ECO2013-04 Fall 1996 Form B Quiz Seven KEY
1. When Joe Frat went to Orlando for the football game, he had more cash in his pocket than he normally does on campus. This is an illustration of which motive for holding money, i.e. component of the demand for money?
a. speculative b. transactions c. precautionary d. nominal.
45% agreed with me. The argument would be that he is doing something out of the usual, so carries more because he anticipates he might need more.
2. Suppose a bank with no excess reserves receives a deposit of $100,000 into a checking account, and then has $80,000 worth of excess reserves. What is the required reserve ratio?
a. 10% b. 20% c. 80% d. insufficient information to answer.
The deposit when received all increases reserves; if $80,000 are excess, $20,000 (100,000 - 80,000) are required, and 20,000/100,000 is 20%. 63% right.
3. The Fed buys $10 billion of bonds from the public (e.g. life insurance companies). What is the immediate effect on the money supply?
a. Increase of $10 bn. b. Reduction of $10 bn. c. no change.
Fed buys, it pays (money) to the seller; so money supply increases by that much. Only 44% right; the Fed's IOU is money.
4. Same as 3., if the required reserve ratio is 10%, what is the maximum effect on the money supply in the long run?
a. Increase of $100 bn. b. Reduction of $100 bn. c. no change.
If required reserve ratio is 10%, each $1 of reserves can support $10 (= 1/10%) of deposits, i.e. money. So 10 x $10 bn. = $100 bn. 44% right.
5. Consumption increases from $20,000 to $21,500 when disposable income increases from $23,000 to $25,000. What is the marginal propensity to consume?
a. 1.33 b. 0.75 c. 1,500 d. 4.
(Change in cons)/(change in income) = 1,500/2,000 = 0.75. 72% right.
6. Same information as Q.5, Keynesian model: If only consumption varies with income, what is the multiplier?
a. 3 b. 2 c. 1.5 d. 4.
Multiplier = [1/(1-mpc)] = [1/(1-0.75)] = 1/0.25 = 4. Only 32% right; more liked c., I know not why.
7. In K-land, current full employment real GDP is estimated at $1,200 billion, but actual real GDP is $1,000 billion. If only consumption varies with real GDP, and the marginal propensity to consume [to spend on domestically produced output] is 0.80, by how much would investment need to increase to increase equilibrium real GDP to the full employment level?
a. $25 billion b. $200 billion c. $100 billion d. $40 billion
Equilibrium GDP has to increase by $200 bn [1,200 - 1,000]; the multiplier is [1/(1-mpc)] = [1/(1-.8)] = 1/(.2) = 5, so the increase in investment needs to be 200/5 = $40 bn. Somewhat involved question; only 30% of you got it, more liked b., which would be the initial, first round, effect, not the equilibrium increase in GDP after the multiplier effects.
8. The nominal interest rate is
a. the opportunity cost of holding money b. the real interest rate plus the inflation rate
c. the real interest rate minus the inflation rate d. both a. and b. e. both a. and c.
Definitions. But only 20% of you got it; more liked c., which I find disturbing.
9. If the inflation rate increases, the velocity of money will
a. increase b. decrease c. remain unchanged d. decrease, then return to the original level
If the inflation rate increases, the opportunity cost of money increases, so you will try to hold each piece of money for a shorter length of
time, so the velocity will increase. 38% got it, but almost as many guessed b.
For questions 10 through 12, for the event listed on its own, in a Keynesian framework indicate whether the effect would be to (a) increase, (b) decrease, or (c) leave unchanged, equilibrium output and employment:
10. Responding to exhortations to match the Japanese, US households plan to save more. Decrease: AD dereases. 52% right.
11. Starting from a position of excess capacity and unemployment, government spending is increased. Increase. 55%
12. An increase in income tax rates. Decrease. 56%.