A decline in the stock market, which makes consumers poorer, would cause the aggregate demand curve to shift to the left.

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1 Economics 304 Final Exam Fall 2000 PART I: TRUE/FALSE. Write 'T' if the statement is true and 'F' if the statement is false. (1.5 pts. each) A decline in the stock market, which makes consumers poorer, would cause the aggregate demand curve to shift to the left. 2) You have just read that the Federal Reserve has increased the money supply to avoid a recession. For a given price level, you would expect the LM curve to shift up as the real money supply falls. 3) Suppose the intersection of the IS and LM curves is to the left of the FE line. A decrease in the price level would most likely eliminate a disequilibrium among the asset, labor, and goods markets by shifting the LM curve down. 4) Under an assumption 0 monetary neutrality, a change in the nominal money supply has no effect on the price level. 5) Real business cycle theorists think that most business cycle fluctuations are caused by shocks to the production function. 6) Assuming that money is neutral, an increase in the nominal money supply would cause an excess supply for goods. 7) According to the misperceptions theory, when the aggregate price level is lower than expected, the aggregate quantity of output demanded rises above the full-employment level. 8) Keynesians are skeptical of the classical theory that recessions are periods of increased mismatch between workers and jobs because help-wanted advertising falls during recessions. 9) If nominal GDP for 1994 is $6400 billion and real GDP for 1995 is $6720 billion (in 1994 dollars), then the growth rate of real GDP is 5%. 10) An economy has government purchases of 1,000. Desired national saving and desired investment are given by Sd = ,000, +.10Y -.20G Id = 1,000-4,000, When the full-employment level of output equals 5,000, then the real interest rate that clears the goods market will be 5.56%. 11) In the long run, an increase in the saving rate in a steady-state economy will cause an increase in the capitallabor ratio and an increase in consumption per worker. 12) One of money's primary roles in the economy comes from the use of money to transfer purchasing power to the future. This role of money is called unit of account.

2 MUL TIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. (2 pts. each) 13) In the long run, an increase in government puichases of military equipment would cause output to --and the aggregate price level to. A) stay constant; fall B) fall; fall C) fall; stay constant D) stay constant; rise 14) To reach general equilibrium, the price level adjusts to shift the until it intersects with the A) IS curve; FE line and LM curve C) LM curve; FE line and IS curve B) FE line; LM and IS curves D) ND curve; FE line and NS curve 15) The IS-LM model predicts that a temporary beneficial supply shock A) increases output, national saving, and investment, but not the real interest rate. B) increases output, national saving, and the real interest rate, but not investment. C) increases the real interest rate, investment, and output, but not national saving. D) increases output, national saving, investment, and the real interest rate. 16) You have just read that Australia has suffered a drought, destroying its wheat crop for this year. The effect of this adverse supply shock on Australia would probably be A) an increase in prices and an increase in real interest rates. B) an increase in prices, an increase in nominal interest rates, but a decrease in real interest rates. C) a decrease in prices and an decrease in real interest rates. D) a decrease in prices, a decrease in nominal interest rates, but an increase in real interest rates. 17) A decrease in money supply causes the real interest rate to run, before prices adjust to restore equilibrium. and output to. in the short A) rise; rise B) rise; fall C:::) fall; rise D) fall; fall 18) An increase in expected inflation causes the real interest rate to. short run, before prices adjust to restore equilibrium. A) rise; rise B) rise; fall C) fall; rise and output to - D) fall; fall in the 19) When the money supply declines by 10%, in the long run, output and the price level. A) is unchanged; is unchanged B) declines; falls C) is unchanged; falls D) declines; is unchanged 20) The distinction between real and nominal shocks is that A) real shocks directly affect only the IS curve, but not the FE line or LM curve. B) real shocks directly affect only the FE line, but not the LM curve. C) real shocks directly affect only the IS curve or the FE line, but not the LM curve. D) real shocks have a large direct effect on the IS curve and the FE line, but onlya small direct effect on the LM curve. 21) Given data on capital (K),labor (N), and output (Y), and estimates of capital's share of output (a), the Solow residual is measured as A) YKaNl-a. B)(YKa)! Nl-a. C)Y! (KaNl-a). D)l!(YKaNl-a).

3 22) According to the misperceptions theory I an unanticipated decrease in the money supply shifts the AD curve to the.causing output to in the short run. A) right; rise B) right; fall C) left; rise D) left; fall 23) Which of the following statements is TRUE about the misperceptions theory? A) Both anticipated and unanticipated changes in the nominal money supply have real effects on the economy. B) Neither anticipated nor unanticipated changes in the nominal money supply has real effects on the economy. C) Unanticipated changes in the nominal money supply have real effects, but anticipated changes are neutral. D) Anticipated changes in the nominal money supply have real effects, but unanticipated changes are neutral. 24) According to the misperceptions theory I if the Fed wanted to use monetary policy to influence the real economy it would have to A) increase the money supply whenever the economy was in a recession. B) decrease the money supply whenever the economy was in an inflationary boom. C) surprise the public with unexpected changes in monetary policy. D) abide by its announced monetary targets. 25) Firms hire labor at the point where the A) nominal wage rate equals the marginal product of labor. B) real wage rate equals the marginal revenue product of labor. C) nominal wage rate equals the marginal revenue product of labor. D) real wage rate equals the marginal revenue product of capital. 26) Zowie! Surfboards has the following production function: Number of Number of Workers Surfboards Produced If surfboards sold for $30 and the nominal wage rate was $200, how many workers would the firm employ? A)2 B)3 C)4 0)5 27) Calculate the user cost of capital of a machine that costs $10,000 and depreciates at a 10% rate, when the nominal interest rate is 6 percent and the expected inflation rate is 3%. A) $300 8)$600 C)$1000 0)$ ) A temporary supply shock, such as a drought, would A) increase the marginal product of capital and increase desired investment. B) decrease the marginal product of capital and decrease desired investment. C) have little or no effect on desired investment. D) decrease both the marginal product of capital and the marginal product of labor in the long-term future.

4 29) In a steady state A) both consumption per worker and the capital-labor ratio are constant. B) consumption per worker is constant, but the capital-labor ratio can change. C) capital and labor, by definition, are inversely related to one another. D) consumption per worker can change, but the capital-labor ratio is constant. PART II: ESSAY. Write your answer in the space provided or on a separate sheet of paper. 30) (8 pts.) Desired consumption is Cd = Y -100,000 r -G, and desired investment is Id = ,000r. Real money demand is Md / p = Y -6000i. Other variables are ne = 0.03, G = 500, y = 1000, and M = a. Find the general equilibrium values of the real interest rate, consumption, investment, and the price level. b. Suppose government purchases decline to 400. What happens to the variables listed in part (a)? c. Suppose government purchases rise to 600. What happens to the variables listed in part (a)? 31) (8 pts.) Use the IS-LM model to determine the effects of each of the following on the general equilibrium values of the real wage, employment, output, the real interest rate, consumption, investment, and the price level. Explain why and use a diagram to show your answer. a. Tougher immigration laws reduce the'working-age population. b. The government tries to achieve tax equity by an increase in the corporate tax rate. 32) (6 pts.) State the major difference between the classical and the Keynesian macroeconomics in the issues such as employment and the role of government.

5 33) (9 pts.) Country A has a capital-labor ratio that is initially twice as big as that of country B, but neither is yet in a steady state. Both countries have the same production function,f(k) = 6k1/2. Country A has a 10 percent saving rate, 10 percent population growth rate, and 5 percent depreciation rate, while country B has a 20 percent saving rate, 10 percent population growth rate, and 20 percent depreciation rate. a. Calculate the steady-state capital-labor ratio for each country. Does the initial capital-labor ratio affect your results? b. Calculate output per worker and consumption per worker for each country.which country has the highest output per worker? The highest consumption per worker? c. In general, do all the fundamental characteristics of different countries need to be identical for convergence of output per worker? 34) (9 pts.) Suppose the money demand function is given by Md / P = y (r + ne». Suppose the central bank changes the nominal money supply depending on income and inflation: Ms = y -4000Jt. a. If expected inflation equals actual inflation = 0.03, y = 1000, and r = 0.02, calculate the price level. b. If inflation rises to 0.04 while the other variables remain as in part a, calculate the price level. 35) (8 pts.) An economy is described by the following equations: Desired consumption: Desired investment: Id = y Government purchases: G = 100 Taxes: T = 100 Cd = (Y -T) -50Oy Real money demand: L = 0.5Y -100Oy Money supply: M = Full employment output: Y = 500 a. Write the equations for the IS and LM curves. b. Calculate the full employment values of output, price level and investment.

6 BONUS (10 pts): 36) Suppose the economy is characterized by the following equations. IS curve: r = Y LM curve: M/P = y -250(r + ~) SRAS curve: y = y + 100(F -Fe) The nominal money supply is M = 19,800, expected inflation is ~ =.20, and fu1l-employment output is y = 10,000. a. If the economy begins in general equilibrium, what are the equilibrium values of the price level, output, and the real interest rate? b. If the expected price level is the price level you found in part (a), what happens to the price level, output, and the real interest rate in the short run if there's an unanticipated decrease in the nominal money supply to 14,737.5? {Hint: guess some price levels that differ from the one you found in part (a) by increments of.25.}

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