Keynesian Economics Concepts Quiz

A macroeconomic model that focuses on the relationship between income and expenditure in a closed economy. It emphasizes the role of aggregate demand in determining output and income.

The idea that in the short run, the level of output in an economy is primarily determined by the level of aggregate demand.

A macroeconomic model that assumes prices are fixed in the short run, and that output is determined by aggregate demand.

A closed economy is an economy that doesn't interact with other economies through trade or capital flows (imports/exports). All production and consumption happens within the domestic economy.

A macroeconomic model that assumes prices are fixed and does not consider changes in prices or the time dimension.

A tax multiplier is a negative value that shows the effect of changes in taxes on national income. An increase in taxes reduces consumption, which in turn reduces income, and vice versa. For example, if the tax multiplier is -2, a $1 increase in taxes would result in a $2 decrease in national income.

The absolute value of the tax multiplier is always greater than 1, meaning that a change in taxes has a larger impact on income than the initial change in taxes. This is because changes in taxes affect consumption, which then affects income, creating a multiplier effect.

The tax multiplier is smaller than the government spending multiplier because a tax cut leads to less initial spending than an equal increase in government spending. This is because consumers save a portion of a tax cut, whereas all of a government spending increase is used for spending immediately.

The balanced budget multiplier is the effect on national income from a simultaneous increase in government spending and taxes. Its value is less than 1, implying that a balanced budget change in government spending and taxes has a smaller impact on national income than an equal increase in government spending alone.

The balanced budget multiplier is less than the multiplier without balancing the budget because the increase in taxes reduces income, partially offsetting the positive effect of increased government spending. Even though spending increases, part of the benefit is lost due to the tax increase.

A change in taxes can create a ripple effect on the economy, as changes in consumption lead to subsequent changes in income. This ripple effect can have a significant impact on overall economic activity.

The size of the tax multiplier depends on the marginal propensity to consume (MPC), which represents the portion of additional income spent on consumption. A higher MPC means a larger tax multiplier, as more income is spent on consumption, creating a bigger ripple effect.

The tax multiplier is a crucial concept in macroeconomics, helping us understand how government policies can influence national income and economic activity. Understanding the tax multiplier can help policymakers make informed decisions about tax policy and fiscal policy.

The IS curve represents all possible combinations of interest rates (r) and income levels (Y) where the goods market is in equilibrium. This means that planned expenditure equals actual expenditure (Y=E).

The equation for the IS curve is: Y = C(Y-T) + I(r) +G, where Y is income, C is consumption, T is taxes, I is investment, r is the interest rate, and G is government spending.

A lower interest rate (r) leads to higher investment (I) because borrowing becomes cheaper. This increased investment leads to higher planned expenditure (E), which in turn pushes up income (Y).

The IS curve slopes downward because a lower interest rate leads to higher income. This is because lower interest rates stimulate investment, increasing aggregate demand and thus income.

The IS curve is derived by looking at different combinations of interest rates (r) and income levels (Y) that result in equilibrium in the goods market. For each interest rate, we find the corresponding equilibrium income level, and plot these points on a graph.

The IS curve shows how equilibrium income depends on the interest rate. It helps us understand how changes in interest rates affect the overall economy.

The IS curve is a static concept, meaning it doesn't take into account changes in prices or the passage of time. It's a simplified model that helps us understand the relationships between key economic variables.

The IS curve is a valuable tool for understanding how monetary policy affects the economy, but it's important to remember that it's a simplified model that doesn't capture all of the complexities of the real world.

The IS curve shifts rightward because an increase in government spending (G) directly increases total expenditure (E), leading to a higher equilibrium output (Y).

The IS curve shifts leftward as higher taxes (T) reduce disposable income, lowering consumption (C) and ultimately decreasing total expenditure (E) and equilibrium output (Y).

The Quantity Theory of Money relates the inflation rate to the growth rate of the money supply by focusing on the concept of 'velocity,' which represents how quickly money circulates in the economy.

The link between transactions and money is explained by the 'quantity equation,' which connects the amount of money (M) with the velocity of money (V), the price level (P), and the level of real output (Y).

Money is the standard medium for transactions, facilitating the exchange of goods and services. It also serves as a unit of account for measuring values and prices.

Money's ability to be used to buy goods and services makes it a medium of exchange, playing a crucial role in the smooth functioning of an economy.

By holding money, individuals and businesses maintain purchasing power, allowing them to buy goods and services in the future.

Money serves as a common unit of account for measuring values, prices, and debts, creating a standardized system for economic transactions.

The rate at which money changes hands in an economy, reflecting how many times a dollar is used in transactions during a period.

The total value of all goods and services produced in an economy during a specific period.

The total amount of money in circulation in an economy.

The average price level of goods and services in an economy.

The value of money expressed in terms of goods and services that it can buy.

A central bank's use of buying and selling government bonds to influence the money supply.

The percentage of a bank's deposits that they are required to hold in reserve.

The interest rate at which commercial banks can borrow money from the central bank.

The theory explaining how the interest rate is determined by the supply and demand for money.

The relationship between the quantity of money demanded and the interest rate.

The relationship between the interest rate (r) and output (Y) where the money market is in equilibrium. In this state, the demand for real money balances equals the supply.

The demand for money increases as income rises. This creates a surplus in the money market at the initial interest rate, as the supply of real balances is fixed. The interest rate needs to rise to reduce money demand and restore equilibrium.

The equation of the LM curve can be derived by setting the demand for real money balances, L, equal to the fixed supply of real balances, M/P. Solving for the interest rate results in the LM equation.

A change in the real money supply (M/P) shifts the LM curve. An increase in the real money supply shifts the LM curve to the right, while a decrease shifts it to the left.

An increase in the real money supply (M/P) decreases the equilibrium interest rate. This occurs because a larger money supply reduces the need for individuals to borrow money.

A decrease in the real money supply shifts the LM curve to the left. This is because a smaller money supply makes it harder for people to borrow money, leading to an increase in the interest rate.

Increases in the real money supply reduce interest rates and increase output, because the abundance of money encourages borrowing and spending.

Decreases in the real money supply raise interest rates and reduce output, as it becomes more expensive for people to borrow money.