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Exam 16: Expectations Theory and the Economy

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Question 1

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If stagflation is present the short-run Phillips curve is vertical.

A) True
B) False

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Question 2

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New classical economists believe that it is possible under certain circumstances for an increase in the money supply to lead to a decrease in Real GDP in the short run.

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B) False

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Question 3

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In what ways does the original Phillips curve differ from the Phillips curve created by economists Samuelson and Solow? What conclusions did economists draw based on the findings of Phillips, Samuelson and Solow?

Exhibit 16-2 -Refer to Exhibit 16-2. Suppose the economy starts out at point A and the public correctly anticipates that the AD curve will shift from AD₁ to AD₂. If wages are temporarily fixed, SRAS₁ will __________ and the economy will end up at point __________.

According to new classical theory, if policy is correctly anticipated, expectations are formed rationally, and wages and prices are fully flexible, then an increase in aggregate demand will change Real GDP, but not the price level.

Exhibit 16-2 -Refer to Exhibit 16-2. Suppose the economy starts at point B. Fed monetary policy shifts the AD curve to AD₁. If policy is correctly anticipated and people hold rational expectations, according to new classical theory the economy in the short run will

Exhibit 16-3 -Refer to Exhibit 16-3. The economy is at point A. According to the Friedman natural rate theory, in the long run after a rise in the money supply, the economy will be at point

According to real business cycle theorists, if the long-run aggregate supply (LRAS) curve shifts to the left, Real GDP __________, the price level __________, the demand for labor __________, money wages __________, real wages __________, and workers choose to work __________.

Exhibit 16-7 -Refer to Exhibit 16-7. Assume that the starting point is point 1. Suppose that the Fed implements expansionary monetary policy that raises aggregate demand. Which of the following best goes with the diagram shown?

The original (1958) Phillips curve

Exhibit 16-11 -Refer to Exhibit 16-11. Assume that the starting point is point 1. Suppose that there is a supply-side change capable of reducing the capacity of the economy to produce. Which of the following best goes with the diagram shown?

The simultaneous occurrence of high inflation and high unemployment is called

Real business cycle theory emphasizes that an adverse supply shock will shift the LRAS curve leftward and cause a decline in Real GDP.

As the price level falls, real wage ____________and people choose to work ___________.

Suppose that the Fed expects to increase the money supply by $54 billion, but economic agents expect that the increase will be closer to $81 billion. Using rational expectations theory, the result will be ______________ Real GDP and a ________________ price level.

A person's real wage will fall if the

Exhibit 16-2 -Refer to Exhibit 16-2. The Policy Ineffectiveness Proposition could be illustrated by a movement between points A and

The expected inflation rate is equal to the actual inflation rate. According to the (Friedman) natural rate theory, the economy is

A.W. Phillips collected data on the rate of change in money wages and plotted it against unemployment rates in the United Kingdom. The curve he fit to the data showed that

Suppose that the Fed implements expansionary monetary policy that raises aggregate demand, but individuals incorrectly anticipate the policy measure (bias downward) . According to new classical theory, in the short run the price level would ____________ and Real GDP would ______________. In the long run, new classical theory would predict that the price level would ___________compared to its original long-run equilibrium level and that Real GDP would ____________.