Q: Given the money demand elasticity formula $$\frac{\Delta L(Y, i)}{L(Y, i)} = h_Y \frac{\Delta Y}{Y} + h_i \frac{\Delta i}{i}$$, if $$h_Y = 0.5$$, $$h_i = -0.2$$, income increases by 4%, and the interest rate increases by 10%, what is the approximate percentage change in money demand?

$$0.5 \times 0.04 + (-0.2) \times 0.10 = 0.02 - 0.02 = 0\%$$

Question 1

Which of the following best describes the three primary functions of money in a modern economy?

Accepted Answer

Medium of exchange, unit of account, and store of value

Question 2

Suppose the central bank increases the money supply. According to the IS-LM model, what is the immediate effect on the LM curve and the equilibrium interest rate, holding all else constant?

Accepted Answer

The LM curve shifts right, and the equilibrium interest rate falls

Question 3

If the expected inflation rate $$\pi^e$$ increases while nominal money supply $$M$$ and real income $$Y$$ remain constant, what happens to the real demand for money $$M^d$$ according to the money demand function $$M^d = P \cdot L(Y, r + \pi^e)$$?

Accepted Answer

The real demand for money decreases because the opportunity cost of holding money rises

Question 4

Which of the following assets is included in M1 but not in M2?

Accepted Answer

None; all assets in M1 are also included in M2

Question 5

A business cycle is best described as:

Accepted Answer

Fluctuations in aggregate economic activity that are recurrent but not periodic

Question 6

Suppose the economy experiences a temporary adverse supply shock (such as a sudden increase in oil prices). Using the IS-LM/AD-AS framework, what is the likely short-run effect on output and the price level?

Accepted Answer

Output falls and the price level rises

Question 7

Given the money demand elasticity formula $$\frac{\Delta L(Y, i)}{L(Y, i)} = h_Y \frac{\Delta Y}{Y} + h_i \frac{\Delta i}{i}$$, if $$h_Y = 0.5$$, $$h_i = -0.2$$, income increases by 4%, and the interest rate increases by 10%, what is the approximate percentage change in money demand?

Accepted Answer

$$0.5 	imes 0.04 + (-0.2) 	imes 0.10 = 0.02 - 0.02 = 0\%$$

Question 8

Which of the following variables is typically procyclical and leading with respect to the business cycle?

Accepted Answer

Stock market prices

Question 9

In the IS-LM model, which of the following would shift the IS curve to the right?

Accepted Answer

An increase in government spending

Question 10

Suppose the production function is $$Y^* = A \cdot F(K, N^*). If $$total factor productivity $$A$$ increases while capital $$K$$ and labor $$N^*$$ remain constant, what happens to full-employment output $$Y^*$$?

Accepted Answer

$$Y^*$$ increases

Question 11

Which of the following best explains monetary neutrality in the context of the AD-AS model?

Accepted Answer

A change in the money supply affects nominal variables but not real variables in the long run

Question 12

If the central bank wants to decrease aggregate demand, which of the following policy actions would be most effective?

Accepted Answer

Selling government securities to reduce the money supply

Question 13

Which of the following is a key difference between the classical and Keynesian versions of the IS-LM model?

Accepted Answer

The classical model assumes price and wage flexibility, while the Keynesian model allows for price and wage rigidity

Question 14

If the price level $$P$$ increases while the nominal money supply $$M$$ and real income $$Y$$ remain constant, what happens to the real money supply $$M/P$$ and the LM curve?

Accepted Answer

The real money supply decreases, shifting the LM curve left

Question 15

Which of the following would most likely cause the aggregate demand (AD) curve to shift to the right?

Accepted Answer

A decrease in taxes

Question 16

If households expect higher future income, how is the IS curve affected in the IS-LM model?

Accepted Answer

The IS curve shifts to the right due to increased current consumption

Question 17

Which of the following is NOT a function of money?

Accepted Answer

Means of production

Question 18

Suppose the government increases its spending without raising taxes. According to the IS-LM model, what is the likely short-run effect on output and the interest rate?

Accepted Answer

Both output and the interest rate increase

Question 19

Which of the following best describes the relationship between risk, expected return, and liquidity in portfolio allocation decisions?

Accepted Answer

Investors prefer assets with higher expected return, lower risk, and greater liquidity

Question 20

If the unemployment rate is countercyclical, what does this imply about its behavior during recessions?

Accepted Answer

It rises during recessions and falls during expansions

Asset Markets, Money, Prices, and the IS-LM/AD-AS Model: Study Notes

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