Name: __________________________ Date: _____________ 1.

The interaction of the IS curve and the LM curve together determine: A) the price level and the inflation rate. B) the interest rate and the price level. C) investment and the money supply. D) the interest rate and the level of output. 2. In the IS-LM model when government spending rises, in short-run equilibrium, in the usual case, the interest rate ______ and output ______. A) rises; falls B) rises; rises C) falls; rises D) falls; falls 3. In the IS-LM model, the impact of an increase in government purchases in the goods market has ramifications in the money market, because the increase in income causes a(n) ______ in money ______. A) increase; supply B) increase; demand C) decrease; supply D) decrease; demand 4. If MPC = 0.75 (and there are no income taxes) when G increases by 100, then the IS curve for any given interest rate shifts to the right by: A) 100. B) 200. C) 300. D) 400. 5. In the IS-LM model under the usual conditions in a closed economy, an increase in government spending increases the interest rate and crowds out: A) prices. B) investment. C) the money supply. D) taxes.

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6. Using the IS-LM analysis, if the LM curve is not horizontal, the multiplier for an increase in government spending is ______ for an increase in government purchases using the Keynesian-cross analysis. A) larger than the multiplier B) the same as the multiplier C) smaller than the multiplier D) sometimes larger and sometimes smaller than the multiplier 7. In the IS-LM model, changes in taxes initially affect planned expenditures through: A) consumption. B) investment. C) government spending. D) the interest rate. Use the following to answer question 8: (Exhibit: IS-LM Monetary Policy)

8. (Exhibit: IS-LM Monetary Policy) Based on the graph, starting from equilibrium at interest rate r1 and income Y1, a decrease in the money supply would generate the new equilibrium combination of interest rate and income: A) r2, Y2 B) r3, Y2 C) r2, Y3 D) r3, Y3

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9. If the money supply increases, then in the IS-LM analysis the ______ curve shifts to the ______. A) LM; left B) LM; right C) IS; left D) IS; right 10. In the IS-LM model when M rises but P remains constant, in short-run equilibrium, in the usual case, the interest rate ______ and output ______. A) rises; falls B) rises; rises C) falls; rises D) falls; falls 11. If the demand for real money balances does not depend on the interest rate, then the LM curve: A) slopes up to the right. B) slopes down to the right. C) is horizontal. D) is vertical. 12. If Congress passed a tax increase at the request of the president to reduce the budget deficit, but the Fed held the money supply constant, then the two policies together would generally lead to ______ income and a ______ interest rate. A) lower; lower B) lower; higher C) no change in; lower D) no change in; higher 13. According to the IS-LM model, if Congress raises taxes but the Fed wants to hold income constant, then the Fed must ______ the money supply. A) increase B) decrease C) first increase and then decrease D) first decrease and then increase 14. An increase in consumer saving for any given level of income will shift the: A) LM curve upward and to the left. B) LM curve downward and to the right. C) IS curve downward and to the left. D) IS curve upward and to the right.

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15. In the IS-LM model, a decrease in the interest rate would be the result of a(n): A) increase in the money supply. B) increase in government purchases. C) decrease in taxes. D) increase in money demand. 16. The aggregate demand curve generally slopes downward and to the right because, for any given money supply M a higher price level P causes a ______ real money supply M/P, which ______ the interest rate and ______ spending: A) lower; raises; reduces B) higher; lowers; increases C) lower; lowers; increases D) higher; raises; reduces 17. A tax cut shifts the ______ to the right, and the aggregate demand curve ______. A) IS; shifts to the right B) IS; does not shift C) LM: shifts to the right D) LM; does not shift 18. A change in income in the IS-LM model resulting from a change in the price level represents a ______ aggregate demand curve, while a change in income in the IS-LM model for a given price level represents a ______ aggregate demand curve. A) movement along the; shift in the B) shift in the; movement along the C) vertical; horizontal D) horizontal; vertical 19. A shift in the aggregate demand curve, starting from long-run equilibrium, which increases output in the short run, will ______ in the long run, as compared to a short-run equilibrium. A) increase both output and the price level B) decrease output but increase prices C) increase output but decrease the price level D) decrease both output and the price level

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20. If the short-run IS-LM equilibrium occurs at a level of income above the natural level of output, in the long run the ______ will ______ in order to return output to the natural level. A) price level; increase B) interest rate; decrease C) money supply; increase D) consumption function; decrease 21. If the demand function for money is M/P = 0.5Y 100r and if M/P increases by 100, then the LM curve for any given interest rate shifts to the: A) left by 100. B) left by 200. C) right by 100. D) right by 200. 22. If the IS curve is given by Y = 1,700 100r and the LM curve is given by Y = 500 + 100r, then equilibrium income and interest rate are given by: A) Y = 1,100, r = 6 percent. B) Y = 1,200, r = 5 percent. C) Y = 1,000, r = 5 percent. D) Y = 1,100, r = 5 percent. 23. If investment does not depend on the interest rate, then the ______ curve is ______. A) IS; vertical B) IS; horizontal C) LM; vertical D) LM; horizontal 24. If money demand does not depend on income, then the ______ curve is ______. A) IS; vertical B) IS; horizontal C) LM; vertical D) LM; horizontal 25. If the government wants to raise investment but keep output constant, it should: A) adopt a loose monetary policy but keep fiscal policy unchanged. B) adopt a loose monetary policy and a loose fiscal policy. C) adopt a loose monetary policy and a tight fiscal policy. D) keep monetary policy unchanged but adopt a tight fiscal policy.

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26. An increase in government spending raises income: A) and the interest rate in the short run, but leaves both unchanged in the long run. B) in the short run, but leaves it unchanged in the long run, while lowering investment. C) in the short run, but leaves it unchanged in the long run, while lowering consumption. D) and the interest rate in both the short and long runs. 27. Assume that an economy is described by the IS curve Y = 3,600 + 3G 2T 150r and the LM curve Y = 2 M/P + 100r [or r = 0.01Y 0.02(M/P)]. The investment function for this economy is 1,000 50r. The consumption function is C = 200 + (2/3)(Y T). Longrun equilibrium output for this economy is 4,000. The price level is 1.0 and M = 1,200. a. Assume that government spending is fixed at 1,200. The government wants to achieve a level of investment equal to 900 and also achieve Y = 4,000. What level of r is needed for I = 900? What levels of T and M must be set to achieve the two goals? What will be the levels of private saving, public saving, and national saving? (Hint: Check C + I + G = Y.) b. Now assume that the government wants to cut taxes to 1,000. With G set at 1,200, what will the interest rate be at Y = 4,000? What must be the value of M? What will I be? What will be the levels of private, public, and national saving? (Hint: Check C + I + G = Y.) c. Which set of policies may be referred to as tight fiscal, loose money? Which set of policies may be referred to as loose fiscal, tight money? Which policy mix most encourages investment? 28. Use the IS-LM model to illustrate graphically the impact on output and interest rates of a one-time increase in the price level due to a large increase in oil prices. Be sure to label: i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the direction the curves shift; and v. the terminal equilibrium values.

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Use the following to answer question 29: (Exhibit: IS-LM Fiscal Policy)

29. (Exhibit: IS-LM Fiscal Policy) Based on the graph, starting from equilibrium at interest rate r1 and income Y1, an increase in government spending would generate the new equilibrium combination of interest rate and income: A) r2, Y2 B) r3, Y2 C) r2, Y3 D) r3, Y3

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Answer Key
1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. 21. 22. 23. 24. 25. 26. 27. D B B D B C A A B C D A A C A A A A B A D A A D C B a. b. c. r = 2; T = 1,450; M = 1,900. Private saving = 650; public saving = 250; national saving = 900. r = 8; M = 1,600; I = 600; private saving = 800; public saving = 200; national saving = 600. The policy under part a is tight fiscal, easy money. The policy under part b is loose fiscal, tight money. The policy under part a most encourages investment.

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28.

29. C

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