QUESTION 1

Under the optimal monetary policy, the central bank should let the nominal interest rate

1. a.rise when the inflation gap rises and decline when the output gap rises.
2. b.decline when the inflation gap rises and rise when the output gap rises.
3. c.decline when the inflation gap or the output gap rises.
4. d.rise when the inflation gap or the output gap rises.
5. e.rise only when the inflation gap rises.

QUESTION 2

In macroeconomics, fiscal space is defined as "the amount of room countries have for temporarily increasing their budget deficits without jeopardizing their access to markets or the sustainability of their debt." (Vikram Haksar, Marialuz Moreno-Badia, Catherine Pattillo, and Murtaza Syed, "Economic Preparedness: The Need for Fiscal Space," IMF Blog, June 27, 2018.) Which one of the following statements is correct about the relationship between fiscal space and optimal fiscal policy?

1. a.A pre-requisite for pursuing optimal fiscal policy is the presence of significant fiscal space.
2. b.A pre-requisite for pursuing optimal fiscal policy is the absence of significant fiscal space.
3. c.Pursuit of optimal fiscal policy requires the government to give up its fiscal space.
4. d.Pursuit of optimal fiscal policy does not require much fiscal space.

QUESTION 3

Under the optimal fiscal policy, when the economy booms as a result of a temporary favorable demand shock, the government's budget deficit

1. a.should increase to take advantage of the fiscal space created by the growing economy.
2. b.should increase to help create more fiscal space for the situation when the boom ends.
3. c.should decrease to help expand the country's fiscal space in the post-boom situation.
4. d.should decrease to help curtail the country's fiscal space in the post-boom situation.

QUESTION 4

Under the optimal fiscal policy, public debt ought to

1. a.rise when the society's need for government expenditure rises.
2. b.rise when the society's need for government expenditure declines.
3. c.remain steady when the society's need for government expenditure rises.
4. d.rise when the society's need for government expenditure remains steady.
5. e.decline when the society's need for government expenditure remains steady.

QUESTION 5

Suppose a government receives a stream of revenues from a natural resource and combines it with optimal fiscal (tax and expenditure) policy to manage its economy. Then, in a given year it suffers an unexpected, exogenous revenue loss from the natural resource, but expects the shock to be temporary and the revenue stream to recover in the following years. The theory of optimal fiscal policy suggests that it should deal with such shock by

1. a.raising tax rates to compensate for the drop in revenues in that year.
2. b.reducing government expenditure to match the drop in revenues in that year.
3. c.reducing tax rates to encourage production and generate additional revenues in that year.
4. d.borrowing long term to make up for the drop in revenues and paying off the debt gradually by small fiscal adjustments, if necessary, over many years.

QUESTION 6

In many developing countries fiscal deficits tend to rise during election years. Which one of the following is a more likely explanation for this pattern?

1. a.Elections are typically scheduled during economic slowdowns when tax revenues decline.
2. b.The public does not realize that high deficits could eventually cause macroeconomic instability and always demands high fiscal deficits, but incumbent politicians know the problem and resist that demand due to their public spirit, except when they face the challenge of reelections.
3. c.Incumbent politicians understand that persistent deficits could cause macroeconomic instability and turn the public against them, but they are tempted to spend more and prop up employment and incomes of pivotal voter groups, thus buying their support at election times.
4. d.Incumbent politicians tend to pay back the government debt at the end of their terms before elections so that the next government that takes office after the election can start with a clean slate.
5. e.Incumbent politicians want to generate support for themselves among people who save large parts of their incomes by getting the government to act as a safe borrower of those savings.