ECON Final Short Answer

ΔC= MPC x ΔY

marginal propensity change in consumption change in income

labor force participation rate

# in labor force / adult population *100

unemployment rate

# of unemployed / labor force *100

What would cause the money-supply curve MS to shift to the left

open market sales by the FED

how does the long run equilibrium transition from the short run equilibrium.

Whenever the expected price level rises to P2, the short-run aggregate supply shifts left. This process continues until long term equilibrium is reached at point C

As we move from one point to another along the money-demand curve MD1,

the price level is held fixed at P1.

Is the LRAS consistent with the concept of monetary neutrality? Explain your answer using a diagram of LRAS and AD.

yes. A decrease in the supply of money, generates a increase in interest rate, shifting the aggregate demand to the left but LRAS remains unchanged. As a result, the price level drops and output remains unchanged in the long-run (the economy moves from equilibrium A to C)

MPC=

ΔC/ ΔY

no crowding out

ΔY=multiplier x ΔG

If nominal wages are sticky, explain how nominal wages, real wages and firms' production decision change in response to the financial crisis.

As nominal wages are sticky, they remain unchanged (equilibrium B). However, because prices dropped from P1 to P2, real wages (W/P) rise, so firms choose to produce less.

assuming that aggregate demand is held constant, and starting from point b, describe what will happen to the price level and the level of output in the long run.

a rising price level and a falling level of output, as the economy moves to point A

Assume the money market is always in equilibrium, and suppose r1 = 0.08; r2 = 0.12; Y1 = 13,000; Y2 = 10,000; P1 = 1.0; and P2 = 1.2. Compare investment under P = P1 and P = P2.

investment is lower under P=P2 than when P = P1.

Explain a decrease in Y from Y1 to Y2:

the increase in r lowers investment and consumption and causes Y to decrease from Y1 to Y2.

Imagine that in 2015 the economy is in long-run equilibrium. Then stock prices rise more than expected and stay high for some time. Describe what happens to the price level and real GDP in the short run.

Both the price level and real GDP rise in the short run (the economy moves from equilibrium A to equilibrium B).

multiplier

1/(1-MPC)

How is the new long-run equilibrium different from the original one?

At the long term equilibrium represented by point C, the price level is higher and real GDP is the same as in the initial equilibrium point A.

why is the long-run aggregate-supply (LRAS) curve vertical?

In the long run the production of goods and services is determined by the overall supply of factor inputs such as labor, capital, natural resources and technology [Y=AF(L,K,H,N)], independent of the price level.

Show how in the long run, if the Fed does not respond, the change in price expectations created by the crisis shifts aggregate demand and/or aggregate supply.

In the long-run, as expected prices drop from P1 to P2, wages are renegotiated and decreased. With lower labor cost, firms are willing to supply more goods at any level of prices so the short-run aggregate supply shifts RIGHT (the economy moves to equilibrium C). If the Fed does not respond, the demand curve will remain at AD2.

Suppose that banks are less able to raise funds and so lend less. Consequently, because people and households are less able to borrow, they spend less at any given price level than they would otherwise. a.Using the model of aggregate demand and supply, illustrate what happens to the price level and real GDP in the short run. Describe the impact on both variables.

The financial crisis lowers lending which decreases both the demand for consumption and investment goods. Hence, the aggregate demand curve shifts left and both the price level and real GDP fall (the economy moves from equilibrium A to B).

Imagine that in 2015 the economy is in long-run equilibrium. Then stock prices rise more than expected and stay high for some time. a. Using the model of aggregate demand and supply, show which curve shifts and in which direction as a result of the stock market boom.

The stock market boom, causes an increase in consumption, affecting the aggregate demand. As a result, the aggregate demand curve shifts right

The shift (downwards) of the short-run aggregate-supply curve from SRAS1 to SRAS2 could be caused by a _______________ in the expected price level

decrease

Explain what would happen in the market for money before the interest rate adjusted.

Until the interest rate adjusted, an excess demand for money at the interest rate that equilibrated the money market before the shift.

Suppose the economy reaches long-run equilibrium without the Fed responding. Now suppose the financial crisis ends and the ability of banks to lend returns to normal. In which case is the price level lower compared to its value prior to the crisis?

after the economy reaches long-run equilibrium during the crisis but not in the long-run equilibrium after the crisis is over

Explain what would happen to the demand curve as a result of the money-supply curve shift.

shift the AD curve to the left

Imagine that in 2015 the economy is in long-run equilibrium. Then stock prices rise more than expected and stay high for some time. What happens to the expected price level and what impact does this have on wage bargaining?

the expected price level will also rise to P2. Bargains will then be struck for higher wages.