Key Concepts in Economics and Monetary Policy

What is the false statement at a price of P2?

Supply is greater than demand.

Which of the following is NOT a determinant of supply?

Buyer incomes.

What is economics the study of?

How people make choices.

What happens to the demand for Chevy Suburban SUVs if the price of gasoline rises to $10/gal?

The demand decreases.

What are Saudi Arabia's concerns regarding high oil prices?

They worry that high oil prices will lead Americans to buy alternative types of energy.

What happens to the quantity demanded if the price of a product with a steep demand curve rises?

The quantity demanded will fall, but only a little.

What is the opportunity cost of missing class?

The exam-related information that was covered in the class you missed.

What does a change in demand indicate?

A shift in the demand curve.

What is a problem with a socialist economic system?

The incentives to produce the goods consumers want are too weak.

What event is most likely to cause a decrease in the supply of pizza?

An increase in the cost of cheese.

What primarily determines the market price of a corporation's stock?

Investor expectations of its future profitability.

What is the role of the board of directors in a corporation?

To declare dividends, guide corporate affairs, and oversee financial performance.

What is expected if a firm provides training to its workers?

The market price of their products will decrease and quantity will increase.

What happens when a market becomes more competitive?

Product prices will fall and firm profits will fall.

According to the law of demand, what happens to the quantity of a good demanded as its price falls?

It increases, ceteris paribus.

What happens if the profits of firms in an industry are high?

Firms will enter the industry and industry profits will fall.

Why do economists argue that trade benefits both parties?

Traders will only accept trades that increase their utility.

What is true about incentives?

Each person is motivated by different incentives, which can change over time.

What is an example of a negative externality?

A cost imposed on people because of a transaction in which they didn't participate.

How are resources directed from one industry to another?

Through changes in market prices.

What occurs if a price is above equilibrium?

A surplus will cause the price to fall and the quantity supplied to decrease.

What does it mean if a good generates a negative externality?

Its market price doesn't reflect the product's full cost, leading to overproduction.

What does an increase in taste or preference for a product represent in a demand diagram?

A movement from D1 to D2.

What defines a 'public good'?

It is non-rivalrous and non-excludable.

What does it suggest if tickets to a sporting event sell out instantly?

The price for the tickets is below the equilibrium price.

What happens as output rises above potential GDP?

A decrease in the unemployment rate and an increase in the risk of inflation.

What is a final good?

Chocolate chips you purchased at Publix.

How is GDP calculated?

By adding together consumption, investment, government spending, and net exports.

Why is the market value of imported goods deducted from GDP calculations in the US?

Because they don't add to employment and income.

What is untrue about Bob's situation after losing his job?

Bob is underemployed.

Which transaction is included in GDP?

Money paid by a college student to buy a new car.

What do businesses do when US output is close to potential GDP?

Increase investment because they are confident prices and growth are steady.

What is the formula for computing a basic price index like the CPI?

(Cost of market basket in current year)/(Cost of market basket in base year) x 100.

Why does real GDP generally increase over the long term?

Investments in new factory machinery are usually more productive than old machinery.

What do economists assume when discussing the level of real GDP?

That prices haven't changed since the base year.

What does GDP attempt to measure?

How much value a country's economy produces.

What does the Consumer Price Index measure?

The level of prices of goods and services purchased by a typical consumer.

What does an increase in nominal GDP by 5% with unchanged quantities indicate?

Prices have risen by 5%.

What does it mean when the economy is operating at its potential GDP?

Unemployment has reached its natural rate.

What happens if a person's real wage increases by 5%?

His paycheck rose by 5%, and prices didn't change.

What was the rate of inflation if CPI was 200 in 2014 and 212 in 2015?

6%.

What does a current unemployment rate of 4.1% with a natural rate of 4.4% indicate?

Current output is below potential GDP.

What type of unemployment occurs when demand for labor temporarily declines?

Cyclical unemployment.

What is expected when the business cycle trends downward?

Real GDP to be falling.

When is a recession defined?

When real GDP declines for two or more consecutive quarters.

What best describes a nation's gross domestic product?

The total market value of all final goods and services produced in the economy during a year.

What does the Producer Price Index measure?

The costs of goods that producers buy.

What must a person do to be officially unemployed?

Be in the labor force.

What generally happens when interest rates lower?

More businesses borrow and invest.

What might trigger a recession if output has grown above potential GDP?

Workers reduce spending as unanticipated inflation reduces their real income.

What does the Federal Reserve implement when it sells US government securities in the open market?

Monetary policy.

What is the ultimate goal of the Federal Reserve?

To maintain the economy at a level of potential GDP which grows slowly and predictably.

What should the government do to increase real GDP using fiscal policy?

Decrease taxes.

What do changes in the amount of money in circulation affect?

All markets.

What does not change if the Federal Reserve changes the Fed Funds rate?

The money multiplier.

What must a bank do after a $1,000 withdrawal with a 10% reserve requirement?

Reduce its loans and security holdings by $900.

What is the maximum potential increase in the money supply from a Fed open market purchase of $100,000 in bonds with a 10% reserve ratio?

$1,000,000.

What would the Fed likely do if the economy is at equilibrium above cruising speed?

Adopt a contractionary monetary policy.

How do banks respond to Federal Reserve bond sales?

By raising the interest rate they charge borrowers.

What is the Federal Funds rate?

The interest rate charged when one bank lends reserves to another on an overnight basis.

What does fiscal policy use to stimulate consumption spending and investment?

Tax rates.

What is a bond?

A promise to repay borrowed funds.

What happens to the selling price of existing bonds if market interest rates rise?

It falls.

What is the market price of a bond initially bought for $1,000 at 5% interest if the market interest rate rises to 6%?

$943.40.

What does the M2 measure of the money supply include?

M1 plus savings account balances, small-denomination time deposits, and noninstitutional money market fund shares.

What happens to the simple money multiplier if the reserve ratio increases from 10% to 20%?

It decreases from 10 to 5.

What is the Fed's dual mandate?

Stable prices and high employment.

What are the three main monetary policy tools used by the Federal Reserve?

Open market operations, discount window policy, and market guidance.

How does a bank primarily earn profit?

Through lending.

What is NOT a correct statement about the Federal Reserve banks?

They provide the economy with gold-backed currency.

Where does a bank turn to borrow reserves on an overnight basis if it does not want to borrow from the Fed?

Other banks in the federal funds market.

What does NOT occur if the Fed purchases US government securities in the open market?

A fall in bond prices.

Why does our money have value?

Because we continue to have faith in its value.