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1. True or False: The principle of 'neutrality of money' states that a change in the money supply has no effect on any economic variables, either real or nominal.
False. Neutrality of money means a change in the money supply affects nominal variables (like the absolute price level) but does not affect real variables (like output, relative prices, or the real interest rate) in the long run.
Source: Palgrave Dictionary of Money and Finance, 'neutrality of money', p. 17.
2. True or False: The Cambridge equation, \(M = kPY\), treats the demand for money as a flow of transactions over a period.
False. The Cambridge approach treats the demand for money as a demand to hold a stock of assets ('money sitting'). It is the Fisherian transactions version (MV=PT) that focuses on money as a flow ('money on the wing').
Source: Harris, L. (1985). Monetary Theory, p. 62.
3. True or False: The classical dichotomy posits that real variables and nominal variables are determined simultaneously in a single, unified system.
False. The dichotomy is the very idea that the system can be split into two separate parts: a real sector that determines all real variables and relative prices, and a monetary sector that separately determines the absolute price level.
Source: Mizen & Lewis (2000), p. 63.
4. True or False: Walras' Law is derived from the principle that individual households must satisfy their budget constraints.
True. Walras' Law is the macroeconomic aggregation of individual budget constraints. Since each individual's planned sources of funds must equal their planned uses, the sum of the values of all excess demands across the entire economy must be identically zero.
Source: Harris, L. (1985). Monetary Theory, p. 53.
5. True or False: Patinkin's real balance effect invalidates the long-run neutrality of money.
False. While the real balance effect invalidates the classical dichotomy by linking the real and monetary sectors, Patinkin's model preserves the long-run neutrality of money. A change in the money supply still leads to a proportionate change in prices, leaving all real variables unchanged in the final equilibrium.
Source: Harris, L. (1985). Monetary Theory, p. 66.
6. True or False: An increase in the required reserve ratio increases the money multiplier.
False. A higher reserve ratio means banks must hold a larger fraction of deposits as reserves, reducing the amount they can lend out. This weakens the re-lending cycle and decreases the money multiplier.
Source: Palgrave Dictionary of Money and Finance, 'quantity theory of money', p. 251.
7. True or False: The homogeneity postulate states that the demand for goods is homogeneous of degree one in money prices.
False. The postulate states that the demand functions for goods are homogeneous of degree zero in money prices and the absolute price level. This means that a proportionate change in all nominal prices has no effect on the quantity of goods demanded.
Source: Harris, L. (1985). Monetary Theory, p. 56.
8. True or False: In the classical model, the interest rate is primarily a monetary phenomenon.
False. In the classical model, the interest rate is a real variable determined in the loanable funds market by the real forces of productivity (investment demand) and thrift (saving).
Source: Mizen & Lewis (2000), p. 69.
9. True or False: The inconsistency Patinkin found in the classical model arises because it has too few equations to solve for the number of unknowns.
False. The model is actually identified and determinate (it has enough equations). The problem is not the number of equations but their internal logical inconsistency, specifically between the two different excess demand functions for money implied by the real and monetary sectors.
Source: Mizen & Lewis (2000), p. 76.
10. True or False: The real balance effect is also known as the Pigou effect.
True. The aggregate demand function for goods that includes the real balance effect is also known as a consumption function based on the Pigou Effect, which posits that consumption is a function of real wealth, including real money balances.
Source: Harris, L. (1985). Monetary Theory, p. 72.
11. True or False: According to the quantity theory, a country's domestic happiness depends on having the largest possible quantity of money.
False. As David Hume stated, 'it is of no manner of consequence, with regard to the domestic happiness of a state, whether money be in a greater or less quantity.' What matters for stimulating industry is that the quantity of money is kept increasing.
Source: Palgrave Dictionary of Money and Finance, 'neutrality of money', p. 18.
12. True or False: The Cambridge 'k' is the mathematical reciprocal of the Fisherian transactions velocity 'V'.
True. If \(M=kPY\) and \(MV=PY\), then \(kPYV = PY\), which simplifies to \(kV=1\) or \(k=1/V\). The proportion of income held as money is the reciprocal of the income velocity of money.
Source: Harris, L. (1985). Monetary Theory, p. 50.
13. True or False: The classical dichotomy was first proven to be invalid by John Maynard Keynes.
False. While Keynes questioned the classical system, it was Don Patinkin who provided the rigorous mathematical proof that the classical dichotomy, as formulated in a Walrasian system, was logically inconsistent.
Source: Mizen & Lewis (2000), p. 73.
14. True or False: In a Walrasian system, the auctioneer is a market participant who trades to maximize profit.
False. The auctioneer is a hypothetical, external coordinator who does not participate in trade and has no personal economic motive. Their function is simply to find the market-clearing set of prices.
Source: Mizen & Lewis (2000), p. 54.
15. True or False: The real balance effect relies on the assumption that individuals suffer from money illusion.
False. The real balance effect is a consequence of rational behavior in the absence of money illusion. Illusion-free individuals react to changes in their real wealth, and a change in the price level alters the real value of their money holdings, thus affecting their behavior.
Source: Palgrave Dictionary of Money and Finance, 'neutrality of money', p. 17.
16. True or False: An open market purchase of bonds by the central bank decreases commercial bank reserves.
False. An open market purchase means the central bank buys bonds from commercial banks and pays for them by crediting the banks' reserve accounts. This action increases their reserves.
Source: Palgrave Dictionary of Money and Finance, 'quantity theory of money', p. 251.
17. True or False: The concept of 'superneutrality' is a weaker condition than the concept of 'neutrality'.
False. Superneutrality is a stronger condition. Neutrality refers to a one-time change in the level of money, while superneutrality refers to a change in the rate of growth of money, which is a more demanding condition for real variables to remain unaffected.
Source: Palgrave Dictionary of Money and Finance, 'neutrality of money', p. 19.
18. True or False: In the classical model, a change in technology that increases real output (T) will, ceteris paribus, lead to a lower price level (P).
True. According to the quantity equation \(P = MV/T\), if the money supply (M) and velocity (V) are constant, an increase in the volume of transactions or real output (T) must lead to a decrease in the price level (P).
Source: Subject Guide, Ch 5, p. 58.
19. True or False: The classical dichotomy implies that the absolute price level is determinate in the real sector of the economy.
False. The dichotomy implies the opposite: the real sector determines only relative prices, while the absolute price level is indeterminate within the real sector alone and must be determined in the monetary sector.
Source: Mizen & Lewis (2000), p. 74.
20. True or False: Patinkin's analysis showed that a consistent classical model could not include Walras' Law.
False. Patinkin's analysis relied on Walras' Law to show the inconsistency. The problem was not Walras' Law itself, but the combination of it with the Homogeneity Postulate in the goods markets and a non-homogeneous Quantity Theory equation for the money market.
Source: Harris, L. (1985). Monetary Theory, p. 58-59.
21. True or False: The 'indirect transmission mechanism' of monetary policy works by changing the price of goods directly.
False. The indirect mechanism works via the interest rate. A change in the money supply affects the loanable funds market, which changes the interest rate, which in turn affects investment and then, indirectly, the price of goods.
Source: Mizen & Lewis (2000), p. 66.
22. True or False: In the Cambridge cash-balance approach, the demand for money is insensitive to institutional factors like payment frequency.
False. The parameter 'k' (the desired proportion of income to hold as cash) is determined precisely by such institutional factors. For example, a shift to less frequent paydays would increase the average money balances people need to hold, increasing 'k'.
Source: Harris, L. (1985). Monetary Theory, p. 50.
23. True or False: The existence of a real balance effect means that money is no longer neutral in the long run.
False. The real balance effect is the mechanism that ensures long-run neutrality is restored. After a monetary shock, it is the change in real balances that drives price level adjustments, which continue until real balances and all other real variables return to their initial equilibrium values.
Source: Harris, L. (1985). Monetary Theory, p. 66.
24. True or False: According to Walras' Law, if there is an excess demand for money, there must be an excess supply of goods.
True. If \(ED_{money} > 0\), then to satisfy the identity \(\sum ED_{goods} + ED_{money} = 0\), it must be that \(\sum ED_{goods} < 0\), which means there is an aggregate excess supply of goods.
Source: Mizen & Lewis (2000), p. 57.
25. True or False: A central bank can increase the money supply by raising the required reserve ratio.
False. Raising the required reserve ratio forces banks to hold more reserves per dollar of deposits, which reduces their ability to lend and contracts the money multiplier, thereby decreasing the money supply.
Source: Palgrave Dictionary of Money and Finance, 'quantity theory of money', p. 251.
26. True or False: The 'direct transmission mechanism' operates through changes in the interest rate.
False. The direct mechanism posits that excess money balances are spent directly on goods, causing prices to rise. The indirect mechanism is the one that operates through the interest rate and the loanable funds market.
Source: Mizen & Lewis (2000), p. 65-66.
27. True or False: In the classical view, the velocity of money is determined primarily by the money supply.
False. Velocity (V, or its inverse k) is assumed to be determined by stable, real institutional factors, such as payment habits and the efficiency of the payments system, not by the quantity of money itself.
Source: Subject Guide, Ch 5, p. 59.
28. True or False: The analysis by Archibald and Lipsey showed that Patinkin's real balance effect was incorrect.
False. Their analysis did not show the effect was incorrect; rather, it showed that the effect was transitory. The initial impact on real demand exists, but it dies out as prices adjust, restoring long-run neutrality.
Source: Harris, L. (1985). Monetary Theory, p. 84.
29. True or False: A key feature of the Walrasian general equilibrium model is that it assumes prices are sticky.
False. The Walrasian model assumes perfectly flexible prices that adjust through the tâtonnement process to ensure all markets clear.
Source: Mizen & Lewis (2000), p. 52-53.
30. True or False: The 'natural rate of interest' is the rate that equates the supply and demand for money.
False. The natural rate of interest is the real rate that equates the supply of saving with the demand for investment (loanable funds). The rate that equates money supply and demand is the market rate of interest.
Source: Mizen & Lewis (2000), p. 67.
31. True or False: The Fisher equation \(MV=PT\) is a behavioral theory, not an identity.
False. The equation itself is an identity or a truism; the total value of money spent must equal the total value of transactions. It becomes a theory (the Quantity Theory) only when specific behavioral assumptions are made about its components (e.g., V and T are constant).
Source: Subject Guide, Ch 5, p. 58.
32. True or False: In the classical model, a change in people's desire to save (thrift) will affect the real interest rate.
True. In the loanable funds framework, the real interest rate is determined by the real forces of thrift (which determines the supply of savings) and productivity (which determines the demand for investment). A change in the desire to save will shift the supply curve for loanable funds and change the equilibrium real interest rate.
Source: Mizen & Lewis (2000), p. 69.
33. True or False: Patinkin's model showed that a consistent monetary model must abandon Walras' Law.
False. Patinkin's model retained Walras' Law. It abandoned the Homogeneity Postulate and Say's Law Identity by introducing the real balance effect, which made the model internally consistent while still obeying Walras' Law.
Source: Harris, L. (1985). Monetary Theory, p. 63-65.
34. True or False: The 'money multiplier' is the ratio of the money supply to the monetary base.
True. The money multiplier (m) is defined as the ratio of the total money stock (M) to the stock of high-powered money or the monetary base (H or MB). It is given by the identity \(m = M/H\).
Source: Palgrave Dictionary of Money and Finance, 'quantity theory of money', p. 251.
35. True or False: The short-run non-neutrality of money implies that the classical dichotomy holds even in the short run.
False. Short-run non-neutrality means that monetary changes affect real variables (like output) in the short run. This is a direct contradiction of the classical dichotomy, which requires the real and monetary sectors to be separate.
Source: Palgrave Dictionary of Money and Finance, 'neutrality of money', p. 18.
36. True or False: In a Walrasian barter economy, it is logically impossible to have a 'general glut' (an excess supply of all goods).
True. In a barter economy, Say's Law holds as an identity. The act of supplying one good is simultaneously the act of demanding another. Therefore, an excess supply of one good must be matched by an excess demand for another, making a general glut impossible.
Source: Mizen & Lewis (2000), p. 56.
37. True or False: The real balance effect is necessary for the absolute price level to be determinate in a model with an interest-bearing asset like bonds.
False. Harry Johnson (1962) argued that once an interest-bearing asset exists, the interest rate itself can provide the link between the real and monetary sectors, ensuring the price level is determinate even without a real balance effect on consumption.
Source: Harris, L. (1985). Monetary Theory, p. 90.
38. True or False: The 'homogeneity postulate' is a key assumption in Patinkin's corrected classical model.
False. The entire point of introducing the real balance effect was to discard the homogeneity postulate. By making demand for goods dependent on real balances, the demand functions are no longer homogeneous of degree zero in prices.
Source: Harris, L. (1985). Monetary Theory, p. 63.
39. True or False: The 'natural rate of unemployment' can be permanently reduced through expansionary monetary policy.
False. The natural rate hypothesis posits that the natural rate is determined by real, structural factors. Monetary policy can only cause temporary deviations from this rate through unanticipated inflation. In the long run, unemployment returns to its natural rate.
Source: Palgrave Dictionary of Money and Finance, 'quantity theory of money', p. 258.
40. True or False: The 'real bills doctrine' provides a strong theoretical basis for controlling inflation.
False. The doctrine is flawed. As Ricardo and Wicksell showed, if the bank's discount rate is below the natural rate of return on capital, lending against 'real bills' can lead to an unlimited and inflationary expansion of credit and money.
Source: Mizen & Lewis (2000), p. 68.
41. True or False: In the classical view, a higher real interest rate encourages saving.
True. The real interest rate is the reward for saving (thrift). A higher real interest rate increases the return on saving, providing a greater incentive for individuals to postpone consumption and supply more loanable funds.
Source: Mizen & Lewis (2000), p. 69.
42. True or False: The 'Arrow-Debreu' model of general equilibrium provides a central role for money as a medium of exchange.
False. A major critique of the standard Arrow-Debreu model is that it has no role for money as a medium of exchange. With a complete set of markets for all goods across all time periods and states of nature, all transactions can be arranged at the beginning of time, eliminating the need for a medium of exchange.
Source: Mizen & Lewis (2000), p. 92.
43. True or False: The 'homogeneity postulate' and the 'neutrality of money' are identical concepts.
False. The homogeneity postulate is an assumption about the form of demand functions (that they depend only on relative prices). Neutrality of money is a conclusion about the long-run effect of a change in the money supply. While the postulate is used in some flawed arguments for neutrality, they are distinct concepts.
Source: Harris, L. (1985). Monetary Theory, p. 54-56.
44. True or False: A key contribution of Patinkin was to show that the classical model was indeterminate in the absolute price level.
True. Patinkin showed that the classical barter model (with the homogeneity postulate) could determine relative prices but not the absolute price level. Adding the quantity theory made the model determinate but inconsistent. His final, corrected model was both determinate and consistent.
Source: Mizen & Lewis (2000), p. 74.
45. True or False: The money multiplier is independent of the behavior of commercial banks.
False. The money multiplier depends crucially on the reserve-deposit ratio (r), which is influenced by banks' decisions about how much excess reserves to hold. Therefore, the multiplier is partly determined by bank behavior.
Source: Palgrave Dictionary of Money and Finance, 'quantity theory of money', p. 251.
46. True or False: In the classical model, an increase in the money supply leads to a permanent increase in real wealth.
False. Due to the neutrality of money, an increase in the nominal money supply (M) leads to a proportional increase in the price level (P). This leaves real money balances (M/P) and therefore real wealth unchanged in the long run.
Source: Harris, L. (1985). Monetary Theory, p. 66.
47. True or False: The 'rational expectations hypothesis' strengthens the case for active, discretionary monetary policy to stabilize the economy.
False. It weakens the case. The hypothesis suggests that any systematic, predictable policy will be anticipated by rational agents and incorporated into their behavior, rendering the policy ineffective at changing real outcomes. Only unpredictable 'surprise' policy has real effects, which is not a sound basis for stabilization.
Source: Palgrave Dictionary of Money and Finance, 'neutrality of money', p. 19.
48. True or False: The 'price-specie-flow mechanism' is an example of the indirect transmission mechanism.
False. The price-specie-flow mechanism is a classic example of the direct transmission mechanism. A flow of specie (money) directly alters the domestic money supply, which then directly affects the price level through spending on goods.
Source: Palgrave Dictionary of Money and Finance, 'quantity theory of money', p. 255.
49. True or False: In a Walrasian system, there are always exactly as many independent equations as there are unknowns to be solved.
False. In a system with n markets, there are n excess demand equations, but due to Walras' Law, only n-1 of them are independent. This is sufficient to solve for the n-1 relative prices, but not the absolute price level.
Source: Mizen & Lewis (2000), p. 74.
50. True or False: The real balance effect requires real balances to be included as an argument in the utility function.
False. As shown by Lloyd (1962) and discussed by Harris, a real balance effect can exist even if utility depends only on nominal balances. The effect arises from the budget constraint; a change in the price level alters the real value of initial endowments, which affects behavior, regardless of whether real balances are in the utility function itself.
Source: Harris, L. (1985). Monetary Theory, p. 85.