AP_Krugman_Textbook

3. a.The money supply curve shifts to the right.
   b.The equilibrium interest rate falls.
   c.Investment spending rises, due to the fall in the interest rate.
   d.Consumer spending rises, due to the multiplier process.
   e.Aggregate output rises because of the rightward shift of
   the aggregate demand curve.

Tackle the Test:

Multiple-Choice Questions

1. a


2. a


3. a


4. c


5. d

Tackle the Test:

Free-Response Questions

2. a.decrease the discount rate, decrease the reserve require-
   ment, open market purchases
   b.

M 1 M 2 Quantity

of money

r 2

r 1

Interest

rate, r MS^1 MS^2

MD 1 MD 2

E 1 E 3

E 2

M 2 Quantity

of money

r 1

r 2

Interest

rate, r

E 2

E 1

MS 1

MD

MS 2

M 1

An increase

in the money

supply...

... leads to
a fall in the
interest rate.

Tackle the Test:

Free-Response Question

2. 
   

Persistent budget deficits increase the demand for loan-

able funds, thereby increasing interest rates and decreas-

ing private investment. This is called “crowding out.”

Module 31

Check Your Understanding

1. In the accompanying diagram, the increase in the
   demand for money is shown as a rightward shift of the
   money demand curve, from MD 1 to MD 2. This raises the
   equilibrium interest rate from r 1 to r 2.


2. In order to prevent the interest rate from rising, the
   Federal Reserve must make an open-market purchase of
   Treasury bills, shifting the money supply curve rightward.
   This is shown in the accompanying diagram as the move
   from MS 1 to MS 2.

M Quantity

of money

r 2

r 1

Interest

rate, r MS

MD 1 MD 2

E 1

E 2

Interest

rate, r

S

D 1

D 2

r 1

r 2

Quantity of

loanable funds

... leads to
a rise in the
equilibrium
interest rate.

An increase

in the demand

for loanable

funds...

E 1

E 2

S-18 SOLUTIONS TO AP REVIEW QUESTIONS