Q: Suppose the government increases its spending by $100 billion. If the marginal propensity to consume (MPC) is 0.8, what is the total change in aggregate demand according to the simple spending multiplier formula?

The total change is $$500 billion, since $$ \text{Multiplier} = \frac{1}{1-0.8} = 5 $$ and 5$$ \times 100 = 500 $.

Q: If the marginal propensity to consume (MPC) is 0.6, what is the value of the simple spending multiplier?

$$ \text{Multiplier} = \frac{1}{1-0.6} = 2.5 $$

Question 1

Suppose the government increases its spending by $100 billion. If the marginal propensity to consume (MPC) is 0.8, what is the total change in aggregate demand according to the simple spending multiplier formula?

Accepted Answer

The total change is $$500 billion, since $$ 	ext{Multiplier} = \frac{1}{1-0.8} = 5 $$ and  5$$ 	imes 100 = 500 $.

Question 2

Which of the following best describes an automatic stabilizer in fiscal policy?

Accepted Answer

Unemployment insurance payments that increase during recessions without new legislation.

Question 3

If the government runs a budget deficit, which of the following is true?

Accepted Answer

Government expenditures exceed government revenues.

Question 4

Consider the Phillips curve. If the central bank pursues expansionary monetary policy, what is the short-run effect on inflation and unemployment?

Accepted Answer

Inflation increases and unemployment decreases.

Question 5

Which of the following scenarios best illustrates crowding out in fiscal policy?

Accepted Answer

Government increases spending, causing interest rates to rise and private investment to fall.

Question 6

Suppose the economy is operating below full employment. Which fiscal policy would be most appropriate to close the output gap?

Accepted Answer

Expansionary fiscal policy, such as increasing government spending or cutting taxes.

Question 7

If the marginal propensity to consume (MPC) is 0.6, what is the value of the simple spending multiplier?

Accepted Answer

$$ 	ext{Multiplier} = \frac{1}{1-0.6} = 2.5 $$

Question 8

Which of the following would shift the short-run Phillips curve to the right?

Accepted Answer

An increase in expected inflation.

Question 9

In an open economy, which of the following would cause the currency to appreciate?

Accepted Answer

An increase in domestic interest rates relative to foreign interest rates.

Question 10

If a country has a current account deficit, which of the following must be true?

Accepted Answer

It has a capital account surplus of equal magnitude.

Question 11

Suppose the nominal exchange rate between the US dollar and the euro is 1.2 ($$1 = €1.2$$), and the price level in the US is 120 while in Europe it is 100. What is the real exchange rate?

Accepted Answer

$$ 	ext{Real exchange rate} = \frac{1.2 	imes 100}{120} = 1 $$

Question 12

Which of the following is an example of foreign direct investment (FDI)?

Accepted Answer

A US company builds a factory in Brazil.

Question 13

If the government wants to reduce inflation without increasing unemployment in the long run, which policy is most effective according to the expectations-augmented Phillips curve?

Accepted Answer

Reduce inflation expectations through credible monetary policy.

Question 14

Which of the following best describes the purchasing power parity (PPP) theory?

Accepted Answer

Exchange rates adjust so that identical goods cost the same in different countries.

Question 15

Suppose the government increases taxes by $50 billion and the MPC is 0.75. What is the expected change in aggregate demand using the tax multiplier?

Accepted Answer

$$ 	ext{Tax multiplier} = -\frac{MPC}{1-MPC} = -\frac{0.75}{0.25} = -3 $$; $$ -3 	imes 50 = -150 $$ billion.

Question 16

Which of the following would most likely cause a shift in the aggregate supply curve to the left?

Accepted Answer

An increase in oil prices.

Question 17

If a country pegs its currency to the US dollar, what is the likely effect if the US raises its interest rates?

Accepted Answer

The pegged country may also need to raise its interest rates to maintain the peg.

Question 18

Which of the following is a consequence of a contractionary fiscal policy?

Accepted Answer

Aggregate demand decreases, potentially reducing inflation.

Question 19

Suppose the government wants to achieve both internal and external balance in an open economy. Which policy mix is most appropriate?

Accepted Answer

Use fiscal policy for internal balance and monetary policy for external balance.

Question 20

If the savings rate in an open economy increases, what is the likely effect on net capital outflows?

Accepted Answer

Net capital outflows increase as domestic residents invest more abroad.

Macroeconomics Study Guide: Fiscal Policy, Inflation/Unemployment, and Open Economy

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