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Economics - Canadian Edition, 14e (Ragan)

Chapter 24 From the Short Run to the Long Run: The Adjustment of Factor Prices

1) Which of the following are the defining assumptions of the short run in macroeconomics?
A) Factor prices are exogenous, and technology and factor supplies are changing.
B) Factor prices adjust to output gaps, and technology and factor supplies are constant.
C) Factor prices are exogenous, and technology and factor supplies are constant.
D) Factor prices adjust to output gaps, and technology and factor prices are changing.
E) Factor prices are exogenous, technology and factor prices are endogenous.
Answer: C
Diff: 2
Topic: 24.1a. time spans in macroeconomics
Skill: Recall
Objective: REVISED
User2: Qualitative

2) Which of the following are the defining assumptions of the long run in macroeconomics?
A) Factor prices are exogenous, and technology and factor supplies are changing.
B) Factor prices adjust to output gaps, and technology and factor supplies are constant.
C) Factor prices are exogenous, and technology and factor supplies are constant.
D) Factor prices adjust to output gaps, and technology and factor supplies are changing.
E) Factor prices are exogenous, technology and factor prices are exogenous.
Answer: D
Diff: 2
Topic: 24.1a. time spans in macroeconomics
Skill: Recall
Objective: REVISED
User2: Qualitative

3) In macroeconomic analysis, the assumption that potential output (Y*) is changing is a


characteristic of
A) the short run.
B) the adjustment process.
C) the national accounts model.
D) the long run.
E) the business cycle model.
Answer: D
Diff: 2
Topic: 24.1a. time spans in macroeconomics
Skill: Recall
User2: Qualitative

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4) Which of the following is a defining assumption of the AD/AS macro model in the short run?
A) factor supplies are assumed to be flexible
B) technology used in production is endogenous and variable
C) the level of potential output fluctuates with the price level
D) factor prices are assumed to be exogenous
E) firms cannot operate near their normal capacity
Answer: D
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 1
Topic: 24.1a. time spans in macroeconomics
Skill: Recall
Objective: REVISED
User2: Qualitative

5) In the basic AD/AS model, which of the following is a defining assumption of the adjustment
process that takes the economy from the short run to the long run?
A) factor supplies are assumed to be varying
B) technology used in production is endogenous
C) the level of potential output fluctuates with the price level
D) factor prices are assumed to respond to output gaps
E) firms cannot operate near their normal capacity
Answer: D
Diff: 2
Topic: 24.1a. time spans in macroeconomics
Skill: Recall
Objective: REVISED
User2: Qualitative

6) Which of the following is a defining assumption of the AD/AS macro model in the long run?
A) factor supplies are assumed to be fixed
B) technology used in production is constant
C) the level of potential output is constant
D) factor prices are assumed to be fixed
E) changes in real GDP are determined by the changes in potential output
Answer: E
Diff: 1
Topic: 24.1a. time spans in macroeconomics
Skill: Recall
Objective: REVISED
User2: Qualitative

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7) The economy's output gap is defined as the
A) difference between actual GDP and potential GDP.
B) level of total output that would be produced if capacity utilization is at its normal rate.
C) difference between actual national income and desired aggregate expenditure.
D) result of economic growth.
E) difference between nominal GDP and real GDP.
Answer: A
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

8) Which of the following best describes the concept of potential output?


A) The total output that can be produced when all factors of production (land, labour, and
capital) are fully employed.
B) The total output that can be produced when the economy is in short-run economic
equilibrium.
C) The total output that can be produced when all productive resources (land, labour, and capital)
are used at their maximum capacity.
D) The total output that could be produced in the future when technological advances allow for a
higher level of output.
E) The total output that could be produced if no productive resource (land, labour, and capital)
was ever left idle.
Answer: A
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
Objective: NEW
User2: Qualitative

9) An inflationary output gap occurs when


A) actual GDP exceeds potential GDP.
B) nominal GDP exceeds real GDP.
C) demand for labour services is very low.
D) equilibrium national income is below potential national income.
E) potential GDP exceeds actual GDP.
Answer: A
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

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10) An inflationary output gap implies that
A) the demand for all factor services will be relatively low.
B) the intersection of AD and AS occurs at real GDP below potential output.
C) the economy's resources are being used beyond their normal capacity.
D) there is a pressure for wages to decrease.
E) there is excess supply of most factors of production.
Answer: C
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

11) A recessionary output gap implies that


A) the demand for all factor services will be relatively low.
B) the intersection of AD and AS occurs where real GDP exceeds potential output.
C) the economy's resources are being used at more than their normal capacity.
D) there is upward pressure on wages.
E) there is excess demand for most factors of production.
Answer: A
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

12) An inflationary output gap would generate which of the following conditions in the
economy?
A) Firms are making low profits.
B) Workers have a relatively large amount of bargaining power with employers.
C) There is an unusually small demand for labour.
D) There is downward pressure on wages.
E) There is much idle capacity.
Answer: B
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

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13) An inflationary output gap is characterized by
A) falling prices.
B) constant prices.
C) real output that varies one-for-one with aggregate demand.
D) real GDP exceeding potential output.
E) real GDP falling below potential output.
Answer: D
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

14) A recessionary output gap is characterized by


A) rising prices.
B) constant prices.
C) real output that varies one-for-one with aggregate demand.
D) real GDP exceeding potential output.
E) real GDP falling below potential output.
Answer: E
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

15) Which of the following will occur as part of the automatic adjustment process in an economy
with an inflationary gap?
A) falling prices
B) increasing investment
C) declining government purchases
D) rising wages
E) increasing tax rates
Answer: D
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

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16) Which of the following would occur as part of the automatic adjustment process in an
economy with a recessionary gap?
A) rising prices
B) decreasing investment
C) increasing government purchases
D) falling tax rates
E) decreasing wages
Answer: E
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

17) If the short-run macroeconomic equilibrium occurs with real GDP less than Y*, the economy
is
A) at its full-employment level of output.
B) experiencing a recessionary gap.
C) experiencing an inflationary gap.
D) threatened with an acceleration of inflation.
E) operating at full capacity.
Answer: B
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

18) If the short-run macroeconomic equilibrium occurs with real GDP greater than potential
output, the economy is
A) at its full-employment level of output.
B) experiencing a recessionary output gap.
C) experiencing an inflationary output gap.
D) threatened with a demand shock.
E) operating at full capacity.
Answer: C
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

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19) If wages rise faster than increases in labour productivity, then unit labour costs will
A) fall and the AS curve will shift left.
B) fall and the AS curve will shift right.
C) rise and the AS curve will shift left.
D) rise and the AS curve will shift right.
E) not change because only total labour costs change.
Answer: C
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

20) A common assumption among macroeconomists is that when real GDP exceeds potential
output, factor prices adjust and the
A) AS curve shifts to the left fairly rapidly.
B) AS curve shifts to the left only very slowly.
C) AS curve shifts to the right very rapidly.
D) AD curve shifts to the left rapidly.
E) none of the above— the AS curve remains unchanged.
Answer: A
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

21) A common assumption among macroeconomists is that when real GDP is less than potential
output, factor prices adjust and the
A) AS curve shifts to the left fairly rapidly.
B) AS curve shifts to the right only very slowly.
C) AS curve shifts to the right very rapidly.
D) AD curve shifts to the left rapidly.
E) None of the above - the AS curve remains unchanged.
Answer: B
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

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22) If the economy is experiencing an inflationary output gap, the adjustment process operates as
follows:
A) wages do not adjust, but the AD curve shifts to the right.
B) wages fall, unit costs fall, and the AD curve shifts rightward.
C) wages rise, unit costs rise, and the AS curve shifts leftward.
D) wages rise, unit costs rise, and the AS curve shifts rightward.
E) wages fall, unit costs fall, and the AS curve shifts rightward.
Answer: C
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
Objective: REVISED
User2: Qualitative

23) If an economy is experiencing neither a recessionary gap nor an inflationary gap, the real
output of the economy will be reflected by
A) the aggregate supply curve shifting to the left.
B) the aggregate demand curve shifting to the left.
C) the aggregate expenditure curve shifting upward.
D) the intersection of the AD and AS curves at potential output.
E) a point to the right of the aggregate supply curve at potential GDP.
Answer: D
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

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FIGURE 24-1

24) Refer to Figure 24-1. If the economy is currently in a short-run equilibrium at Y0, the
economy is experiencing
A) a recessionary output gap.
B) an inflationary output gap.
C) a labour shortage.
D) a long-run equilibrium.
E) potential output growth.
Answer: A
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Graph
User2: Qualitative

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25) Refer to Figure 24-1. If the economy is currently producing output of Y0, the economy's
automatic adjustment process will have the
A) AS curve shifting to the right until point A is reached.
B) vertical line at Y* shifting to the left until it gets to Y0.
C) AD curve shifting to the right until point B is reached.
D) economy remaining where it is.
E) level of potential output falling.
Answer: A
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Graph
User2: Qualitative

26) Refer to Figure 24-1. If the economy is currently producing output of Y0 and wages are
sticky downwards, then the
A) economy will eventually move to point B.
B) economy will only move gradually toward point A as wages slowly adjust.
C) economy will quickly move to point A.
D) level of output will decrease below Y0.
E) AD curve will eventually shift to the right and return the economy to its full-employment level
of output.
Answer: B
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Graph
User2: Qualitative

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FIGURE 24-2

27) Refer to Figure 24-2. If the economy is currently in a short-run equilibrium at , the
economy is experiencing
A) potential output growth.
B) a long-run equilibrium.
C) an excess supply of labour.
D) an inflationary output gap.
E) a recessionary output gap.
Answer: D
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Graph
User2: Qualitative

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28) Refer to Figure 24-2. Suppose the economy is in equilibrium at Y1. The economy's automatic
adjustment process will restore potential output, Y*, through
A) wage increases and a leftward shift of the AS curve.
B) wage increases and a rightward shift in the AS curve.
C) wage decreases and a rightward shift of the AD curve.
D) an increase in potential GDP to intersect both the AD and AS curves at B.
E) a leftward shift of the AD to intersect both the AS and potential GDP at A.
Answer: A
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Graph
User2: Qualitative

29) The Phillips curve describes the relationship between


A) aggregate expenditure and aggregate demand.
B) the money supply and interest rates.
C) unemployment and the rate of change of wages.
D) inflation and interest rates.
E) the output gap and potential GDP.
Answer: C
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

30) The Phillips curve provides a theoretical link between


A) the liquidity preference and investment demand schedules.
B) labour markets and foreign-exchange markets.
C) the goods market and productivity.
D) the goods market and the labour market.
E) inflation and the demand for money.
Answer: D
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

12
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31) Which of the following describes the distinction between the Phillips curve and the AS
curve?
A) The AS curve has the price level on the vertical axis whereas the Phillips curve has the
interest rate on the vertical axis.
B) The AS curve has the price level on the vertical axis whereas the Phillips curve has the rate of
change in the interest rate on the vertical axis.
C) The AS curve has the price level on the vertical axis whereas the Phillips curve has the rate of
wage changes on the vertical axis.
D) The AS curve has the rate of price inflation on the vertical axis whereas the Phillips curve has
the rate of wage changes on the vertical axis.
E) There is no distinction: the two curves are essentially the same thing.
Answer: C
Diff: 3
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

32) If the economy in the short run is experiencing a recessionary gap, we are likely to see
A) severe and widespread labour shortages.
B) quickly rising output prices.
C) many workers receiving employment-insurance benefits.
D) the number of employment-insurance recipients the lowest ever.
E) consumers optimistic about the future.
Answer: C
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

33) Which of the following statements about output gaps is true?


A) When actual GDP is below potential GDP, there is upward pressure on wages.
B) When actual GDP is below potential GDP, there is upward pressure on output prices.
C) When actual GDP is above potential GDP, there is downward pressure on wages.
D) When actual GDP is above potential GDP, there is downward pressure on output prices.
E) When actual GDP is above potential GDP, there is upward pressure on wages.
Answer: E
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

13
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34) Consider the basic AD/AS diagram. The vertical line at Y* shows the relationship between
the price level and the amount of output ________ have adjusted to output gaps.
A) demanded by households after all factor prices
B) supplied by firms after all factor prices
C) demanded by households before all factor prices
D) supplied by firms before all factor prices
E) supplied by firms after all output prices
Answer: B
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

35) As the macro economy adjusts from the short run to the long run,
A) wages and other factor prices adjust to close output gaps.
B) potential output is adjusting to close inflationary or recessionary gaps.
C) wages and other factor prices remain constant.
D) aggregate demand shocks cause deviations from potential output.
E) aggregate supply shocks cause deviations from potential output.
Answer: A
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

36) Following any AD or AS shock, economists typically assume that the adjustment process
continues until
A) the AD and AS curves intersect each other at the correct price level.
B) real GDP returns to Y*.
C) factor prices have returned to their levels previous to the shock.
D) Y* adjusts to its long-run equilibrium level.
E) the output gap is at a stable level.
Answer: B
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Recall
User2: Qualitative

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The table below shows data for five economies of similar size. Real GDP is measured in billions
of dollars. Assume that potential output for each economy is $340 billion.

Rate of Wage
Real GDP Change
Economy A 300 -1.0%
Economy B 320 -0.5%
Economy C 340 0%
Economy D 360 +3.5%
Economy E 380 +6.0%

TABLE 24-1

37) Refer to Table 24-1. Which of the economies is operating at its long-run equilibrium?
A) Economy A
B) Economy B
C) Economy C
D) Economy D
E) Economy E
Answer: C
Diff: 1
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Table
User2: Qualitative

38) Refer to Table 24-1. Which of the economies are experiencing an inflationary gap?
A) Economies A and B
B) Economies B and C
C) Economies C and D
D) Economies D and E
E) none of the economies
Answer: D
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Table
User2: Qualitative

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39) Refer to Table 24-1. Which of the following statements best describes the situation facing
Economy B?
A) There is a recessionary gap of $40 billion and wages are falling slowly.
B) There is an inflationary gap of $40 billion and wages are rising.
C) There is a recessionary gap of $20 billion and wages are falling slowly.
D) There is no output gap and wages are stable.
E) There is an output gap of $20 billion and wages are rapidly adjusting.
Answer: C
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Table
User2: Quantitative

40) Refer to Table 24-1. Consider Economy E. Which of the following best describes the
positions of the aggregate demand and aggregate supply curves in this economy?
A) The AD curve has shifted to the right and the economy is in a short-run disequilibrium
position.
B) The AS curve has shifted to the left and the economy is in a short-run disequilibrium position.
C) The intersection of the AD and AS curves is to the right of Y*.
D) The intersection of the AD and AS curves is to the left of Y*.
E) The intersection of the AD and AS curves coincide with the long-run aggregate supply curve.
Answer: C
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Table
User2: Qualitative

41) Refer to Table 24-1. How is the adjustment asymmetry demonstrated when comparing
Economy A to Economy E?
A) The size of the output gap is the same in Economies A and E, but wages are rising in A and
falling in E.
B) The output gap is larger in Economy A, yet wages are changing more slowly.
C) The output gap is much larger in Economy E, so wages are changing at a faster rate.
D) The size of the output gap is the same in Economies A and E but wages are falling more
slowly in A than they are rising in E.
E) There is insufficient data with which to observe the adjustment asymmetry.
Answer: D
Diff: 3
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Table
User2: Qualitative

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42) Refer to Table 24-1. Which of the following statements explains why wages are rising in
Economy E?
A) The inflationary gap generates lower profits for firms because workers are demanding higher
wages.
B) The inflationary gap generates excess demand for labour, which causes wages to rise.
C) The aggregate supply curve is shifting to the right, which is causing wages to rise.
D) The aggregate demand curve is shifting to the right, causing wages to rise.
E) Potential output is rising, putting upward pressure on wages.
Answer: B
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Table
User2: Qualitative

43) Refer to Table 24-1. In which economy is there the most unused capacity?
A) Economy A
B) Economy B
C) Economy C
D) Economy D
E) Economy E
Answer: A
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User1: Table
User2: Qualitative

44) Suppose that the economy is initially in a long-run macroeconomic equilibrium. A shock
then hits the economy and we observe that the unemployment rate decreases and the price level
increases. We can conclude that ________ has increased and there is now a(n) ________ gap.
A) aggregate supply; inflationary
B) aggregate demand; recessionary
C) aggregate supply; recessionary
D) aggregate demand; inflationary
Answer: D
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
User2: Qualitative

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45) Suppose the following conditions are present in the economy:
- firms are increasing output to meet strong demand for their goods
- workers are able to demand higher wages as firms try to bid workers away from other firms
Which of the following statements describes the adjustment that will happen in the AD/AS
macro model?
A) There is an inflationary output gap; aggregate demand will continue to increase, causing the
AD curve to shift to the right. The price level will rise until equilibrium is restored at .
B) The economy is in equilibrium at , but wages are rising. The AS curve will shift to the left
until a new equilibrium is reached at a higher price level.
C) There is a recessionary output gap; wages and other factor prices will rise; the AS curve will
shift to the left until equilibrium is restored at .
D) There is an inflationary output gap; wages and other factor prices will rise; the AS curve will
shift to the left until equilibrium is restored at .
E) There is a recessionary output gap; aggregate demand will rise, causing the AD curve to shift
to the right until equilibrium is restored at .
Answer: D
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
Objective: NEW
User2: Qualitative

46) Suppose the following conditions are present in the economy:


- firms are facing lower-than normal sales and have reduced output
-there is an excess supply of labour and firms are starting to reduce their workforces
Which of the following statements describes the adjustment that will happen in the AD/AS
macro model?
A) Output is below potential; aggregate demand will fall, causing the AD curve to shift to the
left. The price level will fall until equilibrium is restored at .
B) The economy is in equilibrium at , but wages are falling. The AS curve will shift to the
right until a new equilibrium is reached at a lower price level.
C) Output is below potential; wages will eventually fall; the AS curve will slowly shift to the
right until equilibrium is restored at .
D) Output is above potential; wages will fall, causing the AS curve to shift to the right until
equilibrium is restored at .
E) Output is above potential; aggregate demand will fall, causing the AD curve to shift to the left
until equilibrium is restored at .
Answer: C
Diff: 2
Topic: 24.1b. output gaps and the adjustment of factor prices
Skill: Applied
Objective: NEW
User2: Qualitative

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47) Consider the adjustment of factor prices to output gaps in the basic AD/AS macro model.
The experience of many economies suggests that
A) downward pressure on wages during slumps results in sharply increased labour costs.
B) upward pressures on wages are largely ineffective in booms.
C) downward pressure on wages during slumps is not as intense as upward pressure on wages
during booms.
D) unit labour costs fall quickly during booms.
E) slumps and booms are not common; the economy is usually in equilibrium at potential output.
Answer: C
Diff: 2
Topic: 24.1c. adjustment asymmetry
Skill: Recall
Objective: REVISED
User2: Qualitative

48) An important asymmetry in the behaviour of the AS curve is that


A) prices are sticky but wages are not.
B) positive output gaps can persist for a long time without causing increases in wages and prices,
whereas negative output gaps lead to immediate reductions in wages and prices.
C) negative output gaps can persist for a while without causing large decreases in wages and
prices, whereas positive output gaps lead more quickly to increases in wages and prices.
D) wages are very flexible in the downward direction, but not in the upward direction.
E) wages and prices are equally sticky in both directions.
Answer: C
Diff: 2
Topic: 24.1c. adjustment asymmetry
Skill: Recall
Objective: REVISED
User2: Qualitative

49) The wage-adjustment process is asymmetrical because


A) factor prices fluctuate more frequently than goods prices.
B) goods prices rise more quickly than factor prices.
C) employers delay wage increases in a boom but lay off workers quickly during a slump.
D) taxes rise quickly in a boom but do not fall during a slump.
E) wages rise quickly in a boom but fall slowly during a slump.
Answer: E
Diff: 1
Topic: 24.1c. adjustment asymmetry
Skill: Recall
User2: Qualitative

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50) An important asymmetry in the behaviour of aggregate supply is the
A) changing slope of the aggregate demand curve.
B) difference between actual and potential output.
C) different relative sizes of inflationary versus recessionary gaps.
D) economy's path of potential output as a result of labour force growth.
E) different speeds at which factor prices adjust to positive and negative output gaps.
Answer: E
Diff: 2
Topic: 24.1c. adjustment asymmetry
Skill: Recall
Objective: REVISED
User2: Qualitative

51) An economy may not quickly and automatically eliminate a recessionary output gap because
wages
A) never change in response to changes in the demand for labour.
B) have a tendency to be sticky downward.
C) have a tendency to fall too quickly.
D) have a tendency to rise too quickly.
E) are flexible but prices have a tendency to be sticky downward.
Answer: B
Diff: 1
Topic: 24.1c. adjustment asymmetry
Skill: Applied
User2: Qualitative

52) An adjustment "asymmetry" in aggregate supply is


A) the concave shape of the AS curve.
B) the convex shape of the AS curve.
C) the difference in speed of a rightward shift versus a leftward shift (when wages adjust to
output gaps).
D) the difference in speed of increases in factor prices versus wage rates.
E) the difference in speed of decreases in output levels.
Answer: C
Diff: 2
Topic: 24.1c. adjustment asymmetry
Skill: Recall
Objective: REVISED
User2: Qualitative

20
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53) Consider the AD/AS macro model. A permanent demand shock that causes equilibrium
output to rise above potential output will
A) allow a stable expansion of real income over time.
B) always reverse itself.
C) be negated in the long run, through the economy's adjustment process.
D) result in a price level lower than that preceding the demand shock.
E) set off an endless cycle of price rises and increases in unemployment.
Answer: C
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
User2: Qualitative

54) Consider an AD/AS model in long-run equilibrium. An output gap, caused by a leftward
shift of the AD curve, will be eliminated if
A) wages rise quickly.
B) the AS curve shifts upward.
C) wages and other factor prices fall sufficiently.
D) real national income decreases.
E) prices rise quickly.
Answer: C
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
Objective: REVISED
User2: Qualitative

55) Consider an economy with a relatively steep AS curve. If there is a shift to the right in the AD
curve, there will be a ________ in the price level and ________ in national output.
A) small increase; a large increase
B) small increase; a large decrease
C) large increase; a small increase
D) large increase; a small decrease
E) large increase; no change
Answer: C
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
User2: Qualitative

21
Copyright © 2014 Pearson Canada, Inc.
56) Consider an economy with a relatively steep AS curve. If the AD curve shifts to the left, then
the price level will ________ and national output will ________.
A) increase slightly; significantly increase
B) increase slightly; significantly decrease
C) increase sharply; increase slightly
D) fall sharply; will not change.
E) fall sharply; decrease slightly.
Answer: E
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
User2: Qualitative

57) Suppose Canada's economy is in a long-run equilibrium with real GDP equal to potential
output. Now suppose there is an increase in world demand for Canada's goods. In the short run,
________. In the long run, ________.
A) real GDP and the price level both fall; real GDP is below its original level with a lower price
level
B) real GDP and the price level both rise; real GDP is above its original level with a higher price
level
C) real GDP and the price level both rise; real GDP returns to its original level with a higher
price level
D) real GDP rises and the price level falls; real GDP returns to its original level with a lower
price level
E) real GDP falls and the price level rises; real GDP is below its original level with a higher
price level
Answer: C
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
User2: Qualitative

22
Copyright © 2014 Pearson Canada, Inc.
58) Suppose Canada's economy is in a long-run equilibrium with real GDP equal to potential
output. Now suppose there is an unexpected and sharp reduction in desired business investment
expenditure. In the short run, ________. In the long run, ________.
A) real GDP and the price level both fall; real GDP is at its original level with a lower price level
B) real GDP and the price level both fall; real GDP is above its original level with a higher price
level
C) real GDP and the price level both rise; real GDP returns to its original level with a higher
price level
D) real GDP rises and the price level falls; real GDP returns to its original level with a lower
price level
E) real GDP falls and the price level rises; real GDP is below its original level with a higher
price level
Answer: A
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
Objective: REVISED
User2: Qualitative

59) Consider the basic AD/AS macro model in long-run equilibrium. An expansionary AD shock
will ________ the price level and ________ output in the short run. In the long run, the price
level will ________ and output will ________.
A) decrease; decrease; decrease further; decrease further
B) decrease; decrease; decrease further; be restored to potential output
C) increase; decrease; increase further; increase further
D) increase; decrease; increase further; be restored to potential output
E) increase; increase; increase further; be restored to potential output
Answer: E
Diff: 3
Topic: 24.2a. AD shocks
Skill: Applied
Objective: REVISED
User2: Qualitative

60) Consider the basic AD/AS macro model in long-run equilibrium. An expansionary AD shock
would have ________ output effect in the short run and ________ output effect in the long run.
A) a positive; no
B) a positive; a positive
C) no; a positive
D) no; no
E) not enough information to know
Answer: A
Diff: 2
Topic: 24.2a. AD shocks
Skill: Recall
User2: Qualitative

23
Copyright © 2014 Pearson Canada, Inc.
61) Consider the basic AD/AS macro model in long-run equilibrium. A permanent expansionary
AD shock has ________ price-level effect in the short run and ________ price-level effect in the
long run.
A) a positive; no
B) a negative; no
C) a positive; an even larger
D) a positive; a smaller
E) a negative; a positive
Answer: C
Diff: 2
Topic: 24.2a. AD shocks
Skill: Recall
Objective: REVISED
User2: Qualitative

62) Suppose Canada's economy is in a long-run equilibrium with real GDP equal to potential
output. Now suppose there is an increase in the Canadian-dollar price of all imported raw
materials. In the short run, ________. In the long run, ________.
A) real GDP and the price level both fall; real GDP is below its original level with a lower price
level
B) real GDP and the price level both rise; real GDP is above its original level with a higher price
level
C) real GDP and the price level both rise; real GDP returns to its original level with a higher
price level
D) real GDP rises and the price level falls; real GDP returns to its original level with a lower
price level
E) real GDP falls and the price level rises; real GDP and the price level return to their original
levels
Answer: E
Diff: 3
Topic: 24.2a. AD shocks
Skill: Applied
User2: Qualitative

24
Copyright © 2014 Pearson Canada, Inc.
63) Suppose Canada's economy is in a long-run equilibrium with real GDP equal to potential
output. Now suppose there is a decrease in the Canadian price of all imported raw materials. In
the short run, ________. In the long run, ________.
A) real GDP and the price level both fall; real GDP is below its original level with a lower price
level
B) real GDP and the price level both rise; real GDP is above its original level with a higher price
level
C) real GDP and the price level both rise; real GDP returns to its original level with a higher
price level
D) real GDP rises and the price level falls; real GDP and the price level return to their original
levels
E) real GDP falls and the price level rises; real GDP is below its original level with a higher
price level
Answer: D
Diff: 3
Topic: 24.2a. AD shocks
Skill: Applied
User2: Qualitative

The diagram below shows an AD/AS model for a hypothetical economy. The economy begins in
long-run equilibrium at point A.

25
Copyright © 2014 Pearson Canada, Inc.
FIGURE 24-3

64) Refer to Figure 24-3. A negative shock to the economy shifts the AD curve from to
. The initial effect is
A) a recessionary output gap of 100.
B) a recessionary output gap of 300.
C) a recessionary output gap of 550.
D) an inflationary output gap of 200.
E) an inflationary output gap of 100.
Answer: A
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
Objective: NEW
User1: Graph
User2: Quantitative

26
Copyright © 2014 Pearson Canada, Inc.
65) Refer to Figure 24-3. A negative shock to the economy shifts the AD curve from to
. At the new short-run equilibrium, the price level is ________ and real GDP is ________.
A) 90; 900
B) 110; 800
C) 60; 1000
D) 60; 700
E) 90; 1250
Answer: A
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
Objective: NEW
User1: Graph
User2: Quantitative

66) Refer to Figure 24-3. Which of the following events could have shifted the AD curve from
to ?
A) an increase in net exports
B) an increase in government purchases
C) an increase in desired investment
D) an increase in autonomous household saving
E) an increase in autonomous consumption
Answer: D
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
Objective: NEW
User1: Graph
User2: Qualitative

27
Copyright © 2014 Pearson Canada, Inc.
67) Refer to Figure 24-3. After the negative aggregate demand shock shown in the diagram
(from to ), which of the following describes the adjustment process that would return
the economy to its long-run equilibrium?
A) Wages would eventually fall, causing the AD curve to shift to the right, returning to the
original equilibrium at point A.
B) Wages would eventually fall, causing the AS curve to shift slowly to the right, reaching a new
equilibrium at point E.
C) Wages would increase, causing the AS curve to shift to the right, reaching a new equilibrium
at point E.
D) Wages would increase, causing the AD curve to shift to the right, returning to the original
equilibrium at point A.
E) Potential output would decrease from 1000 to 900 and a new long-run equilibrium would be
established at point D.
Answer: B
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
Objective: NEW
User1: Graph
User2: Qualitative

68) Refer to Figure 24-3. Following the negative AD shock shown in the diagram (from to
), the adjustment process will take the economy to a long-run equilibrium where the price
level is ________ and real GDP is ________.
A) 110; 1000
B) 60; 1000
C) 90; 900
D) 110; 800
E) 90; 1250
Answer: B
Diff: 2
Topic: 24.2a. AD shocks
Skill: Applied
Objective: NEW
User1: Graph
User2: Quantitative

28
Copyright © 2014 Pearson Canada, Inc.
69) Consider the AD/AS model, and suppose that the economy begins at potential output. The
effect of a positive AS shock on real GDP will be reversed in the long run with a ________ shift
in ________.
A) rightward; AS
B) rightward; AD
C) leftward; AS
D) leftward; AD
E) leftward; Y*
Answer: C
Diff: 2
Topic: 24.2b. AS shocks
Skill: Applied
User2: Qualitative

70) Consider the AD/AS model and suppose the economy begins at potential output. The effect
of a negative AS shock on real GDP will be reversed in the long run with a ________ shift in
________.
A) rightward; AS
B) rightward; AD
C) leftward; AS
D) leftward; AD
E) leftward; Y*
Answer: A
Diff: 2
Topic: 24.2b. AS shocks
Skill: Applied
User2: Qualitative

71) In the basic AD/AS macro model, which of the following events would cause stagflation?
A) a large decrease in wages
B) a large increase in business confidence
C) a large increase in the net tax rate
D) a large increase in the price of raw materials
E) a large increase in labour productivity
Answer: D
Diff: 3
Topic: 24.2b. AS shocks
Skill: Applied
User2: Qualitative

29
Copyright © 2014 Pearson Canada, Inc.
72) Consider the basic AD/AS macro model in long-run equilibrium. A negative AS shock will
________ the price level and ________ output in the short run. In the long run, the price level
will ________ and output ________.
A) decrease; decrease; decrease further; will decrease further
B) decrease; decrease; decrease further; will be restored to potential output
C) increase; decrease; decrease; will be restored to potential output
D) increase; decrease; increase further; will be restored to potential output
E) increase; increase; increase further; will be restored to potential output
Answer: C
Diff: 3
Topic: 24.2b. AS shocks
Skill: Applied
User2: Qualitative

The diagram below shows an AD/AS model for a hypothetical economy. The economy begins in
long-run equilibrium at point A.

FIGURE 24-4

73) Refer to Figure 24-4. The initial effect of a positive AS shock results in
A) a recessionary output gap of 250.
B) a recessionary output gap of 450.
C) an inflationary output gap of 200.
D) an inflationary output gap of 300.
E) an inflationary output gap of 550.
Answer: C
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 2
Topic: 24.2b. AS shocks
Skill: Applied
User1: Graph
User2: Quantitative
30
Copyright © 2014 Pearson Canada, Inc.
74) Refer to Figure 24-4. The positive aggregate supply shock results in a new short-run
equilibrium where the price level is ________ and real GDP is ________.
A) 60; 1000
B) 60; 1300
C) 90; 750
D) 90; 1200
E) 110; 1300
Answer: D
Diff: 2
Topic: 24.2b. AS shocks
Skill: Applied
User1: Graph
User2: Quantitative

75) Refer to Figure 24-4. After the positive aggregate supply shock shown in the diagram, which
of the following would shift the AS curve leftward during the economy's adjustment process?
A) an increase in factor supplies
B) an increase in the unemployment rate
C) a decrease in wages and other factor prices
D) an increase in labour productivity
E) an increase in wages and other factor prices
Answer: E
Diff: 2
Topic: 24.2b. AS shocks
Skill: Applied
User1: Graph
User2: Qualitative

76) Refer to Figure 24-4. Following the positive AS shock shown in the diagram, the adjustment
process will take the economy to a long-run equilibrium where the price level is ________ and
real GDP is ________.
A) 60; 1000
B) 60; 1300
C) 90; 750
D) 90; 1200
E) 110; 1000
Answer: E
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 2
Topic: 24.2b. AS shocks
Skill: Applied
User1: Graph
User2: Quantitative

31
Copyright © 2014 Pearson Canada, Inc.
77) Consider the basic AD/AS macro model, initially in a long-run equilibrium. A positive AS
shock will ________ the price level and ________ output in the short run. In the long run, the
price level will ________ and output ________.
A) decrease; decrease; decrease further; will decrease further
B) decrease; increase; decrease further; will be restored to potential output
C) decrease; increase; return to its initial level; will be restored to potential output
D) increase; increase; decrease; will be restored to potential output
E) increase; increase; return to its initial level; will be restored to potential output
Answer: C
Diff: 3
Topic: 24.2b. AS shocks
Skill: Applied
User2: Qualitative

78) The curve that is sometimes called the "long-run aggregate supply curve" (vertical Y*)
relates the aggregate price level to real GDP
A) in the short run.
B) when wages are in adjustment but prices are unstable.
C) when national income is at less than potential income.
D) when technology is allowed to change.
E) after factor prices have fully adjusted to eliminate output gaps.
Answer: E
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
Objective: REVISED
User2: Qualitative

79) What economists sometimes call the "long-run aggregate supply curve" is
A) vertical.
B) horizontal.
C) nonlinear.
D) negatively sloped.
E) positively sloped.
Answer: A
Diff: 1
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
User2: Qualitative

32
Copyright © 2014 Pearson Canada, Inc.
80) What is sometimes called the "long-run aggregate supply curve" shows the relationship
between the price level and aggregate supply over a time period long enough to permit
A) changes in the capital stock.
B) wages and other factor prices to adjust.
C) changes in technology to occur.
D) changes in the size of the resource base to occur.
E) population to increase.
Answer: B
Diff: 1
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
User2: Qualitative

81) The "long-run aggregate supply curve," vertical at Y*, shows that
A) potential output will rise as prices rise.
B) potential output will fall as prices rise.
C) potential output is compatible with any price level.
D) potential output is compatible with one particular price level.
E) prices will always rise in the long run.
Answer: C
Diff: 1
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
User2: Qualitative

82) Consider the AD/AS model. In the long run, after factor prices have fully adjusted to any
output gaps, real GDP
A) and the price level are determined by aggregate demand.
B) and the price level are determined by "long-run aggregate supply."
C) is determined by aggregate demand and the price level by potential output.
D) is determined by potential output and the price level by aggregate demand.
E) is determined by AD and the price level is determined by the AS curve.
Answer: D
Diff: 3
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
User2: Qualitative

33
Copyright © 2014 Pearson Canada, Inc.
83) Consider the AD/AS model. Since output in the long run is determined by Y*, the only role
of the AD curve is to determine the price level. This is true because the
A) Y* is independent of the price level.
B) aggregate demand curve is vertical.
C) aggregate demand curve is horizontal.
D) Y* depends on the price level.
E) AS curve is upward sloping.
Answer: A
Diff: 3
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
User2: Qualitative

84) Consider the AD/AS model after factor prices have fully adjusted to output gaps. A reduction
in the level of potential output, with aggregate demand constant, will
A) leave real output unaffected and increase the price level.
B) decrease real output and decrease the price level.
C) decrease real output and leave the price level unchanged.
D) decrease real output and increase the price level.
E) increase real output and decrease the price level.
Answer: D
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
User2: Qualitative

85) Consider the AD/AS model after factor prices have fully adjusted to output gaps. An increase
in the level of potential output, with aggregate demand constant, will
A) affect only the price level.
B) decrease real GDP and the price level.
C) affect only the level of real GDP.
D) increase real GDP and lower the price level.
E) decrease real GDP and raise the price level.
Answer: D
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
User2: Qualitative

34
Copyright © 2014 Pearson Canada, Inc.
FIGURE 24-5

86) Refer to Figure 24-5. The economy is not in long-run equilibrium at E1 because the
A) AD1 curve will shift back to AD0 due to an increase in the price level.
B) AD1 curve will shift back to the left due to a fall in current consumption.
C) AS will shift to the left due to an increase in wages.
D) AS will shift to the left due to an increase in the price level.
E) AS will shift to the right due to a decrease in the price level.
Answer: C
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
Objective: REVISED
User1: Graph
User2: Qualitative

35
Copyright © 2014 Pearson Canada, Inc.
87) Refer to Figure 24-5. Following a positive demand shock that takes the economy from E0 to
E1, the movement of the economy from E1 to E2 indicates that
A) a demand shock can keep real GDP above potential output permanently.
B) an increase in the price level causes the AS curve to shift to the left.
C) an increase in the price level causes the AD curve to shift to the left.
D) the economy cannot return to potential output without government intervention.
E) the output effect of a demand shock will be reversed in the long run when wages and prices
are fully adjusted.
Answer: E
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
User1: Graph
User2: Qualitative

88) Refer to Figure 24-5. If the economy is currently in equilibrium at E3, the concept of
asymmetrical adjustment of the AS curve suggests that
A) the economy will attain potential output faster if there is no intervention by the government.
B) a decrease in the price level will induce a rightward shift of AS.
C) the return of the economy to potential output may be very slow without government
intervention.
D) the economy will never return to potential output.
E) the price level is constant regardless of the level of equilibrium income.
Answer: C
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
User1: Graph
User2: Qualitative

89) Consider the AD/AS macro model. The study of short-run cyclical fluctuations usually
assumes, for simplicity, that there are no changes in
A) the AS curve.
B) potential GDP.
C) either the AS curve or potential GDP.
D) either the AD or AS curves.
E) the intersection of the AD and AS curves.
Answer: B
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
Objective: REVISED
User2: Qualitative

36
Copyright © 2014 Pearson Canada, Inc.
90) In the long run in the AD/AS macro model we can say that
A) both real GDP and the price level are determined by aggregate demand.
B) both real GDP and the price level are determined by Y*.
C) long-run real GDP is determined by Y* and the long-run price level by the AD curve.
D) real GDP is determined by aggregate demand and the price level by Y*.
E) long-run real GDP is determined by aggregate demand and the price level is determined
solely by the AS curve.
Answer: C
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
User2: Qualitative

91) Suppose the economy begins in a long-run equilibrium with Y = Y*. A permanent increase
in aggregate demand will have its short-run effect on real GDP reversed in the long run with a
________ shift of ________.
A) rightward; the aggregate supply curve
B) rightward; the aggregate demand curve
C) leftward; the aggregate supply curve
D) leftward; the aggregate demand curve
E) rightward; Y*
Answer: C
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Applied
User2: Qualitative

92) Consider the AD/AS macro model. The main source of increases in material living standards
over the long term is the
A) maintenance of a continuous inflationary gap.
B) continual avoidance of recessionary gaps.
C) continuous outward shift of aggregate demand.
D) continual increase in potential national income.
E) positive slope of the aggregate supply curve.
Answer: D
Diff: 1
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
Objective: REVISED
User2: Qualitative

37
Copyright © 2014 Pearson Canada, Inc.
93) In the basic AD/AS macro model, permanent increases in real GDP are possible only if
A) potential output is increasing.
B) the correct fiscal policy is implemented.
C) the economy's automatic stabilizers are allowed to operate.
D) the aggregate supply curve is vertical.
E) aggregate demand responds positively to demand shocks.
Answer: A
Diff: 2
Topic: 24.2c. long-run equilibrium and potential output
Skill: Recall
User2: Qualitative

94) Fiscal policy refers to the


A) government's attempts to maintain a vertical AS curve so as to stabilize output.
B) government's use of spending and taxing policies to influence equilibrium real GDP.
C) government's use of trade-related policy tools to influence the net export function, thereby
influencing GDP.
D) business sector's influence on investment and GDP.
E) households' attempts to change saving to encourage growth.
Answer: B
Diff: 1
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Recall
User2: Qualitative

38
Copyright © 2014 Pearson Canada, Inc.
FIGURE 24-1

95) Refer to Figure 24-1. If the economy is currently producing output of Y0 and the government
initiates an expansionary fiscal policy adequate to close the output gap, the result will likely be
A) the vertical line at Y* will shift to the left, intersecting the AS and AD curves at Y0.
B) no change in either price level or output, since expansionary fiscal policy is ineffective.
C) that the AS curve will shift to the right until point A is reached.
D) that the AS curve and the AD curve will shift left simultaneously.
E) that the AD curve will shift to the right until point B is reached.
Answer: E
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
Objective: REVISED
User1: Graph
User2: Qualitative

39
Copyright © 2014 Pearson Canada, Inc.
96) Refer to Figure 24-1. Suppose the economy is currently in a short-run equilibrium with
output of Y0. An appropriate fiscal policy response, to attain potential output (Y*), is
A) an increase in personal income taxes.
B) a reduction in government purchases of goods and services.
C) an increase in corporate income taxes.
D) an increase in government purchases.
E) an increase in interest rates to encourage increased saving.
Answer: D
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Qualitative

40
Copyright © 2014 Pearson Canada, Inc.
FIGURE 24-2

97) Refer to Figure 24-2. Suppose the economy is in a short-run equilibrium at Y1. An
appropriate fiscal policy for closing the output gap is
A) a decrease in personal income taxes.
B) a decrease in government purchases.
C) an increase in current interest rates.
D) an increase in government purchases.
E) a decrease in corporate income-tax rates.
Answer: B
Diff: 3
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
Objective: REVISED
User1: Graph
User2: Qualitative

41
Copyright © 2014 Pearson Canada, Inc.
98) Refer to Figure 24-2. Suppose the economy is in a short-run equilibrium at Y1. An
appropriate fiscal policy for attaining potential output (Y*) is a(n)
A) increase in personal and corporate tax rates.
B) increase in government spending.
C) increase in current consumption.
D) decrease in personal and corporate taxes.
E) decrease in current imports.
Answer: A
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
Objective: REVISED
User1: Graph
User2: Qualitative

99) Refer to Figure 24-2. Suppose the economy is in a short-run equilibrium at Y1. A
contractionary fiscal policy would restore the economy to potential output (Y*) by shifting the
A) AS curve to the left to intersect AD at C.
B) AS curve to the right.
C) potential GDP and the AS curve to the left.
D) AD curve to the right.
E) AD to the left to intersect AS at point A.
Answer: E
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Qualitative

100) One advantage of using expansionary fiscal policy rather than relying on automatic
adjustment to recover from a recessionary gap is that
A) the economy will overshoot potential GDP and a boom will be underway.
B) inflation will not be as stimulated.
C) price level will rise higher than otherwise.
D) the recovery may be more rapid.
E) the recovery will be slower, thereby causing less disruption.
Answer: D
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Recall
User2: Qualitative

42
Copyright © 2014 Pearson Canada, Inc.
101) Consider the basic AD/AS model, and suppose there is a negative output gap. If an
expansionary fiscal policy is pursued and the AS curve shifts right unexpectedly, the fiscal policy
may be ________, and real GDP may ________ potential GDP.
A) too weak; stay below
B) too weak; rise above
C) too strong; stay below
D) too strong; rise above
E) appropriate; equal
Answer: D
Diff: 3
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User2: Qualitative

102) Consider the basic AD/AS model, and suppose there is a negative output gap. If an
expansionary fiscal policy is pursued and the AS curve shifts leftward unexpectedly, the fiscal
policy may be ________, and real GDP may ________ potential GDP.
A) too weak; stay below
B) too weak; rise above
C) too strong; stay below
D) too strong; rise above
E) appropriate; equal
Answer: A
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 3
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User2: Qualitative

103) Suppose the economy has a high level of unemployment and a low level of aggregate
output. Which of the following policies could the government implement to alleviate these
conditions?
A) an expansionary fiscal policy that increases tax rates
B) a contractionary fiscal policy that increases government purchases
C) automatic fiscal stabilizers
D) a contractionary fiscal policy that increases tax rates
E) an expansionary fiscal policy that increases government purchases
Answer: E
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User2: Qualitative

43
Copyright © 2014 Pearson Canada, Inc.
The diagram below shows an AD/AS model for a hypothetical economy which is initially in a
short-run equilibrium at point A.

FIGURE 24-6

104) Refer to Figure 24-6. In the initial short-run equilibrium, there is ________ output gap of
________ but this gap could be closed by a ________.
A) a recessionary; 100; fiscal contraction
B) a recessionary; 200; fiscal expansion
C) a recessionary; 200; fiscal contraction
D) an inflationary; 100; fiscal contraction
E) an inflationary; 200; fiscal expansion
Answer: B
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Quantitative

44
Copyright © 2014 Pearson Canada, Inc.
105) Refer to Figure 24-6. If the government takes no action to change the short-run macro
equilibrium, then
A) the AD curve will shift downward until it intersects with the AS curve at point E.
B) the AD curve will shift upward until it intersects with the AS curve at point C.
C) the AS curve will shift to the left until it intersects with the AD curve at point D.
D) the AS curve will shift to the right until it intersects with the AD curve at point B.
E) the AS curve can either shift to the right or left depending on the fiscal policy.
Answer: D
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Qualitative

106) Refer to Figure 24-6. The government could close the existing output gap by
A) increasing the net tax rate.
B) decreasing the net tax rate.
C) decreasing government purchases.
D) decreasing government transfer payments.
E) implementing a contractionary fiscal policy.
Answer: B
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Qualitative

The diagram below shows an AD/AS model for a hypothetical economy which is initially in a
short-run equilibrium at point A.

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Copyright © 2014 Pearson Canada, Inc.
FIGURE 24-7

107) Consider Figure 24-7. At the initial short-run equilibrium, there is ________ output gap of
________. This gap could be closed by a ________.
A) a recessionary; 100; fiscal contraction
B) a recessionary; 200; fiscal expansion
C) an inflationary; 100; fiscal contraction
D) an inflationary; 200; fiscal contraction
E) an inflationary; 350; fiscal expansion
Answer: D
Comment: An algorithmic version of this question appears in MyEconLab
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Quantitative

108) Refer to Figure 24-7. If the government takes no action to close the existing output gap,
then
A) the AD curve will shift down until it intersects with the AS curve at point D.
B) the AD curve will shift up until it intersects with the AS curve at point B.
C) the AS curve will shift to the left until it intersects with the AD curve at point C.
D) the AS curve will shift to the right until it intersects with the AD curve at point E.
E) the AS curve can either shift to the right or left depending on the fiscal policy.
Answer: C
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Qualitative

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Copyright © 2014 Pearson Canada, Inc.
109) Refer to Figure 24-7. The government could close the existing output gap by
A) increasing the net tax rate.
B) decreasing the net tax rate.
C) increasing government purchases.
D) decreasing government transfer payments.
E) implementing an expansionary fiscal policy.
Answer: A
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User1: Graph
User2: Qualitative

110) Suppose the economy is experiencing an inflationary gap in the short run. The advantage of
using a contractionary fiscal policy rather than allowing the economy's natural adjustment
process to operate is that
A) it will reduce the upward pressure on the price level that would otherwise occur.
B) if private-sector expenditures increase on their own, the policy will stabilize real GDP.
C) it will shorten what might otherwise be a long recession.
D) it will reduce the downward pressure on the price level that would otherwise occur.
E) it will close the output gap.
Answer: A
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User2: Qualitative

111) As a global recession began in late 2008, the governments of all major economies searched
for policy responses to dampen the effects of the recession. In general, governments were aiming
to
A) shift the AD curve to the left by decreasing tax rates.
B) increase potential GDP.
C) shift the AS curve to the right through large increases in government spending.
D) shift the AD curve to the right through large increases in government spending.
E) shift the AS curve to the left by increasing wage rates.
Answer: D
Diff: 2
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User2: Qualitative

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Copyright © 2014 Pearson Canada, Inc.
112) Consider the global recession that began in late 2008. In terms of the AD/AS model, which
of the following statements best describes the macroeconomic effect on Canada's economy?
A) The AD curve shifted to the right due to reduced demand for Canadian exports, which created
a recessionary gap.
B) The AD curve shifted to the left due to reduced demand for Canadian exports, which created a
recessionary output gap.
C) The AS curve shifted to the right due to increased factor prices, which created a recessionary
gap.
D) The AS curve shifted to the left due to increased factor prices, which created a recessionary
gap.
E) Potential GDP fell, which reduced actual national income.
Answer: B
Diff: 3
Topic: 24.3a. discretionary fiscal stabilization policy
Skill: Applied
User2: Qualitative

113) Income taxes in Canada can be considered to be automatic stabilizers because tax
A) revenues increase when income increases, thereby offsetting some of the increase in
aggregate demand.
B) revenues decrease when income increases, thereby intensifying the increase in aggregate
demand.
C) structures can be changed when the Minister of Finance brings down a budget.
D) revenues are changed through discretionary fiscal policy to keep the budget balanced.
E) revenues are changed through discretionary fiscal policy to create surpluses in recessions.
Answer: A
Diff: 3
Topic: 24.3b. automatic fiscal stabilizers
Skill: Applied
User2: Qualitative

114) An important automatic fiscal stabilizer in Canada is


A) the exchange rate.
B) the marginal propensity to consume.
C) the marginal propensity to import.
D) the income-tax system.
E) government purchases of goods and services.
Answer: D
Diff: 2
Topic: 24.3b. automatic fiscal stabilizers
Skill: Recall
User2: Qualitative

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115) Automatic fiscal stabilizers are most helpful in
A) making discretionary fiscal policy effective.
B) removing persistent output gaps.
C) promoting economic growth.
D) eliminating price fluctuations in the economy.
E) reducing the intensity of business cycles.
Answer: E
Diff: 1
Topic: 24.3b. automatic fiscal stabilizers
Skill: Recall
User2: Qualitative

116) "Automatic fiscal stabilization" in the economy refers to


A) the properties of government spending and taxation that cause the simple multiplier to be
increased.
B) the discretionary fiscal policies that are automatically undertaken by the government when
there is a recessionary gap.
C) the properties of government spending and taxation that cause the simple multiplier to be
reduced.
D) the discretionary fiscal policies that are automatically undertaken by the government when
there is an inflationary gap.
E) all discretionary fiscal policies.
Answer: C
Diff: 2
Topic: 24.3b. automatic fiscal stabilizers
Skill: Recall
User2: Qualitative

117) Net tax revenues that rise with national income act as an automatic stabilizer by ________
the marginal propensity to spend and thereby causing the simple multiplier to ________.
A) increasing; increase
B) increasing; decrease
C) decreasing; equal one
D) decreasing; decrease
E) decreasing; increase
Answer: D
Diff: 3
Topic: 24.3b. automatic fiscal stabilizers
Skill: Recall
User2: Qualitative

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Copyright © 2014 Pearson Canada, Inc.
118) Consider the simplest macro model with demand-determined output. Other things being
equal, the ________ the value of the simple multiplier, the ________ stable is real GDP in
response to shocks to autonomous spending.
A) larger; more
B) larger; less
C) smaller; more
D) smaller; less
E) both B and C are correct
Answer: E
Diff: 2
Topic: 24.3b. automatic fiscal stabilizers
Skill: Recall
User2: Qualitative

119) Consider a simple macro model with demand-determined output. Which of the following
parameters will produce the strongest automatic stabilizer?
A) MPC = 0.8, t = 0.2, m = 0.3
B) MPC = 0.7, t = 0.3, m = 0.2
C) MPC = 0.7, t = 0.1, m = 0.4
D) MPC = 0.9, t = 0.2, m = 0.4
E) MPC = 0.8, t = 0.1, m = 0.2
Answer: C
Diff: 3
Topic: 24.3b. automatic fiscal stabilizers
Skill: Applied
User2: Quantitative

120) Consider a simple macro model with demand-determined output. Which of the following
parameters will produce the largest fluctuations in real GDP from autonomous expenditure
shocks?
A) MPC = 0.8, t = 0.2, m = 0.3
B) MPC = 0.7, t = 0.3, m = 0.2
C) MPC = 0.7, t = 0.1, m = 0.4
D) MPC = 0.9, t = 0.2, m = 0.4
E) MPC = 0.8, t = 0.1, m = 0.2
Answer: E
Diff: 3
Topic: 24.3b. automatic fiscal stabilizers
Skill: Applied
User2: Quantitative

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Copyright © 2014 Pearson Canada, Inc.
121) Automatic fiscal stabilizers ________ the impact of demand or supply shocks on the
economy since government's net tax revenues ________ during booms and ________ during
recessions.
A) magnify; increase; decrease
B) magnify; decrease; increase
C) dampen; increase; decrease
D) dampen; decrease; increase
E) does not affect; are constant; are constant
Answer: C
Diff: 3
Topic: 24.3b. automatic fiscal stabilizers
Skill: Applied
User2: Qualitative

122) Suppose the government implements a permanent reduction in the net tax rate in an effort to
increase real GDP. One disadvantage of this policy is that
A) the effect of economic shocks on government revenues becomes more volatile, while the
economy becomes more stable.
B) further reductions in the net tax rate will be required to maintain the effectiveness of the tax
rate as an automatic stabilizer.
C) private investment is crowded out, which may reduce the future growth rate of potential
output.
D) the effect of the automatic stabilizer is reduced and the economy will be more unstable.
E) —both C and D are correct.
Answer: E
Diff: 2
Topic: 24.3b. automatic fiscal stabilizers
Skill: Applied
Objective: NEW
User2: Qualitative

123) The "paradox of thrift" refers to the understandable tendency of people who are worried
about their economic situation to ________ their saving, but in aggregate this behaviour causes a
________ recession.
A) decrease, more severe
B) decrease; less severe
C) increase; more severe
D) increase; less severe
E) increase; shorter
Answer: C
Diff: 2
Topic: 24.3c. paradox of thrift
Skill: Applied
User2: Qualitative

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124) In the long run, aggregate demand is ________ for determining real GDP, and the paradox
of thrift ________.
A) not important; applies
B) not important; does not apply
C) the only influence; applies
D) the most important influence; does not apply
E) stable and important; applies
Answer: B
Diff: 2
Topic: 24.3c. paradox of thrift
Skill: Applied
User2: Qualitative

125) The paradox of thrift does not exist in the long run because
A) not everyone increases saving in the long run.
B) aggregate supply has an impact on real GDP only in the short run.
C) everyone increases consumption in the long run.
D) changes in aggregate demand have no impact on real GDP in the long run.
E) potential output is determined by changes in the price level.
Answer: D
Diff: 3
Topic: 24.3c. paradox of thrift
Skill: Recall
User2: Qualitative

126) In the basic AD/AS macro model, the "paradox of thrift" is only a short-run phenomenon
because
A) consumers exhibit cyclical consumption behaviour.
B) in the long run output is determined by potential output.
C) savings are transformed into expenditures in the long run.
D) the marginal propensity to consume is fixed in the long run.
E) consumers base their consumption expenditures only on their lifetime income.
Answer: B
Diff: 2
Topic: 24.3c. paradox of thrift
Skill: Applied
User2: Qualitative

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Copyright © 2014 Pearson Canada, Inc.
127) Many economists think discretionary fiscal policy is of limited effectiveness in stabilizing
the economy because
1) the multiplier effects associated with fiscal policy take a long time;
2) government deficits tend to reduce the value of the multiplier;
3) there are long and uncertain lags in implementing fiscal policy.
A) 1 only
B) 2 only
C) 3 only
D) 1 and 2
E) 1 and 3
Answer: E
Diff: 3
Topic: 24.3d. limitations of fiscal policy
Skill: Recall
Objective: REVISED
User2: Qualitative

128) Given current limitations, fiscal policy as a macroeconomic stabilizer is more defensible the
________ the output gap being suffered, an argument supporting ________.
A) larger; fine tuning
B) larger; gross tuning
C) smaller; fine tuning
D) smaller; crowding out
E) larger; crowding out
Answer: B
Diff: 3
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

129) Suppose the economy is experiencing a significant recessionary gap, but it has taken the
government six months to determine that it will change fiscal policy. This is an example of
A) an execution lag.
B) fine tuning.
C) gross tuning.
D) a decision lag.
E) automatic fiscal stabilizers.
Answer: D
Diff: 1
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

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130) Which of the following statements about fiscal policy is the best description of "fine
tuning"?
A) The government continuously alters its spending and taxing plans to hold real GDP at
potential.
B) The government cuts taxes to remove a large and persistent recessionary gap.
C) The government increases its spending to reduce an inflationary gap.
D) The government decreases tax rates to decrease an inflationary gap.
E) The government uses automatic stabilizers to reduce any output gaps.
Answer: A
Diff: 2
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

131) Which of the following statements about fiscal policy is the best example of "gross tuning"?
A) The government continuously alters its spending and taxing plans to hold real GDP at
potential.
B) The government cuts taxes to remove a large and persistent recessionary gap.
C) The government increases its spending to reduce an inflationary gap.
D) The government decreases tax rates to decrease an inflationary gap.
E) The government uses automatic stabilizers to reduce any output gaps.
Answer: B
Diff: 2
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

132) Suppose the government had made a decision to change fiscal policy, but it then took nine
months to implement a tax reduction. This is an example of
A) a decision lag.
B) fine tuning.
C) gross tuning.
D) automatic fiscal stabilizers.
E) an execution lag.
Answer: E
Diff: 1
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

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133) An expansionary fiscal policy that takes the form of an increase in government purchases
carries the possibility that private investment ________ and, as a result, the future growth rate of
________.
A) rises to an unsustainable level; real GDP is reduced
B) is crowded out; corporate tax revenue is reduced
C) increases; aggregate demand increases
D) increases; net exports increases
E) is crowded out; potential output is reduced
Answer: E
Diff: 3
Topic: 24.3d. limitations of fiscal policy
Skill: Recall
User2: Qualitative

134) Suppose the economy is in macroeconomic equilibrium with real GDP equal to Y*. If the
government then implements an expansionary fiscal policy by increasing government purchases,
what are the long-run effects on potential output?
A) The growth rate of potential output may be reduced due to the crowding out of investment.
B) Potential output will adjust to the new higher level achieved with the expansionary fiscal
policy.
C) Potential output will drop below its starting point because of the crowding out of investment.
D) The growth rate of potential output will rise due to the higher level of aggregate demand.
E) The level of potential output is fixed and will not be affected by fiscal policy.
Answer: A
Diff: 2
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

135) In any decision about stimulating the economy with a fiscal expansion (increasing
government purchases), the government must weigh the short-run benefits of ________ against
the long-run costs of ________.
A) a higher price level; unemployment
B) increased potential output; a higher price level
C) a higher price level; lower real GDP
D) increased real GDP; higher economic growth
E) increased economic activity; lower economic growth
Answer: E
Diff: 2
Topic: 24.3d. limitations of fiscal policy
Skill: Recall
User2: Qualitative

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Copyright © 2014 Pearson Canada, Inc.
136) Suppose that the government announces temporary tax cuts to stimulate consumers'
consumption expenditures but the impact of this tax change on consumption is observed to be
very small. This outcome might be explained by the fact that
A) this economy is already at its long-run equilibrium.
B) this economy is suffering from the paradox of thrift.
C) the impact of the policy is dampened by the automatic fiscal stabilizers.
D) the government has little credibility.
E) the consumers anticipate that the tax change is only temporary and thus is unlikely to affect
their "lifetime" income.
Answer: E
Diff: 3
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

137) The ________ associated with fiscal policy make(s)________ tuning difficult to implement
successfully.
A) execution lag; gross
B) execution lag; fine
C) decision lag; gross
D) decision lag; fine
E) execution and decision lags; fine
Answer: E
Diff: 2
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

138) The growth rate of potential output might be decreased by an expansionary fiscal policy if
A) the budget deficits are persistent.
B) the simple multiplier is small.
C) the policy crowds out private investment.
D) public investment has high productivity.
E) the composition of output is not altered.
Answer: C
Diff: 2
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

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139) A reduction in the net tax rate might lead to an increase in the growth rate of potential
output if
A) the simple multiplier is large.
B) the tax cuts stimulate private investment.
C) firms are operating at their normal capacity.
D) households are not forward looking.
E) the marginal propensity to consume is large.
Answer: B
Diff: 2
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
User2: Qualitative

140) The use of government purchases (G) as a fiscal policy tool can have an effect on long-run
growth in the economy. Under what circumstances might an increase in G cause the level of
potential output ( ) to increase?
A) If the increase in G crowds out private investment.
B) If the increase in G causes a permanent increase in the marginal propensity to consume,
which causes a permanent rightward shift of the AD curve.
C) If the increase in G is spent on public infrastructure that increases the productivity of private-
sector production.
D) If the increase in G leads to a permanent increase in the level of autonomous saving in the
economy.
E) If the increase in G is offset by an equal decrease in C, I, and NX.
Answer: C
Diff: 3
Topic: 24.3d. limitations of fiscal policy
Skill: Applied
Objective: NEW
User2: Qualitative

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Copyright © 2014 Pearson Canada, Inc.