Econ 100B / UGBA 101B: Macroeconomic Analysis

Post Lecture #10 Exercises

Money and Inflation

Multiple Choice Questions

1.

Subject to a few legal and practical restrictions, anything may be exchanged for anything else. The distinctive
advantage of money is that:
a.
b.
c.
d.

2.

Money is NOT:
a.
b.
c.
d.
e.

3.

Wealth because the former is generally used to acquire the latter.

Income because the former is a stock measure and the latter is a flow measure.
As inefficient as barter because the latter requires a double coincidence of wants.
All of the above.
None of the above.

The principal reason(s) that so much U.S. currency is held outside the U.S is (are):
a.
b.
c.
d.
e.

4.

It can generate income while it is kept.

It has little if any use other than in exchange.
It is likely to retain its value whether it is kept or exchanged.
It is likely to be accepted by everyone in exchange for anything.

U.S. citizens and corporations spend a lot of dollars abroad.

Banks all around the world find it convenient to hold large amounts of U.S. dollars.
Many people around the world trust the U.S. dollar more than any other currency.
All of the above.
None of the above.

Open market operations alter the money supply by:

a.
b.
c.
d.
e.

Influencing banks ability to make loans to the government.

Adding currency to, or withdrawing currency from, banks vaults.
Influencing banks ability to make loans to individuals and businesses.
Adding currency to, or withdrawing currency from, the checking accounts of individuals and
businesses.
None of the above.

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Econ 100B / UGBA 101B: Macroeconomic Analysis

Post Lecture #10 Exercises
Money and Inflation

5.

When the Fed sells government securities in the open market, the money supply ________ because:
a.
b.
c.
d.
e.

6.

The Quantity Theory of Money explains how _____ depends on _____.

a.
b.
c.
d.
e.

7.

Real GDP; the money supply.

Nominal GDP; the price level.
The money supply; the velocity of money.
All of the above.
None of the above.

From the Equation of Exchange, if both nominal income and the quantity of money triple, the price level
increases by 50% and velocity remains constant, then real GDP:
a.
b.
c.
d.
e.

8.

increases; banks lose liquidity, they make more loans and checking account deposits increase.
increases; banks gain liquidity, they make more loans and checking account deposits increase.
decreases; banks lose liquidity, they make fewer loans and checking account deposits decrease.
decreases; banks gain liquidity, they make fewer loans and checking account deposits decrease.
None of the above.

Triples.
Doubles.
Increases by 50%.
Decreases by 50%.
None of the above.

The proposition that the velocity of money is fairly constant in the long-run is known as:
a.
b.
c.
d.
e.

The classical dichotomy.

The quantity theory of money.
The long-run neutrality of money.
All of the above.
None of the above.

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Econ 100B / UGBA 101B: Macroeconomic Analysis

Post Lecture #10 Exercises
Money and Inflation

9.

The Quantity Theory of Money:

a.
b.
c.
d.
e.

Provides central banks with a tool to prevent inflation from fluctuating.

Implies that, in the long run, changes in the money supply will be matched by changes in real GDP.
Implies that inflation equals the ratio of the growth rate of the money supply to the growth rate of real
GDP.
All of the above.
None of the above.

10. According to the Quantity Theory of Inflation, in a steadily growing economy, if the money supply growth rate
increases by 5 percentage points, then:
a.
b.
c.
d.

Inflation will also increase by 5 percentage points.

Inflation will also increase but by less than 5 percentage points.
Inflation will also increase but by more than 5 percentage points.
Inflation will not change but the economy will grow more quickly.

11. Suppose the central bank is firmly committed to a fixed price level. If the economy is currently above its steady
state, then according to the Solow Growth Model and the Quantity Theory of Money:
a.
b.
c.
d.

Inflation will accelerate as the economy approaches its steady state.

Inflation will decelerate as the economy approaches its steady state.
The money supply growth rate will accelerate as the economy approaches its steady state.
The money supply growth rate will decelerate as the economy approaches its steady state.

12. The real interest rate _____ inflation _____.

a.
b.
c.
d.
e.

Subtracted from the nominal interest rate yields expected; according to the Fisher equation.
In the long-run, moves one-for-one with expected; according to the classical dichotomy.
Always increase with; but because of the Fisher effect lower expected inflation follows.
All of the above.
None of the above.

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Econ 100B / UGBA 101B: Macroeconomic Analysis

Post Lecture #10 Exercises
Money and Inflation

13. The Fisher effect:

a.
b.
c.
d.
e.

Comes from combining the Fisher equations and the classical dichotomy.
Shows that in high inflation environments nominal interest rates are also high.
Predicts that in the long-run nominal interest rates will increase with increase in expected inflation.
All of the above.
None of the above.

14. If the actual inflation rate is less than the expected inflation rate, the actual real interest rate will be _____ than
the expected real interest rate. When this happens, _____ will lose purchasing power and _____ will gain
purchasing power.
a.
b.
c.
d.

Less; lenders; borrower

Less; borrowers; lenders
Greater; lenders; borrowers
Greater; borrowers; lenders

Discussion Questions

1.

What are open market operations? What open market operation can the central bank conduct to increase the
money supply?

2.

What key assumption of classical economists provides the basis for their analysis of the relationship between
money and other economic variables?

3.

How is the quantity theory of money converted into a theory of inflation? According to this theory, what
determines inflation?

4.

What is the Fisher effect? What is its significance?

5.

Some developing countries have suffered banking crises in which depositors lost part or all of their deposits
(often in countries without deposit insurance). This type of crisis decreases depositors confidence in the
banking system. What would be the effect of a rumor about a banking crisis on checkable deposits in such a
country? What would be the effect on reserves and the monetary base?

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Econ 100B / UGBA 101B: Macroeconomic Analysis

Post Lecture #10 Exercises
Money and Inflation

6.

Under very particular conditions, banks would like to borrow from the central bank and, rather than use these
borrowed bunds to make loans, keep them in the form of excess reserves. What would be the effect on the
monetary base and the money supply of an increase in bank borrowings from the central bank that are kept in
the form of excess reserves?

7.

Calculate the money multiplier for the following values of the currency, excess reserves, and required reserves
ratios. Explain why the money multiplier decreases when the currency or excess reserves ratio increases.
Currency deposit ratio
Excess reserves ratio
Required reserves ratio
Money multiplier

0.50
0.01
0.08
???

0.70
0.01
0.08
???

0.50
0.90
0.08
???

8.

During the Great Depression years of 1930 1933, bank panics led to a dramatic increase in the currency and
excess reserve ratios while the monetary base increased by 20%. Explain how banks and depositors behavior
led to a sharp increase in the currency and excess reserves ratio and explain using the money multiplier model
why the money supply actually declined by 25% during that period despite the 20% increase in the monetary
base.

9.

How might inflation, even if fully anticipated, prevent the classical dichotomy from holding, even in the long
run?

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