Money Growth and Inflation 7469
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.
7470 Money Growth and Inflation
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
Money Growth and Inflation 7471
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.
7472 Money Growth and Inflation
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.
Money Growth and Inflation 7473
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.
7474 Money Growth and Inflation
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
Money Growth and Inflation 7475
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.
7476 Money Growth and Inflation
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.
Money Growth and Inflation 7477
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.
7478 Money Growth and Inflation
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.
Money Growth and Inflation 7479
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.
7480 Money Growth and Inflation
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.
Money Growth and Inflation 7481
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.
7482 Money Growth and Inflation
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.
Money Growth and Inflation 7483
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.
7484 Money Growth and Inflation
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.
Money Growth and Inflation 7485
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.
7486 Money Growth and Inflation
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
b. 5.4 percent
c. 7.2 percent
d. 4.2 percent.
53. You put money into an account that earns an 8 percent nominal interest rate. The inflation rate is
5 percent, and your marginal tax rate is 10 percent. What is your after-tax real rate of interest?
a. 2.2 percent
b. 2.7 percent
c. 11.7 percent
d. 7.7 percent
Money Growth and Inflation 7487
54. Given a nominal interest rate of 8 percent, in which of the following cases would you earn the
highest after-tax real interest rate?
a. Inflation is 5 percent; the tax rate is 40 percent.
b. Inflation is 4 percent; the tax rate is 30 percent.
c. Inflation is 3 percent; the tax rate is 45 percent.
d. Inflation is 2 percent; the tax rate is 50 percent.
55. Given a nominal interest rate of 6 percent, in which of the following cases would you earn the
highest after-tax real rate of interest?
a. Inflation is 3 percent; the tax rate is 25 percent.
b. Inflation is 1 percent; the tax rate is 50 percent.
c. Inflation is 1 percent; the tax rate is 55 percent.
d. Inflation is 4 percent; the tax rate is 10 percent.
7488 Money Growth and Inflation
56. Given a nominal interest rate of 6 percent, in which of the following cases would you earn the
highest after-tax real rate of interest?
a. Inflation is 2.5 percent; the tax rate is 25 percent.
b. Inflation is 3 percent; the tax rate is 20 percent.
c. Inflation is 2 percent; the tax rate is 30 percent.
d. The after-tax real interest rate is the same for all of the above.
57. Given a nominal interest rate of 6 percent, in which of the following cases would you earn the
lowest after-tax real rate of interest?
a. Inflation is 4 percent; the tax rate is 5 percent.
b. Inflation is 3 percent; the tax rate is 20 percent.
c. Inflation is 2 percent; the tax rate is 30 percent.
d. The after-tax real interest rate is the same for all of the above.