1. If public opinion surveys show that the majority of Americans regard inflation as a more serious threat than unemployment:
a) Does this imply that the majority of Americans would rather be unemployed in a period of stable prices than employed in a time of rising prices?
b) If the management of a firm allowed employees to vote on whether the firm should lay off 10% of the employees or reduce wage rates by 5%, how do you think they would vote? Do you think the outcome of the vote would depend on whether the employees knew in advance exactly who would be laid off?
2. How independent of each other are monetary policy and fiscal policy? a) Under what circumstances could the federal government run a large budget deficit without thereby producing an increase in the size of the money stock? b) Suppose the Fed determined to run a tight monetary policy, allowing no growth in commercial bank reserves, at a time when the federal government was trying to borrow to finance a large budget deficit. What would happen? c) Assuming that interest rates are set by the demand for and supply of loanable funds, under what circumstances could a large increase in federal government borrowing not produce higher interest rates? d) Suppose the Fed tries to prevent the increased government demand for loanable funds from raising interest rates by increasing the supply of loanable funds through and expansion of commercial bank loans. Will this Fed policy succeed in preventing interest rates from rising? At what point will the Fed's expansionary policy step up the inflation rate? How will the expectation of a higher rate of inflation cause interest rates to rise? e) Suppose that the federal government begins to run a large budget deficit at a time when many productive resources are idle - factories are operating far below capacity in most industries and there are surplus supplies of labor in almost every area of the economy. How might the existence of all these idle resources prevent even a very large increase in government borrowing from leading to an increase in interest rates?
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