chapter 11

Question 1

Say’s Law

Answer 1

supply creates its own demand.

Question 2

What can go wrong with says law in a money economy?

Answer 2

someone can sell a good, then not spend all the money they get for it, saving some instead.

Question 3

What process can guarantee that Say’s law will work in a money economy.

Answer 3

When people save at interest, either by direct or indirect finance, the money goes to somewhere, and is spent.

Question 4

How does the concept of potential GDP relate to the PPF model?

Answer 4

If all our resources are employed we are on the PPF, producing the amount of GDP called “potential GDP.”

Question 5

True, False, Explain: If we are at a point below the PPF, there must be a shortage of labor.-

Answer 5

False: To be at a point below the PPF, there must be unemployment, which is consistent with a surplus of labor.

Question 6

How did Keynes view recessions? How did the Chicago and Austrian schools view recessions?

Answer 6

Keynes viewed recessions as coming from problems with labor markets. Austrian and Chicago school economists viewed recessions as coming from real shocks to the economy or from government failure

Question 7

What two reasons does Keynes give for saying that wages do not easily fall? Explain

Answer 7

Workers mistake nominal wage cuts from deflation for real wage cuts and reduce their labor supply. Labor contracts keep wages from falling.

Question 8

a recessionary gap exists when

Answer 8

there is a surplus in the labor market. Potenial GDP minus actual GDP in a downturn

Question 9

Keynesian fiscal policy would dictate

Answer 9

running deficits during recession

Question 10

the problem with financing gov’t spending by foreign borrowing is that

Answer 10

economic activity declines in the future

Question 11

the spending done by the 2009 Stimulus package was done in

Answer 11

none of the above

Question 12

supply side economics

Answer 12

aims for long run growth; A long run policy in which the government reduces the cost of value creation through production and trade in order to promote more value creation. Government may lower the cost of value creation by reducing taxes and reducing regulation, increasing the ability and incentives to produce and trade.

Question 13

regime uncertainty

Answer 13

extend the gov’t’s calculation problem to the rest of the economy; When government actions create great uncertainties for households and business, it becomes impossible to plan, resulting in economic stagnation.

Question 14

Keynesians worried that

Answer 14

after WW2 ended, decreases in gov’t spending would cause an even greater depression to begin

Question 15

What criticism can be made of Keynes’ assertion that workers quit jobs at low nominal wages and stay unemployed, looking for jobs at the higher nominal wage?

Answer 15

Workers must remain ignorant, not learning that labor market conditions have changed–for a long time, if this is to be a large problem.

Question 16

What criticism can be made of Keynes’ assertion that labor contracts cause unemployment?-

Answer 16

If the contracts are a large problem then firms go out of business, which dissolves the contracts. Then workers look for jobs at the lower wages.

Question 17

How do recessionary gaps and inflationary gaps relate to the natural rate of unemployment?

Answer 17

If output is lower than potential, unemployment is above the natural rate. If output is higher than potential, unemployment is below the natural rate.

Question 18

What is Keynes’ remedy for a recession?

Answer 18

What is Keynes’ remedy for a recession?

Question 19

Why did Keynes’ consider tax cuts as a weaker tool than spending increases?-

Answer 19

?- People might save the tax cut, rather than spend it.

Question 20

How would Bastiat reply to Keynes’ emphasis on spending over saving?

Answer 20

When we save at interest, someone spends the money.

Question 21

What did James Buchanan say about Keynes’ “fiscal policy?

Answer 21

Politicians would run deficits, but would never run surpluses, so deficits would always involve redirecting spending, rather than increasing spending, ala Bastiat.

Question 22

What is wrong with financing Keynesian fiscal policy by money creation

Answer 22

it is inflationary

Question 23

When Keynes discusses filling bottles with money and burying them in mine shafts so that people will dig them up and spend the money, what is his error in thinking?

Answer 23

he had succumbed to the make work fallacy.

Question 24

What is Bastiat’s criterion for which public works should be constructed?

Answer 24

Those which have value in excess of their cost. Since their construction moves resources from a productive area, they should only be moved to more productive areas.

Question 25

Bastiat says that money creates an illusion. What ugly facts does the illusion hide?-

Answer 25

When we tax people’s incomes that they worked for in order to pay for a road, it is about the same as forcing them to work, building the road–akin to slavery.

Question 26

What was the Economic Stimulus Act of 2008? How was it supposed to stimulate?-

Answer 26

The government sent checks of from $300 to $1,200 to households. The plan was that they would spend the money and stimulate the economy.

Question 27

What is the data lag? How long is it

Answer 27

How long it takes to recognize a problem. 7 months, for a recession.

Question 28

What is the legislative lag? How long is it?

Answer 28

The time it takes to agree on the particular taxing/spending programs to carry out fiscal policy. 6 months-over a year.

Question 29

What is the transmission lag?

Answer 29

How long it takes to complete a fiscal policy project–to build a road or to have a tax cut go into effect, etc. This can take years, depending on the project.

Question 30

What is the effectiveness lag?-

Answer 30

The amount of time it takes a fiscal policy project to affect the economy. Perhaps people must learn about a new program and sign up for it. Taxpayers must make adjustments to take advantage of a new tax structure.

Question 31

True, false, explain: Value creation begins with people consuming goods and services.-

Answer 31

False. Value is created through production and trade. Consumption is the result of value creation, not the cause.

Question 32

True, false, explain: Supply side economics, which began in the late 1970’s, was the beginning of the idea that lower taxes could boost economic activity.-

Answer 32

True, false, explain: Supply side economics, which began in the late 1970’s, was the beginning of the idea that lower taxes could boost economic activity.-

Question 33

True, false, explain: Supply side economists might recommend a large, one year tax cut, to boost economic activity.

Answer 33

False. Supply side economists recommend permanent cuts in marginal tax rates.

Question 34

If the tax rate is 100%, approximately how large will government tax revenues be?

Answer 34

Approximately $0, since no one will wish to produce.

Question 35

Laffer Curve

Answer 35

shows the relationship between tax rates (the percentage paid) and tax revenues (the dollars the government receives)