1. In the 1970s, the U.S. inflation rate reached about
a.
7 percent per year.
b.
10 percent per year.
c.
14 percent per year.
d.
20 percent per year.
2. Studies have found which of the following economic terms mentioned most often in U.S. newspapers?
a.
Unemployment
b.
Productivity
c.
Inflation
d.
Monetary policy
3. The idea that inflation by itself reduces people’s purchasing power is called
a.
b.
c.
d.
4. Which of the following helps to explain why the inflation fallacy is a fallacy?
a.
Increases in the price level can be created by increases in money demand.
b.
Nominal incomes tend to rise at the same time that the price level is rising.
c.
As the price level rises, the value of a dollar falls.
d.
Inflation only changes nominal variables.
5. Which of the following statements about inflation is correct?
a.
Evidence from studies indicates that, in U.S. newspapers, inflation is mentioned less frequently than other
economic terms, such as unemployment and productivity.
b.
People believe the inflation fallacy because they tend to believe too strongly in the principle of monetary
neutrality.
c.
Nominal incomes are determined by nominal factors; they are not affected by real factors.
d.
Inflation does not in itself reduce people’s real purchasing power.
6. Norma complains that she is not receiving the full benefit of her six percent raise, because inflation is two percent. You
tell her that nominal incomes tend to rise with inflation, therefore
a.
she really is worse off.
b.
her real income increased eight percent.
c.
menu costs have reduced her purchasing power.
d.
she is committing the inflation fallacy.
7. Norma receives an increase in her nominal income. She complains that the current inflation rate of six percent erodes
the real purchasing power of her additional nominal income. This is true
a.
only if the increase in her nominal income is less than six percent.
b.
only if the increase in her nominal income is more than six percent.
c.
since inflation always reduces purchasing power.
d.
only if her real income increases.
8. When Haley states that inflation by itself always reduces the real return on her saving, she
a.
has expressed the idea of the inflation tax.
b.
has expressed the idea behind menu costs.
c.
has committed the inflation fallacy.
d.
has expressed the idea behind shoeleather costs.
9. The inflation tax
a.
transfers wealth from the government to households.
b.
is the increase in real income taxes due to lack of indexation in income tax rules.
c.
is a tax on everyone who holds money.
d.
All of the above are correct.
10. People can reduce the inflation tax by
a.
reducing savings.
b.
increasing deductions on their income tax.
c.
reducing cash holdings.
d.
None of the above is correct.
11. Shoeleather costs arise when higher inflation rates induce people to
a.
spend more time looking for bargains.
b.
spend less time looking for bargains.
c.
hold more money.
d.
hold less money.
12. The shoeleather cost of inflation refers to
a.
the redistributional effects of unexpected inflation.
b.
the time spent searching for low prices when inflation rises.
c.
the waste of resources used to maintain lower money holdings.
d.
the increased cost to the government of printing more money.
13. Shoeleather cost refers to
a.
the cost of more frequent price changes induced by higher inflation.
b.
the distortion in resource allocation created by distortions in relative prices due to inflation.
c.
resources used to maintain lower money holdings when inflation is high.
d.
the tendency to expend more effort searching for the lowest price when inflation is high.
14. When inflation rises, people will desire to hold
a.
less money and will go to the bank less frequently.
b.
less money and will go to the bank more frequently.
c.
more money and will go to the bank less frequently.
d.
more money and will go to the bank more frequently.
15. When inflation rises, people tend to go to the bank
a.
more often, giving rise to menu costs.
b.
more often, giving rise to shoeleather costs.
c.
less often, giving rise to redistribution costs.
d.
less often, thereby lessening the severity of the inflation tax.
16. When inflation rises, the nominal interest rate
a.
rises, and people desire to hold more money.
b.
rises, and people desire to hold less money.
c.
falls, and people desire to hold more money.
d.
falls, and people desire to hold less money
17. People go to the bank more frequently to reduce currency holdings when inflation is high. The sacrifice of time and
convenience that is involved in doing that is referred to as
a.
inflation-induced tax distortion.
b.
relative-price-variability cost.
c.
shoeleather cost.
d.
menu cost.
18. Which of the following is an example of menu costs?
a.
deciding on new prices
b.
printing new price lists
c.
advertising new prices
d.
All of the above are examples of menu costs.
19. When inflation rises, firms make
a.
more frequent price changes. This raises their menu costs.
b.
more frequent price changes. This reduces their menu costs.
c.
less frequent price changes. This raises their menu costs.
d.
less frequent price changes. This reduces their menu costs.
20. The costs of changing price tags and price listings are known as
a.
inflation-induced tax distortions.
b.
relative-price variability costs.
c.
shoeleather costs.
d.
menu costs.
21. Menu costs refers to
a.
resources used by people to maintain lower money holdings when inflation is high.
b.
resources used to price shop during times of high inflation.
c.
the distortion in incentives created by inflation when taxes do not adjust for inflation.
d.
the cost of more frequent price changes induced by higher inflation.
22. The idea of menu costs suggests that
a.
firms alter prices less frequently as inflation increases.
b.
firms alter prices more frequently as inflation increases.
c.
firms always alter prices when costs increase.
d.
firms alter prices as interest rates rise.
23. When inflation rises, people
a.
make less frequent trips to the bank and firms make less frequent price changes.
b.
make less frequent trips to the bank while firms make more frequent price changes.
c.
make more frequent trips to the bank while firms make less frequent price changes.
d.
make more frequent trips to the bank and firms make more frequent price changes.
24. When inflation falls, people
a.
make less frequent trips to the bank and firms make less frequent price changes.
b.
make less frequent trips to the bank while firms make more frequent price changes.
c.
make more frequent trips to the bank while firms make less frequent price changes.
d.
make more frequent trips to the bank and firms make more frequent price changes.
25. You observe people going to the bank more frequently. Other things the same, this could result from
a.
an increase in inflation which increases money demand.
b.
an increase in inflation which reduces money demand.
c.
a decrease in inflation which increases money demand.
d.
a decrease in inflation which reduces money demand.
26. Which of the following are costs incurred by people trying to protect themselves from the effects of inflation?
a.
menu costs and shoeleather costs
b.
menu costs but not shoeleather costs
c.
shoeleather costs but not menu costs
d.
menu costs but not shoeleather costs
27. Market economies rely on which of the following to allocate scarce resources?
a.
government
b.
consumers
c.
relative prices
d.
real interest rates
28. If there is inflation, then a firm that has kept its price fixed for some time will have a
a.
high relative price. Relative-price variability rises as the inflation rate rises.
b.
high relative price. Relative-price variability falls as the inflation rate rises.
c.
low relative price. Relative-price variability rises as the inflation rate rises.
d.
low relative price. Relative-price variability falls as the inflation rate rises.
29. Relative-price variability
a.
rises with inflation, leading to an improved allocation of resources.
b.
rises with inflation, leading to a misallocation of resources.
c.
falls with inflation, leading to an improved allocation of resources.
d.
falls with inflation, leading to a misallocation of resources.
30. Higher inflation makes relative prices
a.
more variable, making it more likely that resources will be allocated to their best use.
b.
more variable, making it less likely that resources will be allocated to their best use.
c.
less variable, making it more likely that resources will be allocated to their best use.
d.
less variable, making it less likely that resources will be allocated to their best use.
31. When inflation causes relative-price variability,
a.
consumer decisions are distorted and the ability of markets to efficiently allocate factors of production is
impaired.
b.
consumer decisions are distorted, but markets are still able to efficiently allocate factors of production.
c.
consumer decisions are not distorted, but the ability of markets to efficiently allocate factors of production is
impaired.
d.
consumer decisions are not distorted and markets are still able to efficiently allocate factors of production.
32. Relative-price variability is “automatic” when
a.
firms change prices only once in a while.
b.
firms change prices often.
c.
people increase the frequency of their trips to the bank.
d.
people decrease the frequency of their trips to the bank.
33. Higher inflation
a.
causes firms to change prices less frequently and makes relative prices less variable.
b.
causes firms to change prices less frequently and makes relative prices more variable.
c.
causes firms to change prices more frequently and makes relative prices less variable.
d.
causes firms to change prices more frequently and makes relative prices more variable.
34. A reduction in the inflation rate would make relative prices
a.
less variable, making it more likely that resources will be allocated to their best use.
b.
less variable, making it less likely that resources will be allocated to their best use.
c.
more variable, making it more likely that resources will be allocated to their best use.
d.
more variable, making it less likely that resources will be allocated to their best use.
35. Inflation is problematic if
a.
it is less than the percentage increase in nominal income.
b.
it is less than the nominal return on saving.
c.
it equals the growth rate of real GDP in the long run.
d.
it distorts relative prices, causing a misallocation of resources.
36. U.S. tax laws allow taxpayers, in computing the amount of tax they owe, to use the real value, as opposed to the
nominal value, of
a.
both interest income and capital gains.
b.
interest income but not capital gains.
c.
capital gains but not interest income.
d.
neither interest income nor capital gains.
37. In the U.S., people are required to pay taxes on
a.
nominal interest earnings, irrespective of their real interest earnings.
b.
real interest earnings, irrespective of their nominal interest earnings.
c.
real capital gains, irrespective of their nominal capital gains.
d.
All of the above are correct.
38. Which of the following are U.S. taxpayers allowed to adjust for inflation for the purpose of income taxes?
a.
both interest income and capital gains.
b.
interest income but not capital gains.
c.
capital gains but not interest income.
d.
neither interest income nor capital gains.
39. In the U.S., taxes on capital gains are computed using
a.
nominal gains. This is one way by which higher inflation discourages saving.
b.
nominal gains. This is one way by which higher inflation encourages saving.
c.
real gains. This is one way by which higher inflation discourages saving.
d.
real gains. This is one way by which higher inflation encourages saving.
40. You bought some shares of stock and, over the next year, the price per share increased by 5 percent, as did the price
level. Before taxes, you experienced
a.
both a nominal gain and a real gain, and you paid taxes on the nominal gain.
b.
both a nominal gain and a real gain, and you paid taxes only on the real gain.
c.
a nominal gain, but no real gain, and you paid taxes on the nominal gain.
d.
a nominal gain, but no real gain, and you paid no taxes on the transaction.
41. When deciding how much to save, people care most about
a.
after-tax nominal interest rates.
b.
after-tax real interest rates.
c.
before-tax real interest rates.
d.
before-tax nominal interest rates.
42. Assuming the Fisher Effect holds, and given U.S. tax laws, an increase in inflation
a.
increases the real interest rate and the after-tax real rate of interest.
b.
increases the real interest rate and the after-tax real rate of interest.
c.
does not change the real interest rate but raises the after tax real rate of interest.
d.
does not change the real interest rate but reduces the after-tax real rate of interest.
43. For a given real interest rate, an increase in inflation makes the after-tax real interest rate
a.
decrease, which encourages savings.
b.
decrease, which discourages savings.
c.
increase, which encourages savings.
d.
increase, which discourages savings.
44. For a given real interest rate, a decrease in the inflation rate would
a.
decrease the after-tax real interest rate and so decrease saving.
b.
decrease the after-tax real interest rate and so increase saving.
c.
increase the after-tax real interest rate and so decrease saving.
d.
increase the after-tax real interest rate and so increase saving.
45. The nominal interest rate is 4%, the inflation rate is 1% and the tax rate is 20%. Given U.S. tax laws, how is after-tax
real return computed?
a.
.03(1-.20)
b.
.04(1 -.20)
c.
.04(1 – .20) – .01
d.
None of the above is correct.
46. Harvey, a U.S. taxpayer, purchased 10 shares of MVC stock for $100 per share; one year later he sold the 10 shares
for $130 a share. Over the year, the price level increased from 140.0 to 147.0. What is Harvey’s before-tax real capital
gain?
a.
$1,300 – $1,000(1.05) and this is the gain he is to report on his income tax
b.
$1,300 – $1,000(1.05) but he is to report a $300 gain on his income tax
c.
$1,300 – $1,000(1.07) and this is the gain he is to report on his income tax
d.
$1,300 – $1,000(1.07) but he is to report a $300 gain on his income tax
47. You bought some shares of stock and sell them one year later. At the end of the year, the price per share was 5 percent
higher and the price level was 3 percent higher. Before taxes, you experienced
a.
both a nominal gain and a real gain, and you paid taxes on the nominal gain.
b.
both a nominal gain and a real gain, and you paid taxes only on the real gain.
c.
a nominal gain and a real loss, and you paid taxes on the nominal gain.
d.
a nominal gain and a real loss, and you paid no taxes on the transaction.
48. You put money into an account and earn an after-tax real interest rate of 2.5 percent. If the nominal interest rate on the
account is 8 percent and the inflation rate is 2 percent, then what is the tax rate?
a.
28.00 percent
b.
36.25 percent
c.
43.75 percent
d.
67.50 percent
49. You put money into an account and earn a real interest rate of 4 percent. Inflation is 2 percent, and your marginal tax
rate is 25 percent. What is your after-tax real rate of interest?
a.
1.5 percent.
b.
2.5 percent.
c.
5.0 percent.
d.
4.5 percent.
50. You put money into an account and earn a real interest rate of 5 percent. Inflation is 2 percent, and your marginal tax
rate is 35 percent. What is your after-tax real rate of interest?
a.
5.25 percent
b.
3.05 percent
c.
2.55 percent
d.
1.25 percent
51. You put money into an account that earns a 5 percent nominal interest rate. The inflation rate is 2 percent, and your
marginal tax rate is 20 percent. What is your after-tax real rate of interest?
a.
3.6 percent.
b.
2.4 percent.
c.
2.0 percent.
d.
4.4 percent.
52. You put money into an account and earn a real interest rate of 6 percent. Inflation is 3 percent, and your marginal tax
rate is 20 percent. What is your after-tax real rate of interest?
a.
4.8 percent