Chapter 7

Question 1

equation of exchange

Answer 1

MV=PQ

Question 2

Velocity means

Answer 2

the average number of times a dollar changes hands

Question 3

What is the common sense interpretation of the equation of exchange?

Answer 3

A year’s worht of output in the economy is bought by the money supply which is spent and re-spent V times per year

Question 4

What assumptions does the simple quantity theory rest on?

Answer 4

the equation of exchange applies, velocity is constant, output is constant

Question 5

What is the prediction of the simple quantity theory?

Answer 5

over a short time period, resources are limited, so output is limited
the speed at which money moves through the economy is limited
»price level and money supply are proportionally related

Question 6

Who founded the monetarist school of economics?

Answer 6

Milton Friedman

Question 7

What assumptions does monetarism make about the equation of exchange?

Answer 7

Velocity is a stable function of a few variables. Output may change in the short run, but in the long run, output is constant

Question 8

What happens in the short run and the long run in Friedman’s “helicopter drop” story?

Answer 8

Output and prices increases in the short run, and in the long run wages increase, output is restored to potential but with higher prices

Question 9

Under what conditions would inflation have 0 effect on the economy?

Answer 9

If it is wholly anticipated and evenly spread throughout the economy

Question 10

What is a way to avoid being made worse off by anticipated inflation?

Answer 10

Before the inflation starts, buy goods, whose prices will rise faster than the average price level

Question 11

T/F With unanticipated inflation, borrowers gain and lenders lose

Answer 11

TRUE the borrower pays off the loan with inflated dollars, which are worth less

Question 12

What is the real interest rate?

Answer 12

Real rate= nominal rate- expected inflation rate

Question 13

What are the 2 problems with uneven inflation?

Answer 13

prices no longer reflect value, so mistakes are made.

Bubbles expand as systematic mistakes are made due to inflation.

Question 14

Which economic “school” emphasizes inflation?

Answer 14

The Austrian school- Hayek, Mises, etc

Question 15

What happens when a Fed- created inflationary bubble bursts?

Answer 15

unwanted capital goods and constructions are abandoned and the workers that produced them must all find new jobs

Question 16

Why do Austrians say that government and the central bank create bubbles?

Answer 16

there must be coordinated failures by many individuals and firms. Government, especially through a government money supplier, is the best creator.

Question 17

What is “monetizzing the debt”?

Answer 17

the central bank attempts to assist the state in its borrowing by purchasing the debt in return for dollars

Question 18

What is “the inflationary tax?”

Answer 18

when money growth causes inflation, borrowers gain and lenders lose, so governments who borrow a lot can sap their lenders by creating inflation and paying with lower value dollars