Question

4. Suppose that there is a simultaneous “cut in government spending” and “an open market purchase...

4. Suppose that there is a simultaneous “cut in government spending” and “an open market purchase of bonds”. Which of the following must occur as a result of this?

a. output increases.

b. output decreases.

c. the interest rate increases.

d. the interest rate decreases.

e. both output and the interest rate increase.

5. An expansionary open market operation through ___ bonds will cause bond price to ___.

a. buying; increase

b. buying; decrease

c. selling; increase

d. selling; decrease

Business   Economics   
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Answer #1

4. d. the interest rate decreases.

Cut in government spending shifts IS curve leftwards while purchase of bonds shifts LM curve rightwards causing decrease in interest rate and no change in output if shift of IS = shift of LM.

5. a) buying; increase

Buying of bonds in open market increases supply and shifts LM rightwards causing decrease in interest rate. There is inverse relationship between price of bond and interest rate. So, bond price rises.

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