econ exam 2

what would cause prices to rise and real GDP to fall in the short run?

an increase in the expected price level, an increase in the capital stock, an increase in the quantity of labor available

The Aggregate Demand Curve

at various price levels, the quantity of goods and services produced domestically that consumers, businesses, governments and foreigners (net exports) are willing to purchase during the period of concern

How is an expansionary gap closed?

contracts are renegotiated based on the higher price level - in the long run by a leftward shift of the short run aggregate supply curve -cost push inflation as the SRAS curve shifts left

What are menu costs?

costs of changing prices -deciding on new prices, printing new price lists, advertising new prices -Menu costs refer to an economic term used to describe the cost incurred by firms in order to change their prices

The expected price level is important because

firms and resource owners make long-term agreements based on the expected price level

What is the the long run?

firms and resource suppliers can negotiate all contracts (everything is flexible)

What is stagflation?

output (GDP) falls while prices(the consumer price index) rise (period of recession and inflation) a combination of increasing unemployment and increasing inflation

what best describes a business cycle

periods of increasing and decreasing real gdp

consumption, investment, and net exports depend on economic conditions especially the _________________

price level

What are shoeleather costs of inflation?

resources wasted when inflation encourages people to reduce their money holdings - more of a cost with hyperinflation -As a result of the rise in nominal interest rates, individuals hold less cash in order to keep more of their money in interest-bearing accounts. Holding less cash requires more trips to the bank

According to the wealth effect when prices decrease

the purchasing power of assets increases and consumer spending increases.

What is aggregate supply?

the total supply of goods and services that firms in a national economy plan on selling during a specific time period. The aggregate supply curve shows the relationship between a nation's overall price level, and the quantity of goods and services produces by that nation's suppliers.

Formula for real interest rates

(cpi year 2- cpi year 1 ) divided by cpi year 1 then all multiplied by one hundred.

Sticky wages-

- Nominal wages are based on expected prices and do not adjust quickly when actual prices differ from expected prices from expected prices (salary contracts/ social norms) -if actual price < expected price = production is less profitable

Sticky Prices

- Some prices are slow to adjust to changing economic conditions (menu costs/ supply contracts) If actual price < expected price = firms cannot adjust quickly and decrease production instead of reducing prices.

What is potential output?

- the amount produced when there are no surprises about the price level - maximum sustainable output

Shifts in the aggregate demand

-Changes in consumption(Retirement, stock-market booms, taxes) - Changes in investment(Expectations, tax policy) -Changes in government spending (fiscal policy (all discretional spending by the president)) -Changes in net exports (exchange rates, world economy)

changes can alter short-run aggregate supply (SAS), while long-run aggregate supply (LAS) remains the same

-Supply Shocks -Resource Price Changes -Changes in Expectations for Inflation

three key points about economic growth

1. Growth is a process. It is not a single event; rather, it is an unfolding series of events 2. We define growth in terms of the economy's ability to produce goods and services, as indicated by its level of potential output 3. Growth suggests that the economy's ability to produce goods and services is rising. A discussion of economic growth is thus a discussion of the series of events that increase the the economy's ability to produces goods and services

Factors that cause economic growth.

1. NATURAL RESOURCES 2. PHYSICAL CAPITAL 3. POPULATION 4. HUMAN CAPITAL 5. TECHNOLOGY 6. LAW

Reasons for the upward-sloping SRAS

1. Sticky wages- 2. Sticky Prices 3. Misperceptions Theory

The nominal interest rate is six percent and the real interest rate is 2 what is the inflation rate:

4 percent.

Which of the following would cause prices and real GDP to rise in the short run? a. Short-run aggregate supply shifts right. b. Short-run aggregate supply shifts left. c. Aggregate demand shifts right. d. Aggregate demand shifts left

Aggregate demand shifts right

What is a expansionary gap?

Aka inflationary -AD shifts to the right -If AD turns out to be greater than expected, the economy will move to a short-run equilibrium - Actual price level is higher than expected - output exceeds potential -unemployment is below the natural rate

Misperceptions Theory

Changes in the price level can mislead suppliers If actual price < expected price, firms think it is specific to their industry and decrease production.

Changes in Expectations for aggregate demand

If businesses and households are more optimistic about the future of the economy, they are more likely to buy large items and make new investments; this will increase aggregate demand.

Changes in Expectations for Inflation

If suppliers expect goods to sell at much higher prices in the future, their willingness to sell in the current time period will be reduced and the SAS will shift to the left.

Which of the following would cause prices to fall and output to rise in the short run? a. Short-run aggregate supply shifts right. b. Short-run aggregate supply shifts left. c. Aggregate demand shifts right. d. Aggregate demand shifts left

Short-run aggregate supply shifts right

aggregate supply curve

The curve is upward sloping in the short run and vertical, or close to vertical, in the long run.

What is economic growth?

a LR process that occurs as an economy's potential output increases

with inflation comes....

a decrease in the purchasing power of the dollar

The usual results of an adverse supply shock

a rise in prices and a fall in output

What happens when prices are higher than expected?

actual price > expected price = output rises above natural rate

Suppose we observe an economy experiencing an economic expansion and high inflation. This means the expansion is attributed to

an anticipated increase in aggregate demand

the interest rate effect

decrease in price level reduces the amount go money people hold household buy interest-bearing bonds with excess money, driving down interest rates lower interest rates encourage borrowing therefore increasing the quantity demanded of goods and services.

An increase in the expected price level

does not affect the short-run aggregate supply curve but shifts the long-run aggregate supply curve to the right.

What is a recession?

falling output (measured by GDP) and rising unemployment

What is an inflationary gap?

if actual real gdp is greater than potential output

the wealth effect

increase in price level reduces the real value of money wealth is reduced, which encourages people to spend less, therefore decreasing the quantity demanded of goods and supplies The wealth effect is the premise that when the value of stock portfolios rises due to escalating stock prices, investors feel more comfortable and secure about their wealth, causing them to spend more.

What is the business cycle

shows the different components of economic fluctuations

factor that contributes to economic growth

the discovery of a new technology

Shifts in SRAS

Δ in labor stock Δ in capital stock Δ in natural resources Δ in technological knowledge Δ in expected prices (if firms expect inflation they are going to take that into account in their costs and they decrease their supply )