Is it possible to decrease inflation without causing a recession
and its concomitant increase in unemployment? The orthodox answer is “no.” whether
they support the “inertia” theory of inflation (that today’s inflation rate is caused
by yesterday’s inflation, the state of the economic cycle, and external influences
such as import prices) or the “rational expectations” theory (that inflation is
caused by workers’ and employers’ expec- tations, coupled with a lack of credible
monetary and fiscal policies), most economists agree that tight monetary and
fiscal policies, which cause recessions, are necessary to decelerate
inflation. They point out that in the 1980’s, many European countries and the
United States conquered high (by these countries’ standards) inflation, but only
by applying tight monetary and fiscal policies that sharply increased
unemployment. Nevertheless, some governments’ policymakers insist that direct
controls on wages and prices, without tight monetary and fiscal policies, can
succeed in decreasing inflation. Unfortunately, because this approach fails to
deal with the underlying causes of inflation, wage and price controls eventually
collapse, the hitherto-repressed inflation resurfaces, and in the meantime,
though the policymakers succeed in avoiding a recession, a frozen structure of
relative prices imposes distortions that do damage to the economy’s prospects
for long-term growth.

Which of the following, if true, would most strengthen the author’s conclusion about the use of wage and price controls?
A) Countries that repeatedly use wage and price controls tend to have lower long-term economic growth rates than do other countries.
B) Countries that have extremely high inflation frequently place very stringent controls on wages and prices in an attempt to decrease the inflation.
C) Some countries have found that the use of wage and price controls succeeds in decreasing inflation but also causes a recession.
D) Policymakers who advocate the use of wage and price controls believe that these controls will deal with the underlying causes of inflation.
E) Policymakers who advocate the use of wage and price controls are usually more concerned about long-term economic goals than about short-term economic goals.

The passage suggests that the high inflation in the United States and many European countries in the 1980’s differed from inflation elsewhere in which of the following ways?
A) It fit the rational expectations theory of inflation but not the inertia theory of inflation.
B) It was possible to control without causing a recession.
C) It was easier to control in those countries by applying tight monetary and fiscal policies than it would have been elsewhere.
D) It was not caused by workers’ and employers’ expectations.
E) It would not necessarily be considered high elsewhere.

The primary purpose of the passage is to
A) apply two conventional theories.
B) examine a generally accepted position
C) support a controversial policy
D) explain the underlying causes of a phenomenon
E) propose an innovative solution

AEB in 5 mins
_________________

"Life is like a box of chocolates, you never know what you'r gonna get"

The author's "conclusion about the use of wage and price controls" is that they don't really work and cause serious damage: "wage and price controls eventually
collapse, the hitherto-repressed inflation resurfaces, and in the meantime,
... a frozen structure of
relative prices imposes distortions that do damage to the economy’s prospects
for long-term growth."

(A) strengthens this by giving evidence that, in fact, countries that have used wage and price inflation in the past have experienced problems with long-term growth.

(D) concurs with the author's initial evidence, that wage and price controls are intended to deal with inflation, but ignores the conclusion, namely that, according to this author, they fail to successfully do so.
_________________

--
Adam
GMAT Instructor
Knewton, Inc.


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