Do I need to label the money market and loanable funds axes differently?

Yes. The money market uses the nominal interest rate on the vertical axis with a vertical money supply. The loanable funds market uses the real interest rate with an upward-sloping supply of savings. Putting the wrong rate on the wrong graph is a common way to lose an easy labeling point.

Can I earn points on an FRQ graph without writing any sentences?

Usually not for effect points. Graders reward a graph for correct labels, curves, and shifts, but many parts also require you to state the direction of change in words. The safe habit is to say it and show it—write the directional sentence even when your graph already displays it.

How do I know whether to multiply a deposit or the full injection by the multiplier?

If the Fed buys bonds directly from a bank, the entire amount is excess reserves, so multiply the full amount. If a customer makes a cash deposit, the bank must first set aside required reserves, so multiply only the excess (deposit minus required reserves) to find new money created.

What is the single most common mistake on Unit 4 FRQs?

Skipping the interest-rate link in the transmission chain. Students jump from more money to more spending, but the rubric often requires the interest rate to fall (or rise) as an explicit step. Always include the interest-rate direction between the money supply change and the change in investment and aggregate demand.

AP-MACRO-4-FRQ

U4 FRQ Practice

Master AP Macro Unit 4 free-response questions: money multiplier, money market and loanable funds graphs, monetary policy transmission, and crowding out—scored the AP way.

What you'll do in this lesson

A voice-first session with the Crimsora tutor on U4 FRQ Practice, then targeted practice and FRQs — with the tutor adapting to where you get stuck.

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What this lesson covers

Unit 4 free-response questions reward students who can move fluidly between the money market, the loanable funds market, and the real economy while showing every causal link. The College Board rubrics give points for specific, correct statements—not for good intentions—so a vague answer earns zero even when the idea is roughly right.

This guide shows you how to attack a Unit 4 FRQ: how to set up the two core diagrams correctly, how to write the monetary-policy transmission chain step by step, how to calculate the money multiplier and deposit expansion, and how to explain crowding out without losing points. You already learned the concepts in U4.1–U4.7; here you learn to convert that knowledge into rubric points under time pressure.

How Unit 4 FRQs Are Structured and Scored

A Unit 4 FRQ usually opens with a scenario (a recession, inflation, a change in the reserve requirement, or a government deficit) and then asks a chain of connected parts: a calculation, a correctly labeled graph, a directional prediction, and an explanation of the mechanism.

Each part is worth a fixed number of points, and graders use a checklist. You earn a point only for the exact element named. For example, on a money market graph you typically need three separate things: correct axes labels, a correctly sloped demand and vertical supply, and a correctly shifted curve with a new equilibrium interest rate.

Rubric element	What earns the point	Common miss
Axes	Vertical = nominal interest rate, horizontal = quantity of money	Writing "price" instead of nominal interest rate
Money supply	Vertical line $MS$	Drawing it upward-sloping
Shift	Correct direction with arrow	Shifting demand instead of supply
Effect	"Interest rate falls" stated explicitly	Only showing it on the graph without words

The golden rule: say it and show it. If the question asks what happens to the interest rate, write the direction in a sentence even if your graph already shows it. Graders cannot award a stated-effect point for an unlabeled arrow.

The Money Multiplier and Deposit Expansion

Calculation parts test the simple money multiplier,

m = \frac{1}{RR}

, where

RR

is the required reserve ratio expressed as a decimal. The maximum change in the money supply from an injection of new excess reserves is

\Delta MS = \text{initial excess reserves} \times m

.

Be precise about the difference between a deposit and a reserve injection. If someone deposits 1000 dollars and the reserve requirement is 20 percent, the bank must hold 200 dollars and can lend 800 dollars. The maximum total expansion of the money supply is

800 \times \frac{1}{0.20} = 4000

dollars, but the total including the original deposit is often asked separately, so read the wording carefully.

Quantity	Formula	Example ( $RR=0.20$ , deposit 1000)
Multiplier	$\frac{1}{RR}$	$5$
Required reserves	$RR \times \text{deposit}$	200
Initial excess reserves	deposit − required	800
Max loans (new money created)	excess $\times m$	4000

A frequent trap: when the Fed buys 1000 dollars of bonds directly from a bank, the entire 1000 is excess reserves, so the maximum expansion is

1000 \times 5 = 5000

. Identify whether the injection is a public deposit or a Fed open-market purchase before you multiply.

The Monetary Policy Transmission Chain

Explanation parts want the full causal chain, and each link can be a point. Memorize the sequence for expansionary policy and reverse every arrow for contractionary policy.

Expansionary: the Fed buys bonds, which increases bank reserves and the money supply. The money supply curve shifts right, lowering the nominal interest rate. Lower interest rates increase investment and interest-sensitive consumption. Higher investment raises aggregate demand, which increases real GDP and the price level, reducing unemployment.

Tool	Expansionary action	Effect on money supply
Open market operations	Buy bonds	Increase
Reserve requirement	Lower it	Increase
Discount rate	Lower it	Increase

Write this as a sentence chain: "The Fed buys bonds, increasing the money supply. The nominal interest rate falls. Lower rates increase investment, shifting

AD

right, raising real GDP." Each named link is defensible on the rubric.

The most common error is skipping the interest-rate step and jumping straight from "more money" to "more spending." Graders often require the interest rate to appear. Also state the direction explicitly—"increases," "decreases," or "remains constant"—because comparative words like "changes" earn nothing.

Loanable Funds and Crowding Out

Many Unit 4 FRQs pair the money market with the loanable funds market. Keep them distinct: the money market has the nominal interest rate on the vertical axis and a vertical money supply; the loanable funds market has the real interest rate on the vertical axis with an upward-sloping supply of savings and downward-sloping demand for borrowing.

Crowding out appears when the government finances a deficit by borrowing. Increased government borrowing raises the demand for loanable funds, shifting demand right, which raises the real interest rate. The higher real interest rate reduces private investment—this reduction is crowding out.

Market	Vertical axis	Supply	What shifts in a deficit
Money market	Nominal interest rate	Vertical (Fed-set)	Usually unchanged
Loanable funds	Real interest rate	Savings, upward	Demand shifts right

A subtle exam point: expansionary fiscal policy causes crowding out through loanable funds, while expansionary monetary policy does the opposite—it lowers rates and encourages investment. If an FRQ combines both, be ready to explain that monetary policy can offset fiscal crowding out. Always label whether a rate is nominal or real; using the wrong axis on the wrong graph is a frequent, avoidable point loss.

A Repeatable Attack Plan for the FRQ

Work the question in a fixed order to avoid careless losses. First, underline every verb: "calculate," "draw," "show," "explain," and "identify" demand different responses. "Calculate" requires showing the setup and the number. "Explain" requires a causal because-statement.

Second, for any graph, label axes fully before drawing curves, then draw original curves, then the shift with an arrow, then mark the new equilibrium. Third, for every directional part, write one sentence naming the variable and the direction.

Verb in prompt	Minimum response
Calculate	Formula, numbers plugged in, final answer
Draw/Show	Fully labeled graph with correct shift
Explain	Cause-and-effect sentence with mechanism
Identify	A specific term or direction, no graph needed

Fourth, respect linked parts. If part (b) says "based on your answer in (a)," your logic must be consistent even if (a) was wrong—graders award consistency points. Finally, never leave a part blank; a plausible directional guess with a mechanism can still earn the explanation point. Budget roughly the same minutes per point across the whole FRQ so you never run out of time on an easy calculation.

Key terms

Money multiplier.: The maximum factor by which the banking system can expand the money supply from new excess reserves, equal to $\frac{1}{RR}$ under the simple model.
Required reserve ratio ( $RR$ ).: The fraction of deposits banks must hold as reserves rather than lend out; a lower ratio means a larger multiplier.
Excess reserves.: Reserves a bank holds above the required amount; these are the funds available for new loans that create new money.
Open market operations.: Fed purchases or sales of government bonds to change bank reserves and the money supply; buying bonds is expansionary.
Monetary policy transmission.: The chain from a money supply change to the nominal interest rate, to investment, to aggregate demand, output, and prices.
Loanable funds market.: The market where savers supply funds and borrowers demand them, determining the real interest rate.
Crowding out.: The reduction in private investment caused when government borrowing raises the real interest rate in the loanable funds market.
Nominal vs real interest rate.: The nominal rate (money market) is not adjusted for inflation; the real rate (loanable funds) is. Using the correct axis is essential for rubric points.

Worked example

Assume the required reserve ratio is 10 percent and the economy is in a recession. (a) The Fed buys 2000 dollars of bonds from a commercial bank. Calculate the maximum possible increase in the money supply. (b) Draw a correctly labeled money market graph showing the effect of this purchase on the nominal interest rate. (c) Explain how the change in the interest rate affects aggregate demand.

Part (a): The purchase is from a bank, so the entire 2000 dollars becomes excess reserves. The money multiplier is

m = \frac{1}{RR} = \frac{1}{0.10} = 10

. The maximum increase in the money supply is

2000 \times 10 = 20{,}000

dollars. Show the formula, the substitution, and the final number to secure the calculation points.

Part (b): Label the vertical axis "nominal interest rate" and the horizontal axis "quantity of money." Draw a downward-sloping money demand curve and a vertical money supply curve

MS_1

. Because the Fed bought bonds, the money supply rises: shift the supply curve right to

MS_2

with an arrow. Mark the new, lower equilibrium interest rate

r_2

below

r_1

.

Part (c): State the chain in words. The lower nominal interest rate reduces the cost of borrowing, so firms increase investment spending and interest-sensitive consumption rises. This increase in spending shifts aggregate demand to the right, raising real GDP and reducing unemployment. Each named link—lower rate, higher investment, higher

AD

—is a defensible statement that matches the rubric checklist.

Practice questions

The Fed lowers the required reserve ratio from 20 percent to 10 percent. All else equal, what happens to the money multiplier?

It falls from 5 to 4
It rises from 5 to 10
It falls from 10 to 5
It stays constant at 5

Answer: It rises from 5 to 10

The simple money multiplier is

\frac{1}{RR}

. At

RR = 0.20

it equals

\frac{1}{0.20} = 5

; at

RR = 0.10

it equals

\frac{1}{0.10} = 10

. A lower reserve ratio lets banks lend a larger share of deposits, so each dollar of new reserves supports more money creation, raising the multiplier from 5 to 10.

The federal government increases spending and finances it by borrowing. Using the loanable funds market, explain the effect on the real interest rate and on private investment.

Answer: Government borrowing increases the demand for loanable funds, shifting the demand curve right. This raises the real interest rate. The higher real interest rate reduces private investment, which is crowding out.

On the loanable funds graph the vertical axis is the real interest rate. New government borrowing adds to demand for funds, so demand shifts rightward along the upward-sloping supply of savings, pushing the real rate up. Because investment demand is downward-sloping in the real rate, the higher rate reduces the quantity of private investment. Naming this reduction as crowding out earns the mechanism point.

During a recession the Fed conducts expansionary monetary policy. Identify what happens to the nominal interest rate and explain the resulting effect on aggregate demand.

Answer: The nominal interest rate falls, which increases investment and interest-sensitive spending, shifting aggregate demand to the right.

Expansionary policy (buying bonds, lowering the discount rate, or lowering the reserve requirement) increases the money supply, shifting the vertical

MS

curve right and lowering the nominal interest rate. Cheaper borrowing raises investment and consumption of interest-sensitive goods, increasing aggregate demand and raising real GDP. The response must include both the interest-rate direction and the spending mechanism to earn full credit.

FAQ

Do I need to label the money market and loanable funds axes differently?: Yes. The money market uses the nominal interest rate on the vertical axis with a vertical money supply. The loanable funds market uses the real interest rate with an upward-sloping supply of savings. Putting the wrong rate on the wrong graph is a common way to lose an easy labeling point.
Can I earn points on an FRQ graph without writing any sentences?: Usually not for effect points. Graders reward a graph for correct labels, curves, and shifts, but many parts also require you to state the direction of change in words. The safe habit is to say it and show it—write the directional sentence even when your graph already displays it.
How do I know whether to multiply a deposit or the full injection by the multiplier?: If the Fed buys bonds directly from a bank, the entire amount is excess reserves, so multiply the full amount. If a customer makes a cash deposit, the bank must first set aside required reserves, so multiply only the excess (deposit minus required reserves) to find new money created.
What is the single most common mistake on Unit 4 FRQs?: Skipping the interest-rate link in the transmission chain. Students jump from more money to more spending, but the rubric often requires the interest rate to fall (or rise) as an explicit step. Always include the interest-rate direction between the money supply change and the change in investment and aggregate demand.

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