Question

10. In the 1970s "Great Inflation", inflation was increased because Policy makers thought potential output was higher than it actually turned out to be and policy shifted the AD curve to the left Policy makers thought potential output was lower than it actually turned out a. b. to be and policy shifted the AD curve to the left Policy makers thought potential output was lower than it actually turned out to be and policy shifted the AD curve to the right C. d. Policy makers thought potential output was higher than it actually turned out to be and policy shifted the AD curve to the right 11. If a central bank targets the level of inflation and conducts stabilisation policy: It will adjust the policy interest rate more for a demand shock than an inflation shock a. b. It will adjust the policy interest rate more for an inflation shock than a demand shock It only needs to adjust the policy interest rate for an inflation shock but not c. for a demand shock It does not need to adjust the policy interest rate for either a demand shock d. or an inflation shock 12. A central bank becomes less aggressive (i.e. more dovish) with respect to fighting inflation. If we plot the real interest rate on the vertical axis and the inflation rate on the horizontal axis, this bank's policy reaction function is most likely to: Shift upwards and become flatter Shift upwards and become steeper a. b. c. Shift downwards and become flatter Shift downwards and become steeper d. 13. A natural disaster destroys three-quarters of a country's capital stock (and everything else remains unchanged). If wages depend on the marginal product of labour, and a Cobb-Douglas function provides a good description of aggregate production then: The marginal product of capital would fall and wages would fall b. The marginal product of capital would fall and wages would rise a The marginal product of capital would rise and wages would fall The marginal product of capital would rise and wages would rise c. d. 14. In the Solow-Swan model, persistent increases in per-capita output can only be explained by: Population growth Lower savings rates a. b. C. Higher depreciation rates d. Greater technological progress

Answer 1

(10) In 1970, inflation increased due to monetary policy adopted by Fed bank when there was high unemployment (when there is unemployment total output remains at the lower level than optimum level). Expansionary Monetary policy used for reducing deficits helped in increasing aggregate demand and raised prices of goods which resulted in inflation.Thus option C.

(11) Stabilization is correcting the normal behavior of the business cycle, thus enhancing economic stability. In this case the term generally refers to demand management by monetary and fiscal policy to reduce normal fluctuations and output. It is introduced to stabilizes the economy by economic and financial crisis. Thus it takes care of demand such that the demand does not reduce or increase upto that level which disturb the economy. So option A.

(12) There exist an inverse relationship between interest rate and inflation level. When there is less less aggressiveness towards inflation level the relation between them becomes steeper and it shifts from 1 to 2.

JC

(13) As capital stock declined by three quarters, now production is dependent upon labour, whose marginal product will rise now to maintain the same level of production. So wages would rise. Option B.

(14) Savings rate which is option B.
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