Question

1.

 When an economy is experiencing a recession and the MPC = 4/5, a $5 billion dollar increase in government spending will cause output to increase by

 $20 billion

 $400 million

 $25 billion

 $160 million

2.

 Which of the following is the most frequently used monetary policy tool of the Federal Reserve to change the money supply?

 the discount rate

 open market operations

 changing tax rates

 the required reserve ratio

3.

 During the 2008-2009 recession, the Federal Reserve provided additional liquidity into the financial system. This ultimately reduced the federal funds rate, which led to an

 an increase in aggregate demand and real GDP

 an increase in the rate of unemployment

 a reduction in the long-run rate of inflation

 a reduction in the growth of employment

 

Answer 1

1. Answer.......c. $25 billion

Explanation — Government spending multiplier = (change in the output/change in the government spending)= 1/(1—MPC)

or(, Y/G) = (1/1—MPC)

or, or, Y/5 = (1/1—0.8 ) , ( MPC = 4/5 =0.8)

Y=5×(1/0.2) = 25 billion.

2. b . open market operations (OMO)

Explanation — OMO has been increasingly used monetary tool by the fed to control money supply in the economy. Under open market operations the federal reserve system buys or sells US treasury bills, securities to bring desired change in the money supply. When it sells securities, money supply squeezes and viceversa.

3... a . an increase in the aggregate demand and real GDP.

Explanation —The fed policy increased money supply in the economy through revival of financial institutions, the discount rate decreased ,which increased the confidence of buyers, as a result aggregate demand increased along with increase in the real GDP, so the fed cope up with the recession during the year of 2008—09.