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Chapter 27: Problem 6

The conclusion of adaptive expectations theory is that expansionary monetary and fiscal policies intended to reduce the unemployment rate are a. effective in the long run. b. effective in the short run. c. unnecessary and cause inflation in the long run. d. necessary and reduce inflation in the long run.

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01

Understanding adaptive expectations theory

Adaptive expectations theory suggests that people form their expectations about future inflation based on past inflation rates. This means that if the economy experiences high inflation, people will expect high inflation in the future, and if the economy experiences low inflation, people will expect low inflation in the future.
02

Expansionary monetary and fiscal policies

Expansionary monetary and fiscal policies are government measures taken to stimulate economic growth by increasing the money supply or government spending. These policies tend to result in lower interest rates, which encourage borrowing, spending, and investment. The ultimate aim of these expansionary policies is to reduce unemployment and boost economic growth.
03

Impact of expansionary policies on unemployment and inflation

According to adaptive expectations theory, expansionary policies, in the short run, will indeed be effective in reducing unemployment as they boost spending and increase demand for goods and services, leading to businesses needing to hire more workers. However, as people's expectations adjust to the higher level of spending and inflation, they will likely begin to anticipate even higher inflation in the future. This can lead to higher wage demands and a general rise in prices, resulting in inflation rather than a sustainable reduction in unemployment. In the long run, expansionary policies may become unnecessary and could even contribute to higher inflation rates.
04

Finding the correct option

Based on the analysis of adaptive expectations theory and the impact of expansionary monetary and fiscal policies on unemployment, we can conclude that expansionary policies are effective in the short run, but are unnecessary and cause inflation in the long run. Therefore, the correct answer is: c. unnecessary and cause inflation in the long

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Most popular questions from this chapter

A difficulty in using the Phillips curve as a policy menu is a. that the natural rate of unemployment does not exist. b. that the curve does not remain in one position. c. deciding between monetary and fiscal policies. d. that Democrats choose one point on the curve and Republicans choose another point.

Rational expectations theorists advise the federal government to a. change policy often. b. pursue stable policies. c. do the opposite of what the public expects. d. ignore future economic predictions.

According to the natural rate hypothesis, a. the Phillips curve is quite flat, so a large reduction in employment can be achieved without inflation. b. workers adapt their wage demands to inflation only after a considerable time lag. c. the Phillips curve is vertical in the long run at full employment. d. workers cannot anticipate the inflationary effects of expansionary public policies.

Adaptive expectations theory a. argues that the best indicator of the future is recent information. b. underestimates inflation when it is accelerating. c. overestimates inflation when it is slowing down. d. does none of the above. e. does all of the above.

Voluntary wage-price restraints are known as a. wage-price controls. b. price rollbacks. c. wage-price guidelines. d. anti-inflation commitments.
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