114.02 PRINCIPLES OF MACROECONOMICS QUIZ 1 READ INSTRUCTIONS FIRST: Clearly label all of your graphs, including axes. Show your work on all questions in order to receive partial credit. The quiz is worth a total of 100 points. Please answer each question in the assigned space, and keep your answers brief and to the point. If you require additional space for a particular question, you may use the extra page provided at the end of the quiz. Write your name, and circle your section or recitation time below. Also, return your copy of the quiz to the TA’s when you complete the test. No notes, calculators, or books may be used during the quiz. You will have 90 minutes to complete the quiz. Good luck! Name: MIT ID number: Circle your section/lecture-recitation Deep Ghosh 9 AM Deep Ghosh 11 AM Bill Kerr 1 PM Veronica Rappoport 2 PM Veronica Rappoport 3 PM Prof. Gilchrist’s lecture Andrew Healy 9 AM Andrew Healy 10 AM Andrew Healy 11 AM2 Multiple Choice (4 points each) 1. Which of the following facts cannot be used to support the claim that labor market rigidities are the cause of Europe’s higher unemployment than the United States today? a. Europe has higher minimum wages and unemployment benefits than the United States. b. Relative to the United States, European unemployment was low in the 1960s and has exceeded the US for the last two decades. c. The United States has a more dynamic labor market than Europe, with employees more frequently moving in and out of jobs. d. Europe provides higher levels of worker protection to employees. 2. If the IS curve shifts due to higher government spending, which of the following must happen? a. The Federal Reserve Board manages the interest rate to ensure that equilibrium in the money market is maintained. b. Investment rises due to the higher output level in the economy. c. Consumer spending increases. d. The tax revenues collected by the government rise. 3. The Consumer Price Index fails to take which of the following factors into account: a. Changes in the prices of foreign goods and services United States consumers use. b. The ability of consumers to substitute across goods. c. Large fluctuations in energy prices (especially oil). d. All of the above. 4. Which of the following actions will always lead to an increase in the investment level in the economy? a. The Federal Reserve Board buys more bonds through open market operations. b. The federal government reduces its defense purchases. c. The Federal Reserve Board raises the reserve ratio of banks mainly serving small businesses.3d. The federal government undertakes a consumer confidence campaign. 5. In the absence of deposit insurance, fractional reserve banking does NOT imply which of the following? a. A more stable banking system. b. A larger supply of money than the currency circulating in the economy. c. A lower velocity of money for a given output level. d. All of the above. 6. An expansionary open market operation a. decreases the interest rate and the price of bonds, and increases the price of stocks b. increases the interest rate and decreases both the price of bonds and stocks. c. decreases the interest rate, and increases both the price of bonds and stocks d. decreases the interest rate and the price of stocks, and increases the price of bonds. 7. Assume I = b0 –b1i and Md = m0 + m1Y - m2 i . When the sensitivity of money demand with respect to income (m1) is larger, there are a. a flatter LM curve and more crowding out of investment (I) b. a flatter LM curve and less crowding out of investment (I) c. a steeper LM curve and more crowding out of investment (I) d. a steeper LM curve and less crowding out of investment (I)4 8. Which of the following combinations of monetary and fiscal policies is sure to raise interest rates? a. Increase MS, Increase T b. Increase MS, Decrease T c. Decrease MS, Increase T d. Decrease MS, Decrease T 9. If the stock market in Macrovia (a friendly country) has a P-E ratio that is higher than usual, which of the following reasons is NOT a possible explanation? a. Interest rates are low and expected to remain low in the future b. The earnings of companies in the market are growing at a faster rate than they usually do c. Bonds in Macrovia are offering higher returns than usual d. Investors expect other investors are willing to pay ever-increasing prices 10. Which of the following is NOT true? Assuming no trade, GDP can be measured as a. The total number of dollars in circulation b. The total payments to all factors of production c. The sum of a country’s value added to total production d. The total value of the final goods produced in the economy5 11. The real opportunity cost of holding money is captured by a. The real interest rate b. The nominal interest rate c. The inflation rate d. The real GDP growth rate 12. When the government increases G a. Y increases, i increases, the effect on the equilibrium amount of money demanded is ambiguous. b. Y increases, i decreases, the equilibrium amount of money demanded increases. c. Y decreases, i increases, the equilibrium amount of money demanded decreases. d. Y increases, i increases, the equilibrium amount of money demanded is unchanged.6Long Problem 1 (Each part is worth 4 points): Consider a simple aggregate demand problem from Chapter 3. Investment (I) and Government Spending (G) are exogenous with initial levels of $100. Consumption is a linear function of disposable income: C=C0+C1*YD with C0=100 and C1=0.9. a) Assume the government begins with a flat tax (T) of $100, such that YD=Y-T=Y-$100. Note that the government is running a balanced budget. We assume in this short-run model that aggregate supply fully adjusts to meet the demand in the economy, giving the equilibrium equation: Y=Z(Y). Defining aggregate demand as Z(Y)=C+I+G, draw a graph of this simple model (draw the aggregate demand and equilibrium lines) with Z(Y) on the y-axis and Y on the x-axis. Label the value of the y-intercept. Graph for part a) and part c). b) Mathematically, solve for the equilibrium level of output in the economy (Y*). Label this value on the x-axis of your graph. Y*=[C0+I+G-C1*T]/(1-C1) Y*=[100+100+100-0.9*100]/(1-0.9) Y*=2100 Z(Y) Y Z(Y) $210 $220 $2100 $22007 c) The government decides to increase its spending to
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