Question 1

Describe and explain the real business cycle theory.

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Question 2

-In the above figure, starting at E₁, if there is a supply shock that is temporary, the

Accepted Answer

A temporary supply shock would cause a short-term shift in the short-run aggregate supply (SRAS) curve to SRAS₁, but it would eventually return to its original position, SRAS₀, as the shock dissipates. The long-run aggregate supply (LRAS) remains unchanged.

Question 3

Describe and explain the policy irrelevance proposition.

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Question 4

The real business cycle theory

Accepted Answer

The real business cycle theory posits that business cycles are caused by shifts in the long-run aggregate supply curve, rather than fluctuations in aggregate demand or other short-term factors. This theory suggests that changes in productivity, technology, or resource availability can cause shifts in the supply curve, leading to periods of expansion or contraction in economic activity.

Question 5

Which of the following can help explain why prices might be "sticky"?

Accepted Answer

Small menu costs can explain why prices might be "sticky". Small costs such as the cost of printing new menus, changing price tags or informing customers about price changes might prevent firms from adjusting prices frequently in response to changes in demand or costs.

Question 6

-In the above figure, starting at E₃, if there is an increase in technology that causes a temporary increase in production capabilities

Accepted Answer

An increase in technology causes a temporary increase in production capabilities, which shifts the SRAS curve to the right. In the long run, the LRAS curve will also shift to the right, but not as much as the SRAS curve. This is because the increase in technology is temporary, and in the long run, other factors, such as the size of the labor force and the capital stock, will determine the level of output.

Question 7

The menu cost theory states that

Accepted Answer

The menu cost theory explains why prices are not fully flexible, as it is costly for firms to change prices frequently in response to changes in demand. This cost of changing prices is known as menu costs. Therefore, option A is the correct answer. Option B is incorrect because it mentions the actions of the Fed, which is not related to the menu cost theory. Option C is not related to the topic of the menu cost theory, as it is related to wage determination. Similarly, option D is also incorrect because the menu cost theory does not assume perfect competition.

Question 8

Explain the rational expectations hypothesis.

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Question 9

Stagflation means a

Accepted Answer

Stagflation is characterized by a situation where there is both high inflation and high unemployment. This situation is often considered problematic because traditional economic policies used to address inflation (such as raising interest rates) can exacerbate unemployment, while policies used to address unemployment (such as increasing government spending) can worsen inflation. Therefore, stagflation can be difficult to address using traditional economic tools.

Question 10

Some economists suggest that because of the costs of negotiating contracts, printing price lists, etc., it is costly for firms to change prices in response to demand changes. This hypothesis is known as the

Accepted Answer

The hypothesis that it is costly for firms to change prices in response to demand changes is known as the menu cost theory. This refers to the costs associated with updating menus, price lists, and negotiating contracts. The term "menu cost" is typically used to refer to these broader costs associated with changing prices in the economy, rather than just the literal cost of reprinting menus.

Question 11

-In the above figure, starting at E₁, if there is a supply shock that is permanent, the

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-In the above figure, starting at E₁,...

Question 12

-In the above figure, starting at E₃, if there is an increase in technology that causes a permanent increase in production capabilities

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-In the above figure, starting at E₃,...

Question 13

The menu cost theory suggests that

Accepted Answer

The menu cost theory suggests that firms will find frequent price changes to be costly. This is because changing prices often requires updating menus, advertising, and other related materials. Therefore, firms are likely to delay price changes until it becomes necessary, leading to sticky prices. The theory does not suggest the absence of unemployment, nor does it require perfect competition or the free movement of wages and prices.

Question 14

Costs that deter firms from changing prices in response to demand changes are known as

Accepted Answer

Menu costs refer to the expenses associated with changing prices, such as reprinting menus, catalogs, and price lists. These costs deter firms from changing prices frequently in response to demand changes. Sticky costs, on the other hand, are costs that do not change immediately in response to changes in sales volume, such as rent or insurance. Policy costs and production costs are not directly related to the decision to change prices.

Question 15

Using a graph, show and explain the difference between an anticipated and an unanticipated increase in aggregate demand.

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Question 16

During the 1970s, the shocks to the United States' economy resulted in

Accepted Answer

The shocks to the economy during the 1970s, including the oil crisis and the end of the post-World War II economic boom, resulted in what is known as stagflation. This is a combination of stagnant economic growth and rising inflation. As a result, both the unemployment rate and the inflation rate increased during this time period.

Question 17

During the 1960s, many Keynesian economists felt that by studying the Phillips curve

Accepted Answer

Many Keynesian economists believed that by studying the Phillips curve, policy makers could fine-tune the economy by selecting policies that would produce the exact mix of unemployment and inflation that suited current government objectives. This theory was known as the "trade-off" theory, which suggested that policymakers could either have low unemployment with high inflation or low inflation with high unemployment, depending on their policy choices. However, this view was later challenged by the stagflation of the 1970s when the economy experienced both high unemployment and high inflation.

Question 18

When a supply shock is permanent

Accepted Answer

A permanent supply shock affects both the short-run and long-run aggregate supply curves, causing them to shift leftward as the economy's productive capacity is reduced.

Question 19

Which of the following would NOT cause a real business cycle?

Accepted Answer

Changes in the money supply would lead to fluctuations in nominal variables but would not affect the real variables that determine the business cycle, such as output and employment.

Question 20

According to economists who promote sticky-price theories

Accepted Answer

Economists who promote sticky-price theories believe that both fiscal and monetary policy can be effective in stabilizing the economy. Fiscal policy, such as changes in government spending and taxation, can stimulate demand and affect output. Monetary policy, such as changes in interest rates and monetary supply, can also affect demand and output through changes in borrowing and lending behavior. However, the effectiveness of these policies may vary depending on the specific economic conditions and the speed at which prices adjust in the economy.

Quiz 16: Stabilization in an Integrated World Economy