Question 1

Consider the following balance sheet for a bank: Assets = $$100B (MBS), Liabilities = 95B ($$short-term loans), Bank Capital = $5B. If the value of the MBS falls by 10%, what is the new value of bank capital, and what does this imply about the bank's solvency?

Accepted Answer

Bank capital is -$5B; the bank is insolvent.

Question 2

Which of the following best describes the IS curve in the IS-LM model?

Accepted Answer

It shows combinations of output and interest rates where investment equals savings.

Question 3

Suppose the central bank implements an expansionary monetary policy. According to the IS-LM model, what happens to the LM curve and the equilibrium interest rate?

Accepted Answer

The LM curve shifts down and the equilibrium interest rate falls.

Question 4

During the Global Financial Crisis, which financial innovation allowed banks to transfer mortgage risk to other investors?

Accepted Answer

Mortgage Backed Securities (MBS)

Question 5

If the unemployment rate is above the natural rate of unemployment ($$u_t \u003e u_n$$), what does the Phillips Curve predict about inflation relative to expected inflation?

Accepted Answer

Inflation will be below expected inflation.

Question 6

Given the linearized Phillips Curve $$\pi_t \approx \pi_t^e - \alpha u_t + m + z$$, what is the effect of an increase in the markup $$m$$?

Accepted Answer

It increases inflation for a given unemployment rate.

Question 7

Which of the following is a direct result of a 'cost-push' shock, such as a sudden increase in oil prices, in the Phillips Curve framework?

Accepted Answer

An upward shift of the Phillips Curve.

Question 8

Suppose the central bank cannot lower the short-run nominal interest rate below zero. What is this situation called, and what policy might still be effective?

Accepted Answer

Liquidity trap; large-scale asset purchases (quantitative easing) may still be effective.

Question 9

If a policy increases worker bargaining power ($$z$$), what happens to the wage-setting curve and the natural rate of unemployment ($$u_n$$)?

Accepted Answer

The wage-setting curve shifts up and $$u_n$$ increases.

Question 10

Which of the following best explains why subprime mortgages contributed to the financial crisis?

Accepted Answer

They were bundled into securities, spreading risk throughout the financial system.

Question 11

In the IS-LM model, what happens to the IS curve if there is an increase in government spending ($$G$$)?

Accepted Answer

The IS curve shifts right.

Question 12

Given the production function $$Y = N$$, what does this imply about the marginal product of labor and the role of capital in the short to medium run?

Accepted Answer

Each additional worker increases output by one unit; capital is not important in the short to medium run.

Question 13

If the risk premium ($$x) $$increases during a recession, how does this affect the IS curve and investment?

Accepted Answer

The IS curve shifts left and investment decreases.

Question 14

Which of the following is NOT a plausible reason for an outward shift of the Beveridge Curve?

Accepted Answer

A decrease in the unemployment rate.

Question 15

Suppose the Phillips Curve is given by $$\pi_t = \pi_t^e - \alpha u_t + m + z. If $$expected inflation ($$\pi_t^e) $$rises, what is the likely effect on actual inflation ($$\pi_t$$)?

Accepted Answer

Actual inflation will increase.

Question 16

Which policy response during the Great Recession involved the U.S. Treasury and Fed purchasing assets and equity from financial institutions?

Accepted Answer

Troubled Asset Relief Program (TARP)

Question 17

If a bank has assets of $$90B and liabilities of 95B$$, what is its equity (bank capital), and what does this imply?

Accepted Answer

Equity is -$5B; the bank is insolvent.

Question 18

Which of the following best describes the wage-price spiral?

Accepted Answer

A process where rising prices lead workers to demand higher wages, which increases costs and leads to further price increases.

Question 19

If the central bank acts as 'lender of last resort' during a financial crisis, what is its primary goal?

Accepted Answer

To provide liquidity to financial institutions and prevent cash-flow insolvency.

IS-LM Model, Financial Crisis, and the Phillips Curve: Advanced Macroeconomics Study Notes

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