What is the dollar gain in domestic producer surplus as a result of the trade restriction? ANSWER: a. $450 b. $450 c. $1,050 204. What are the gains and losses of a trade restriction versus free trade? Explain carefully. ANSWER: There are two types of losses from a trade restriction such as a tariff or quota. First, it involves a waste of resources that could be freed up to produce other goods and services under free trade. Second, a trade restriction creates a deadweight loss, which is the value of lost gains from trade. In the case of a tariff, the market price increases so that there is a loss in consumer surplus. On the other hand, a higher price raises producer surplus, which is the gain from domestic producers. In other words, domestic producers gain while domestic consumers lose with a trade restriction. 205. Briefly discuss any benefits of “protectionism.” ANSWER: Protectionism can allow a new industry to gain some time in which to become competitive. Thus, a protected firm is able to sell its products at a price that is higher than the world price, and this gives it a window of opportunity in which to become more efficient. A government may also choose to protect a good if it is essential for national security—for example, the domestic vaccine industry. Import restrictions protect such industry from competition, and the government essentially helps the domestic firms to act as a cartel. 206. Sugar production is highly protected in the United States. Sugar importers must pay such high tariffs that it is hardly profitable for them to sell any sugar in the United States. Who are the winners and losers from such protectionism? Is the resulting market economically efficient? Why? If not, why would the government continue import restrictions that promote economic inefficiency? ANSWER: The winners from tariffs such as those imposed on sugar are the domestic producers. Without these import restrictions, domestic producers would not be able to compete with lower-cost producers worldwide (even if they could compete, the competition would lower prices so that their profits would be significantly lower as well). The losers are domestic consumers, who now face much higher sugar prices and end up consuming less than they would without the import restrictions. The Copyright Macmillan Learning. Powered by Cognero.
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Chapter 19 sugar market is thus inefficient for two reasons: (1) the low-cost sugar producers are not the ones supplying the market; and (2) there are lost gains from trade between domestic buyers and foreign suppliers. This inefficiency continues to receive support by governments, though, because the benefits to producers are concentrated among a relatively small group. The costs, however, fall on all sugar consumers in the United States (lots!), and thus a small group of producers has a much greater incentive to lobby the government to continue the use of these tariffs, especially since the cost of lobbying is much less than the sugar subsidies. Alternatively, the cost to each individual consumer is relatively small (although the TOTAL costs to all consumers is much greater), especially compared to the total level of sugar subsidies. 207. What are the arguments in favor of trade restrictions, and what are the counterarguments? According to most economists, do these arguments really justify trade restrictions? Explain. ANSWER: Arguments mentioned in the text include arguments about child labor, the national security argument, and the strategic trade protectionism argument. Arguments against protectionism included wasted resources by transferring production from low-cost producers in foreign countries to highcost domestic producers. Protectionism also prevents gains from trade and creates deadweight losses in markets where trade could create these. The national security argument balances economic loss from trade restrictions against the benefits of long-term national survival, and it is probably the argument that economists would most likely accept if it were clear that the industry being protected were crucial to national security. 208. During the recent economic slowdown, many jobs were lost in the Detroit area because of the high prices (and therefore low sales) of domestically produced cars. Domestic companies that have succeeded in weathering the storm, such as Ford Motor Company, have done so by cutting unprofitable car lines, moving production toward more fuel-efficient vehicles, and cutting wasteful spending. Still, many workers lost their jobs. In economic terms, explain whether the market is more or less efficient now than before the recession began. ANSWER: The market is more efficient now, since the car companies that remain operational have cut costs and better utilize resources by producing those types of cars that are most highly valued by consumers.
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Chapter 20 1. Which is NOT one of the three key principles regarding international finance? a. The rate of savings is a key variable in understanding international trade and finance. b. Market equilibrium is where, at the margin, the gains from holding or spending one currency are equal to the gains from holding or spending some other currency. c. Gains from trade apply to trade between countries with different currencies as well as trade within a country. d. A trade surplus is better than a trade balance or a trade deficit. ANSWER: d 2. Market equilibrium in currencies occurs where: a. the amount of one currency that is in circulation equals the amount of some other currency that is in circulation. b. at the margin, the gains from holding or spending one currency are equal to the gains from holding or spending some other currency. c. the price levels in countries are equal to each other. d. the exchange rate is that one unit of one currency is equal in value to one unit of some other currency. ANSWER: b 3. The opportunity to obtain gains from trade based on comparative advantage applies to trade: a. between individuals, but not within or across national boundaries. b. across national boundaries, but not within national boundaries. c. within national boundaries, but not across national boundaries. d. within and across national boundaries. ANSWER: d 4. Table: Four Countries Country A Country B Item Dollar Item Values Exports $287M Exports Imports 287M Imports
Dollar Values $451M 412M
Country C Item Dollar Values Exports $717M Imports 909M
Country D Item Dollar Values Exports $132M Imports 121M
Which of these countries has a trade deficit? a. country A b. country B c. country C d. country D ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 5. Table: Four Countries Country A Country B Item Dollar Item Values Exports $287M Exports Imports 287M Imports
Dollar Values $451M 412M
Country C Item Dollar Values Exports $717M Imports 909M
Country D Item Dollar Values Exports $132M Imports 121M
Which of these countries has a trade surplus? a. country A b. country C c. country A and country C d. country B and country D ANSWER: d 6. What occurs when the value of a country's exports exceeds the value of its imports? a. a trade deficit b. a trade surplus c. a payment imbalance d. a capital surplus ANSWER: b 7. When you shop at Old Navy, you run a private _____ with Old Navy. a. trade deficit b. trade surplus c. payment imbalance d. capital surplus ANSWER: a 8. A trade deficit occurs when: a. the total value of exports exceeds the total value of imports. b. the total value of imports exceeds the total value of exports. c. the total money payment to other countries exceeds the total money payment from other countries. d. the total money payment from other countries exceeds the total money payment to other countries. ANSWER: b 9. If the United States imports $100 billion worth of goods and services from Mexico and exports $75 billion worth of goods and services to Mexico, then: a. the United States has a $25 billion trade surplus with Mexico. b. the United States has a $25 billion trade deficit with Mexico. c. the United States has a $175 billion trade surplus with Mexico. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. the United States has a $175 billion trade deficit with Mexico. ANSWER: b 10. A trade deficit occurs when: a. a government spends more than it receives in tax revenue. b. a government spends less than it receives in tax revenue. c. the value of a country's imports exceeds the value of its exports. d. the value of a country's exports exceeds the value of its imports. ANSWER: c 11. A trade surplus occurs when: a. a government spends more than it receives in tax revenue. b. a government spends less than it receives in tax revenue. c. the value of a country's imports exceeds the value of its exports. d. the value of a country's exports exceeds the value of its imports. ANSWER: d 12. Most people run a private: a. trade deficit with their employer and a trade surplus with the rest of the economy. b. trade surplus with their employer and a trade deficit with the rest of the economy. c. trade deficit with all players in the economy. d. trade surplus with all players in the economy. ANSWER: b 13. When a country's exports exceed its imports, that country experiences a: a. balance of payments. b. trade deficit. c. trade surplus. d. current account balance. ANSWER: c 14. A country's balance of trade is the difference between its: a. nominal and real exchange rates. b. monetary and fiscal policy. c. exports and imports. d. capital inflow and capital outflow. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 15. A trade deficit occurs when the value of a country's: a. imports exceeds the value of its exports. b. exports exceeds the value of its imports. c. inflow of foreign capital exceeds the value of its outflow of domestic capital. d. outflow of domestic capital exceeds the value of its inflow of foreign capital. ANSWER: a 16. A trade surplus occurs when the value of a country's: a. imports exceeds the value of its exports. b. exports exceeds the value of its imports. c. capital inflow exceeds the value of its outflow. d. capital outflow exceeds the value of its inflow. ANSWER: b 17. A trade deficit occurs when the value of a country's: a. imports exceeds the value of its exports. b. exports exceeds the value of its imports. c. exports equals the value of its imports. d. imports exceeds the value of its total consumption. ANSWER: a 18. A trade _____ occurs when the value of a country's exports exceeds the value of its imports. a. balance b. shortage c. surplus d. deficit ANSWER: c 19. A trade _____ occurs when the value of a country's imports exceeds the value of its exports. a. balance b. shortage c. surplus d. deficit ANSWER: d 20. If country A exports $10 billion worth of goods to country B and imports $8 billion worth of goods from country B, then country A has a(n): a. $2 billion trade deficit with country B. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. $2 billion trade surplus with country B. c. $18 billion trade deficit with country B. d. $18 billion trade surplus with country B. ANSWER: b 21. A situation in which the value of a country's exports exceeds the value of its imports is called a(n): a. trade surplus. b. capital surplus. c. balance of payments surplus. d. exchange rate surplus. ANSWER: a 22. The United States currently has a net _____ with the rest of the world. a. trade deficit b. capital deficit c. balance of payments deficit d. exchange rate deficit ANSWER: a 23. Table: Trade Data Country A Country B Country C Country D Value of imports $500 $450 $400 $350 Value of exports 400 475 400 325 Which countries have a trade deficit? a. country A and country D b. country B and country C c. country C and country D d. country A and country D ANSWER: a 24. Trade Data Value of imports Value of exports
Country A Country B Country C Country D $500 $450 $400 $350 400 475 400 325
Which country has a trade surplus of $25 billion? a. country A b. country B Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. country C d. country D ANSWER: b 25. Suppose a student earns $25,000 a year digging ditches for a landscaping company. The student’s main expenditures are $13,000 for tuition, $6,000 to rent a room, and $5,000 for food and supplies. Which statement correctly identifies the student’s trade deficits and surpluses? a. The student has a trade deficit with the landscaping company and has trade surpluses for tuition, rent, and food and supplies. b. The student has a trade surplus with the landscaping company and has trade deficits for tuition, rent, and food and supplies. c. Across all the listed purchases and sales, the student has a trade deficit. d. Across all the listed purchases and sales, the student has balanced trade. ANSWER: b 26. When international trade occurs, every flow of goods and services has a corresponding and _____ flow of _____. a. opposite; money or financial claims b. identical; money or financial claims c. matching; goods and services d. comparative; goods and services ANSWER: a 27. Which country has a trade surplus? a. country A: imports = $6.2 billion and exports = $6.2 billion b. country B: imports = $8.0 billion and exports = $9.0 billion c. country C: imports = $10.5 billion and exports = $10.0 billion d. country D: imports = $12.5 billion and exports = $12.0 billion ANSWER: b 28. Which country has a trade deficit? a. country A: imports = $6.2 billion and exports = $6.2 billion b. country B: imports = $8.0 billion and exports = $7.0 billion c. country C: imports = $9.5 billion and exports = $10.0 billion d. country D: imports = $12.0 billion and exports = $12.5 billion ANSWER: b 29. Table: Balance of Payment Accounts Item Dollar Value (millions) Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 Exports Imports Net income on capital held abroad Foreign aid received Foreign direct investment Portfolio investment Other investment
$300 620 35 100 120 50 50
According to the data in this table, what is the current account balance for this country? a. –$320 million b. –$185 million c. $135 million d. $1,055 million ANSWER: b 30. Table: Balance of Payment Accounts Item Dollar Value (millions) Exports $300 Imports 620 Net income on capital held abroad 35 Foreign aid received 100 Foreign direct investment 120 Portfolio investment 50 Other investment 50 According to the data in this table, what is the capital account balance for this country? a. $220 million b. –$185 million c. $1,055 million d. $170 million ANSWER: a 31. Table: Balance of Payment Accounts Item Dollar Value (millions) Exports $300 Imports 620 Net income on capital held abroad 35 Foreign aid received 100 Foreign direct investment 120 Portfolio investment 50 Other investment 50 According to the data in this table, which of the following statements is TRUE for this country? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. This country has a balance of trade surplus of $620 million. b. This country has a balance of trade deficit of $320 million. c. This country has a current account deficit of $320 million. d. This country has a current account surplus of $185 million. ANSWER: b 32. When Koreans buy stock on the NYSE: a. the U.S. balance of trade increases. b. the Korean capital account increases. c. the U.S. capital account decreases. d. the U.S. capital account increases. ANSWER: d 33. When Koreans buy stock on the NYSE: a. this immediately creates new investment in the United States. b. portfolio investment in the United States increases. c. the U.S. capital account decreases. d. foreign direct investment in the United States increases. ANSWER: b 34. We call the yearly summary of all the economic transactions between residents of one country and the rest of the world the: a. trade deficit. b. trade surplus. c. balance of payments. d. capital account. ANSWER: c 35. The trade deficit and the _____ surplus essentially balance out and offset each other. a. capital b. trade c. saving d. reserve ANSWER: a 36. Transactions included in the balance of payments are: a. foreign direct investment. b. exports. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. imports. d. foreign direct investment, exports, and imports. ANSWER: d 37. If this year's current account balance is –$100 billion and the capital account balance is $150 billion, then the amount of official reserves will: a. increase by $50 billion. b. decrease by $50 billion. c. increase by $250 billion. d. decrease by $250 billion. ANSWER: a 38. Which of the following is a yearly summary of all the economic transactions between residents of one country and residents of the rest of the world? a. the balance of trade b. the balance of the capital account c. the balance of the current account d. the balance of payments ANSWER: d 39. A situation in which foreign capital inflow exceeds domestic capital outflow to other nations is called a(n): a. trade surplus. b. capital surplus. c. balance of payments surplus. d. exchange rate surplus. ANSWER: b 40. Which of the following is NOT a way that a country can finance a trade deficit? a. increased international borrowing b. sales of assets to foreign buyers c. decreased exports d. reduction in cash reserves ANSWER: c 41. If a country is running a capital surplus, then the inflow of foreign: a. capital is less than the outflow of domestic capital abroad. b. capital is greater than the outflow of domestic capital abroad. c. goods and services is greater than the outflow of goods and services abroad. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. goods and services is less than the outflow of goods and services abroad. ANSWER: b 42. The balance of payments is: a. a yearly summary of all the economic transactions between residents of one country and residents of the rest of the world. b. the sum of the balance of trade, net income on capital held abroad, and net transfer payments. c. the price of one currency in another currency. d. a currency whose value is not pegged, but governments will intervene extensively in the market to keep the value within a certain range. ANSWER: a 43. The balance of payments is: a. a summary record of a country's economic transactions with the rest of the world. b. a summary record of a country's purchases and sales of goods and services in the world market. c. the difference between a country's imports and its exports of goods and services. d. the total value of merchandise goods bought from the rest of the world. ANSWER: a 44. If foreign reserves are fixed, the balance of payments requires that a: a. country must have a capital deficit when it has a trade deficit. b. country must have a capital surplus when it has a trade deficit. c. country's capital account and trade account must be balanced separately. d. country must have a trade deficit the year after it has a trade surplus. ANSWER: b 45. When the inflow of foreign capital is greater than the outflow of domestic capital to other nations, a country runs a: a. dirty float. b. fixed exchange rate. c. capital surplus. d. capital deficit. ANSWER: c 46. If in a given year Rivendell invests 500 silver coins in the Shire, the Shire invests 300 silver coins in Rivendell, and neither invests in any other land, the Shire runs a capital: a. surplus of 200 silver coins. b. deficit of 200 silver coins. c. surplus of 800 silver coins. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. deficit of 800 silver coins. ANSWER: a 47. If there are no changes in official reserves, the current account deficit must be: a. greater than the capital account deficit. b. equal to the capital account deficit. c. equal to the capital account surplus. d. greater than the capital account surplus. ANSWER: c 48. If there are no changes in official reserves and a country has a trade surplus of $100 million, then it has a capital _____ so that the balance of payments is _____. a. surplus; –$100 million b. surplus; $100 million c. deficit; –$100 million d. deficit; balanced ANSWER: d 49. When a country's inflow of foreign capital is less than its outflow of domestic capital to other countries, then the country runs a: a. trade deficit. b. capital surplus. c. capital deficit. d. balance of payments. ANSWER: c 50. A country's balance of payments is: a. the difference between its exports and imports. b. the difference between its capital inflow and capital outflow. c. a summary of all of the economic transactions between its residents and residents of the rest of the world. d. the difference between its nominal and real exchange rates. ANSWER: c 51. A capital surplus occurs when the value of a country's: a. imports exceeds the value of its domestic consumption. b. exports exceeds the value of its imports. c. inflow of foreign capital exceeds the outflow of its domestic capital. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. outflow of domestic capital exceeds its inflow of foreign capital. ANSWER: c 52. A capital deficit occurs when the value of a country's: a. imports exceeds the value of its exports. b. exports exceeds the value of its domestic consumption. c. foreign capital inflow exceeds the value of its domestic capital outflow. d. domestic capital outflow exceeds the value of its foreign capital inflow. ANSWER: d 53. A country is running a _____ when the inflow of foreign capital is greater than the outflow of domestic capital to other nations. a. trade surplus b. trade deficit c. capital surplus d. capital deficit ANSWER: c 54. Adding up the _____ and the _____ will net out the balance of payments to zero if there is no change in official reserves. a. trade surplus; capital surplus b. trade deficit; capital deficit c. trade surplus; trade deficit d. trade deficit; capital surplus ANSWER: d 55. If a country has $55 billion of net capital outflow and a $5 billion increase in its cash reserves and ownership of assets, then the country must be running a trade: a. deficit of $50 billion. b. deficit of $60 billion. c. surplus of $50 billion. d. surplus of $60 billion. ANSWER: d 56. A current account deficit in Kazakhstan could mean that: a. Kazakhstan is a terrible place in which to invest. b. Kazakhstan is a good place in which to invest. c. Kazakhs are saving too much. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. the rest of the world is saving too little. ANSWER: b 57. If the current account deficit indicates a problem with savings, a good way to deal with it is to: a. raise tariffs and other barriers to trade. b. tax foreign investment. c. ignore the problem. d. decrease the government's budget deficit. ANSWER: d 58. Which of the following is NOT included in a country's current account? a. transfer payments abroad, such as foreign aid b. net income on capital held abroad c. net exports d. foreign direct investment ANSWER: d 59. The most important and volatile component of the current account in the U.S. balance of payments is: a. transfer payments abroad, such as foreign aid. b. net income on capital held abroad. c. net exports. d. foreign direct investment. ANSWER: c 60. Which of the following would be recorded as a credit in the U.S. current account? a. The United States imports $1 million worth of tobacco from Mexico. b. British financial investments in the United States pay higher dividends. c. The United States sends $10 million in foreign aid to Somalia. d. The United States exports $5 million worth of corn to Canada. ANSWER: d 61. Which of the following would be recorded as a debit in the U.S. current account? a. The United States buys $1 million in British government bonds. b. British financial investments in the United States pay higher dividends. c. American citizens go to sub-Saharan Africa to teach reading to young students. d. The United States exports $5 million worth of corn to Canada. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 62. The current account is: a. a yearly summary of all the economic transactions between residents of one country and residents of the rest of the world. b. the sum of the balance of trade, net income on capital held abroad, and net transfer payments. c. the price of one currency in another currency. d. a currency whose value is not pegged, but governments will intervene extensively in the market to keep the value within a certain range. ANSWER: b 63. Which of the following is NOT a component of the current account? a. the trade balance b. the balance of foreign direct investment flows c. income on capital held abroad d. foreign aid ANSWER: b 64. Which of the following is a U.S. current account transaction? a. selling a computer chip to a resident in Europe b. buying stock shares of a Canadian company c. selling U.S. dollars in exchange for euros d. a foreign investor's purchase of a manufacturing plant in the United States ANSWER: a 65. The current account: a. is the sum of the balance of trade, net income on capital held abroad, and net transfer payments. b. is the difference between exports and imports. c. measures changes in foreign ownership of domestic assets, including financial assets like stocks and bonds, as well as physical assets. d. is a summary of all of the economic transactions between residents of one country and residents of the rest of the world. ANSWER: a 66. The current account includes: a. the balance of trade. b. net income on capital held abroad. c. foreign aid. d. the balance of trade, net income on capital held abroad, and foreign aid. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 67. All else held constant, an increase in U.S. exports will cause the U.S. current account to: a. move in a positive direction. b. move in a negative direction. c. remain unchanged. d. become more volatile. ANSWER: a 68. All else held constant, an increase in U.S. imports will cause the U.S. current account to: a. move in a positive direction. b. move in a negative direction. c. remain unchanged. d. become more volatile. ANSWER: b 69. The _____ is the sum of the balance of trade, net income on capital held abroad, and net transfer payments. a. capital account b. current account c. national account d. balance of payment ANSWER: b 70. Transactions in the current account include: a. changes in official reserves. b. portfolio investment. c. imports. d. foreign direct investment. ANSWER: c 71. Which of the following is included in the current account? a. the capital account b. foreign direct investment c. net income on capital held abroad d. portfolio investment ANSWER: c 72. All current account transactions take place in: a. future periods only. b. the current period only. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. the current and future periods. d. the current and past periods. ANSWER: b 73. Which of the following transactions can be classified as foreign direct investment for the United States? a. A Beijing antique dealer opens a store in downtown New York City. b. Someone purchases a Maserati GranTurismo from a Maserati dealer in New Jersey. c. A Korean businessman, living in South Korea, purchases stock on the NYSE. d. A Bangladeshi-American purchases a home in Dhaka, Bangladesh. ANSWER: a 74. Which of the following describes the difference between foreign direct investment (FDI) and foreign aid? a. It is not significant, because both items are counted as part of the current account. b. FDI refers to foreign businesses opening factories or operations, while foreign aid is monetary assistance. c. FDI earns interest while foreign aid is a gift of money with no interest component. d. FDI is monetary aid while foreign aid is the establishment of operations by foreign-owned businesses. ANSWER: b 75. When Chinese investors purchase U.S. commercial real estate, the _____ increases in the United States. a. trade deficit b. balance of payments c. capital account d. current account ANSWER: c 76. Foreign portfolio investment is included in the _____ account. a. current b. trade c. direct investment d. capital ANSWER: d 77. Which of the following includes a foreign firm constructing a new manufacturing plant in the United States? a. foreign transfer payment b. current account surplus c. foreign direct investment Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. foreign portfolio investment ANSWER: c 78. Which of the following is a capital account transaction? a. foreign purchases of U.S. stocks b. foreign purchases of U.S. bonds c. foreign purchases of U.S. buildings d. foreign purchases of U.S. stocks, bonds, and buildings ANSWER: d 79. Which transactions cause the U.S. capital account to increase? a. Japanese citizens purchase U.S. exports. b. American citizens purchase Japanese imports. c. Japanese citizens purchase real estate in the United States. d. Japan receives U.S. foreign aid. ANSWER: c 80. Foreign direct investment takes place in the United States when foreigners: a. construct a new business plant in the United States. b. buy U.S. stocks and bonds. c. shift bank deposits into the United States from other countries. d. buy U.S. exports. ANSWER: a 81. Portfolio investment takes place in the United States when foreigners: a. construct new business plants in the United States. b. buy U.S. stocks and bonds. c. shift bank deposits into the United States from other countries. d. buy U.S. exports. ANSWER: b 82. “Other investment” takes place in the United States when foreigners: a. construct new business plants in the United States. b. buy U.S. stocks and bonds. c. shift bank deposits into the United States from other countries. d. buy U.S. exports. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 83. The U.S. capital account measures the: a. change in foreign ownership of domestic assets. b. net capital stock in the United States. c. size of the trade deficit in the United States. d. net income on capital held abroad. ANSWER: a 84. If the Chinese government purchases an additional $10 million worth of U.S. government bonds, this transaction is recorded as a _____ in the U.S. balance of payments. a. credit in the capital account b. credit in the current account c. debit in the capital account d. debit in the current account ANSWER: a 85. Which of the following would be recorded as a debit (negative) in the U.S. capital account? a. The United States buys $1 million in British government bonds. b. British financial investments in the United States pay higher dividends. c. American citizens go to sub-Saharan Africa to teach reading to young students. d. The Chinese government increases its reserve holdings of U.S. dollars. ANSWER: a 86. Which of the following is NOT a category of the capital account? a. foreign direct investment inflow b. portfolio investment outflow c. bank deposit inflow d. exports of goods and services ANSWER: d 87. Which of the following is a transaction in the capital account? a. export of medical services b. import of foreign-made vehicles c. increase in foreign reserves d. purchase of a piece of land in a foreign country ANSWER: d 88. Foreign direct investment includes: a. the purchase of U.S. stocks by foreigners. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. the purchase of U.S. bonds by foreigners. c. spending by foreigners on the construction of a new plant in the United States. d. spending on U.S.-produced goods by foreigners. ANSWER: c 89. Which of the following would lead to a capital account deficit? a. purchase of foreign capital by domestic residents b. sale of domestic capital to foreign residents c. an increase in imports d. an increase in official reserves ANSWER: a 90. If official reserves are zero, a current account deficit of $1 million will cause a: a. capital account deficit of $1 million. b. capital account deficit of more than $1 million. c. capital account surplus of $1 million. d. balance of payments of –$1 million. ANSWER: c 91. When a German automaker opens a new plant in Alabama: a. both the U.S. capital account surplus and the U.S. current account surplus increase. b. the U.S. capital account surplus increases and the U.S. current account surplus decreases. c. the U.S. capital account surplus decreases and the U.S. current account deficit increases. d. both the U.S. capital account surplus and the U.S. current account surplus decrease. ANSWER: b 92. The capital account: a. is the sum of the balance of trade, net income on capital held abroad, and net transfer payments. b. is the difference between exports and imports. c. measures changes in foreign ownership of domestic assets, including financial assets like stocks and bonds, as well as physical assets. d. is a summary of all of the economic transactions between residents of one country and residents of the rest of the world. ANSWER: c 93. In general, when there is more investment going into a country than out of the country, the country will have a: a. current account deficit. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. current account surplus. c. capital account deficit. d. capital account surplus. ANSWER: d 94. When a foreign business buys stock in a U.S. company, the U.S. capital account will: a. move in a positive direction. b. move in a negative direction. c. remain unchanged. d. become more volatile. ANSWER: a 95. Foreign direct investment is part of the: a. current account. b. capital account. c. official reserves account. d. Treasury direct account. ANSWER: b 96. Currency held by governments is part of the: a. current account. b. capital account. c. official reserves account. d. Treasury direct account. ANSWER: c 97. The capital account measures: a. net income on capital held abroad and net transfer payments. b. changes in foreign ownership of domestic assets. c. the economic transactions between residents of one country and residents of the rest of the world. d. how the value of a country's exports exceeds the value of its imports. ANSWER: b 98. The capital account of the United States increases when: a. Japanese investors sell American assets. b. American investors buy Mexican assets. c. the American government buys British government bonds. d. the Chinese government buys American government bonds. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: d 99. _____ measures transactions that may result in future financial flows, whereas _____ measures current financial flows. a. The current account; the capital account b. The capital account; the current account c. Foreign direct investment; portfolio investment d. Portfolio investment; foreign direct investment ANSWER: b 100. When a Japanese investor buys Australian stock, the Australian capital account _____; when that same Japanese investor receives a dividend from the company, the Australian current account _____. a. increases; decreases b. increases; increases c. decreases; decreases d. decreases; increases ANSWER: a 101. Which of the following is NOT a category of investments in the capital account? a. foreign direct investment b. portfolio investment c. issuance of government bonds d. movement of bank deposits ANSWER: c 102. A German automaker builds a factory in the United States. This is considered: a. foreign direct investment. b. foreign portfolio investment. c. capital account investment. d. current account investment. ANSWER: a 103. If changes in official reserves are zero, a country with a negative current account (trade deficit) has: a. a negative capital account. b. a positive capital account. c. no capital account. d. large budget deficits. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 104. Suppose a country's official reserves do not change. If it has a $20 billion deficit in its current account, then it must also have a $20 billion: a. surplus in its balance of payments. b. deficit in its balance of payments. c. surplus in its capital account. d. deficit in its capital account. ANSWER: c 105. Increases in the U.S. capital surpluses since 1980s were caused by increases in: a. current account deficits. b. American saving rates. c. the balance of payments. d. U.S. official reserves. ANSWER: a 106. U.S. capital account surpluses are NOT related to: a. government deficits. b. high money supply growth. c. increases in the trade gap. d. the level of savings. ANSWER: b 107. When the United States has a current account deficit, the U.S. capital account: a. will have a deficit also. b. will be balanced. c. will have a surplus. d. must be falling. ANSWER: c 108. A trade deficit is balanced by a: a. trade surplus. b. capital account surplus. c. capital account deficit. d. current account surplus. ANSWER: b 109. A low savings rate in the United States is one possible reason for the U.S.: a. current account deficit. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. capital account surplus. c. trade deficit. d. current account deficit, capital account surplus, and trade deficit. ANSWER: d 110. A savings glut in other countries is one possible reason for the U.S.: a. current account deficit. b. capital account surplus. c. trade deficit. d. current account deficit, capital account surplus, and trade deficit. ANSWER: d 111. A credit in the U.S. current account: a. means the United States is purchasing more foreign goods and services. b. must be offset with a credit in the capital account. c. is typically offset by a debit in the capital account. d. decreases the U.S. official reserve account. ANSWER: c 112. A country with a large current account surplus is also typically running a large: a. trade deficit. b. capital account deficit. c. capital account surplus. d. official reserve account deficit. ANSWER: b 113. Saying that the United States is running a large current account deficit is equivalent to saying that: a. exports exceed imports in the United States. b. the United States is running a large capital account surplus. c. the balance of payments is negative. d. the value of the current capital stock in the United States exceeds the value of future capital flows. ANSWER: b 114. Those who say the growing current account deficit in the United States is not a significant problem make the argument that: a. the current account deficit is offset by an equally large capital account deficit, which ultimately leads to appreciation of the U.S. dollar. b. the large current account deficit will ultimately lead to a current account surplus. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. the current account deficit may hurt exporters, but American consumers gain as a result of lower relative prices. d. the increased investment in the United States as a result of the current account deficit will ultimately lead to increases in wealth and economic growth in the United States. ANSWER: d 115. Those who say the growing current account deficit in the United States is a significant problem make the argument that: a. the United States is financing current expenditures by borrowing from foreigners and these debts will ultimately have to be paid off. b. the United States is investing too much in other countries and not enough domestically. c. the large current account deficit will only lead to a depreciation of the U.S. dollar, and hence hurt domestic exporters. d. lower investment in the United States as a result of the current account deficit will ultimately lead to decreases in wealth and economic growth in the United States. ANSWER: a 116. In most cases, changes in the balance of payments come from changes in the: a. current and official reserves accounts. b. capital and official reserves accounts. c. current and capital accounts. d. government's required reserve accounts. ANSWER: c 117. If the United States has a capital account surplus and official reserves are zero, the current account: a. must be falling. b. must be in surplus. c. must be balanced. d. must be in deficit. ANSWER: d 118. Saying the United States is a good place for other countries to invest is consistent with _____ in the United States. a. higher capital accounts b. balanced trade c. lower trade deficits d. lower interest payments ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 119. A trade deficit might indicate a problem of: a. high currency value. b. low currency value. c. high savings. d. low savings. ANSWER: d 120. A trade deficit might signal a problem of: a. high unemployment. b. high taxes. c. low savings. d. low spending. ANSWER: c 121. Which of the following is most likely to significantly increase the U.S. savings rate? a. import quotas b. import tariffs c. reducing the federal government deficit d. lower interest rates ANSWER: c 122. Overall, a country’s balance of payments accounts: a. must balance out to zero. b. can have a surplus or a deficit. c. must balance out to zero, and each component account must balance to zero. d. need not balance to zero, but each component account must balance to zero. ANSWER: a 123. Suppose a student earns $15,000 during the year, spends $25,000 on tuition and living expenses, and borrows $10,000. Which statement is true regarding this student’s balance of payments? a. It shows a deficit with more flowing out of the household than flowing into the household during the year. b. It shows a surplus with more flowing into the household than flowing out of the household during the year. c. It shows an exact balance with the same amount flowing into the household as out of the household during the year. d. It shows an uneven balance with earnings, expenses, and loans being unequal. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 124. A country has a capital surplus when: a. net exports are positive. b. there is a trade surplus. c. the inflow of foreign capital is greater than the outflow of foreign capital. d. the outflow of foreign capital is greater than the inflow of foreign capital. ANSWER: c 125. Which is NOT a method used to finance a trade deficit in a given year? a. borrowing b. selling assets c. using savings d. increasing imports ANSWER: d 126. The equation for a person’s balance of payments is: a. Changes in earning – Changes in spending = Changes in debt + Changes in ownership of assets + Changes in cash reserves b. Changes in spending + Changes in earning = Changes in debt – Changes in ownership of assets – Changes in cash reserves c. Earning – Spending = Changes in debt + Changes in ownership of assets + Changes in cash reserves d. Spending – Earning = Changes in debt + Changes in ownership of assets + Changes in cash reserves ANSWER: c 127. The international balance of payments equation is: a. Current account + Change in official reserves = Capital account b. Current account = (–) Capital account + Change in official reserves c. Capital account = Current account + Change in official reserves d. Capital account – Change in official reserves = Current account ANSWER: b 128. Which is NOT included in a country’s current account? a. net transfer payments b. net income on capital held abroad c. net international loans d. balance of trade ANSWER: c 129. What three items are summed to obtain a country’s current account? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. foreign direct investment, portfolio investment, and other investments b. net income on capital held abroad, foreign direct investment, and the balance of trade c. net transfer payments, net income on capital held abroad, and the balance of trade d. the balance of trade, portfolio investment, and net transfer payments ANSWER: c 130. Table: Balance of Payments Data (in millions) Country A Country B Trade balance $1,000 –$2,000 Change in official reserves 1,000 Net income on capital held 4,000 –3,000 abroad Net transfer payments –3,000 4,000 Foreign direct investment 2,000 Portfolio investments –3,000 Other investments 2,000 –1,000
Country C Country D –$8,000 $3,000 –2,000 –1,000
5,000 2,000 –6,000
–1,000 9,000 –7,000 –4,000
What is country A’s change in official reserves? a. –$2,000 b. –$1,000 c. $2,000 d. $3,000 ANSWER: d 131. Table: Balance of Payments Data (in millions) Country A Country B Trade balance $1,000 –$2,000 Change in official reserves 1,000 Net income on capital held 4,000 –3,000 abroad Net transfer payments –3,000 4,000 Foreign direct investment 2,000 Portfolio investments –3,000 Other investments 2,000 –1,000
Country C Country D –$8,000 $3,000 –2,000 –1,000
5,000 2,000 –6,000
–1,000 9,000 –7,000 –4,000
What is country D’s change in official reserves? a. –$2,000 b. –$1,000 c. $2,000 d. $3,000 ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 132. Table: Balance of Payments Data (in millions) Country A Country B Trade balance $1,000 –$2,000 Change in official reserves 1,000 Net income on capital held 4,000 –3,000 abroad Net transfer payments –3,000 4,000 Foreign direct investment 2,000 Portfolio investments –3,000 Other investments 2,000 –1,000
Country C Country D –$8,000 $3,000 –2,000 –1,000
5,000 2,000 –6,000
–1,000 9,000 –7,000 –4,000
What is country B’s capital account balance? a. –$2,000 b. –$1,000 c. $2,000 d. $3,000 ANSWER: c 133. Table: Balance of Payments Data (in millions) Country A Country B Trade balance Change in official reserves Net income on capital held abroad Net transfer payments Foreign direct investment Portfolio investments Other investments
$1,000 4,000 –3,000 2,000 –3,000 2,000
–$2,000 1,000 – 3,000
Country C
Country D
–$8,000 –2,000
$3,000 –1,000
4,000
–1,000
5,000 2,000 – 6,000
–1,000 9,000 –7,000 –4,000
What is country C’s current account balance? a. –$3,000 b. –$1,000 c. $1,000 d. $2,000 ANSWER: a 134. Which is NOT included in the U.S. current account? a. the net value of purchases and sales of international shares of stock b. the trade balance c. net stock dividends paid to Americans from abroad d. net foreign aid Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: a 135. The transfer of an individual’s bank deposit from one country to another country would show up in what part of the balance of payment accounts? a. current account b. capital account c. official reserve account d. payment account ANSWER: b 136. Which is NOT included in the official reserve account in a country’s balance of payments? a. special drawing rights b. net government international loans c. foreign currencies d. gold reserves ANSWER: b 137. Which is NOT typically true of a country with a large trade deficit? a. Foreign debts have accumulated and will need to be repaid in the future. b. Higher taxes are likely in the future. c. There is an excessive amount of savings. d. Foreigners are investing in the country’s capital. ANSWER: c 138. Table: Exchange Rates Year Exchange Rates 2000 1 U.S. $ = 0.5 British £ 2004 1 U.S. $ = 1.0 British £
0.4 European € = 100 Japanese ¥ 0.8 European € = 200 Japanese ¥
Based on the hypothetical exchange rate information in the table, which of the following statements is CORRECT? a. In 2004, the British pound had become stronger relative to the U.S. dollar. b. In 2004, the European euro had become stronger relative to the Japanese yen. c. In 2004, the U.S. dollar had become stronger relative to the British pound. d. In 2004, the Japanese yen had become stronger relative to the European euro. ANSWER: c 139. Table: Exchange Rates Year Exchange Rates Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 2000 2004
1 U.S. $ = 0.5 British £ 1 U.S. $ = 1.0 British £
0.4 European € = 100 Japanese ¥ 0.8 European € = 200 Japanese ¥
Based on the hypothetical exchange rate information in the table, which of the following statements is CORRECT? a. In 2004, the Japanese yen had become stronger relative to the European euro. b. In 2004, the American dollar had become weaker relative to the British pound. c. In 2004, the price of one Japanese yen had doubled relative to the European euro. d. In 2004, the price of one Japanese yen had not changed relative to the European euro. ANSWER: d 140. Table: Exchange Rates Year Exchange Rates 2000 1 U.S. $ = 0.5 British £ 2004 1 U.S. $ = 1.0 British £
0.4 European € = 100 Japanese ¥ 0.8 European € = 200 Japanese ¥
Based on the hypothetical exchange rate information in the table, which of the following statements is CORRECT? a. In 2004, the U.S. dollar had depreciated relative to the British pound. b. In 2004, the British pound had depreciated relative to the U.S. dollar. c. In 2004, the Japanese yen had appreciated relative to the European euro. d. In 2004, the European euro had appreciated relative to the Japanese yen. ANSWER: b 141. Table: Exchange Rates Year Exchange Rates 2000 1 U.S. $ = 0.5 British £ 2004 1 U.S. $ = 1.0 British £
0.4 European € = 100 Japanese ¥ 0.8 European € = 200 Japanese ¥
Based on the hypothetical exchange rate information for the two years in the table, the price of 1 euro in terms of Japanese yen in 2000 was: a. ¥0.004. b. ¥40. c. ¥100. d. ¥250. ANSWER: d 142. Table: Exchange Rates Year Exchange Rates 2000 1 U.S. $ = 0.5 British £ 2004 1 U.S. $ = 1.0 British £
0.4 European € = 100 Japanese ¥ 0.8 European € = 200 Japanese ¥
Based on the hypothetical exchange rate information for the two years in the table, the price of 1 euro in terms Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 of Japanese yen in 2004 was: a. ¥200. b. ¥100. c. ¥250. d. ¥400. ANSWER: c 143. Table: Exchange Rates Year Exchange Rates 2000 1 U.S. $ = 0.5 British £ 2004 1 U.S. $ = 1.0 British £
0.4 European € = 100 Japanese ¥ 0.8 European € = 200 Japanese ¥
Based on the hypothetical exchange rate information for the two years in the table, the price of 1 Japanese yen in terms of European euros in 2004 was: a. €0.004. b. €0.1. c. €100. d. €40. ANSWER: a 144. What does knowing that $1.25 buys 1 euro tell you? a. the currency reserve ratio b. the exchange rate c. the foreign money replacement rate d. the capital index conversion rate ANSWER: b 145. If the exchange rate between the U.S. dollar and the Canadian dollar were U.S. $1.25 for Can $1, then a shirt that costs U.S. $20 would cost: a. Can $25. b. Can $21.25. c. Can $18.75. d. Can $16. ANSWER: d 146. An exchange rate is the cost, or price, of: a. exporting goods. b. importing goods. c. borrowing in a foreign country. d. one currency in terms of another. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: d 147. An exchange rate is: a. a yearly summary of all the economic transactions between residents of one country and residents of the rest of the world. b. the sum of the balance of trade, net income on capital held abroad, and net transfer payments. c. the price of one currency in terms of another currency. d. a currency whose value is not pegged, but governments will intervene extensively in the market to keep the value within a certain range. ANSWER: c 148. An exchange rate appreciation is: a. an increase in the price of one currency in terms of another currency. b. a decrease in the price of one currency in terms of another currency. c. the rate at which you can exchange one currency for another. d. the rate at which you can exchange the goods and services of one country for the goods and services of another. ANSWER: a 149. An exchange rate depreciation is: a. an increase in the price of one currency in terms of another currency. b. a decrease in the price of a currency in terms of another currency. c. the rate at which you can exchange one currency for another. d. the rate at which you can exchange the goods and services of one country for the goods and services of another. ANSWER: b 150. If the exchange rate between the U.S. dollar and the euro is $1 for €0.75, then the price of €1 is: a. $0.75. b. $1. c. $1.33. d. $1.75. ANSWER: c 151. The nominal exchange rate is: a. an increase in the price of one currency in terms of another currency. b. a decrease in the price of a currency in terms of another currency. c. the rate at which you can exchange one currency for another. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. the rate at which you can exchange the goods and services of one country for the goods and services of another. ANSWER: c 152. The real exchange rate is: a. an increase in the price of one currency in terms of another currency. b. a decrease in the price of a currency in terms of another currency. c. the rate at which you can exchange one currency for another. d. the rate at which you can exchange the goods and services of one country for the goods and services of another. ANSWER: d 153. If the current exchange rate between the U.S. dollar and the euro was $1 to €0.75 yesterday but is $1 to €0.85 today, the euro: a. has appreciated against the U.S. dollar. b. has depreciated against the U.S. dollar. c. has neither appreciated nor depreciated against the U.S. dollar. d. has appreciated or depreciated against the U.S. dollar, depending on other currencies. ANSWER: b 154. Which of the following results in an appreciation of the U.S. dollar? a. an increase in U.S. imports b. an increase in U.S. capital outflow c. an increase in foreign investment in the United States d. an increase in Americans' demand for foreign currencies ANSWER: c 155. At the equilibrium exchange rate, the quantity demanded of a currency is: a. unrelated to the quantity supplied. b. greater than the quantity supplied. c. less than the quantity supplied. d. equal to the quantity supplied. ANSWER: d 156. Consider the exchange rate between the U.S. dollar and the Japanese yen. If the yen appreciates, then: a. the dollar must appreciate also. b. the dollar must depreciate. c. the value of the dollar will remain constant. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. the value of the dollar can increase, decrease, or remain unchanged. ANSWER: b 157. An appreciation is: a. a decrease in the quantity of one currency in terms of another currency. b. an increase in the quantity of one currency in terms of another currency. c. a decrease in the price of one currency in terms of another currency. d. an increase in the price of one currency in terms of another currency. ANSWER: d 158. If $1 buys 90 Japanese yen and a computer that costs $800 is priced at 90,000 Japanese yen, then the computer in Japan is: a. underpriced by 18,000 Japanese yen. b. overpriced by 18,000 Japanese yen. c. underpriced by 80,000 Japanese yen. d. overpriced by 80,000 Japanese yen. ANSWER: b 159. A decrease in the value of the domestic currency in terms of other currencies is called _____ of the domestic currency. a. a parity b. a discount c. an appreciation d. a depreciation ANSWER: d 160. Figure: Yuan Foreign Exchange Market for U.S. Dollars
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Chapter 20
Based on this figure, which of the following statements is CORRECT? a. Moving up the y-axis, the Chinese yuan depreciates relative to all world currencies. b. Moving up the y-axis, the American dollar depreciates relative to the Chinese yuan. c. Moving down the y-axis, the Chinese yuan depreciates relative to the U.S. dollar. d. Moving up the y-axis, the Chinese yuan depreciates relative to the U.S. dollar. ANSWER: d 161. Figure: Yuan Foreign Exchange Market for U.S. Dollars
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Chapter 20
Based on this figure, if Americans begin to import more from China, which of the following is a possible outcome for the price of the dollar? a. 10 yuan per dollar b. 9 yuan per dollar c. 8 yuan per dollar d. 7 yuan per dollar ANSWER: d 162. Figure: Pound Foreign Exchange Market for Euros
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Chapter 20
If the British became wealthier and began importing more goods from the European Union, which shift would occur in the foreign exchange market for euros? a. The demand for euros would shift to the right. b. The demand for euros would shift to the left. c. The supply of euros would shift to the right. d. The supply of euros would shift to the left. ANSWER: a 163. Figure: Rupee Foreign Exchange Market for U.S. Dollars
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Chapter 20
Based on the figure, what will a decrease in the money supply by the Federal Reserve cause? a. the demand for dollars to shift to the right b. the demand for dollars to shift to the left c. the supply of dollars to shift to the right d. the supply of dollars to shift to the left ANSWER: d 164. Figure: Rupee Foreign Exchange Market for U.S. Dollars
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Chapter 20
Based on the figure, what will a rise in real interest rates in the United States cause? a. the demand for dollars to shift to the right b. the demand for dollars to shift to the left c. the supply of dollars to shift to the right d. the supply of dollars to shift to the left ANSWER: a 165. If the exchange rate between the Japanese yen and the dollar was ¥110 = $1 in 2006 and ¥120 = $1 in 2009, then between 2006 and 2009: a. the yen appreciated against the dollar. b. the yen depreciated against the dollar. c. both the yen and the dollar appreciated. d. both the yen and the dollar depreciated. ANSWER: b 166. In the short run, with floating exchange rates, the exchange rate is determined by: a. the supply of the currency. b. the demand for the currency. c. both the supply of and demand for the currency. d. neither the supply of nor demand for the currency. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: c 167. Consider the exchange market for the U.S. dollar versus the Japanese yen. The supply of yen comes from: a. the United States. b. Japan. c. both the United States and Japan. d. neither the United States nor Japan. ANSWER: b 168. Consider the exchange market for the U.S. dollar versus the Japanese yen. The demand for yen comes from: a. the United States. b. Japan. c. both the United States and Japan. d. neither the United States nor Japan. ANSWER: c 169. When the exchange rate is written as dollars per yen, the exchange rate represents the: a. official government price of the dollar. b. official government price of the yen. c. price of one yen in dollars. d. price of one dollar in yen. ANSWER: c 170. When the exchange rate is written as dollars per yen, an increase in the exchange rate means that: a. the yen is decreasing in value. b. the dollar is decreasing in value. c. both the yen and the dollar are decreasing in value. d. both the yen and the dollar are increasing in value. ANSWER: b 171. An appreciation of the Mexican peso would most likely be a result of: a. a decrease in Mexican imports in the United States. b. an increase in the supply of pesos. c. an increase of foreign investment in Mexico. d. a decrease in Mexican exports to the United States. ANSWER: c 172. If U.S. producers export more wine to France, then: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. the demand for dollars will increase. b. the supply of euros will increase. c. the supply of both dollars and euros will increase. d. the demand for both dollars and euros will increase. ANSWER: a 173. Figure: Foreign Exchange Market for U.S. Dollars
What would cause a shift of the demand curve from D1 to D2 in the figure? a. an increase in the export of U.S. beef to China b. a purchase of Japanese corporate bonds by Americans c. a sale of U.S. Treasury bonds by Chinese bondholders d. an increase of the dollar supply by the U.S. Federal Reserve ANSWER: a 174. What is an increase in the price of one currency in terms of another currency called? a. exchange rate b. elevation c. accumulation d. appreciation Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: d 175. An increase in the demand for a country's exports will have what effect on its currency? a. Its value will not change. b. Its value will increase. c. Its value will decrease. d. Its value will depreciate. ANSWER: b 176. Higher interest rates, a stable government, and increased exports contribute to: a. high taxes. b. trade deficits. c. a strong currency. d. high GDP per capita. ANSWER: c 177. With a floating exchange rate, an increase in the U.S. demand for Japanese exports will cause the demand for yen to: a. decrease. b. increase. c. remain unchanged. d. become less elastic. ANSWER: b 178. With a floating exchange rate, an increase in the U.S. demand for Japanese exports will cause the supply of yen to: a. decrease. b. increase. c. remain unchanged. d. become less elastic. ANSWER: c 179. With a floating exchange rate, an increase in the U.S. demand for Japanese exports will cause: a. the yen to appreciate. b. the dollar to depreciate. c. the number of yen exchanged to increase. d. the yen to appreciate, the dollar to depreciate, and the number of yen exchanged to increase. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 180. When a country becomes more attractive for foreign investment, we would expect a(n): a. depreciation of the country's exchange rate. b. appreciation of the country's exchange rate. c. increase in the supply of that country's currency. d. decrease in the supply of that country's currency. ANSWER: b 181. With a floating exchange rate, an increase in the U.S. interest rate will cause: a. capital to flow into the United States. b. an increase in the demand for dollars. c. an appreciation of the dollar. d. capital to flow into the United States, an increase in the demand for dollars, and an appreciation of the dollar. ANSWER: d 182. In the short run, a tighter monetary policy by the U.S. Federal Reserve leads to: a. an increase in the supply of dollars and a dollar depreciation. b. a decrease in the supply of dollars and a dollar appreciation. c. an increase in the demand for dollars and a dollar depreciation. d. a decrease in the demand for dollars and a dollar appreciation. ANSWER: b 183. The increased supply of a currency will cause its: a. purchasing power parity to rise. b. value to depreciate. c. reserves to increase. d. value to appreciate. ANSWER: b 184. With a floating exchange rate, when the Federal Reserve increases the U.S. money supply, the U.S. dollar will: a. appreciate. b. depreciate. c. become more scarce. d. become more valuable. ANSWER: b 185. Which of the following would increase the demand for U.S. dollars? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. American consumers begin to import more automobiles manufactured abroad. b. Japan increases its purchases of U.S. corn. c. The credit rating of U.S. government bonds is downgraded. d. More U.S. citizens begin to travel abroad. ANSWER: b 186. If the dollar per euro exchange rate rises, this means that: a. it takes more euros to purchase a dollar. b. the demand for euros must have fallen. c. the dollar has depreciated. d. the supply of euros must have also risen. ANSWER: c 187. China is the world's leading producer of rare earth metals. What will happen to the value of the yuan if demand for rare earth metals increases and the government does not intervene? a. It will appreciate. b. It will depreciate. c. It will neither appreciate nor depreciate. d. It will disappear. ANSWER: a 188. All over the world, drug dealers keep their wealth in the form of U.S. dollar bills, which they bury in their backyards. What would happen to the value of the dollar if drug dealers decided to switch to euros instead of U.S. dollars? a. The dollar would appreciate. b. The dollar would depreciate. c. There would be no change, since the dollars that were buried were not circulating. d. There would be no change, since the euros that are to be buried won't circulate. ANSWER: b 189. Which of the following increases the demand for the U.S. dollar in the foreign exchange market? a. an increase in the U.S. savings rate b. an increase in U.S. inflation c. an increase in U.S. capital outflow overseas d. an increase in U.S. exports ANSWER: d 190. An increase in Americans' demand for vehicles made in Europe: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. increases the demand for dollars, and so the euro depreciates. b. increases the demand for euros, and so the euro appreciates. c. increases the supply of euros, and so the euro depreciates. d. decreases the demand for euros, and so the euro appreciates. ANSWER: b 191. An increase in the demand for a country's exports will cause the demand for its currency to: a. remain unchanged. b. increase. c. decrease. d. become more unpredictable. ANSWER: b 192. An increase in the demand for a country's exports will cause its currency's value to: a. remain unchanged. b. appreciate. c. depreciate. d. become more volatile. ANSWER: b 193. If the Central Bank of China decides to hold more dollars as reserves, the: a. dollar's value will remain unchanged. b. dollar will appreciate. c. dollar will depreciate. d. dollar's value will become more unpredictable. ANSWER: b 194. If the Federal Reserve made the decision to increase the money supply in the United States, this would lead to: a. an increase in the demand for U.S. dollars. b. a decrease in the demand for U.S. dollars. c. an appreciation of the U.S. dollar relative to other currencies. d. a depreciation of the U.S. dollar relative to other currencies. ANSWER: d 195. If the Federal Reserve increases the U.S. money supply, the dollar's value will: a. remain unchanged. b. appreciate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. depreciate. d. become more volatile. ANSWER: c 196. The nominal exchange rate in Kenya is 94 Kenyan shillings per U.S. dollar. A burger in the United States costs $2. A similar burger at Steers Restaurant in Kenya costs 94 shillings. The real exchange rate in terms of U.S. burgers for Kenyan burgers is: a. 1:1. b. 1:2. c. 1:1/2. d. 2:1. ANSWER: b 197. What is the rate at which you exchange the goods and services of one country for the goods and services of another? a. nominal exchange rate b. real exchange rate c. parity exchange rate d. monetary exchange rate ANSWER: b 198. Which of the following is NOT a constraint on trade that prevents prices from being fully equalized across borders? a. The qualities of goods sold in different countries vary. b. The costs of transportation for some goods can be significant. c. Some goods cannot be shipped at all. d. Governments may tax or otherwise restrict trade to an extent that hinders market exchange. ANSWER: a 199. Suppose the exchange rate between the euro and the U.S. dollar is €0.5 to $1. If a Big Mac costs $3 in the United States and €1.5 in Germany, then the real exchange rate is: a. 1:1. b. 2:1. c. 1:2. d. 1:3. ANSWER: a 200. According to the purchasing power parity theorem, if a dollar is converted into another currency and spent abroad, then the real purchasing power of the dollar is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. lower at home than abroad. b. higher at home than abroad c. the same at home or abroad. d. can be higher or lower at home than abroad, depending on the exchange rate. ANSWER: c 201. For which of the following goods or services does purchasing power parity most closely hold? a. haircuts b. massages c. computers d. real estate ANSWER: c 202. If every country in the world adopted an open borders immigration policy, which of the following would happen? a. Purchasing power parity would cease to hold. b. Purchasing power parity would hold more closely. c. There would be no change in the degree of purchasing power parity. d. Currencies would depreciate. ANSWER: b 203. If a teleportation device were invented, which of the following would happen? a. Purchasing power parity would cease to hold. b. Purchasing power parity would hold more closely. c. There would be no change in the degree of purchasing power parity. d. Currencies would depreciate. ANSWER: b 204. If every country in the world adopted a policy of 100% free trade, which of the following would happen? a. Purchasing power parity would cease to hold. b. Purchasing power parity would hold more closely. c. There would be no change in the degree of purchasing power parity. d. Currencies would depreciate. ANSWER: b 205. Which theorem states that exchange rates will adjust until the prices of goods in different countries approximate one another? a. purchasing power parity Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. the law of multiple prices c. the principle of comparative advantage d. dollarization ANSWER: a 206. Which of the following will NOT prevent purchasing power parity from occurring in the real world? a. high transportation costs b. nontradeable services c. trade restrictions d. speculation by foreign exchange traders ANSWER: d 207. If purchasing power parity holds and the nominal exchange rate is £1 for $2, then an iPhone that cost $450 in New York should cost _____ in London. a. £225 b. £450 c. £675 d. £900 ANSWER: a 208. Purchasing power parity is an application of the law of: a. supply and demand. b. exchange rates. c. one price. d. multiple prices. ANSWER: c 209. Purchasing power parity is limited by: a. the disparity of economic environments between countries. b. the abundance of diverse resources. c. income inequality. d. the costs of trading, transacting, and shuffling resources. ANSWER: d 210. Suppose an increase in the demand for dollars has caused an appreciation of the dollar. According to the purchasing power parity theorem, the value of the dollar in the future will: a. appreciate more. b. depreciate. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. not change. d. be unpredictable. ANSWER: b 211. Assume that the initial real exchange rate for a country and its trading partner is 1:1. If there is inflation in the country, then PPP predicts that: a. the country's currency will appreciate. b. the real exchange rate will fall. c. the real exchange rate will rise. d. no significant long-run change in the real exchange rate will occur. ANSWER: d 212. If combine harvesters are cheaper in the United States than they are in Canada, the law of one price predicts that once exchange rates are taken into account: a. the prices of combine harvesters in the two countries will equalize in the long run if transportation costs and tariffs are not a barrier. b. Canadian combine harvesters will be exported to the United States if transportation costs and tariffs are not a barrier. c. the United States will adopt voluntary restraint agreements with Canada. d. the United States will erect tariffs against trade with Canada. ANSWER: a 213. In the long run, with a floating exchange rate, changes in _____ will have an impact on the real exchange rate. a. the U.S. money supply b. the foreign country's money supply c. both the U.S. money supply and the foreign country's money supply d. neither the U.S. money supply nor the foreign country's money supply ANSWER: d 214. If purchasing power parity holds and the nominal exchange rate is 1.5 U.S. dollars for 1 Canadian dollar, then a Big Mac that costs 2 Canadian dollars in Canada will cost _____ U.S. dollar(s) in the United States. a. 1 b. 1.5 c. 2 d. 3 ANSWER: d 215. Which of the following would NOT prevent purchasing power parity from holding? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. high transportation costs b. goods that are not tradeable c. fluctuations in foreign exchange rates d. tariffs and quotas ANSWER: c 216. Which of the following prevents the purchasing power parity theorem from holding perfectly? a. transportation costs b. goods that cannot be shipped c. tariffs and quotas d. transportation costs, goods that cannot be shipped, and tariffs and quotas ANSWER: d 217. _____ are usually _____ in developing countries because of lower wages and immigration laws that prevent the free movement of labor. a. Goods; more expensive b. Goods; less expensive c. Services; more expensive d. Services; less expensive ANSWER: d 218. Which items are usually cheaper in poorer countries? a. services b. computers c. iPods d. Big Macs ANSWER: a 219. The exchange rate between the U.S. dollar and the yen changed from $0.010 per yen to $0.012 per yen. What is true regarding both currencies? a. Both currencies remain equally strong. b. The yen strengthened and the dollar weakened. c. The dollar strengthened and the yen weakened. d. Both currencies have weakened. ANSWER: b 220. Assume that the exchange rate is $0.032 to 1 Thai baht. If demand for the Thai baht increases, which will be a likely outcome? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. $0.03 to 1 Thai baht b. $0.32 to 1 Thai baht c. $0.34 to 1 Thai baht d. There is no likely outcome for an increase in demand for the Thai baht. ANSWER: c 221. Assume the exchange rate is $0.032 to 1 Thai baht. If demand for the Thai baht decreases, which will be a likely outcome? a. $0.03 to 1 Thai baht b. $0.32 to 1 Thai baht c. $0.34 to 1 Thai baht d. There is no likely outcome for a decrease in demand for the Thai baht. ANSWER: a 222. Which would cause a currency to depreciate? a. an increase in the demand for the currency b. a decrease in the supply of the currency c. loose monetary policy in the currency’s country d. an increase in the demand for holding the currency in reserves ANSWER: c 223. Assume that the official exchange rate between the U.S. dollar and the Philippine peso is $0.021 to 1 Philippine peso. Buying a group of goods in the United States costs $50. Buying the same group of goods in the Philippines costs 2,500 Philippine pesos. What is the real exchange rate in dollars per Philippine peso? a. $0.0200 to 1 Philippine peso b. $0.0210 to 1 Philippine peso c. $0.5000 to 1 Philippine peso d. $0.2381 to 1 Philippine peso ANSWER: a 224. Assume that the official exchange rate between U.S. dollars and the Swiss franc is $1.10 to 1 Swiss franc. Buying a group of goods in the United States costs $50. Buying the same group of goods in Switzerland costs 70 Swiss francs. What is the real exchange rate in dollars per Swiss franc? a. $0.714 to 1 Swiss franc b. $1.100 to 1 Swiss franc c. $1.270 to 1 Swiss franc d. $1.400 to 1 Swiss franc ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 225. Purchasing power parity exists when: a. prices are the same in all countries. b. one unit of a given currency is able to buy one unit of another currency. c. a given amount of currency in one country is able to purchase the same bundle of goods and services in all countries. d. prices do not change but stay the same over time. ANSWER: c 226. Deviations from purchasing power parity tend to be larger for _____ than for _____. a. services; goods b. goods; services c. imports; exports d. exports; imports ANSWER: a 227. What is the relationship between an increase in money supply and net exports? a. A monetary expansion leads to a depreciation of the home currency and a decrease in net exports. b. A monetary expansion leads to a depreciation of the home currency and an increase in net exports. c. A monetary expansion leads to an appreciation of the home currency and a decrease in net exports. d. A monetary expansion leads to an appreciation of the home currency and an increase in net exports. ANSWER: b 228. Compared with a closed economy, an increase in the growth rate of the money supply in an open economy increases aggregate demand by a: a. larger amount only in the short run. b. smaller amount only in the short run. c. larger amount in both the short run and the long run. d. smaller amount in both the short run and the long run. ANSWER: a 229. In the long run, an increase in the domestic money supply: a. causes the country's real exchange rate to rise. b. causes the country's real exchange rate to fall. c. does not affect the country's real exchange rate. d. causes the country's real exchange rate to rise or fall, depending on purchasing power parity. ANSWER: c 230. If the Federal Reserve decided to decrease the money supply in the United States, this would lead to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. an appreciation of the U.S. dollar. b. an increase in the relative price of U.S. exports. c. a decrease in AD. d. an appreciation of the U.S. dollar, an increase in the relative price of U.S. exports, and a decrease in AD. ANSWER: d 231. A country currently experiencing a recession would benefit most from: a. an expansion in the money supply that leads to an appreciation of the domestic currency. b. an expansion in the money supply that leads to a depreciation of the domestic currency. c. a contraction in the money supply that leads to an appreciation of the domestic currency. d. a contraction in the money supply that leads to a depreciation of the domestic currency. ANSWER: b 232. Contractionary monetary policy, assuming demand for the currency stays constant, tends to result in: a. a currency depreciation. b. a currency appreciation. c. no change in exchange rates. d. a change in only real, not nominal, exchange rates. ANSWER: b 233. Expansionary monetary policy lowers the: a. real exchange rate in the short run, but not in the long run. b. nominal exchange rate in the short run, but not in the long run. c. real exchange rate in the long run, but not in the short run. d. nominal exchange rate in the long run, but not in the short run. ANSWER: a 234. In the short run, an increase in the money supply tends to increase employment because: a. exports increase but imports don't. b. imports increase but exports don't. c. both exports and imports increase. d. government spending increases. ANSWER: a 235. Following an increase in the U.S. money supply, the U.S. real exchange rate tends to: a. increase continuously. b. decrease continuously. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. first increase and then decrease. d. first decrease and then increase. ANSWER: d 236. _____ of the U.S. dollar will cause U.S. _____ to _____ in the short run. a. Appreciation; aggregate demand; increase b. Depreciation; aggregate demand; increase c. Appreciation; aggregate supply; decrease d. Depreciation; aggregate supply; decrease ANSWER: b 237. What happens to U.S. exports when the money supply is increased? a. Tariffs increase. b. Exports increase. c. Prices increase. d. Quality increases. ANSWER: b 238. What causes the economy's real growth rate to return to its long-run level after the money supply has been increased? a. unemployment b. currency appreciation c. inflation d. government spending ANSWER: c 239. An increase in the growth rate of the money supply in the short run causes a(n) _____ of the domestic currency and a(n) _____ in aggregate demand. a. depreciation; decrease b. depreciation; increase c. appreciation; decrease d. appreciation; increase ANSWER: b 240. In the long run, an increase in the growth rate of the money supply causes _____ in the real exchange rate and _____ in the real GDP growth rate. a. an increase; an increase b. a decrease; a decrease Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. an increase; a decrease d. no change; no change ANSWER: d 241. How do budget deficits lead to trade deficits? a. Budget deficits lead to higher interest rates, which lead to net capital inflow, which leads to currency appreciation, thus reducing net exports. b. Budget deficits lead to lower interest rates, which lead to net capital inflow, which leads to currency appreciation, thus reducing net exports. c. Budget deficits lead to higher interest rates, which lead to net capital outflow, which leads to currency appreciation, thus reducing net exports. d. Budget deficits lead to higher interest rates, which lead to net capital inflow, which leads to currency depreciation, thus reducing net exports. ANSWER: a 242. Which of the following explains why a budget deficit can cause a trade deficit? a. An increase in the budget deficit raises domestic interest rates, resulting in a current account surplus and an appreciation of the currency. b. An increase in the budget deficit lowers domestic interest rates, resulting in a current account deficit and a depreciation of the currency. c. An increase in the budget deficit raises domestic interest rates, resulting in a capital account surplus and an appreciation of the currency. d. An increase in the budget deficit lowers domestic interest rates, resulting in a capital account deficit and a depreciation of the currency. ANSWER: c 243. If the U.S. government borrows to finance its budget deficits, then: a. the dollar will appreciate and U.S. imports will decrease. b. the dollar will appreciate and U.S. imports will increase. c. the dollar will depreciate and U.S. exports will decrease. d. the dollar will depreciate and U.S. exports will increase. ANSWER: b 244. An increase in U.S. government spending tends to: a. increase U.S. interest rates and increase the U.S. capital account surplus. b. increase U.S. interest rates and decrease the U.S. capital account surplus. c. decrease U.S. interest rates and increase the U.S. capital account surplus. d. decrease U.S. interest rates and decrease the U.S. capital account surplus. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 245. The “twin deficits” refer to the case when a: a. trade deficit leads to a capital account deficit. b. capital account deficit leads to a trade deficit. c. trade deficit leads to a federal government budget deficit. d. federal government budget deficit leads to a trade deficit. ANSWER: d 246. Expansionary monetary policy in the United States tends to cause the dollar to: a. appreciate. b. depreciate. c. remain the same in value. d. fluctuate unpredictably in value. ANSWER: b 247. If a country’s currency appreciates, in the short run, its _____ will increase and its _____ will decrease. a. growth rate; aggregate demand b. aggregate demand; growth rate c. imports; exports d. exports; imports ANSWER: c 248. If a country’s money supply decreases, in the long run, its imports will _____ and its exports will _____. a. increase; decrease b. decrease; increase c. decrease; decrease d. remain the same; remain the same ANSWER: d 249. Changes in the money supply and net exports tend to have a _____ relationship in the _____. a. positive; short run b. negative; short run c. positive; long run d. negative; long run ANSWER: a 250. Expansionary fiscal policy will cause the dollar to _____ and net exports to _____. a. appreciate; increase Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. depreciate; increase c. appreciate; decrease d. depreciate; decrease ANSWER: c 251. Contractionary fiscal policy will cause the dollar to _____ and net exports to _____. a. appreciate; increase b. depreciate; increase c. appreciate; decrease d. depreciate; decrease ANSWER: b 252. A country can adopt a fixed exchange rate system by: a. allowing a freely functioning foreign exchange market. b. removing the asset backing of its currency. c. setting up a currency union. d. engaging in trade with other countries. ANSWER: c 253. In which currency system is the exchange rate determined only by supply and demand in the currency market? a. floating exchange rate b. pegged exchange rate c. dollarization d. managed float ANSWER: a 254. A relatively loose commitment to a floating exchange rate produces a: a. dirty float. b. pegged exchange rate. c. real exchange rate. d. flexible substitution. ANSWER: a 255. A dirty or managed float is: a. a yearly summary of all the economic transactions between residents of one country and residents of the rest of the world. b. the sum of the balance of trade, net income on capital held abroad, and net transfer payments. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. the price of one currency in another currency. d. a currency whose value is not pegged, but governments will intervene extensively in the market to keep the value within a certain range. ANSWER: d 256. If a country applies dollarization to its currency, it has adopted: a. the U.S. dollar as its currency. b. a fixed exchange rate with the dollar. c. a managed float of its currency. d. a dirty float of its currency. ANSWER: a 257. An exchange rate determined primarily by market forces is called a: a. floating exchange rate. b. fixed exchange rate. c. managed float. d. forced market rate. ANSWER: a 258. An exchange rate system in which the government or central bank has agreed to convert its currency into another at a fixed rate is called a: a. floating exchange rate. b. fixed exchange rate. c. managed float. d. forced market rate. ANSWER: b 259. An exchange rate system in which the exchange rate is allowed to float unless the exchange rate reaches certain bounds is called a: a. floating exchange rate. b. fixed exchange rate. c. managed float. d. forced market rate. ANSWER: c 260. When maintained by _____, a currency's value will see extensive intervention by the government in the foreign exchange to keep the value within a certain range. a. a floating exchange rate b. a pegged exchange rate Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 c. a dirty float d. dollarization ANSWER: c 261. When countries dollarize their currencies, what becomes the source of their monetary policy? a. their prime minister b. the open market c. Parliament d. the U.S. Federal Reserve ANSWER: d 262. A system in which the exchange rate is determined primarily by market forces is called: a. a dirty float. b. a floating exchange rate. c. a fixed exchange rate. d. dollarization. ANSWER: b 263. When the government or central bank sells its currency at a constant price in terms of another currency, it has established: a. a dirty float. b. a floating exchange rate. c. a fixed exchange rate. d. dollarization. ANSWER: c 264. A system in which a foreign government uses the U.S. dollar as its currency is called: a. a dirty float. b. a floating exchange rate. c. a fixed exchange rate. d. dollarization. ANSWER: d 265. When a country dollarizes, its monetary policy is controlled by the: a. country's central bank. b. country's federal government. c. U.S. Federal Reserve. d. country's central bank and the U.S. Federal Reserve together. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: c 266. _____ is a system in which the government intervenes extensively in the foreign exchange market to keep the exchange rate within certain bounds. a. A dirty float b. A floating exchange rate c. A fixed exchange rate d. Dollarization ANSWER: a 267. Which is NOT one of the methods used to fix or peg an exchange rate? a. backing up the currency with a high level of reserves and promising convertibility b. setting up a currency union c. using offsetting fiscal and monetary policies to maintain a constant exchange rate d. adopting another country’s currency ANSWER: c 268. Which of the following is considered the international lender of last resort? a. the U.S. Federal Reserve b. the International Monetary Fund c. the World Bank d. the U.S. government ANSWER: b 269. Which of the following is NOT a function of the International Monetary Fund? a. It prescribes macroeconomic recovery policies for countries in financial turmoil. b. It provides monetary aid to countries that meet loan conditions. c. It monitors the recovery process for countries that take its loans. d. It intervenes in foreign currency markets to maintain a country's currency value. ANSWER: d 270. The director of the IMF is traditionally: a. American. b. African. c. Asian. d. European. ANSWER: d 271. The IMF exists to: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. facilitate the flow of capital to poor countries. b. help expand the monetary base of the European Union. c. provide loans in a financial emergency. d. oversee new private investment in all nations. ANSWER: c 272. The president of the World Bank is historically from: a. the United States. b. Europe. c. India. d. China. ANSWER: a 273. What country is the World Bank's largest borrower? a. China b. India c. Iran d. Kenya ANSWER: a 274. Which is FALSE regarding the World Bank? a. It loans to governments of developing countries to fund specific projects. b. Its headquarters are near the UN offices in Geneva, Switzerland. c. It gives away money as aid. d. It was founded shortly after World War II. ANSWER: b 275. Which is FALSE regarding the International Monetary Fund? a. Its revenue comes from member governments and earnings on the funds it loans out. b. Its headquarters are near the UN offices in New York City, New York. c. It is a lender of last resort to countries with financial crises. d. It was founded shortly after World War II. ANSWER: b 276. A trade deficit will be a problem for a country if the country: a. has low savings. b. invests carefully. c. seeks an inflow of foreign funds to increase capital investments. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 d. has a floating exchange rate. ANSWER: a 277. Can monetary policy impact real exchange rates? a. yes, in both the short run and the long run b. yes, but only in the short run c. yes, but only in the long run d. no, in neither the short run nor the long run ANSWER: b 278. A country’s monetary policy will NOT: a. affect the country’s real exchange rate in the short run. b. influence the country’s aggregate demand. c. affect the flow of capital between it and that of other countries. d. affect its real exchange rate in the long run. ANSWER: d 279. Foreign aid is a net addition to the current accounts of many poor countries. a. True b. False ANSWER: a 280. Anyone who runs a persistent trade deficit with anyone else is likely to go bankrupt. a. True b. False ANSWER: b 281. Taken alone, the fact that the United States has a trade deficit with China is not special cause for worry. a. True b. False ANSWER: a 282. The United States is currently running a net trade deficit with its trading partners. a. True b. False ANSWER: a 283. The balance of payments is an annual summary of the U.S. federal budget transactions. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. True b. False ANSWER: b 284. The balance of payments is always balanced. a. True b. False ANSWER: a 285. Holding official reserves constant, a deficit in the current account means a surplus in the capital account. a. True b. False ANSWER: a 286. If the United States imports $5 million worth of coffee from Peru, this is recorded as a debit (negative) in the U.S. current account. a. True b. False ANSWER: a 287. The balance of trade (exports minus imports) is the most important component of the current account in the U.S. balance of payments. a. True b. False ANSWER: a 288. A country that is a great place in which to invest will tend to run a current account deficit. a. True b. False ANSWER: a 289. A current account deficit decreases the balance of payments. a. True b. False ANSWER: b 290. If the Chinese government purchases $25 million worth of U.S. government bonds, this is recorded as a credit in the U.S. current account. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. True b. False ANSWER: b 291. The capital account is the sum of the balance of trade, net income on capital held abroad, and net transfer payments. a. True b. False ANSWER: b 292. A person engages in foreign direct investment when he or she buys the stocks of a foreign firm. a. True b. False ANSWER: b 293. Currently, the Chinese government and central bank have more than $1 trillion worth of U.S. dollars and dollar-denominated assets. a. True b. False ANSWER: a 294. The sum of the capital account and the official reserves account must exactly equal the balance in the current account. a. True b. False ANSWER: a 295. Since 1990, the U.S. current account has been rising in most years. a. True b. False ANSWER: b 296. Since 1990, the U.S. capital account has been rising in most years. a. True b. False ANSWER: a 297. A trade deficit always indicates that a country has a low level of savings. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 a. True b. False ANSWER: b 298. Most economists think that the U.S. trade deficit is a problem. a. True b. False ANSWER: b 299. Services tend to be cheaper in real terms in poor countries than in rich countries. a. True b. False ANSWER: a 300. An increase in the demand for U.S. goods by foreigners increases the demand for U.S. dollars. a. True b. False ANSWER: a 301. An increase in the demand for a country's exports tends to decrease the value of its currency. a. True b. False ANSWER: b 302. If the Bangladeshi taka depreciates against the Japanese yen, this means that the Japanese yen has appreciated against all currencies. a. True b. False ANSWER: b 303. If the Bangladeshi taka depreciates against the Japanese yen, this means that the Japanese yen has appreciated against the Bangladeshi taka. a. True b. False ANSWER: a 304. The Japanese yen is the main currency held in reserve by other nations. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. False ANSWER: b 305. High interest rates in a country decrease the value of its currency. a. True b. False ANSWER: b 306. The Swiss franc is a global reserve currency. a. True b. False ANSWER: a 307. When a country reduces the property rights of foreign investors, we would expect its currency to appreciate. a. True b. False ANSWER: b 308. Many governments and central banks hold dollars as a reserve currency. a. True b. False ANSWER: a 309. An increase in domestic interest rates will lead to an appreciation of the domestic currency. a. True b. False ANSWER: a 310. An increase in the demand for foreign imports will ultimately lead to an increase in the value of the domestic currency. a. True b. False ANSWER: b 311. Ultimately, the value of a currency is derived from the value of what it can purchase. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: a 312. Purchasing power parity holds best when prices are free to adjust and there are no trade barriers. a. True b. False ANSWER: a 313. The purchasing power parity theorem implies that changes in currency markets have no effect on real exchange rates. a. True b. False ANSWER: a 314. The higher the tariffs between two countries, the less purchasing power parity will hold. a. True b. False ANSWER: a 315. Deviations from purchasing power parity are usually short-lived for services. a. True b. False ANSWER: b 316. Purchasing power parity is more likely to hold in the short run than in the long run. a. True b. False ANSWER: b 317. If purchasing power parity holds and the nominal exchange rate is £1 for $2, then a Big Mac that costs £2 in London should cost $4 in New York. a. True b. False ANSWER: a 318. The purchasing power parity theorem implies that the real exchange rate between two currencies equals 1:1. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 ANSWER: a 319. In the long run, the value of a currency is ultimately determined by the value of what it can purchase. a. True b. False ANSWER: a 320. In the long run, an increase in the growth rate of the money supply leads to an increase in both the real exchange rate and the amount of exports. a. True b. False ANSWER: b 321. Expansionary fiscal policy financed by borrowing is more effective in affecting real growth in a closed economy than in an open economy. a. True b. False ANSWER: a 322. The boost to domestic aggregate demand resulting from new government spending will, to some extent, be offset by the greater difficulty of importing at the new and lower real exchange rate. a. True b. False ANSWER: b 323. A currency union is a bad idea if the economies that compose it require different monetary policies. a. True b. False ANSWER: a 324. When a country has a pegged exchange rate, its government or central bank has promised to convert its currency into another currency at a fixed rate. a. True b. False ANSWER: a 325. Today, most countries in the world peg their currency exchange rates. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 b. False ANSWER: b 326. Pegging exchange rates has become more popular over time. a. True b. False ANSWER: b 327. If a country does not have as sound an economy as the United States, in the long run it should peg to the U.S. dollar. a. True b. False ANSWER: b 328. Only underdeveloped countries are eligible to borrow from the IMF. a. True b. False ANSWER: b 329. The World Bank is the primary force behind global capitalism. a. True b. False ANSWER: b 330. What is the difference between a trade surplus and a capital surplus? If there is no change in official reserves, is it possible to have both a trade surplus and a capital surplus at the same time? ANSWER: A trade surplus says that a country has exported more goods and services to other countries than it has imported from other countries. In other words, net exports are positive. A capital surplus says that other countries have provided more financial assets to a country than it has sent to other countries. In other words, there is a net capital inflow. Because the trade balance is typically the largest component of the current account, its balance status usually determines whether the current account has a deficit or surplus. Thus, it would be highly unusual to have a trade surplus and a capital surplus at the same time. A trade surplus that creates a current account surplus must be offset by a capital deficit for balance of payments to occur. 331. “Despite increasing trade deficits, the U.S. balance of payments is always balanced.” Explain this statement. ANSWER: Increasing U.S. trade deficits have caused higher deficits in the current account. The current account deficits have generally been followed by increases in foreign investment so that the United States has persistently run capital surpluses. The balance of payments includes transactions in the current account and the capital account and changes in official reserves. Deficits in the current account of Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 the United States have been largely offset by surpluses in its capital account; otherwise, there would be a change in U.S. official reserves. In either case, the balance of payments must always balance. 332. What are the sources of a capital surplus? A capital deficit? How does a capital surplus or deficit show up in the official balance of payments accounts? ANSWER: The possible sources for a capital surplus are: (1) taking on debt (borrowing), (2) selling assets, and (3) drawing down cash reserves. The possible sources for a capital deficit are just the opposite: (1) paying off debt, (2) buying assets, and (3) building up cash reserves. These items appear in the balance of payments through the capital account (as either FDI, portfolio investment, or other investment) or changes in foreign currency reserves (in other words, as items on the right-hand side of the balance of payments identity). 333. Explain how each of the following scenarios will affect the current account, capital account, and official reserve accounts of each country. a. Walmart buys toys from a Chinese toymaker, and the toymaker uses the proceeds to purchase shares of GE's stock in the United States. b. Toyota exports cars to Malaysia and deposits the sales revenue in a Japanese bank. c. An American tourist takes a vacation at a resort hotel in Italy, and the hotel uses the revenue to purchase wines from California. ANSWER: a. The U.S. current account will decrease and its capital account will increase. China's current account will increase, and its capital account will decrease. b. Japan's current account and official reserve account will increase. Malaysia's current account and reserve account will decrease. c. The U.S. current account will increase and its capital account will decrease. Italy's current account will decrease and its capital account will increase. 334. Would you worry about a trade deficit with one country? Why or why not? How would a trade deficit with the rest of the world be different? ANSWER: A trade deficit with one country is generally not a problem because it can be offset by trade surpluses with other countries. Because of normal trade patterns (based on comparative advantage), it is common to run trade deficits with some trading partners and trade surpluses with others. A trade deficit with the rest of the world, however, must be offset by a capital inflow (or capital surplus) from the rest of the world. This means that foreign investors are providing capital for investment at home. Although such a capital inflow is good because it allows for investment to continue in spite of relatively low savings at home, such “borrowing” can't go on forever. Eventually, a trade surplus must occur to “pay back” the inflow of capital. 335. If the United States becomes a worse place in which to invest, what will happen to the current and capital accounts? ANSWER: If the United States becomes a worse place in which to invest, the demand for the U.S. dollar will decrease, causing a depreciation of the dollar. This makes U.S. exports more attractive to foreigners and imports less attractive at home, thus improving the U.S. trade balance (i.e., the U.S. current account will be less of a deficit). Accordingly, there will be less foreign investment in the United States, which will cause the capital account to be less of a surplus. 336. In 2005, Federal Reserve governor Ben Bernanke said in a speech: “Over the past decade a combination of Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 diverse forces has created a significant increase in the global supply of saving—a global saving glut—which helps to explain the increase in the U.S. current account deficit.” Is this statement consistent with the economic theory in this chapter? That is, would a “global saving glut” be able to explain the growing U.S. current account? Explain. ANSWER: Bernanke's statement is consistent with the economic theory presented in this chapter. An increase in the level of savings in the rest of the world ends up flowing into the United States in the form of higher investment in things like stocks, bonds, and real estate. This investment manifests itself in the form of an increase (or a surplus) in the U.S. capital account. The increased desirability of U.S. investment increases the demand for dollars, which causes exchange rate movements that result in a dollar appreciation. This makes imports cheaper in the United States and U.S. exports more expensive around the world. The combination of fewer exports and more imports leads to the flip side of a growing capital account surplus: a growing current account deficit. 337. How would a monetary contraction in China affect the yuan–dollar exchange rate? Use a graph showing the supply and demand for yuan with the exchange rate measured in dollars per yuan. ANSWER: The first step is to define an exchange rate of U.S. dollars per yuan and then draw a graph of the foreign exchange market for yuan in terms of dollars. The fall in the money supply in China will lead to a fall in the supply of Chinese yuan in international markets, leading to an appreciation of the Chinese yuan and a depreciation of the U.S. dollar, as shown in the figure. Figure: U.S. Dollar Foreign Exchange Market for Yuan
338. The initial exchange rate between the U.S. dollar and the Chinese yuan is $0.15/yuan in the yuan foreign exchange market when Americans decide to import more goods from China. What effect will this have on the yuan foreign exchange market? Show your answer graphically using the supply and demand for yuan with the exchange rate measured in dollars per yuan. ANSWER: The demand for Chinese yuan will increase. This will cause the yuan to appreciate and the U.S. dollar to depreciate. An example of a new exchange rate is $0.2 per yuan, as shown in the figure. Figure: Increased Demand for Yuan
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Chapter 20
339. The U.S. dollar is considered a safe haven currency. What does this do to the value of the dollar? ANSWER: A safe haven means that the United States is considered a safe place to invest, especially during times of financial distress. For this reason, during times of world financial distress, the demand for U.S. dollars will shift outward. With floating exchange rates, this will cause the dollar to appreciate and other currencies to depreciate. Also, a larger quantity of dollars will be exchanged. 340. Standard & Poor's (S&P) is a United States–based financial services company. One of the services S&P provides is to issue credit rankings for the debt of all public and private corporations. The highest credit ranking it issues is AAA, which indicates a very high level of confidence and a very low level of risk in investments. In August 2011, S&P downgraded the credit rating on U.S. government bonds from AAA to AA. What impact would this likely have had on the value of the U.S. dollar in foreign exchange markets? Explain. ANSWER: The downgrade in the U.S. credit rating essentially means that S&P believes U.S. government bonds to be a riskier investment now than they were in the past. This downgrade represents a decrease in confidence in U.S. government bonds and makes investment in the U.S. Treasury bonds less desirable. This would decrease the demand for U.S. dollars and cause a depreciation of the dollar. 341. Explain the law of one price. ANSWER: The law of one price states that if trade were free, then identical goods should sell for about the same price throughout the world. For example, if a good is cheaper in Mexico than the same good in the United States (and trade of the good is possible between the two countries), people will buy the good in Mexico and resell it in the United States, causing the price of the good to fall in the United States and rise in Mexico until the prices in each country are about the same. 342. The United States and Kenya are trading partners for a variety of goods and services, and the nominal exchange rate between the United States and Kenya is $1 = 80 Kenyan shillings. If a burger in the United States costs $1 and a burger in Kenya costs 80 shillings: a. What is the real exchange rate? b. Suppose there is inflation in Kenya and the cost of the same burger rises to 160 Kenyan shillings so that $1 can now purchase only half a burger in Kenya. Can you explain how PPP will hold in the long run? (Ignore transportation costs, tariffs, etc.) ANSWER: a. 1:1 b. When there is inflation, there is a reduced demand for Kenyan shillings in foreign exchange Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 markets. This will cause the U.S. dollar to appreciate against the Kenyan shilling. If the nominal exchange rate changes so that $1 can purchase 160 Kenyan shillings, the real exchange rate is restored. 343. Explain the difference between the nominal exchange rate and the real exchange rate. ANSWER: The nominal exchange rate is the rate at which one currency can be exchanged for another. For example, it is the number of dollars necessary to purchase one yen. There is no adjustment made for the price levels in the two countries. The real exchange rate is the rate at which goods and services in one country can be exchanged for goods and services in another country. That is, the real exchange rate is the nominal exchange rate adjusted for the price level in each country. 344. What would the purchasing power parity theorem predict about the real purchasing power of the U.S. dollar in Mexico? Why does this theorem not appear to hold in this case? ANSWER: If the purchasing power parity theorem holds, then the real purchasing power of 1 U.S. dollar should be the same, whether it is spent in the United States or converted into pesos and spent in Mexico. In other words, a person should be able to purchase the same amount of goods and services in the United States and Mexico with $1. However, in reality it is possible to purchase more goods and services with $1 in Mexico than in the United States, meaning that purchasing power parity does not hold. Reasons for violating the purchasing parity condition include: (1) transportation costs, meaning that some goods might be more expensive in the United States if shipped from Mexico; (2) some goods or services cannot be shipped or are not tradeable at all, such as haircuts and Mexican food; and (3) U.S. tariffs and quotas increase the prices of Mexican exports sold in the United States. 345. Why is it unreasonable to expect purchasing power parity to be fully achieved? ANSWER: Theoretically, purchasing power parity would be the expected outcome of free trade and flexible exchange rates. However, three issues may prevent purchasing power parity from being fully achieved. First, transportation costs to ship products to different countries vary. If a product is imported into a country, the product price will reflect production and transportation costs. Second, some goods cannot be shipped at all. For example, a home in Alaska cannot have a view of palm trees and dolphins in the ocean with moderate temperatures year-round. The price of land will not be equalized around the world. Third, government trade policies such as tariffs and quotas may impact the prices of goods in different countries. Purchasing power parity is more likely to be fully achieved for goods with low transportation costs, goods that are able to be shipped, and when there is no government regulation of trade. 346. Explain how an exchange rate effect enhances the effectiveness of expansionary monetary policy but limits the effectiveness of expansionary fiscal policy. ANSWER: Both monetary and fiscal policies have an effect on exchange rates. For expansionary monetary policy, this effect occurs because an increase in the money supply will cause a depreciation of the currency. This depreciation makes exports more attractive for foreigners and imports less attractive at home. The result is an increase in net exports that increases AD more than the initial increase in the money supply, thus enhancing the effect of the policy. For expansionary fiscal policy, the exchange rate effect occurs because higher deficits increase interest rates and cause the currency to appreciate. This appreciation decreases net exports and shifts AD back to the left, thus partially offsetting the initial shift caused by the policy. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 347. Figure: AD–AS Diagram
The country in this diagram begins in equilibrium as shown and experiences a decrease in money supply. a. What is the short-run effect on net exports and the overall economy? Show your answer graphically. b. If this country does not subsequently engage in monetary policy to counter the effects of the initial decrease in money supply, what will happen to the economy in the long run? Show your answer graphically. ANSWER: a. The decrease in money supply causes the supply of the currency in world markets to fall. This leads to an appreciation of this country's currency, which leads to a fall in its net exports. This will cause a short-run decrease in AD, and the economy will move to point B with a lower growth, as shown in the figure. b. If this country does not engage in a subsequent monetary expansion, the inflation rate will eventually decline and wages will adjust downward, shifting SRAS to the right. The economy will return to its long-run growth rate of 3% at point C as shown in the figure. Figure: AD‒AS Diagram Solution
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Chapter 20 348. Suppose an aggregate demand shock has led to a recession. The government decides to use either monetary policy or fiscal policy to deal with the recession. Which policy tends to be more effective in an open economy: monetary policy or fiscal policy? Explain your answer. ANSWER: In the short run, expansionary monetary policy tends to be more effective in an open economy than expansionary fiscal policy. Expansionary monetary policy leads to a depreciation of the domestic currency, which in turn raises exports and reduces imports. As a result, expansionary monetary policy raises foreign demand for domestic goods and services in addition to domestic demand. In other words, expansionary monetary policy is more effective in raising aggregate demand and real growth in an open economy than in a closed economy. Expansionary fiscal policy, however, generally leads to higher interest rates, which in turn lead to an appreciation of the domestic currency. A currency appreciation reduces exports, thus lowering aggregate demand. As a result, expansionary fiscal policy is less effective in raising real growth in an open economy than in a closed economy. 349. Using an AD–AS diagram, explain how an increase in the money supply by the Federal Reserve will cause the value of the U.S. dollar to change and affect the economy in both the short run and the long run. ANSWER: An increase in the money supply causes the supply of dollars to shift to the right, resulting in a depreciation of the dollar. In the short run, this depreciation decreases the prices of U.S. exports in terms of foreign currencies. The resulting increase in exports increases aggregate demand in the United States and boosts economic growth in the short run, moving the economy to point b in the diagram. In the long run, however, money is neutral, which means that domestic prices will rise to match the increase in the money supply and the economy moves from point b to point c. Higher prices counter the increase in exports resulting from the initial currency depreciation and reverse the short-run gains. Economic growth returns to normal and the boost to real output growth is not permanent.
350. “Expansionary monetary policy can be used to reduce a country's trade deficit in the short run, but not in the long run.” Explain this statement. ANSWER: Expansionary monetary policy is an increase in the growth rate of the money supply. In the short run, higher money growth reduces the domestic exchange rate and the domestic currency depreciates. Exports are therefore more attractive to foreigners and imports are more expensive. As a result, the amount of exports increases and the amount of imports decreases, so the trade deficit is Copyright Macmillan Learning. Powered by Cognero.
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Chapter 20 reduced. In the long run, the domestic inflation rate increases enough to restore the real exchange rate, so the amounts of exports and imports return to the levels observed before the initial monetary policy. 351. What can explain the positive relationship between a country's high government budget deficits and high trade deficits? ANSWER: A popular way to finance a budget deficit is to borrow more money in the loanable funds market. Higher borrowing leads to higher interest rates, which in turn increase the demand for domestic bonds by foreigners. The greater demand for domestic bonds by foreigners causes an appreciation of the domestic currency, which makes the country's exports more expensive to foreigners and its imports more attractive to domestic customers. As a result, exports decrease and imports increase, so the country's trade deficit increases. 352. Beginning in 1995, many European nations gave up their own currencies and adopted the euro as a common currency under the supervision of the European Union. Explain one major advantage and one major disadvantage to a group of countries adopting a common currency and setting up a currency union. ANSWER: Advantages include lower transaction costs of trading across Eurozone countries, a way to unite the area economically, and for poorer countries a way to obtain a more stable currency. The major disadvantage is that a common currency takes away each individual country's ability to conduct its own monetary policy. 353. Explain the difference between a floating exchange rate, a fixed exchange rate, and a dirty float. ANSWER: A floating exchange rate is the market equilibrium price of the currency in the foreign exchange market. A floating exchange rate changes constantly based on changes in the supply and demand for the currency itself. A fixed exchange rate is an exchange rate that is fixed. The government announces the specific rate at which its currency will trade with another currency. The country’s currency is being fixed (or pegged) against that other currency and will remain at that exchange rate until the government changes it. The government will need to hold reserves of the other currency to maintain the fixed rate. A dirty float is effectively in between a floating exchange rate and a fixed exchange rate. The exchange rate is allowed to float but the government takes action, as a buyer or seller in the foreign exchange market, to keep the floating rate within the government’s desired range. The rate floats within the range, but government action in the foreign exchange market keeps the rate within the desired range. 354. What are some of the concerns regarding the International Monetary Fund (IMF) and the World Bank? ANSWER: A specific concern about the IMF is that it requires recipients of loans to enact contractionary policies when the recipients need to achieve economic growth. A concern about the World Bank is that it does not pay enough attention to the results or outcomes of the loans it makes. A concern that is common across both organizations is that they are not subject to direct accountability. For example, they encourage poor countries to incur debts that will be difficult to repay in the future.
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Chapter 21 1. Which of the following statements is FALSE? a. Economists support free and competitive markets. b. Economists are skeptical about price controls and tariffs. c. Economists favor command and control regulation. d. Economists oppose superhigh inflation rates. ANSWER: c 2. What is a reason that markets should be free and unregulated? a. bad incentives b. some people ignoring ethical values in making market decisions c. politicians' election agendas d. good incentives ANSWER: d 3. An abstract from a recent economics paper reads as follows: We explore whether presidential and congressional influences affect the rate of disaster declaration and the allocation of FEMA (Federal Emergency Management Agency) disaster expenditures across states. We find that states politically important to the president have a higher rate of disaster declaration by the president (which is necessary to receive FEMA funding). This research is an example of: a. political economics. b. civil reasoning. c. public choice. d. myopic rationality. ANSWER: c 4. Public choice is a field of study that: a. looks at the consumption choices made by people who are near retirement. b. uses economic tools to examine political behavior. c. uses mathematics and statistics to infer relationships between two or more variables of public interest. d. analyzes trends in population growth and other structural changes in the population. ANSWER: b 5. Public choice is the study of: a. how choices are made without economic theory. b. how the general public is affected by government policies. c. the irrational behavior of individuals. d. political behavior in the context of economics. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: d 6. Behavior symmetry is the idea that: a. institutions are the same, but people differ. b. government agencies behave the same. c. institutions differ, but people are the same. d. politicians behave the same. ANSWER: c 7. The study of political behavior using the tools of economics is: a. public policy. b. public choice. c. regulatory economics. d. political economics. ANSWER: b 8. Rational ignorance occurs when: a. full information is not available. b. the benefit of becoming fully informed is lower than the cost. c. the cost of information is low. d. there is no benefit to gathering additional information. ANSWER: b 9. Which of the following is an example of rational ignorance? a. Glenda chooses to purchase a new CD at the store 1 mile from her home instead of driving all over town to see if she can find a lower price. b. Bob chooses not to vote, since his vote will never swing the outcome of an election. c. ABC Corporation chooses to hire local workers instead of outsourcing jobs to another country. d. Jane decides not to study for her test tomorrow even though studying could raise her grade significantly. ANSWER: a 10. When the costs of being informed are higher than the benefits of being informed, this is known as: a. informed ignorance. b. negative net benefits. c. irrational ignorance. d. rational ignorance. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 11. Which of the following is an example of rational ignorance? a. Richard buys the same kind of toilet paper every week at the grocery store regardless of its price. b. Bella spends hours researching presidential candidates to improve the quality of her vote. c. Jerrod does not study for his economics test because it is only worth 20% of his grade. d. Gracella commutes 30 minutes to work because her wage is $5 per hour higher than if she worked closer to home. ANSWER: a 12. Arguably, one of the best ways to explain why Americans seemingly know very little about current government policies or the state of the economy is that: a. the quality of American education is poor. b. this information is not readily available to the general public. c. the time and resources it costs to attain and process this information is more than the benefit received from having this information. d. people are irrationally ignorant. ANSWER: c 13. Which of the following is one of the smallest parts of the U.S. budget? a. defense b. interest on the federal debt c. foreign aid d. welfare ANSWER: c 14. Which of the following is one of the largest parts of the U.S. budget? a. defense b. interest on the federal debt c. foreign aid d. welfare ANSWER: a 15. Of the following, which is one of the smallest parts of the U.S. budget? a. defense b. interest on the federal debt c. Social Security d. welfare ANSWER: d 16. Of the following, which is one of the largest parts of the U.S. budget? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. foreign aid b. interest on the federal debt c. Social Security d. welfare ANSWER: c 17. A woman approached Senator Adlai Stevenson when he was running for president, saying, “Senator, you have the vote of every thinking person!” The senator is often credited with responding, “That's not enough, madam, we need a majority!” Which concept does this quip best reflect? a. rational ignorance b. opportunity cost c. diffuse costs and concentrated benefits d. median voter theorem ANSWER: a 18. Rational ignorance is important to understand because: I. if voters are not informed about politics, they are unlikely to make good voting decisions. II. voters who are rationally ignorant will make decisions based on low-quality, unreliable, or incorrect information. III. voters who are rationally ignorant are more likely to vote. IV. political decisions may be made based on the information known by those who have a vested interest in the decision. a. I and II only b. I, II, and III only c. I, II, and IV only d. II and IV only ANSWER: c 19. In 2010, an unemployed U.S. Army veteran named Alvin Greene won the Democratic primary for the South Carolina Senate race. At the time of his victory, Greene had raised no money, had done no visible campaigning, had no Web site, and had not attended the state party's convention. There was no evidence of fraud. Two explanations for his victory involve his name: (1) Greene is a popular last name among African Americans, which encouraged African American voters to support him at the ballot, and (2) Greene's name appeared above his opponent's name, Vic Rawl, which encouraged voters uninformed about either candidate to vote for Greene. How does Greene's victory illustrate rational ignorance? a. Greene did not make it easy for voters to learn about him. b. Voters supported the candidate that they knew the least about. c. Voters had little incentive to learn about either candidate. d. Voters strongly empathize with an army veteran, though that has little to do with being a senator. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 20. In The Distinguished Gentleman, Eddie Murphy plays a con man with a name similar to that of a longrunning congressional representative. When the politician dies, Murphy runs for office using the politician's name: Jeff Johnson. He's careful not to go on camera but uses taglines in commercials such as “Johnson: The name you trust.” He eventually achieves a slim victory. How does Murphy's character use voter ignorance to win the election? (Hint: The answer is only slightly different than the way most politicians use voter ignorance to win elections.) a. He's expecting most voters not to know that their congressman died. b. He's expecting most voters not to investigate him too much. c. He's expecting that most people won't remember his campaign promises. d. He's expecting most voters to neither investigate him too much nor know that their congressman died. ANSWER: d 21. Why do some voters choose to be rationally ignorant? a. The cost of informing themselves about candidates and policies is greater than the benefits. b. They get distracted with life and never get around to searching for the relevant information. c. Their parents and peers largely influence voters' preferences. d. Reduced public school funding has meant less money spent on teaching civic classes. ANSWER: a 22. The incentive to inform oneself before an election is: a. high because every vote counts, especially in a democracy. b. high because it's important for a civil society to be civically engaged. c. low because one's own vote has virtually no chance of affecting the outcome of an election. d. high because the outcome of an election has lasting consequences. ANSWER: c 23. Which of the following government programs is the largest in terms of spending? a. health care b. defense c. foreign aid d. welfare ANSWER: b 24. Ignorance is a. rational only in extreme cases. b. never rational. c. always rational. d. sometimes rational. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: d 25. If the benefits of informing oneself are greater than the costs, then ignorance is a. rational. b. irrational. c. not beneficial. d. not costly. ANSWER: b 26. If the costs of informing oneself are greater than the benefits, then ignorance is a. rational. b. irrational. c. not beneficial. d. not costly. ANSWER: a 27. Rational ignorance occurs when people are not knowledgeable of something because: a. those people have no incentives to learn anything. b. the benefits of being informed are less than the cost of becoming informed. c. they are simply irrational. d. they are self-centered and lack the ability to learn. ANSWER: b 28. According to public choice theory, people do not always make informed choices because: a. the incentives to become informed are low compared with the costs of being informed. b. they are ignorant by nature. c. they are irrational, so their decisions are not predictable. d. they believe that making informed choices is a task only for the government. ANSWER: a 29. According to the text, popular surveys about government programs show evidence that the majority of American voters are: a. perfectly rational. b. irrational. c. rationally ignorant. d. well informed about all government programs. ANSWER: c 30. In which of the following decisions is a person likely to be rationally ignorant? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. deciding which car to buy b. deciding where to live c. deciding which mayoral candidate to vote for d. deciding which television show to watch ANSWER: c 31. It is rational to be ignorant when: a. the benefits of the information outweigh the costs of acquiring the information. b. the costs of becoming informed are greater than the benefits of being informed. c. you have limited mental capacity. d. dollars or profits do not matter. ANSWER: b 32. The government spends more on foreign aid than on: a. health care. b. welfare. c. Social Security. d. None of the answers is correct. ANSWER: d 33. The two largest sources of government spending are: a. defense and foreign aid. b. welfare and foreign aid. c. interest on debt and Social Security. d. defense and Social Security. ANSWER: d 34. Rational ignorance CANNOT be seen in which of the following scenarios? a. A student has a final exam in exactly 3 hours. He knows from past experience that without at least some sleep he will be useless on the exam. In spite of the fact that he still has four chapters to read for the exam, he decides to sleep for 2.5 hours. b. You are a worker looking for work in a recessionary environment. You get a phone interview after which you are offered a job and have to start the next day. To secure a paycheck, you accept without doing any further research on the company. c. You have to fly urgently. You buy the first ticket available and it is expensive, but you pay anyway because you do not have time to research other flights. d. You have to fly urgently; however, you do extensive research for over an hour to find the best deal. ANSWER: d Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 35. Which of the following best explains the term “rational ignorance”? a. It is the decision to search for and acquire information only if there is enough time. b. It is the decision to stay uninformed on certain topics because of the prohibitive cost of gathering information. c. It is the decision to ignore free information that is vital in making the correct decision. d. It is the rational weighing of costs versus benefits. ANSWER: b 36. Why do you think voters choose to be rationally ignorant even when it is time to elect a new president? I. Voters are not presented with enough information to make a rational decision. II. Voters often believe that their vote does not make any difference in the political process. III. The process of understanding the electorate system and the candidates' platforms and critically assessing the candidates' policies takes up more of the voter's time than it is worth. a. I only b. II only c. II and III only d. I, II, and III ANSWER: c 37. Which of the following statements seems to be that of a rationally ignorant person? a. I am not sure which of the soups are more nutritious and I'm in a hurry, so I will opt for the one with more vegetables in it. b. I always compare prices and buy the good at the store where it has been priced the cheapest. c. I don't know much about the candidate's views on defense, but he has better charisma than she does and so I will vote for him. d. The male candidate has a much softer defense strategy than the female candidate, so I have decided to vote for her. ANSWER: a 38. Let's check on whether you are rationally ignorant. Which of the following items is the biggest expenditure in the federal government's budget? a. Social Security b. welfare c. foreign aid d. health care ANSWER: a 39. Let's check on whether you are rationally ignorant. Which of the following items is the smallest in terms of government expenditure? a. Social Security Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. welfare c. foreign aid d. health care ANSWER: c 40. Let's check on whether you are rationally ignorant. Which of the following items is the biggest in terms of government expenditure? a. defense b. welfare c. foreign aid d. health care ANSWER: a 41. Rational ignorance in voting comes from: a. externalities that lead to an excess supply of information. b. the limited incentive of the news media to cover political campaigns. c. the expectation of individual voters that their vote will not be decisive. d. the lack of a college education on the part of most voters in the United States. ANSWER: c 42. MOST voters will tend to be concerned with: a. most issues, since most issues have some impact, however slight, on each citizen. b. most issues, since information on most issues can be obtained at a low cost. c. only a few special issues (those that have the most impact on the voters' personal welfare). d. the views of a particular political candidate on all issues. ANSWER: c 43. Rational ignorance refers to the: a. lack of incentive voters have to become well informed about candidates and issues because their vote is unlikely to affect the outcome of an election. b. problem of not enough information being supplied to voters because politicians are not spending enough on campaign ads to inform voters of their positions on issues. c. fact that most people choose to become just as well informed when making choices as consumers as they do when making choices as voters. d. lack of rational analysis on the part of voters when they choose not to become informed about candidates and issues even though this knowledge would produce great personal benefit to them. ANSWER: a 44. People who spend more time and effort investigating the advantages and disadvantages of different Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 smartphones than they do investigating the strengths and weaknesses of presidential candidates are saying, in effect, that: a. they do not think it matters who is elected president. b. they are irrational because the choice of a president is obviously far more important than the choice of a smartphone. c. a good smartphone is more important to their well-being than a good president. d. they expect to use the information on the merits of smartphones to a greater personal advantage than they could the information on the merits of alternative presidential candidates. ANSWER: d 45. People who spend more time and effort investigating the advantages and disadvantages of different nutritional supplements than they do investigating the strengths and weaknesses of candidates for the Senate are saying, in effect, that: a. they do not think it matters who is elected senator. b. they are irrational because the choice of a senator is obviously far more important than the choice of alternative nutritional supplements. c. a good nutritional supplement is more important to their well-being than a good senator. d. they expect to use the information on the merits of alternative nutritional supplements to a greater personal advantage than they could the information on the merits of alternative senatorial candidates. ANSWER: d 46. Which of the following will be the MOST LIKELY outcome if a college professor awards grades based on average test scores and assigns the same grade to everyone in the class? a. Students will collaborate to get better grades and achieve higher payoff. b. Students will study more because studying has a higher payoff. c. Students will study less because studying has a lower payoff. d. Students will study the same amount as they did before because their scores will still impact the average scores. ANSWER: c 47. Ignorance is rational when the benefits of being informed are: a. greater than the costs of becoming informed. b. less than the costs of becoming informed. c. equal to the costs of becoming informed. d. likely to be quite large but information is costless. ANSWER: b 48. Studying politics doesn't pay because the outcome of any election: a. is mostly determined by what other people do, not by what you do. b. is mostly determined by what you do, not by what other people do. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 c. is always inconsistent with the expectation. d. can be manipulated by politicians. ANSWER: a 49. Economists say that voters are rationally ignorant about politics because: a. the procedure of learning politics is too cumbersome. b. politics is too complicated. c. the opportunity cost of studying politics is too high. d. the incentives to be fully informed are low. ANSWER: d 50. Which of the following programs are the two largest sources of the U.S. government budget? a. welfare and foreign aid b. defense and interest on the federal debt c. health care and Social Security d. defense and Social Security ANSWER: d 51. Rational ignorance: a. makes it difficult for voters to make informed decisions regarding government intervention in the economy. b. may cause voters to give credit to or blame politicians for things not under their control. c. may allow special interest groups to take advantage of the uninformed. d. All of these possibilities are correct. ANSWER: d 52. Why is rational ignorance important from an economic standpoint? I. Voters might not make informed choices. II. Voters will make decisions based on incorrect or incomplete information. III. Special interest groups may control economic outcomes if they are the only ones who are not rationally ignorant. a. I only b. I and II only c. II and III only d. I, II, and III ANSWER: d 53. Which of the following statements is TRUE? a. Rational ignorance exists only in politics. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. Rational ignorance still leads to an efficient outcome. c. It never makes sense for individuals to be rationally ignorant. d. Rational ignorance is bad because it leads to uninformed voters making decisions. ANSWER: d 54. Which of the following is MOST LIKELY the result of rational ignorance? a. Democrats get elected more often than Republicans. b. Older people tend to vote more often than younger people. c. Better-looking candidates tend to get more votes. d. More candidates tend to enter the political race when there is not an incumbent running. ANSWER: c 55. Which of the following statements is TRUE? I. Rationally ignorant people may favor price controls because they receive biased information. II. Rational ignorance may lead voters to have mistaken beliefs about the state of the economy. III. Rationally informed people can take advantage of the rationally ignorant by supporting policies that transfer wealth from the ignorant to the informed. a. I, II, and III b. I and II only c. II and III only d. I only ANSWER: a 56. Ignorance about political matters is important for the economy for each of the following reasons EXCEPT: a. ignorance makes it easier for special interest groups to affect government policy outcomes. b. ignorance makes it difficult for voters to make informed economic decisions. c. rationally ignorant voters tend to make economic decisions on the basis of poor or biased information. d. everyone is rationally ignorant, so no one in society will make appropriate economic decisions. ANSWER: d 57. Which of the following is NOT the reason why ignorance about political matters is important? a. It is difficult for voters to make informed choices if they are not well informed. b. Voters who are rationally ignorant will often make decisions for irrational reasons. c. Voters who are well informed perceive politics as entertainment. d. Rational ignorance matters because not everyone is rationally ignorant. ANSWER: c 58. Which of the following statement(s) is (are) TRUE? Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 I. Special interest groups are powerful because voters are rationally ignorant about how laws designed to help special interest groups are harmful to everyone else. II. Special interest groups are powerful because they have self-interest in passing favorable legislation—they stand to gain millions of dollars, while each taxpayer loses only several dollars. a. I only b. II only c. Both I and II d. Neither I nor II ANSWER: c 59. Sugar quotas: a. are not an issue in the United States despite rationally ignorant voters. b. harm U.S. sugar farmers at the benefit of the candy and soda industry. c. cost the typical family about $6 per year but provide millions of dollars of benefits to Florida sugar producers. d. lead to lower prices and increased output, and thus are opposed by the sugar industry. ANSWER: c 60. Sugar quotas are an example: a. of sugar producers being rationally ignorant. b. showing that special interests have an incentive to be informed. c. of special interests being political. d. showing that sugar producers are wealthy. ANSWER: b 61. The Fanjuls are: a. sugar barons who give considerable money to politicians who make decisions on sugar quotas. b. a consumer advocacy group attempting to ban special interest groups. c. a new political party based on the opposition to special interest politics. d. free traders who propose doing away with all tariffs. ANSWER: a 62. The Fanjul brothers are: a. both Democrats. b. a Democrat and a Republican. c. both Republicans. d. both registered as Independents. ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 63. The Fanjul brothers donate to the: a. Democratic Party. b. Democratic Party and the Republican Party. c. Republican Party. d. American Independent Party only. ANSWER: b 64. Special interest groups have an incentive to be: a. rationally ignorant. b. rationally informed. c. free riders. d. forced riders. ANSWER: b 65. Suppose the government is considering a proposal for a new chicken subsidy. Growers of chickens stand to gain approximately $25 million in government funds over the next year if the proposal passes. The money, however, will come from increased taxes on consumers of chicken (a new “chicken tax”). If there are approximately 100 million consumers in the chicken market each year, how much would each be willing to spend, on average, to contest the chicken tax? a. $25 million b. $100 c. $25 d. $0.25 ANSWER: d 66. Which of the following statements is TRUE? I. Sugar consumers pay higher prices because of sugar quotas, a sufficient incentive for them to campaign against politicians that favor quotas. II. Sugar producers know more about sugar quotas than do sugar consumers because the quota system has a large effect on sugar industry profits. III. When it comes to sugar trade policy, sugar producers are rationally informed and sugar consumers are rationally ignorant. a. II and III only b. I and II only c. I, II, and III d. I only ANSWER: a 67. In September 2009, President Obama placed high tariffs on imported tires from China. Why did he do this? a. Reducing imports from China would make America more prosperous. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. The costs of the tariffs would be small compared with the benefits of saving American jobs. c. Tariffs would lower tire prices, which was especially important with the high unemployment at the time. d. Although the policy harmed the consumers of tires, the policy directly benefited the United Steelworkers, a special interest group that provides political support to the Democratic Party, of which President Obama was a member. ANSWER: d 68. Corn producers are lobbying to Congress for a price floor on the price of corn that will cost each American $3 each year in higher grocery prices. Corn producers expect to gain $66,000,000 each year due to the price floor. If there are 330,000,000 people in the United States, each American would be willing to pay _____ to oppose the price floor. a. $3.00 b. $2.00 c. $0.20 d. $1.00 ANSWER: a 69. The U.S. federal government _____ the amount of sugar entering the country. a. increases b. does not influence c. reduces d. does not track ANSWER: c 70. The primary policy affecting the U.S. sugar market is a(n): a. import quota. b. subsidy. c. local content requirement. d. tariff. ANSWER: a 71. Who will likely have the most incentive to be rationally informed about the effect of government policy on the price of sugar? a. sugar consumers b. sugar producers c. the president of the United States d. taxpayers ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 72. An issue that generates substantial benefits to a small group of individuals while imposing a small cost on many others is called a: a. nonissue. b. special interest issue. c. popular issue. d. minority issue. ANSWER: b 73. Which of the following statements is NOT true about the sugar quota imposed by the U.S. government? a. Although sugar consumers are harmed by the quota, few of them even know of the quota's existence. b. Sugar consumers wouldn't spend much time or effort to oppose the sugar quota even if they know about it. c. Sugar producers are rationally informed and would seek to sustain the quota. d. The quota is imposed to protect both sugar consumers and producers. ANSWER: d 74. Special interest groups have a large incentive to be _____ about legislation that benefits them directly, whereas voters tend to be _____ regarding these issues. a. rationally informed; irrationally informed b. rationally ignorant; irrationally ignorant c. rationally informed; rationally ignorant d. irrationally informed; rationally ignorant ANSWER: c 75. Special interest groups tend to be able to influence legislation that is beneficial to them because: a. voters have an incentive to oppose the legislation. b. the costs for voters opposing the legislation are higher than the benefits. c. special interest groups have rational ignorance. d. special interest groups have an incentive to educate voters. ANSWER: b 76. Which of the following best explains why special interest groups maintain so much power in the U.S. political process? a. Special interest groups typically represent the largest U.S. companies, so they get a lot of media attention. b. Special interest groups stand to gain millions if particular laws are passed and lobby very hard for them, whereas voters stand to lose only a little and don't find opposing them worth their effort. c. Both special interest groups and voters lobby politicians hard regarding certain legislation; however, special interest groups typically win out because they have more money. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 d. Special interest groups have been powerful in the past because of their ties to wealth; however, their power has been dwindling in recent years. ANSWER: b 77. One way to achieve political success is to: a. concentrate costs and diffuse benefits. b. concentrate benefits and costs. c. concentrate benefits and diffuse costs. d. diffuse costs and benefits. ANSWER: c 78. Policy A adversely affects 50 million people at a cost of $1 per person. But policy A also benefits 1,000 people at $30,000 per person. Which of the following statements is TRUE? a. Policy A will not become law because it hurts more people than it helps. b. Policy A concentrates all the costs among a small group of people and all the benefits among a large group of people. c. Policy A is likely to be supported by politicians even though it makes society worse off. d. Because policy A negatively affects many people, rational ignorance will not be a problem. ANSWER: c 79. With respect to the sugar quota, the people who are harmed are _____, and the people who benefit are _____. a. rationally informed; rationally ignorant b. rationally informed; irrationally ignorant c. rationally ignorant; rationally informed d. rationally ignorant; irrationally informed ANSWER: c 80. The political power of farmers _____ as the share of farmers in the population decreased because the benefits from farm subsidies became _____ concentrated. a. increased; less b. increased; more c. decreased; less d. decreased; more ANSWER: b 81. The costs of many government projects (such as bridges, roads, and museums) create: a. external costs because taxpayers around the country pay for the construction. b. internal costs because taxpayers around the country pay for the construction. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 c. internal benefits because all taxpayers benefit from the construction. d. external benefits because taxpayers around the country benefit from the construction. ANSWER: a 82. The “Bridge to Nowhere”: a. cost the local community about $35,000 per person. b. is a special case in which special interests can maximize society's well-being. c. would have created large external costs, an example of the inefficient projects proposed by selfinterested politicians. d. connects Cuba to Key West, Florida. ANSWER: c 83. The diffusion of costs and concentration of benefits: I. leads to rational ignorance on the part of voters. II. is the formula to which the sugar quota owes its existence. III. is a formula for reelection to political office. a. I only b. I and II only c. II and III only d. I, II, and III ANSWER: d 84. In the public sector, politicians: a. pursue primarily the general public interest, since competition is less intense in the public sector. b. pursue primarily the general public interest, since they are concerned mostly with the collective good. c. act in the narrow self-interest of their constituents and contributors to remain in office. d. respond to the broader active political interests even though they choose to be rationally ignorant. ANSWER: c 85. Which of the following provides the most reasonable explanation for why agricultural interests lobby for higher farm subsidies and price supports? a. Agricultural interests seek a redistribution of income favoring themselves. b. Price support programs reduce food costs, which helps the poor. c. Subsidies promote the efficient use of agricultural resources. d. Without the farm subsidies, food shortages would result. ANSWER: a 86. The key formula for political success behind the sugar quota is: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. diffused costs and concentrated benefits. b. diffused benefits and concentrated costs. c. diffused costs and diffused benefits. d. concentrated costs and concentrated benefits. ANSWER: a 87. Which of the following explains why the sugar quota is a winning policy for politicians? a. The people who are harmed by the quota are rationally informed. b. The people who are harmed by the quota have strong incentive to oppose the policy. c. The people who benefit from the quota are rationally ignorant. d. The people who benefit from the quota have strong incentive to support the policy. ANSWER: d 88. The political power of farmers has _____ as the share of farmers in the population has _____. a. decreased; increased b. decreased; decreased c. increased; increased d. increased; decreased ANSWER: d 89. Which of the following explains why the sugar quota is a winning policy for politicians? a. The people who are harmed by the quota are rationally ignorant. b. The people who are harmed by the quota have strong incentive to oppose the policy. c. The people who benefit from the quota are rationally ignorant. d. The people who benefit from the quota are too small in number to influence the outcome of elections. ANSWER: a 90. Which of the following public policies does NOT fit the diffused costs and concentrated benefits story? a. agricultural subsidies b. minimum wage c. price supports d. trade quota and tariffs ANSWER: b 91. As part of the American Recovery and Reinvestment Act, $7 million was earmarked to build a bridge over a railroad crossing so that 168 Nebraska town residents wouldn't have to wait for the trains to pass. Which of the following best explains why this proposal was passed? a. The benefits were highly diffused, while the costs were very concentrated. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. The costs were highly diffused, while the benefits were very concentrated. c. The costs were external, while the benefits were internal. d. The total benefit of the bridge was greater than the total cost. ANSWER: b 92. When benefits are highly concentrated but costs are diffused across a large number of people: a. the market tends to overproduce these goods. b. the market tends to underproduce these goods. c. the government tends to overproduce these goods. d. the government tends to underproduce these goods. ANSWER: c 93. In 2011, police in Appleton, Wisconsin, shut down a lemonade stand run by two young girls. The girls, who live near the venue for the annual Appleton Old Car Show, were subject to a recent ordinance that barred anyone from selling products within a two-block radius of local events. Local alderman Peter Stueck defended the law, saying, “It's certainly not that Appleton is against little girls setting up their cookie and lemonade stands. But the overall intent of the ordinance was to protect the vendors at these events.” Which concept best explains why this law had support to begin with? a. diffuse costs and concentrated benefits b. median voter theorem c. voter myopia d. rational ignorance ANSWER: a 94. Much to the chagrin of some Americans, conventional light bulbs were effectively banned in 2014, leaving only compact florescent lights (CFLs) on store shelves. The ban was encouraged, in part, by the makers of the more expensive CFLs. Which concept is best captured in this story? a. rational ignorance b. opportunity cost c. diffused costs and concentrated benefits d. median voter theorem ANSWER: c 95. Although many people, from economists to environmentalists, oppose ethanol subsidies on the grounds that ethanol is inefficient and harms the environment, politician Mitt Romney once said, “I support the subsidy of ethanol. I believe it's an important part of our energy solution in this country.” Why does Mr. Romney support ethanol subsidies? I. Most of the people harmed by the subsidies are rationally ignorant and thus don't oppose the policy. II. The benefits of the subsidy are concentrated among a group of producers who provide political and financial support to politicians who support the subsidies. III. Mr. Romney's support of ethanol subsidies is not only in his self-interest but also in the public's interest. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. III only b. I and II only c. I, II, and III d. I only ANSWER: b 96. Politicians have a strong incentive to support projects even when their costs outweigh their benefits if: a. the costs are concentrated among a small group and the benefits are widely dispersed across taxpayers. b. the costs of the project are spread widely across taxpayers and the benefits are spread widely across taxpayers. c. all voters and taxpayers are perfectly informed. d. the costs of the project are spread widely across taxpayers and the benefits are concentrated on a small group. ANSWER: d 97. Policies with _____ benefits but _____ costs will often not be funded even if the benefits are greater than the costs. a. diffused; concentrated b. diffused; diffused c. concentrated; concentrated d. concentrated; diffused ANSWER: a 98. Policies with _____ benefits but _____ costs will often be funded even if the benefits are less than the costs. a. diffused; concentrated b. diffused; diffused c. concentrated; concentrated d. concentrated; diffused ANSWER: d 99. The “Bridge to Nowhere”: a. is a fictional account of a drawbridge that was made out of gold coins collected from Roman tax collectors. b. was a bridge proposed to be built in Alaska that would have cost taxpayers $320 million, despite the availability of a ferry service that charged $6 per automobile. c. refers to the inherent difficulty for Democrats and Republicans to bridge their differences with bipartisan legislation. d. was an overturned law that required bridges to be paid for by people who benefited the most from Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 their use. ANSWER: b 100. Representative John Murphy has secured around $200 million of federal government money for a small airport near Juneburg, Pennsylvania, that averages about 30 passengers a day. The costs of this government support: a. represent an external cost paid mostly by taxpayers who will never use the airport. b. are well justified given that the benefits of the airport are locally concentrated. c. are well justified given that the residents near the airport will pay little of the cost. d. represent an external cost paid mostly by taxpayers who will begin to use the airport once it is completed. ANSWER: a 101. Ten farmers, in a society with 100 people, would collectively gain $100,000 from a farm subsidy. All 100 people would pay the $300,000 cost of the subsidy program. Are the farmers willing to lobby the government in support of the subsidy? a. No, the benefits of $100,000 are less than the cost of $300,000. b. No, the benefits of $10,000 per farmer are less than the costs of $300,000. c. Yes, the benefits of $10,000 per farmer exceed the costs of $3,000 per person. d. Yes, regardless of the cost, the farmers are supportive of any subsidy with benefits. ANSWER: c 102. The fall of the Roman Empire was partially attributable to: a. low taxes, low government spending, and unregulated markets. b. high taxes that were used to finance projects with benefits that were less than their costs. c. an overreliance on private property. d. debtors who successfully petitioned Roman senators for deflation. ANSWER: b 103. Special interest groups are rationally: a. ignorant. b. informed. c. concerned. d. cooperative. ANSWER: b 104. The American Crystal Sugar PAC is rationally: a. ignorant. b. informed. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 c. concerned. d. cooperative. ANSWER: b 105. The acronym “PAC” stands for: a. politically active committee. b. political agent coordinator. c. politically active coordinator. d. political action committee. ANSWER: d 106. Political contributions suggest that PACs are rationally: a. ignorant. b. informed. c. concerned. d. cooperative. ANSWER: b 107. According to the text, one formula for political success is to: a. diffuse benefits and diffuse costs. b. diffuse benefits and concentrate costs. c. concentrate benefits and concentrate costs. d. concentrate benefits and diffuse costs. ANSWER: d 108. In the case of the sugar quota, costs are _____ and benefits are _____. a. diffused; diffused b. concentrated; diffused c. diffused; concentrated d. concentrated; concentrated ANSWER: c 109. In the case of the sugar quota, those harmed are rationally _____ and those benefited are rationally _____. a. ignorant; informed b. ignorant; ignorant c. informed; ignorant d. informed; informed Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: a 110. The self-interest of politicians _____ with the social interest. a. always aligns b. never aligns c. sometimes aligns d. aligns only under direct democracy ANSWER: c 111. When the costs of a good are paid for by nonconsumers, _____ of the good is produced. a. an inefficiently small amount b. an efficient amount c. an inefficiently large amount d. none ANSWER: c 112. According to public choice theory, the main reason for some politicians' ability to build support for policies that generate more costs than benefits is that: a. the public is always ignorant about the costs and benefits of any policy. b. rational ignorance is higher in the situation of concentrated benefits and diffuse costs. c. the government always misleads the public with biased information. d. the political process has flaws, so the public is always misinformed. ANSWER: b 113. The main reason that government legislation on sugar quotas passes is that: a. a large number of consumers bear small economic costs, while a small number of domestic sugar producers receive its benefits. b. a small number of consumers bear its economic costs, while a large number of domestic sugar producers receive its benefits. c. its economic benefits totally offset its economic costs. d. both consumers and producers are rationally ignorant. ANSWER: a 114. If a special interest group represents 10% of society and gets a public policy passed that costs society $1 million and benefits that special interest group $1 million, the net payoff for the special interest group will be: a. –$100,000. b. $0. c. $900,000. d. $1,000,000. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: c 115. If a special interest group represents 10% of society and there is a proposed public policy that will cost society $1 million and benefit that special interest group $1 million, which of the following is the MOST LIKELY outcome according to public choice theory? a. The special interest group will not lobby for the proposed policy because the policy will cost the group more than it will benefit it. b. The special interest group will lobby for the proposed policy because the policy will benefit the group more than it will cost it. c. The special interest group will not be able to make any decision on the proposed policy because its benefits equal its costs. d. This policy will never be passed because the total costs and benefits are the same. ANSWER: b 116. When government makes it possible to externalize the cost of a good: a. there will be an optimal quantity of the good. b. there will be an insufficient quantity of the good. c. there will be too much of the good. d. the good will not be produced at all. ANSWER: c 117. When benefits are concentrated and costs are diffused: a. resources get devoted to projects with high benefits and low costs. b. resources get wasted on projects with low benefits and high costs. c. more projects with high benefits and low costs get developed. d. fewer projects with low benefits and high costs get developed. ANSWER: b 118. Which three variables have been shown to have strong predictive power for election results? a. whether the country is at war, productivity, and the divorce rate b. education status, life expectancy, and corporate profits c. disposable income, the inflation rate, and years in office for the party in power d. the savings rate, the trade deficit, and the unemployment rate of single mothers ANSWER: c 119. Voter decisions seem to depend greatly on: a. economic conditions in the year of an election. b. the beauty of the candidates. c. the weather. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 d. the amount of campaign contributions. ANSWER: a 120. Over the past 100 years, voters have tended to vote _____ the party in power when the _____. a. for; economy is doing well b. against; economy is doing well c. for; unemployment rate is high d. against; unemployment rate is low ANSWER: a 121. Just before the 1972 election, _____ sent a letter to 24 million Social Security recipients informing them of increased payment benefits. a. Richard Nixon b. Jimmy Carter c. Ronald Reagan d. John F. Kennedy ANSWER: a 122. Just before the 1972 election, _____ sent a letter to 24 million Social Security recipients informing them of automatic cost of living increases in the future. a. Richard Nixon b. Jimmy Carter c. Ronald Reagan d. John F. Kennedy ANSWER: a 123. During election years personal disposable income _____ more than at other times, while inflation tends to _____. a. falls; rise b. grows; rise c. grows; fall d. falls; fall ANSWER: c 124. Presidents have an easier time changing _____ than _____ during an election year. a. GDP; taxes and transfer payments b. the overall economy; GDP c. taxes and transfer payments; GDP Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 d. GDP; overall economy ANSWER: c 125. Data for the United States show that the incumbent party tends to win the election if: I. personal disposable income is growing. II. the inflation rate is low. III. the political party has not been in power for too many continuous terms. a. I only b. I and II only c. I and III only d. I, II, and III ANSWER: d 126. Why are voters generally considered myopic? a. They vote based only on the economic policies of the candidates and not on their normative political policies. b. They focus on economic conditions in the year of the election, not over the entire term of the presidency. c. They educate themselves thoroughly on the economic policies of the candidates in the election, but not on the political agendas. d. They educate themselves on issues that influence them personally, but not on issues that influence the larger society. ANSWER: b 127. Voters focus on economic conditions in the year of an election and not over the entire term of one’s presidency. This makes them: a. uneducated. b. myopic. c. responsive to changes in the economy. d. concerned about the overall health of the economy. ANSWER: b 128. President Nixon increased his popularity just before the 1972 election by: a. lowering income taxes before the election. b. lowering taxes after the election. c. increasing Social Security benefits. d. removing all price controls from the markets. ANSWER: c Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 129. Two weeks before the November 1972 election, incumbent President Richard Nixon announced that he was: a. increasing taxes following the election. b. lowering taxes after the election. c. increasing Social Security benefits immediately, but did not announce the tax increase that came in January. d. increasing both Social Security benefits and taxes. ANSWER: c 130. Over the past 100 years the American voter has voted for the party of the _____ when the economy is doing _____. a. incumbent; well b. incumbent; poorly c. left; well d. right; poorly ANSWER: a 131. Which of the following variables is the LEAST helpful in predicting presidential elections? a. growth in personal income in the year of the election b. inflation in the year of the election c. the popularity level of the presidential personality d. the length of time the incumbent party has been in power ANSWER: c 132. Voter myopia refers to the fact that voters: a. are rationally ignorant. b. respond to incentives. c. primarily consider economic conditions in the year of the election. d. look at economic conditions over a president's term. ANSWER: c 133. The incumbent party tends to win elections when: a. inflation is high. b. consumers' disposable income is high. c. the incumbent party has not been in power for very long. d. unemployment is high. ANSWER: b 134. Inflation tends to _____ during an election year and _____ after the election is over. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. increase; increase more b. decrease; increase c. decrease; decrease more d. increase; decrease ANSWER: b 135. Which of the following is MOST LIKELY to happen just before an election? a. higher taxes b. lower unemployment c. higher inflation d. higher government spending ANSWER: d 136. When voters are myopic, politicians will prefer policies that generate: a. small benefits now and large costs later. b. small costs now and large benefits later. c. higher taxes now but more economic growth later. d. lower unemployment but higher inflation. ANSWER: a 137. The incumbent president is more likely to win reelection if: a. the interest rate policy remains stable. b. voters are rationally ignorant. c. unemployment decreases in the summer prior to the election in November. d. 4-year inflation is lower than the 4-year inflation rate under the previous president. ANSWER: c 138. What explains the close connection between the economic boost just before election day and a politician winning reelection? a. diffuse costs and concentrated benefits b. median voter theorem c. voter myopia d. rational ignorance ANSWER: c 139. When it comes to deciding on whether to vote for the incumbent party, voters: a. are more likely to vote out the incumbent party after strong growth in disposable income. b. prefer incumbents the longer they have been in power. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 c. focus on the state of the economy in the year of the election. d. are farsighted and consider the impact of the incumbent party's future policies. ANSWER: c 140. Two weeks before the 1972 election, Richard Nixon: a. sent a letter to Social Security recipients informing them that their payments had been increased by 20%. b. sent a letter to all persons in the military informing them that their pension payouts would be 33% higher. c. sent a letter to all unemployed persons informing them about his intent to extend unemployment benefits. d. made a national radio address to discuss his plan for a 4-day workweek. ANSWER: a 141. Political business cycles are due primarily to _____ voters. a. rationally informed b. rationally ignorant c. myopic d. forward-looking ANSWER: c 142. Economic conditions are a _____ predictor of U.S. presidential election outcomes. a. good b. poor c. fair d. volatile ANSWER: a 143. Voters are most responsive to economic performance _____ when deciding whether a president should be reelected. a. on average over the entire term b. in the first 100 days of the first term c. in the last year of the first term d. in the first year of the first term ANSWER: c 144. Personal disposable income: a. is even throughout the political business cycle. b. grows most quickly during nonelection years. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 c. grows most quickly during election years. d. does not follow any sort of predictable pattern. ANSWER: c 145. The political business cycle is: a. more apparent in GDP data than in personal disposable income data. b. less apparent in GDP data than in personal disposable income data. c. equally apparent in GDP data as in personal disposable income data. d. not apparent in either GDP data or personal disposable income data. ANSWER: b 146. Political business cycles occur when: a. economic conditions tend to improve immediately before elections but then worsen afterward. b. economic conditions tend to worsen immediately before elections but then improve afterward. c. the economy becomes more stable between elections. d. economic conditions become less stable and show more random patterns over time. ANSWER: a 147. Political business cycles occur because voters are: a. irrational and always vote for the wrong politicians. b. rational during election years, but politicians always deviate from what they promise. c. rationally ignorant and do not look at economic conditions over a president's entire term. d. rational and vote for politicians that improve economic conditions at least some of the time. ANSWER: c 148. An incumbent president can take advantage of voters' myopia to win reelection by: a. applying policies with small immediate gains but large costs in the future. b. applying policies with small immediate costs but large gains in the future. c. applying only policies that have the same amount of gains as costs, so there is no net benefit. d. doing nothing. ANSWER: a 149. What does the evidence from 60 years of U.S. data show regarding the growth rate in personal income in each quarter of a president's term in office? a. The growth rate holds steady at approximately 1.8%. b. The growth rate increases in the quarters just after the election. c. The growth rate decreases in the quarters just before the election. d. The growth rate increases in the quarters just before the election. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: d 150. Evidence suggests that voters will vote for a political party based on the economic conditions that prevail in the year of the election. This behavior is known as: a. economic dependence. b. political response. c. rational ignorance. d. voter myopia. ANSWER: d 151. When the battle of presidential elections is done, historians mark one personality and set of issues as having won the day and reflected the will of the: a. incumbent candidate. b. challenging candidate. c. voters. d. government. ANSWER: c 152. A simple logic underlying the apparent chaos of seemingly unique and momentous elections is that: a. voters are so unresponsive to economic conditions that the winner of a presidential election cannot be predicted with any accuracy. b. voters are so responsive to economic conditions that the winner of a presidential election can be predicted with considerable accuracy. c. pundits scrutinize the daily chronicle of events to divine how the candidates advance and retreat in public opinion. d. personalities and leadership qualities of the candidates loom large and are reckoned to swing voters one way or another. ANSWER: b 153. Which of the following conditions best predicts when the incumbent party will NOT win the presidential election? a. Personal disposable income is growing. b. The inflation rate is low. c. The unemployment rate is low. d. The incumbent party has been in power for too many terms in a row. ANSWER: d 154. Evidence suggests that voters are myopic, meaning they are responsive to economic conditions: a. before the year of an election. b. in the year of an election. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 c. after the year of an election. d. over the president's entire term. ANSWER: b 155. If voters are myopic, which of the following would we expect to see? a. Government benefits increase before an election, while taxes increase only after an election. b. Government benefits increase after an election, while taxes hardly ever do. c. Government benefits decrease after an election, while taxes increase only before an election. d. Government benefits decrease before an election, while taxes decrease only after an election. ANSWER: a 156. When a policy is highly visible, appears often in the newspapers, and has a major effect on the lives of millions of Americans, very often: a. special interests get their way. b. voters get their way. c. politicians get their way. d. government gets its way. ANSWER: b 157. When a policy is specialized in its impact, difficult to understand, and affects a small part of the country, it is more likely that: a. special interests get their way. b. voters get their way. c. politicians get their way. d. government gets its way. ANSWER: a 158. Politicians have a greater interest in serving the voters' will when: a. voters are well informed. b. special interest groups are nonexistent. c. the media do not get involved. d. the policy is highly visible. ANSWER: d 159. Which of the following theories works to explain which voters will get their way in a democratic election? a. the theory of rational ignorance b. the median voter theorem c. the special interests theory Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 d. the political business cycle theory ANSWER: b 160. Figure: Kidney Trade Ban Policy Spectrum
If there are only two candidates, A and B, and an open market for kidney trading is the only issue being debated in this election, which one of the voters is the median voter? a. Mariska b. Tuppence c. Tommy d. Agatha ANSWER: b 161. Figure: Kidney Trade Ban Policy Spectrum
If there are only two candidates, A and B, and an open market for kidney trading is the only issue being debated in this election, which candidate will win the election? a. A b. B c. Neither A nor B will win this election. d. A and B will receive an equal number of votes. ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 162. Figure: Kidney Trade Ban Policy Spectrum
If A, B, and C are all candidates in the election and an open market for kidney trading is the only issue being debated, based on the median voter theorem, which candidate will win the election? a. A b. B c. C d. A, B, and C will each receive an equal number of votes. ANSWER: c 163. Figure: Smoking Ban Policy Spectrum
If there are only two candidates, A and B, and a smoking ban is the only issue being debated in this election, which one of the voters is the median voter? a. Victoria b. Edward c. O'Rourke d. Abdul ANSWER: a 164. Figure: Smoking Ban Policy Spectrum Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21
If there are only two candidates, A and B, and a smoking ban is the only issue being debated in this election, based on the median voter theorem, which candidate will win the election? a. A b. B c. Neither A nor B will win this election. d. A and B will receive an equal number of votes. ANSWER: b 165. Figure: Smoking Ban Policy Spectrum
If A, B, and C are all candidates in the election and a smoking ban is the only issue being debated, based on the median voter theorem, which candidate will win the election? a. A b. B c. C d. A, B, and C will each receive an equal number of votes. ANSWER: c 166. Figure: Medicare Spending
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Chapter 21
If L and M are candidates in an upcoming election and an increase in Medicare spending is being debated, based on the median voter theorem, which candidate will win the election? a. L b. M c. Neither L nor M d. L and M will each receive an equal number of votes. ANSWER: b 167. Figure: Medicare Spending
L and M are candidates in an upcoming election, and an increase in Medicare spending is being debated. In this election, voters will not vote if they do not find a candidate who believes the level of Medicare spending should be close to what voters believe it should be. In this case, _____ is more likely to win the election. a. L b. M c. Neither L nor M d. L and M will each receive an equal number of votes. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: b 168. In many presidential elections, candidates nominated by their political parties will move toward the center of voters’ opinions about a certain subject matter. This reflects: a. the median voter theorem. b. the myopic nature of voters. c. democracy. d. the failure of the median voter theorem. ANSWER: c 169. The basic concept behind the median voter theorem is that: I. half of the other voters want a policy to the left of the median voter’s preference and half of the voters want a policy to the right. II. when voters vote, regardless of whether they vote closest to their preferences or not, the preference of the median voter is sure to win in a majority win election. III. if voters vote closest to their preferences, then the preference of the median voter is sure to win in a majority win election. a. I only b. I and II only c. I and III only d. III only ANSWER: c 170. The theory of the median voter may not work if: I. voters do not vote. II. voters do not vote for the policy closest to their own positions. III. there is only a single dimension over which the voting occurs. a. I only b. II only c. I and II only d. I, II, and III ANSWER: c 171. The theory of the median voter may not work if: I. voters do not vote. II. voters do not vote for the policy closest to their own positions. III. there are multiple dimensions over which the voting occurs. a. I only b. II only c. I and II only d. I, II, and III Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: d 172. According to the median voter theorem, when do political outcomes change? a. when the consensus changes b. as a result of a compromise c. when the median voter changes his or her preferences d. when there is new technology to account for proper voting ANSWER: c 173. If voters care about two issues, such as taxes and war, then politicians: a. will form a stable policy on these issues. b. can pose a policy that will never lose against another policy. c. must assume that there is no median voter. d. may never converge on a stable outcome. ANSWER: d 174. The median voter theorem holds that the: a. policy that caters to the median voter will beat any other policy in a majority rule election. b. policy that adjusts to the left of the median voter will beat any policy further to the right. c. policy that adjusts to the right of the median voter will beat any policy further to the left. d. median voter's preferences cannot be met. ANSWER: a 175. The most important assumption of the median voter theorem is that: a. voters vote for the policy furthest from their ideal. b. voters vote for the policy closest to their ideal. c. half the voters vote for their ideal, but the other half do not. d. there are several voting dimensions. ANSWER: b 176. Which of the following explains why extreme candidates rarely win political elections? a. rational ignorance b. median voter theorem c. special interest groups d. myopic voters ANSWER: b 177. The median voter theorem implies that politicians: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. have a strong incentive to listen to the wishes of special interest groups. b. have to satisfy only a small number of voters. c. should never associate too strongly with one party. d. have the incentive to listen to voters on issues that voters care about. ANSWER: d 178. Figure: Median Voter 1
Suppose the figure represents the preferences of five voters and two candidates regarding defense spending. Who is the median voter, and which candidate will win the election? a. The median voter is Neil, and the winning candidate is A. b. The median voter is Mary, and the winning candidate is A. c. The median voter is Neil, and the winning candidate is B. d. The median voter is Tina, and the winning candidate is B. ANSWER: a 179. Figure: Median Voter 2
If taxes are the only issue and the candidates' names are Jack Johnson and John Johnson, who votes for John Jackson? a. Jeri and Ajay b. Jeri, Ajay, Andrea, and Eugena c. Andrea, Jeri, and Ajay d. Eugena, Andrea, and Jeri ANSWER: c 180. Figure: Median Voter 2 Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21
What tax level could Jack Johnson support to ensure a victory in the election? a. 5% b. 6% c. 7% d. 8% ANSWER: b 181. Imagine a beach with beachgoers evenly distributed throughout. It's a hot day and there are two ice cream vendors who start out far away from each other. They quickly discover that if they move closer to the center of the beach, they keep customers on their far side of the beach while poaching customers near their rival. Eventually, both vendors end up right next to each other in the middle of the beach. Which concept predicts the conclusion of this story? a. rational ignorance b. opportunity cost c. diffuse costs and concentrated benefits d. median voter theorem ANSWER: d 182. Table: Government Spending Voter
Amy Bob Cal Dan Eli
Preferred Level of Government Spending (trillions) $0.5 1 2 3 4
According to the median voter theorem and the data in this table, candidates will position their ideal level of spending at: a. $3 trillion. b. $1 trillion. c. $2 trillion. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 d. $2.5 trillion. ANSWER: c 183. The median voter theorem states that: a. the median voter tends to be the most informed voter. b. candidates whose policies reflect the preferences of the median voter are more likely to win an election. c. political success depends on candidates taking positions that are either to the right or to the left of the political center. d. politicians choose policies that, on average, generate more benefits than costs for the average voter. ANSWER: b 184. Democracy tends to push politicians toward the ideal point of the _____ voter. a. median b. first c. representative d. final ANSWER: a 185. There are three voters and two representatives in a democracy. Voter 1 supports government spending of $30. Voter 2 supports government spending of $50. Voter 3 supports government spending of $90. According to the median voter theorem, politicians will converge upon a spending bill of: a. $30. b. $50. c. $60. d. $90. ANSWER: b 186. There are three voters and two representatives in a democracy. Voter 1 supports government spending of $20. Voter 2 supports government spending of $60. Voter 3 supports government spending of $70. According to the median voter theorem, politicians will converge upon a spending bill of: a. $20. b. $50. c. $60. d. $70. ANSWER: c 187. There are three voters and two representatives in a democracy. Voter 1 supports government spending of $51. Voter 2 supports government spending of $52. Voter 3 supports government spending of $56. According Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 to the median voter theorem, politicians will converge upon a spending bill of: a. $51. b. $52. c. $53. d. $56. ANSWER: b 188. There are three voters in a democracy. Voter 1 supports government spending of $100. Voter 2 supports government spending of $300. Voter 3 initially supported government spending of $200, but now supports government spending of $250. According to the median voter theorem, politicians will converge upon a spending bill of: a. $100. b. $200. c. $250. d. $300. ANSWER: c 189. According to the median voter theorem, policy changes only when the ideal point of: a. a voter changes. b. the median voter changes. c. a random voter changes. d. the last voter changes. ANSWER: b 190. In a democratic society, the idea that there is a tendency for a given policy to reflect the middle view of all political ideals is called the: a. voting paradox. b. arrow impossibility theorem. c. median voter theorem. d. public choice theorem. ANSWER: c 191. According to the median voter theorem, what percentage of tax dollars will be spent on the military under the following conditions? 25% of voters want to spend 20% of their tax dollars on the military; 20% of voters want to spend 15% of their tax dollars on the military; 15% of voters want to spend 10% of their tax dollars on the military; 10% of voters want to spend 5% of the tax dollars on the military; and 30% of voters do not want to spend any tax dollars on the military. a. 0% Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. 5% c. 10% d. 20% ANSWER: c 192. There are three critical concerns for voters in an upcoming election: government spending, income taxes, and access to health care. What is the likely result of this election? a. The candidate who is closest to the median voter on income tax policy will win. b. The candidate who is closest to the median voter on government spending policy will win. c. The candidate who is closest to the median voter on access to health care policy will win. d. It is not clear that there will be a stable outcome in this election because voters care about all of these policy positions. ANSWER: d 193. The median voter theorem does not accurately predict an election outcome if: a. the election is dictated by a simple majority rule. b. voters become rational about their election decisions. c. voters always vote for the policy that is closest to their ideal point. d. voters do not vote for the policy that is closest to their ideal point. ANSWER: d 194. Control of the media has exactly the effects that we would expect from our study of _____ in democracies. a. rationally informed voters b. irrationally informed voters c. irrational ignorance d. rational ignorance ANSWER: d 195. How are democracy and wealth related? a. Once people's basic needs have been met, there is an increased demand for democracy and political participation. b. Democracy is associated with institutions (free press, private property rights, lower levels of corruption) that are favorable toward growth and wealth accumulation. c. Neither of these statements is true. d. Both of these statements are true. ANSWER: d 196. Government ownership of the media: a. is uncommon in African countries. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. causes an even greater degree of rational ignorance than private ownership. c. reduces rational ignorance because governments usually require a greater number of news broadcasts. d. decreases the effectiveness of special interest groups. ANSWER: b 197. Evidence from an important study of media ownership concludes that: a. private ownership of the press restricts information flows to the public, which reduces the quality of the government. b. public ownership of the press increases information flows to the public, which increases the quality of the government. c. government ownership of the press restricts information flows to the public, which reduces the quality of the government. d. there is little correlation between media ownership and the efficiency of government. ANSWER: c 198. Democracy typically brings about more efficient outcomes because: a. democracies create a demand for wealth. b. democracies are common practice in developed countries. c. citizens in democracies are rationally ignorant. d. citizens in democracies are better informed and have the power to vote. ANSWER: d 199. There is a strong correlation between economic freedom and: a. personal freedom. b. religious freedom. c. living standards. d. economic instability. ANSWER: c 200. As countries become wealthier: a. they tend to have higher taxes. b. their citizens tend to become more rationally ignorant. c. they tend to become more democratic. d. the median voter becomes more important. ANSWER: c 201. Higher standards of living are associated with: a. a closed economy that allocates resources based on a centralized industrial policy. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. a high ratio of government spending to GDP. c. tightly regulated labor and capital markets. d. greater economic freedom. ANSWER: d 202. _____ is associated with lower levels of political rights and civil liberties, worse regulation, higher levels of corruption, and a greater risk of property confiscation. a. Greater government ownership of the press b. Having more than two active political parties c. Less government ownership of the press d. Having only one or two active political parties ANSWER: b 203. In general, democracies are the: a. wealthiest countries around the world but the least free economically. b. wealthiest countries around the world and have the highest levels of economic freedom. c. poorest countries around the world but have the highest levels of economic freedom. d. poorest countries around the world and the least free economically. ANSWER: b 204. Which of the following statements is TRUE? I. A rising standard of living increases the demand for democracy. II. Democracy is associated with better institutions that lead to economic growth and a high standard of living. III. The public is usually better informed about policies in nondemocracies. a. I only b. II only c. II and III only d. I and II only ANSWER: d 205. Which of the following is TRUE about cross-country evidence on the relationship between economic freedom, standard of living, and democracy? a. There is no clear relationship between economic freedom, the standard of living, and the level of democracy. b. Economic freedom, the standard of living, and the level of democracy are positively related. c. Economic freedom and the standard of living are positively related, but they are not related to the level of democracy. d. Economic freedom is higher in countries that are less democratic, but lower in countries that are more democratic. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: b 206. Which of the following is TRUE about public ignorance in democratic and nondemocratic countries? a. Public ignorance exists in most countries, but it is generally higher in democratic countries than in nondemocratic countries. b. Public ignorance exists only in democratic countries. c. Public ignorance exists in democratic countries, but it is typically higher in nondemocratic countries. d. Public ignorance does not exist in democratic or nondemocratic countries because people are rational. ANSWER: c 207. Public ignorance is generally higher in less democratic countries because: a. the public is mostly irrational in those countries. b. there is no incentive for the public to be informed in those countries. c. the public receives too much information about how the country runs. d. the public is not well informed because of government control or censorship of the media. ANSWER: d 208. Mass starvation in Ukraine in the 1920s was the result of: a. bad weather conditions that destroyed more than 45% of the crops. b. Soviet leader Joseph Stalin's deliberate policies to eliminate potential political threats. c. the majority of Ukrainians voting for collectivized farms. d. the democratic policies voted on by the Russian people. ANSWER: b 209. Which of the following statements is TRUE? I. Increased newspaper circulation is associated with better and quicker political responses to a crisis in food availability. II. Governments will provide higher levels of food distribution when there is more political competition. III. Amartya Sen claims that no famine has ever taken place in a functioning democracy. a. I only b. II only c. I, II, and III d. II and III only ANSWER: c 210. Government ownership of the press and of radio: a. increases the quality of government. b. decreases the quality of government. c. increases the degree of economic freedom. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 d. decreases social corruption. ANSWER: b 211. Figure: Economic Freedom and Living Standards
Based on the data in this chart, the country with the lowest level of economic freedom is: a. Angola. b. Venezuela. c. Hong Kong. d. Haiti. ANSWER: a 212. Figure: Economic Freedom and Living Standards
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Chapter 21
Based on the data in this chart, two countries that have about the same level of economic freedom but very different standards of living are: a. Venezuela and Niger. b. Congo and Luxembourg. c. Haiti and Niger. d. Luxembourg and the United States. ANSWER: a 213. Figure: Economic Freedom and Living Standards
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Chapter 21
Based on this chart, we can conclude that: a. greater economic freedom causes a higher standard of living. b. there is a positive relationship between economic freedom and GNI per capita. c. higher GNI per capita raises the level of democracy. d. the wealthiest countries in the world are all democracies. ANSWER: b 214. Stalin: a. instituted democratic reforms, leading to widespread prosperity. b. took government control of the farms in Ukraine, leading to the starvation of millions of people. c. increased the provision of public goods, which had a positive effect on lowering the unemployment rate. d. tried unsuccessfully to expand voting rights in 1924 Russia. ANSWER: b 215. Which of the following statements is FALSE? a. The root cause of mass starvation is a lack of food. b. Most mass starvations have been intentional. c. Mass starvation is less likely in democracies. d. Greater political competition is associated with higher levels of food distribution. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: a 216. Governments are more responsive to food crises: I. when there is more widespread newspaper circulation. II. if they are democracies. III. when there is more political competition. a. I and II only b. II and III only c. II only d. I, II, and III ANSWER: d 217. _____ argues that _____. a. Amartya Sen; famines don't happen in democracies b. Rico Raines; starvation in many parts of the world could be avoided with adequate price controls c. Amartya Sen; famines are more likely to occur where there are unfettered newspapers and political competition d. David Ricardo; mass starvations are more likely in democracies ANSWER: a 218. Why do studies show that food distribution is better in economies with higher political competition? a. Higher political competition always ensures better food production in farming areas. b. Increased competition between political parties leads voters to educate themselves on the availability of such distribution systems. c. The threat of failure to get reelected spurs government into providing better food distribution systems. d. Studies show that food distribution is better in economies with higher political competition. ANSWER: b 219. Why is public food distribution better in election and preelection years? a. Higher political competition always ensures better food production in farming areas. b. The threat of failure to get reelected spurs government into providing better food distribution systems. c. There is a lag of about 4 years between refurbishment of most food production systems. d. Increased competition between political parties leads voters to educate themselves on the availability of such distribution systems. ANSWER: b 220. According to Amartya Sen, the most powerful way to reduce the likelihood of famine is through: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. enhancement of food production. b. improvement of distribution. c. introduction of new technologies. d. enhancement of democratic practices. ANSWER: d 221. Which of the following was the main cause of the 1974 famine in Bangladesh? a. floods b. lack of food c. lack of economic and political freedoms d. high rice prices ANSWER: c 222. According to Nobel Prize–winning economist Amartya Sen, famine would never take place in a: a. nondemocracy. b. functioning democracy. c. socialist state. d. state in which the government has ultimate control of food distribution. ANSWER: b 223. Economists Besley and Burgess found that a government is more responsive to food crises when there is (are): a. more political competition. b. more newspapers. c. either more political competition or more newspapers. d. both more political competition and more newspapers. ANSWER: d 224. Much of public choice argues that what the public wants isn't reflected in elected officials' actions. Yet there is a strong connection between famine prevention and democracy (more democracy means less famine), and this “exception” is completely consistent with ideas from public choice. Why? a. because the median voter doesn't want to starve b. because voters have a strong incentive to be informed c. because voters have strong memories about times they don't eat d. because the costs of corruption are concentrated rather than diffuse ANSWER: b 225. According to the text, the 1974 famine in Bangladesh was largely a result of: Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. a lack of food supply. b. rapid population growth. c. an earthquake. d. bad government policies. ANSWER: d 226. Nobel Prize–winning economist Amartya Sen argued that famine in the history of the world could have been eliminated by: a. raising foreign aid to countries with famine. b. strong government control over food distribution. c. introducing democracy. d. censoring the media. ANSWER: c 227. Democracies typically become richer because: a. rational ignorance is eliminated. b. special interest groups expand the role of government. c. they garner more foreign aid from other democracies. d. it is in the self-interest of their citizens to support policies that increase economic growth. ANSWER: d 228. Suppose that a special interest group makes up 10% of the overall population. If a new proposal stands to generate $2 million in additional benefits to the group, the group will: a. always support this proposal, since the costs are diffused over the entire population. b. never support this proposal if the costs are greater than $2 million. c. support this proposal only if the costs are less than $2 million. d. support this proposal only if the costs are less than $200,000. ANSWER: d 229. Which of the following do democracies usually support? I. institutions that are bad for economic growth II. free markets, property rights, and the rule of law III. policies that don't kill their own citizens a. I and II only b. II and III only c. III only d. II only ANSWER: b Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 230. Which of the following statements is TRUE? a. Small groups are less likely to favor efficient policies than large groups are. b. The larger the group, the more likely it will favor special interests rather than economic growth. c. Quasi-democracies prefer a highly educated population because they are more accepting of the leadership's policies. d. Oligarchies tend to use the print media to inform public debate and encourage political competition. ANSWER: a 231. Which of the following is TRUE about the relationship between democracy and economic growth? a. Democracy and economic growth are unrelated for most countries. b. Democracy generally leads to institutions that promote economic growth. c. Economic growth leads to democracy, but democracy does not lead to economic growth. d. Democracy leads to economic growth only when a country's special interest groups represent a very small part of society. ANSWER: b 232. Public choice theory suggests that larger special interest groups will: a. have fewer incentives to take into account the social costs of inefficient policies. b. have more incentives to take into account the social costs of inefficient policies. c. have the same incentives as smaller groups to take into account the social costs of inefficient policies. d. consider only the benefits of policies but not the costs. ANSWER: b 233. According to public choice theory, a more democratic country: a. can eliminate rational ignorance so that politicians can focus on policies that promote economic growth. b. will have a higher living standard without policies to promote economic growth. c. will have more policies that promote economic growth because a larger share of population is brought into power. d. will have more policies that promote economic growth because a small elite is more efficient in making policy decisions. ANSWER: c 234. Which of the following is TRUE about the effects of democracy? a. Democracy can perfectly align self-interest with the social interest. b. Because of democracy, there is no incentive for the public to align self-interest with the social interest. c. Democracy leads to good institutions that help align self-interest with the social interest. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 d. Democracy has no effect on the alignment between self-interest and the social interest. ANSWER: c 235. Suppose that a special interest group makes up 0.5% of the population. If a policy transfers $600 to the special interest at a cost of $100,000 to society, will the special interest group lobby for this policy? a. Yes, the benefits of $600 outweigh the costs of $500. b. No, the benefits of $30 are less than the costs of $100,000. c. No, the benefits of $30 are less than the costs of $50,000. d. They'll be indifferent, since the benefits equal the costs. ANSWER: a 236. Suppose that a special interest group makes up 2% of the population. If a policy transfers $600 to the special interest at a cost of $100,000 to society, will the special interest group lobby for this policy? a. Yes, the benefits of $700 outweigh the costs of $42. b. No, the benefits of $600 are less than the costs of $2,000. c. They'll be indifferent, since the benefits equal the costs. d. No, the benefits of $600 are less than the costs of $100,000. ANSWER: b 237. Which of the following statements is FALSE? a. Democracies have a good record for economic growth. b. Small nondemocratic elites are more likely to consider the welfare of larger groups. c. Democracies tend to uphold private property rights and rule of law. d. The incentives of small nondemocratic elites may help to keep their nations poor. ANSWER: b 238. _____ groups tend to favor more efficient policies. a. Small b. Large c. Elite d. Oligarchical ANSWER: b 239. One reason for the good record of democracies on economic growth is that: a. people can become rich by gaining economic resources in their favor. b. people can become rich by competing for the limited economic resources. c. the public as a whole can become rich by equally dividing the economic resources. d. the public as a whole can become rich by supporting efficient policies that generate economic Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 growth. ANSWER: d 240. If a policy transfers $100 to a special interest group at a cost of $4,000 to society, the group will lobby: a. for the policy no matter how large the special interest group is. b. for the policy if the group makes up more than 5% of the population. c. for the policy if the group makes up less than 1% of the population. d. against the policy if the group makes up less than 2% of the population. ANSWER: c 241. The greater the share of the population that is brought into power, the: a. less likely that policies will offer something for everyone in the society. b. more likely that policies will offer something for everyone in the society. c. less likely that policies will be efficient. d. more likely that policies will impede economic growth. ANSWER: b 242. Economists tend to favor policies such as price controls and tariffs. a. True b. False ANSWER: b 243. Some people argue that mainstream economics ignores important ethical values. a. True b. False ANSWER: a 244. A good incentive system aligns self-interest with the social interest. a. True b. False ANSWER: a 245. Private choice is the study of political behavior using the tools of economics. a. True b. False ANSWER: b 246. Voters have a strong incentive to be well informed about the positions of political candidates—after all, Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 every vote counts. a. True b. False ANSWER: b 247. Sometimes it is rational to be ignorant. a. True b. False ANSWER: a 248. Saying that voters are rationally ignorant is the same as saying voters are irrational. a. True b. False ANSWER: b 249. One of the largest federal spending programs is foreign aid. a. True b. False ANSWER: b 250. Voters are rationally ignorant because the incentives to being informed are low. a. True b. False ANSWER: a 251. Rational ignorance may cause voters to make irrational decisions, such as judging a politician based on the level of oil prices, even though markets set oil prices. a. True b. False ANSWER: a 252. Rational ignorance may cause voters to make uninformed decisions; however, the outcomes tend to be the same as if voters had full information. a. True b. False ANSWER: b 253. Economists would generally agree with this quote: “There are many things of which a wise man might Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 wish to be ignorant.” a. True b. False ANSWER: a 254. Rational ignorance in politics is the idea that obtaining information about candidates has little benefit because one's own vote has almost no chance of changing the outcome of an election. a. True b. False ANSWER: a 255. It is always irrational to be ignorant. a. True b. False ANSWER: b 256. It is always rational to be ignorant. a. True b. False ANSWER: b 257. It is sometimes rational to be ignorant. a. True b. False ANSWER: a 258. It is sometimes irrational to be ignorant. a. True b. False ANSWER: a 259. Rational ignorance occurs when a person chooses to be misinformed when there is a large benefit related to being informed. a. True b. False ANSWER: b 260. Rational ignorance still leads to an efficient outcome, since the decision itself is rational. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 a. True b. False ANSWER: b 261. Sugar consumers are likely to oppose sugar quotas because the widespread costs, although small, fall on all households in the form of higher prices. a. True b. False ANSWER: b 262. Sugar consumers likely won't do much to oppose a law that reduces the supply of sugar and raises prices. a. True b. False ANSWER: a 263. Sugar producers likely won't do much to oppose a law that reduces the supply of sugar and raises prices. a. True b. False ANSWER: a 264. Special interest groups are so powerful because the costs of their policies are widely disbursed across the population and hence largely unopposed. a. True b. False ANSWER: a 265. Voter myopia is the notion that voters are largely swayed by current economic conditions when casting their vote. a. True b. False ANSWER: a 266. Special interest groups effectively lower the price of sugar for U.S. consumers. a. True b. False ANSWER: b 267. The smaller a special interest group is in terms of percentage of the overall population, the more political Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 power it typically has. a. True b. False ANSWER: a 268. A special interest project that costs 200 million citizens $1 each but benefits 100 citizens a total of $100 million is an inefficient use of government funds. a. True b. False ANSWER: a 269. Special interest groups have a greater chance to succeed when benefits are more concentrated and costs are more diffuse. a. True b. False ANSWER: a 270. With certain political policies, the people who are harmed are rationally ignorant and have little incentive to oppose the policy. a. True b. False ANSWER: a 271. With certain political policies, the people who benefit are rationally ignorant and have little incentive to oppose the policy. a. True b. False ANSWER: b 272. The political power of farmers has increased as the share of farmers in the population has decreased. a. True b. False ANSWER: a 273. When government makes it possible to push the costs of a good onto other people, we get too much of the good. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: a 274. Suppose that a special interest group makes up 1% of society, and a proposed law would give it $10,000 of benefits but cost society $900,000. The special interest group will oppose this policy because the costs exceed the benefits. a. True b. False ANSWER: b 275. Politicians can often use the concept of rational ignorance on the part of voters to their advantage. a. True b. False ANSWER: a 276. When benefits are concentrated and costs are diffused, resources often get wasted on projects with high benefits and low costs. a. True b. False ANSWER: b 277. At one time, even coffee roasting was defined as a form of manufacturing. a. True b. False ANSWER: a 278. An incumbent is more likely to win reelection if average unemployment during his first 4-year term is less than unemployment in the last year of that term. a. True b. False ANSWER: b 279. The incumbent party will most likely get reelected when economic conditions are worsening in an economy. a. True b. False ANSWER: b 280. Voters are myopic, so they most likely focus on economic conditions over a president's entire term. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. False ANSWER: b 281. When a policy is highly visible, appears often in the newspapers, and has a major effect on the lives of millions of Americans, lobbies and special interests very often get their way. a. True b. False ANSWER: b 282. The median voter is the person/voter who is exactly in the middle of the population, when one is counting the population in numbers. a. True b. False ANSWER: b 283. When a policy is specialized in its impact, is difficult to understand, and affects a small part of the economy, it is likely that lobbies and special interest groups will get their way. a. True b. False ANSWER: a 284. The median voter is the voter such that half of the voters are on one side of the issue and the other half of the voters are on the other side of the issue. a. True b. False ANSWER: a 285. If the median voter theory holds in the first election, come reelection time, the candidates will reposition themselves closer to the median voter. a. True b. False ANSWER: a 286. The median voter is defined as the voter such that half the other voters are on one end of the spectrum and half are on the other. a. True b. False ANSWER: a Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 287. The median voter theorem says that candidates whose policy is closest to the middle of the spectrum will win. a. True b. False ANSWER: b 288. The median voter theorem tells us that, in a democracy, what counts are the number of voters and not their position per se. a. True b. False ANSWER: a 289. If the theory of the median voter holds, then extremes in political or economic positions cannot be maintained. a. True b. False ANSWER: a 290. As a predictive theory of politics, the median voter theorem is applicable to almost all circumstances in politics. a. True b. False ANSWER: b 291. According to the median voter theorem, the politician with a platform closest to the ideals of the median voter will win an election. a. True b. False ANSWER: a 292. The median voter theorem predicts that the politician who ignores the median voters' wants will be elected. a. True b. False ANSWER: b 293. In general, there is a high positive correlation between per capita income and economic freedom across countries. a. True b. False Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: a 294. Democracies usually have lots of economic freedom, but economic freedom is a poor predictor of a country's standard of living. a. True b. False ANSWER: b 295. Public choice theory implies that democracy is a perfect system to serve the social interest. a. True b. False ANSWER: b 296. The association between democracy and wealth occurs because democracy creates a demand for wealth. a. True b. False ANSWER: b 297. Rational public ignorance tends to be voluntary in democracies, but public ignorance tends to be more involuntary in nondemocracies. a. True b. False ANSWER: a 298. When we look around the world, democracies tend to be the wealthiest countries and tend to be the countries with the best record for supporting markets. a. True b. False ANSWER: a 299. When citizens have NOT satisfied their basic needs for food, shelter, and security, they still demand more cerebral goods. a. True b. False ANSWER: b 300. Control of the media does not enable special interest groups to control the government for their own ends. a. True Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 b. False ANSWER: b 301. According to Nobel Prize–winning economist Amartya Sen, lack of democracy is the main reason for the occurrence of famine throughout world history. a. True b. False ANSWER: a 302. Larger groups tend to favor more inefficient policies. a. True b. False ANSWER: b 303. The greater the share of the population that is brought into political power, the more likely it is that policies will favor economic growth. a. True b. False ANSWER: a 304. The free flow of ideas helps both the market and government to function better. a. True b. False ANSWER: a 305. Large special interest groups tend to favor less efficient policies because these groups make up a large fraction of society. a. True b. False ANSWER: b 306. When more of the population has power, it's more likely that policies will offer something for virtually everybody. a. True b. False ANSWER: a 307. Many people are concerned about voter apathy. Use economics to explain why there is a lack of interest in voting and politics. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: Voters have an incentive to be ignorant. When acquiring information about candidates, the benefits of the information may be less than the costs of its acquisition, which means it is rational to be ignorant. An informed voter is no more likely to change an election outcome than an uninformed voter. Furthermore, casting a vote is likely to have little effect on whether a particular candidate wins, so a voter may even choose not to vote. 308. Why do people tend to be rationally ignorant about presidential candidates? ANSWER: The process of understanding the electoral system, understanding the candidates' platforms, and critically assessing the candidates' policies ends up being too costly for the voter, especially in terms of the time requirements. Moreover, voters may think that individual votes do not count. 309. If policies like sugar quotas and tariffs have benefits that are concentrated among few people, why do taxpayers who pay for the costs of these policies remain rationally ignorant? ANSWER: Because the costs are diffused among a very large number of taxpayers, the cost of opposing the policy would be prohibitive for a single individual. Thus, taxpayers remain rationally ignorant. 310. Is saying that a voter is rationally ignorant the same thing as saying the voter is irrational? ANSWER: No, rational ignorance and irrationality are not the same. To be irrational is to not act in your own self-interest. To be rationally ignorant implies that you are acting rationally by being uninformed. In this case, the costs of being informed exceed the benefits of becoming informed. 311. Explain why economists say that voters are rationally ignorant about politics. ANSWER: The incentives for voters to be informed are low because the payoff of being informed is low. That is, studying position papers, examining voting histories, and listening to political speeches are sometimes entertaining activities, but they don’t offer much concrete return. Even when studying changes your vote, your vote is very unlikely to change the outcome of the election. Accordingly, studying politics doesn't pay because the outcome of any election is mostly determined by what other people do, not by what you do. 312. Briefly specify the three reasons why ignorance about political matters is important. ANSWER: 1. If voters are not well informed, then it is difficult for them to make informed choices. 2. Voters who are rationally ignorant often make decisions for irrational reasons. 3. Rational ignorance matters because not everyone is rationally ignorant. 313. Explain how politicians can use the concept of rational ignorance to their benefit. ANSWER: Consider the example of the sugar quota given in the textbook. When politicians are aware that the cost of a policy such as a quota translates into a minimal cost per consumer, they can enact such a policy and get support from sugar producers in return. The textbook has ample evidence of the contributions made by sugar producers to various politicians. 314. If consumers are hurt by quotas and tariffs such as the sugar quota, why do they remain rationally ignorant about these policies? ANSWER: Although the sugar quota costs consumers more than a billion dollars, these costs are spread over millions of consumers, and thus each consumer bears only a small cost. The benefit of protesting against the quota does not outweigh the cost of such a protest (in terms of time, money, and effort), so many consumers are not aware that the quota exists. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 315. Why are incentives so important in the decision to remain rationally ignorant about something? ANSWER: Consumers will engage in an activity if there is a benefit to them that outweighs the cost of engaging in that activity. A voter may not think his or her vote is particularly important, so he or she may not bother to acquire knowledge of the voting system or the agendas of the candidates. Similarly, a taxpayer will not undertake the effort of fighting against a sugar quota because the cost to him or her of the protest (in terms of time, money, and effort) will outweigh the benefit. Moreover, to topple the sugar quota would require the concerted efforts of not just one or two, but millions, of taxpayers. 316. Suppose you are in the middle of your senior year at school. An election comes up for the new student representatives to the school senate. The candidates are mostly sophomores. If elected, these students will have powerful votes in the senate on matters that affect the student body. Do you have an incentive to be rationally informed? ANSWER: Chances are that you will remain rationally ignorant about the candidates and their platforms, because you are graduating in a short time and the policies enacted by the new student representatives will not have any effect on you. 317. How are rational ignorance, special interest groups, and economic inefficiency related? ANSWER: If the benefits of a piece of proposed legislation are highly concentrated among a small number of people, these people will likely lobby the government for the passage of the legislation. However, if the costs of the legislation are diffused over millions of people, many people will not find it worthwhile to get informed and oppose the legislation, especially if its per person costs are small. The potential opposition remains silent or rationally ignorant, which allows members of the special interest group to get their way with the politicians. Unfortunately, the benefits to the special interest group may be smaller than the social costs, creating inefficiency and making the economy worse off. 318. How do special interests affect tax policy in the United States? ANSWER: Politicians add special interest provisions that provide tax credits and deductions for various industries, for example, manufacturing industries such as oil and gas drilling, as well as mining and timber. 319. Part of the American Recovery and Reinvestment Act allocated $3.8 million in stimulus funds to build an artwork project in Rochester, New York. Funds were included for building decorative sidewalks, art in the sidewalks, interactive plazas with private art, and other amenities. Was this an efficient use of government funds? (Be sure to explain what an efficient use of funds would entail.) Why did more people not oppose funding this project? ANSWER: For this to be an efficient use of government funds, the benefits of the project must outweigh the costs. It seems unlikely that the benefits of putting art on the sidewalks will generate more than $3.8 million dollars in benefits, thus making this an inefficient use of government funds. Most people, however, probably did not even know that this was part of the stimulus funding because the average cost to each citizen was slightly more than $0.01 ($3.8 million/311 million U.S. population). Therefore, citizens in Rochester would have a large incentive to lobby FOR this project, but everyone else would have a very small incentive to lobby AGAINST the project. 320. Explain the formula for political success. Provide an example. Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 ANSWER: Diffused costs and concentrated benefits is the key formula for political success. For instance, the costs of the sugar quota are diffused over millions of consumers, so no consumer has much of an incentive to oppose the quota. But the benefits of the quota are concentrated on a handful of producers; they have strong incentives to support the quota. So the sugar quota is a winning policy for politicians. 321. How are elections correlated to economic business cycles in the United States? ANSWER: In the United States, political cycles correspond to business cycles. If the economy is doing well, voters tend to vote for the incumbent. If the economy is not doing well, they tend to vote for the opposing party. This formula seems to work regardless of the candidates' personalities and political agendas. 322. Do “good politics” and “good economics” always coincide? Explain why or why not. ANSWER: We know that voters respond to economic conditions; however, we also know that they are myopic in that they tend to vote based on current economic conditions, not past or future economic conditions. Therefore, politicians tend to focus on what is close at hand, namely, economic conditions in the election year. Politicians who want to be reelected will do whatever they can to increase household income in the current year, many times at the expense of good economic policies for the future. 323. Explain why candidates with extreme views do not tend to get elected. What economic theorem is this most closely tied to? ANSWER: The median voter theorem says that voters tend to vote for candidates closest to their own preferences. Candidates with extreme views tend to be positioned at either end of the political spectrum, that is, positioned far away from the views of the median voter. 324. Explain the assumptions behind the median voter theorem. In which cases will the median voter theorem NOT apply? ANSWER: The median voter theorem is constructed under the assumptions that (1) voters will vote for the policy that is closest to their ideal preference and (2) there is just one major dimension over which voting takes place. In reality, neither of these may hold, in which case the median voter theorem may not apply. 325. Figure: Median Voter 3
Suppose this figure represents defense spending preferences for seven voters and two candidates. Which candidate is more likely to win the election and why? If the losing candidate knows these preferences BEFORE the election, will that candidate be likely to change his or her public stance on defense spending? How? ANSWER: Candidate A is most likely to win the election because she comes closest to the preferences of the median voter, Tina. If candidate B knew these preferences before the election, he would choose to at Copyright Macmillan Learning. Powered by Cognero.
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Chapter 21 least publicly favor less defense spending, to be more in line with the median voter. 326. Explain why political candidates—even those from different parties—seem to have very similar viewpoints on important political issues such as Medicare, Social Security, and education spending. ANSWER: Candidates realize that the candidate with preferences most like those of the median voter will win the election. Therefore, every candidate in the election has the incentive to display his or her preferences as being in line with the median voter. Of course, not every candidate has perfect information regarding all voters' preferences, but through surveys, polls, and so forth, most have a good idea of the average preference of voters. This is why political candidates seem to have many of the same viewpoints on important political issues—they are all trying to match the preferences of the median voter. 327. Explain why there may be a bicausal (causation in both directions) relationship between democracy and wealth. ANSWER: Greater wealth means that people demand more than just the satisfaction of basic wants. They begin to desire more cerebral satisfaction (consider Maslow's Hierarchy of Needs), so they desire to participate in the voting process. This increase in GDP per capita therefore leads to greater democracy. On other hand, greater democracy leads to the establishment of more freely functioning markets where producers can produce goods in a more competitive manner. This leads to higher GDP and thus higher GDP per capita. 328. Nobel Prize–winning economist Amartya Sen indicated that hunger is caused by a lack of exchange entitlements. In other words, food may be plentiful but people starve because they are unable to access it. Can you explain how this is possible even if markets are well functioning? ANSWER: A lack of economic power, especially if coupled with inflation, can lead to such starvation. Recall the example of Bangladesh from the textbook, where poor farmers who could not work because their land was flooded lost their incomes, and this coupled with inflation caused them to starve even when sufficient food to feed them was present in the country. In addition, the farmers' lack of political power meant that the wealthy people then running Bangladesh were not compelled to avert the famine.
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