IFC Understanding Economic Principles 4 — Questions and Answers
Question 1: The Consumer Price Index (CPI) primarily measures:
- The average price change of a fixed basket of goods and services purchased by households (Correct answer)
- The change in prices received by domestic producers for their output
- The total value of consumer spending relative to GDP
- The purchasing power of the Canadian dollar relative to foreign currencies
Correct answer: The average price change of a fixed basket of goods and services purchased by households
The CPI tracks the average price change over time for a fixed basket of goods and services representative of typical household purchases.
Question 2: Which of the following scenarios best illustrates the 'crowding out' effect in economics?
- Increased government borrowing raises interest rates, reducing private sector investment (Correct answer)
- A central bank lowers rates, causing banks to reduce lending to businesses
- Higher corporate taxes force companies to reduce workforce levels
- Foreign investors buy domestic bonds, displacing domestic bond purchases
Correct answer: Increased government borrowing raises interest rates, reducing private sector investment
Crowding out occurs when government borrowing drives up interest rates, making it more expensive for private businesses to finance investment projects.
Question 3: In macroeconomics, 'stagflation' refers to a period of:
- Rapid economic growth accompanied by rising inflation and falling unemployment
- Simultaneous high inflation and high unemployment with stagnant growth (Correct answer)
- Deflation combined with strong economic growth and low unemployment
- Stable prices and moderate growth following a period of high inflation
Correct answer: Simultaneous high inflation and high unemployment with stagnant growth
Stagflation is the unusual combination of high inflation, high unemployment, and slow or negative economic growth, making it difficult to address with standard policy tools.
Question 4: How do rising commodity prices in global markets typically affect the Canadian economy given Canada's resource-export profile?
- They weaken the Canadian dollar and reduce export revenues
- They benefit Canada's terms of trade and tend to strengthen the Canadian dollar (Correct answer)
- They cause domestic inflation without offsetting revenue gains from exports
- They have no material effect because Canada is a price-taker in all commodity markets
Correct answer: They benefit Canada's terms of trade and tend to strengthen the Canadian dollar
As a major exporter of oil, natural gas, and other commodities, Canada benefits from higher global commodity prices through improved export revenues and a stronger currency.
Question 5: What is the primary distinction between 'frictional' and 'structural' unemployment?
- Frictional is short-term job-search unemployment; structural arises from permanent mismatches between skills and job requirements (Correct answer)
- Frictional is caused by technological change; structural results from seasonal industry patterns
- Frictional unemployment is always higher during recessions; structural is constant over time
- Frictional affects only low-skilled workers; structural primarily affects high-skilled workers
Correct answer: Frictional is short-term job-search unemployment; structural arises from permanent mismatches between skills and job requirements
Frictional unemployment is temporary and results from workers transitioning between jobs, while structural unemployment reflects a deeper mismatch between workers' skills and available positions.
Question 6: In the context of central bank policy, what is 'quantitative easing' (QE)?
- Reducing reserve requirements to allow banks to lend more of their deposits
- Purchasing financial assets to inject money into the economy when rates are near zero (Correct answer)
- Raising the overnight rate to reduce excess liquidity in the financial system
- Issuing government bonds to finance fiscal stimulus programs
Correct answer: Purchasing financial assets to inject money into the economy when rates are near zero
QE involves a central bank purchasing assets such as government bonds to increase money supply and lower long-term interest rates when conventional rate cuts are insufficient.
Question 7: Which of the following would most likely cause Canada's trade deficit to improve (i.e., decrease)?
- Appreciation of the Canadian dollar making imports cheaper for Canadians
- Stronger domestic economic growth increasing Canadians' appetite for imported goods
- Depreciation of the Canadian dollar making Canadian exports cheaper for foreigners (Correct answer)
- A rise in foreign interest rates attracting Canadian capital abroad
Correct answer: Depreciation of the Canadian dollar making Canadian exports cheaper for foreigners
A weaker Canadian dollar lowers the price of Canadian goods for foreign buyers, boosting exports, while making imports more expensive domestically, reducing import volumes.
IFC Understanding Economic Principles 4
The Consumer Price Index (CPI) primarily measures: