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Additional Application INFLATION-INDEXED BONDS IN THE UNITED
STATES
Are there bonds that can protect your investments from inflation? In 1997, the U.S.
Department of the Treasury created a new financial instrument called the Treasury
Inflation-Protected Security, or TIPS. The key feature of TIPS is that the payments to
investors adjust automatically to compensate for the actual changes in the Consumer
Price Index. Therefore, TIPS provide protection to investors from inflation. Like other
government bonds, TIPS make interest payments every six months and a payment of
the original principal when the bond matures. However, unlike other Treasury bonds,
these payments are automatically adjusted for changes in inflation. Despite their
obvious attractions, the market for TIPS is still rather small. As of 2005, there were
about $200 billion in TIPS outstanding, compared to a total volume of about $4 trillion
($4,000 billion) total Treasury obligations. Because TIPS compensate for actual
inflation, the interest rate on these bonds differs from conventional bonds by the
expected inflation rate. By comparing the interest rates on TIPS to other government
bonds of similar maturity, economists can estimate the public's expectations of inflation.
SOURCE: Simon Kwan, "Inflation Expectations: How the Market Speaks," Federal
Reserve Bank of San Francisco Economic Letter, October 7, 2005. According to the
application, an investor would find TIPS most advantageous if:
A) the economy experiences large fluctuations in the inflation rate.
B) the economy experiences small large fluctuations in the inflation rate.
C) the economy experiences large fluctuations in the unemployment rate.
D) the economy experiences small fluctuations in the unemployment rate.
All else equal, if workers confuse real and nominal magnitudes, they are experiencing
A) expectations of inflation.
B) money illusion.
C) monetary confusion.
D) fiscal policy.
Scenario 1: Imagine that an economy produces two goods, flashlights and fishing lures.
In 2011, the economy produced 70 flashlights and 40 fishing lures, and the prices of
flashlights and fishing lures were $5 and $12, respectively. In 2012, the economy
produced 85 flashlights and 50 fishing lures, and the prices of flashlights and fishing
lures were $7 and $15, respectively.Based on the information in Scenario 1, real GDP
grew by about ________ percent from 2011 to 2012.
A) 23
B) 31
C) 62
D) 162
Recall the Application about the behavior of prices in retail catalogs to answer the
following question(s). Economist Anil Kashyap of the University of Chicago examined
the prices of 12 selected goods from L.L. Bean, REI, and The Orvis Company, Inc.
Kashyap tracked the prices from the companies' catalogs which were reissued every six
months.According to this Application, the prices which were tracked in the retail
catalogs exemplified the macroeconomic concept of the short run, a period of time in
which
A) price changes are significant because the aggregate supply curve is vertical.
B) prices never change because the aggregate demand curve is vertical.
C) prices change frequently because of changes in aggregate supply.
D) prices don't change very much, implying that the aggregate supply curve is relatively
flat.
Figure 18.1 Refer to Figure 18.1. The opportunity cost of producing umbrellas in
Duckland is:
A) 6/5 sunglasses.
B) 2/3 sunglasses.
C) 5/6 sunglasses.
D) 3/2 sunglasses.
An increase in the discount rate will
A) decrease the money supply.
B) not affect the money supply.
C) increase the money supply.
D) have an unclear effect on the money supply.
Recall Application 1, "Measuring Price Stickiness in Consumer Markets," to answer the
following questions:
According to the application, Bils and Klenow found that between 1995-1997, prices in
more than half of the 350 goods that they were studying showed frequent price changes.
This finding was contrary to Kashyap's finding because:
A) the inflation during that period was low.
B) the economy during that time was in a recession.
C) unemployment rates during that time were rising.
D) custom auction prices.
Figure 14.1 Refer to Figure 14.1. A movement from Point A to Point B can be caused
by:
A) a decrease in income.
B) an increase in the price level.
C) a decrease in the interest rate.
D) an increase in the price of bonds.
Recall the Application about how society will cope with increased demands for
entitlement programs to answer the following question(s). This Application addresses
the impact of increasing life expectancy and aging populations on the costs of
government entitlement programs such as Social Security, Medicare and Medicaid, and
examines several possible solutions to the potential problem.
According to this Application, one strategy proposed to deal with the rising expenses of
government entitlement programs is for the government to save and invest now so as to
reduce the burden on future generations. This strategy would
A) increase GDP, and entitlement programs would increase along with GDP.
B) increase GDP and entitlement programs would decrease.
C) increase GDP and eliminate entitlement programs.
D) not change GDP, but shrink entitlement programs.
The prices of the products in the World War II POW camps, measured in terms of
cigarettes, reflected the products'
A) costs of production.
B) retail prices.
C) practicality.
D) scarcity.
The Phillips curve was first discovered by ________ while the expectations Phillips
curve was first observed by ________.
A) A.W. Phillips, Samuelson and Solow.
B) A.W. Phillips, Milton Friedman
C) A.W. Phillips, A.W. Phillips.
D) Keynes, A. W. Phillips.
