112. If Congress increases taxes to balance the federal budget, then to prevent unemployment and a
recession the Fed will
a. reduce interest rates by increasing the money supply.
b. increase interest rates by decreasing the money supply.
c. increase interest rates by increasing the money supply.
d. reduce interest rates by decreasing the money supply.
113. An increase in government spending shifts aggregate demand
a. to the right. The larger the multiplier is, the farther it shifts.
b. to the right. The larger the multiplier is, the less it shifts.
c. to the left. The larger the multiplier is, the farther it shifts.
d. to the left. The larger the multiplier is, the less it shifts.
114. When government expenditures increase, the interest rate
a. increases, making the change in aggregate demand larger.
b. increases, making the change in aggregate demand smaller
c. decreases, making the change in aggregate demand larger.
d. decreases, making the change in aggregate demand smaller.
115. When taxes increase, the interest rate
a. increases, making the change in aggregate demand larger.
b. increases, making the change in aggregate demand smaller
c. decreases, making the change in aggregate demand larger.
d. decreases, making the change in aggregate demand smaller.
116. In 2009 President Obama and Congress increased government spending. Some economists
thought this increase would have little effect on output. Which of the following would make the
effect of an increase in government expenditures on aggregate demand smaller?
a. the interest rate falls and aggregate supply is relatively flat
b. the interest rate falls and aggregate supply is relatively steep
c. the interest rate rises and aggregate supply is relatively flat
d. the interest rate rises and aggregate supply is relatively steep
117. In 2009 President Obama and Congress increased government spending. Some economists
thought this increase would have little effect on output. Which of the following would make the
effect of an increase in government expenditures on aggregate demand smaller?
a. the MPC is small and changes in the interest rate have a small effect on investment
b. the MPC is small and changes in the interest rate have a large effect on investment
c. the MPC is large and changes in the interest rate have a small effect on investment
d. the MPC is large and changes in the interest rate have a large effect on investment
118. Which of the following effects results from the change in the interest rate created by an increase
in government spending?
a. the investment accelerator and crowding out
b. the investment accelerator but not crowding out
c. crowding out but not the investment accelerator
d. neither crowding out nor the investment accelerator
119. Which of the following are effects of an increase in government spending financed by a tax
increase?
a. the tax increase reduces consumption; the change in the interest rate reduces residential
construction
b. the tax increase reduces consumption; the change in the interest rate raises residential
construction
c. the tax increase raises consumption; the change in the interest rate reduces residential
construction
d. the tax increase raises consumption; the change in the interest rate reduces residential
construction
120. There is an increase in government expenditures financed by taxes and its overall short-run
effect on output is larger than the change in government spending. Which of the following is
correct?
a. By themselves, both the change in output and the change in the interest rate increase desired
investment.
b. By themselves, both the change in output and the change in the interest rate decrease desired
investment.
c. By itself, the change in output increases desired investment spending and by itself the change
in the interest rate decreases desired investment spending.
d. By itself, the change in output decreases desired investment spending and by itself the change
in the interest rate increases desired investment spending.
121. The government increases both its expenditures and taxes by $400 billion. There is no crowding
out and no accelerator effect. Aggregate demand shifts by $400 billion. Which of the following is
consistent with how far aggregate demand shifts?
a. MPC = 1/2, and the effects of the increase in taxes is 1/2 as strong as the change in
government expenditures.
b. MPC = 2/3, and the effects of the increase in taxes is 2/3 as strong as the change in
government expenditures
c. MPC = 3/4, and the effects of the increase in taxes is 3/4 as strong as the change in
government expenditures
d. All of the above are correct.
122. Assume that there is no accelerator affect. The MPC = 3/4. The government increases both
expenditures and taxes by $600. The effect of taxes on aggregate demand is 3/4 the size of that
created by government expenditures alone. The crowding out effect is 1/5 as strong as the
combined effect of government expenditures and taxes on aggregate demand. How much does
aggregate demand shift by?
a. $1480
b. $480
c. $160
d. None of the above is correct.
123. Assume the following.
• The MPC has a value of 0.8.
• The relationship between the interest rate, r, and investment, I, is given by the equation,
I = 20,000 – br,
where b is a positive constant.
• Government purchases, G, are increased by $1,000.
In which of the following cases would there be no crowding out?
a. b = 0
b. b = 0.2
c. b = 0.8
d. b = 1
Multiple Choice – Section 03: Using Policy to Stabilize the Economy
1. The Employment Act of 1946 states that
a. the Fed should use monetary policy only to control the rate of inflation.
b. the government should promote full employment and production.
c. the government should periodically increase the minimum wage and unemployment insurance
benefits.
d. All of the above are correct.
2. The Employment Act of 1946
a. implies that the government should avoid being a cause of economic fluctuations.
b. implies that the government should respond to changes in the private economy to stabilize
aggregate demand.
c. reflected the ideas promoted in Keynes’s influential book, The General Theory of
Employment, Interest, and Money.
d. All of the above are correct
3. Keynes argued that aggregate demand is
a. stable, because the economy tends to return to its long–run equilibrium quickly after any
disturbance to aggregate demand.
b. stable, because changes in consumption are mostly offset by changes in investment and vice
versa.
c. unstable, because waves of pessimism and optimism create fluctuations in aggregate demand.
d. unstable, because of long and variable policy lags that worsen economic fluctuations.
4. Keynes argued that
a. irrational waves of pessimism cause decreases in aggregate demand and increases in
unemployment.
b. irrational waves of optimism cause decreases in aggregate demand and decreases in aggregate
supply.
c. changes in business and consumer expectations generally stabilize the economy.
d. All of the above are correct.
5. Keynes used the term “animal spirits” to refer to
a. policy makers harming the economy in the pursuit of self interest.
b. arbitrary changes in attitudes of household and firms.
c. mean-spirited economists who believed in the classical dichotomy.
d. firms‘ relentless efforts to maximize profits.
6. Who asserted that “the Federal Reserve’s job is to take away the punch bowl just as the party gets
going?”
a. president George W. Bush
b. president John F. Kennedy
c. economist John Maynard Keynes
d. former chairman of the Federal Reserve System William McChesney Martin
7. Which U.S. president, when asked why he had proposed a tax cut, responded by saying “To
stimulate the economy. Don’t you remember your Economics 101?”
a. Dwight D. Eisenhower
b. John F. Kennedy
c. Ronald Reagan
d. Bill Clinton
8. In the early 1960s, the Kennedy administration made considerable use of
a. fiscal policy to stimulate the economy.
b. fiscal policy to slow down the economy.
c. monetary policy to stimulate the economy.
d. monetary policy to slow down the economy.
9. The Kennedy tax cut of 1964 was
a. successful in stimulating the economy.
b. designed to shift the aggregate demand curve to the right.
c. designed to shift the aggregate supply curve to the right.
d. All of the above are correct.
10. The Kennedy tax cut of 1964 included an investment tax credit that was designed to
a. increase aggregate demand in the short run and aggregate supply in the long run.
b. increase aggregate supply in the short run and aggregate demand in the long run.
c. only increase aggregate supply in the long run.
d. only increase aggregate demand in the short run.
11. In 1961, President John F. Kennedy, acting upon advice from his economists, proposed tax cuts.
The advice he received
a. was opposed to the teaching of Keynes, who had taught that tax cuts were counterproductive.
b. was opposed to the teaching of Keynes, who had taught that all attempts to stabilize the
economy were futile.
c. came from economists who had studied Keynes’s ideas when those ideas were only a few
years old.
d. came from economists who were unaware of Keynes’s ideas because those ideas had not yet
been widely disseminated at that time.
12. Monetary policy
a. can be implemented quickly and most of its impact on aggregate demand occurs very soon after
policy is implemented.
b. can be implemented quickly, but most of its impact on aggregate demand occurs months after
policy is implemented.
c. cannot be implemented quickly, but once implemented most of its impact on aggregate demand
occurs very soon afterward.
d. cannot be implemented quickly and most of its impact on aggregate demand occurs months
after policy is implemented.
13. If businesses and consumers become pessimistic, the Federal Reserve can attempt to reduce the
impact on the price level and real GDP by
a. increasing the money supply, which raises interest rates.
b. increasing the money supply, which lowers interest rates.
c. decreasing the money supply, which raises interest rates.
d. decreasing the money supply, which lowers interest rates.
14. Suppose that businesses and consumers become much more optimistic about the future of the
economy. To stabilize output, the Federal Reserve could
a. buy bonds to raise interest rates.
b. buy bonds to lower interest rates.
c. sell bonds to raise interest rates.
d. sell bonds to lower interest rates.
15. Suppose there were a large decline in net exports. If the Fed wanted to stabilize output, it could
a. buy bonds to raise interest rates.
b. buy bonds to lower interest rates.
c. sell bonds to raise interest rates.
d. sell bonds to lower interest rates.
16. Suppose there was a large increase in net exports. If the Fed wanted to stabilize output, it could
a. increase the money supply, which will reduce interest rates.
b. decrease the money supply, which will reduce interest rates.
c. increase the money supply, which will increase interest rates.
d. decrease the money supply, which will increase interest rates.
17. Suppose there is an increase in government spending. To stabilize output, the Federal Reserve
would
a. increase government spending.
b. increase the money supply.
c. decrease government spending.
d. decrease the money supply.
18. Suppose there is a tax increase. To stabilize output, the Federal Reserve will
a. increase government spending.
b. increase the money supply.
c. decrease government spending.
d. decrease the money supply.
19. Suppose an increase in interest rates causes rising unemployment and falling output. To counter
this, the Federal Reserve would
a. increase government spending.
b. increase the money supply.
c. decrease government spending.
d. decrease the money supply.
20. Suppose households attempt to increase their money holdings. To stabilize output by countering
this increase in money demand, the Federal Reserve would
a. increase government spending.
b. increase the money supply.
c. decrease government spending.
d. decrease the money supply.
21. Suppose households attempt to decrease their money holdings. To counter this decrease in money
demand and stabilize output, the Federal Reserve will
a. increase government spending.
b. increase the money supply.
c. decrease government spending.
d. decrease the money supply.
22. A reduction in U.S net exports would shift U.S. aggregate demand
a. rightward. In an attempt to stabilize the economy, the government could increase expenditures.
b. rightward. In an attempt to stabilize the economy, the government could decrease expenditures.
c. leftward. In an attempt to stabilize the economy, the government could increase expenditures.
d. leftward. In an attempt to stabilize the economy, the government could decrease expenditures.
23. What actions could be taken to stabilize output in response to a large decrease in U.S. net
exports?
a. increase taxes or increase the money supply
b. increase taxes or decrease the money supply
c. decrease taxes or increase the money supply
d. decrease taxes or decrease the money supply
24. The price of imported oil rises. If the government wanted to stabilize output, which of the
following could it do?
a. increase government expenditures or increase the money supply
b. increase government expenditures or decrease the money supply
c. decrease government expenditures or increase the money supply
d. decrease government expenditures or decrease the money supply
25. Suppose aggregate demand shifts to the left and policymakers want to stabilize output. What can
they do?
a. repeal an investment tax credit or increase the money supply
b. repeal an investment tax credit or decrease the money supply
c. institute an investment tax credit or increase the money supply
d. institute an investment tax credit or decrease the money supply
26. Which of the following policy alternatives would be an appropriate response to a sharp increase in
investment spending, assuming policymakers want to stabilize output?
a. increase taxes
b. increase the money supply
c. increase government expenditures
d. All of the above are correct.
27. Which of the following policies would be advocated by someone who wants the government to
follow an active stabilization policy when the economy is experiencing severe unemployment?
a. decrease the money supply
b. increase government expenditures
c. increase taxes
d. All of the above are correct.
28. Which of the following policies would Keynes’s followers support when an increase in business
optimism shifts the aggregate demand curve away from long–run equilibrium?
a. increase taxes
b. increase government expenditures
c. increase the money supply
d. All of the above are correct.
29. Which of the following policies would be advocated by proponents of stabilization policy when the
economy is experiencing severe unemployment?
a. a decrease in the money supply
b. an increase in tax rates
c. an increase in government purchases
d. an increase in interest rates.
30. A policy that results in slow and steady growth of the money supply is an example of
a. an “easy” monetary policy.
b. a “passive” monetary policy.
c. a “practical” monetary policy.
d. an “active” monetary policy.