ECO202 - Chapter 10

Business Cycle

1. Alternating periods of economic expansion & economic recession around the long-run economic growth trend. 2. Two Phases (Expansion & Recession) & Two Turning Points (Peak & Trough). 3. Sequence: Expansion, Peak, Recession, Trough 4. Inflation usually increases with expansion & decreases with recession. 5. Unemployment increases with recession & decreases with expansion, other than at the beginning of the expansion because discouraged workers reenter labor force & firms still operating below capacity.

Economic Growth

1. Real GDP per capita measures the standard of living. It has increased 8 fold in U.S. since 1900. 2. Rule of 70: 70/Growth rate ≈ Number of Years to Double 3. Long-run economic growth depends upon increases in labor productivity. 4. Increases in labor productivity depend upon increases in the quantity of capital per worker and the level of technology, with technology being the most important.

U.S. Standard of Living: Incredible Growth Over Time

1900‐2016 real GDP per capita in 2009 dollars - $6,000 in 1990 to $51,500 in 2016 - more than 8 fold increase 1900 in U.S.: - 3% of U.S. homes had electricity - 25% of U.S. homes had running water - 15% of U.S. homes had indoor flush toilets - Homemaker baked 1/2 ton of bread per year - Life expectancy at birth was 47 years, now 80

A(n) ________ comes to an end with a business cycle _______. A) recession ; trough B) expansion ; bubble C) recession ; peak D) expansion ; trough

A) recession ; trough *** also would be an expansion ; peak

Which one of the following is not a determinant of consumption​ spending? A. The growth rate in the United States relative to the growth rates in other countries. B.Household wealth. C. Current disposable income. D. The interest rate.

A. The growth rate in the United States relative to the growth rates in other countries.

Which of the following describes the effect of the business cycle on the inflation rate and the unemployment​ rate? A. The unemployment rate increases and the inflation rate falls during recessions. B. The unemployment rate increases and the inflation rate increases during expansions. C. The unemployment rate falls and the inflation rate falls during recessions. D. The unemployment rate increases and the inflation rate falls during expansions.

A. The unemployment rate increases and the inflation rate falls during recessions.

A decrease in the interest rate would cause the A. aggregate expenditure line to shift​ upward, increasing equilibrium real GDP. B. aggregate expenditure line to shift​ upward, decreasing equilibrium real GDP. C. aggregate expenditure line to shift​ downward, decreasing equilibrium real GDP. D. aggregate expenditure line to shift​ downward, increasing equilibrium real GDP.

A. aggregate expenditure line to shift​ upward, increasing equilibrium real GDP.

What is the meaning of the​ 45° line in the​ 45°-line diagram? In the​ 45°-line diagram, the​ 45° line shows A. all the points where aggregate expenditure equals real GDP. B. real aggregate expenditure for varying levels of real GDP. C. real consumption spending for varying levels of real GDP. D. the equality of real consumption spending and real GDP.

A. all the points where aggregate expenditure equals real GDP.

On the graph of the consumption​ function, the horizontal axis measures​ _______, while the vertical axis measures​ _______. A. real national income or real​ GDP; real consumption spending B. real disposable​ income; real national income C. real​ GDP; real aggregate expenditure D. real consumption​ spending; real national income

A. real national income or real​ GDP; real consumption spending

An economics student raises the following​ objection: ​"The textbook said that a higher interest rate lowers​ investment, but this​ doesn't make sense. I know that if I can get a higher interest​ rate, I am certainly going to invest more in my savings​ account." The problem with the​ student's argument is which of the​ following? A. Higher interest rates are bad for savers. B. The student is confusing saving with investment. C. Savings accounts do not earn interest. D. Investment is not related to the interest rate.

B. The student is confusing saving with investment.

A rise in stock prices and housing prices A. does not affect consumption because they do not have any direct impact on disposable income. B. increases household wealth which in turn increases consumption and leads to an upward shift of the consumption function. C. reduces consumption due to increase in prices and causes the consumption function to shift downward. D. increases household wealth which in turn increases consumption and leads to an upward movement along the consumption function.

B. increases household wealth which in turn increases consumption and leads to an upward shift of the consumption function.

What are the four main determinants of​ investment? A. Expectations of future​ profitability, interest​ rates, disposable income and cash flow. B. Expectations of future​ profitability, interest​ rates, exchange rate and cash flow. C. Expectations of future​ profitability, interest​ rates, taxes and cash flow. D. Disposable​ income, interest​ rates, taxes and cash flow.

C. Expectations of future​ profitability, interest​ rates, taxes and cash flow.

When planned aggregate expenditure is less than real​ GDP, as in the diagram to the​ right, what happens to​ firms' inventories? A. Inventories fall if production is not scaled back. B. Inventories fall as firms increase output. C. Inventories accumulate if production is not scaled back. D. Inventories accumulate as firms increase production.

C. Inventories accumulate if production is not scaled back.

At point "A" in the graph to the​ right, planned aggregate expenditure is ________ GDP A. less than B. equal too C. greater than At point "B" ​, planned aggregate expenditure is ______GDP A. less than B. equal too C. greater than At point "C​", planned aggregate expenditure is ______ GDP. A. less than B. equal too C. greater than At point A​, the unintended change in inventories can be shown on the graph​ by: A. the vertical distance between point A and the GDP axis. B. the horizontal distance between point A and the 45degrees° line. C. the vertical distance between point A and the 45degrees° line. D. the horizontal distance between point A and point B.

C. greater than B. equal too A. less than C. the vertical distance between point A and the 45degrees° line.

Which of the following is the best measure of the standard of living of the typical person in a​ country? A. the unemployment rate B. the inflation rate C. real GDP per person D. real GDP

C. real GDP per person

When aggregate expenditure is greater than​ GDP, inventories will​ __________ and GDP and total employment will​ __________. A. ​fall ; decrease B. rise ; decrease C. ​fall ; increase D. ​rise ; increase

C. ​fall ; increase

Which of the following would shift the aggregate expenditure line​ upward? A. A decrease in government purchases B. An increase in interest rates C. A decrease in expected future income D. An increase in foreign real GDP

D. An increase in foreign real GDP

Why might the unemployment rate continue to rise during the early stages of a​ recovery? A. Employment growth may be slow relative to the growth in the labor force. B. The number of discouraged workers may continue to increase. C. Some firms continue to operate well below their capacity even after a recession has ended. D. Because both​ (a) and​ (c) are true.

D. Because both​ (a) and​ (c) are true. A. Employment growth may be slow relative to the growth in the labor force. C. Some firms continue to operate well below their capacity even after a recession has ended.

Which of the following is not a main determinant of net​ exports? A. The exchange rate between the dollar and other currencies. B. The growth rate of GDP in the United States relative to the growth rates of GDP in other countries. C. The price level in the United States relative to price levels in other countries. D. Expectations of future profitability in the United States.

D. Expectations of future profitability in the United States.

How would an increase in interest rates affect​ investment? A. Real investment spending remains unchanged. B. Real investment spending increases. C. Real investment spending may​ increase, decrease or remain the same depending on the rate of inflation. D. Real investment spending declines.

D. Real investment spending declines.

What are the names of the following events in a business​ cycle? The high point of economic activity is called A. a trough. B. a high. C. a zenith. D. a peak. The low point of economic activity is called A. a trough. B. a bottom. C. a low. D. a peak. The period between the high point of economic activity and the following low point is called A. stagflation. B. a recession. C. inflation. D. an expansion. The period between the low point of economic activity and the following high point is called A. stagflation. B. an acceleration C. an expansion. D. inflation

D. a peak. A. a trough. B. a recession. C. an expansion.

The most important determinant of consumption spending is A. expected future income. B. the interest rate. C. household wealth. D. current personal disposable income.

D. current personal disposable income.

How would an increase in the growth rate of GDP in the BRIC nations​ (Brazil, Russia,​ India, and​ China) affect U.S. net​ exports? An increase in the growth rate of GDP in the BRIC nations​ (Brazil, Russia,​ India, and​ China) will A. have no effect on U.S. net exports. B. increase U.S. net exports by decreasing imports from these countries. C. decrease U.S. net exports by increasing exports to these countries. D. increase U.S. net exports by increasing exports to these countries.

D. increase U.S. net exports by increasing exports to these countries.

The two key factors that cause labor productivity to increase over time are A. better environmental standards and stricter labor laws. B. the quantity of labor per hour worked and the level of technology. C. the decline in unionization and slacking of labor laws. D. the quantity of capital per hour worked and the level of technology.

D. the quantity of capital per hour worked and the level of technology.

Business Cycle Impact on Inflation & Unemployment

Inflation usually increases with expansion & decreases with recession. Unemployment increases with recession & decreases with expansion, OTHER than at the beginning of the expansion because discouraged workers reenter labor force & firms still operating below capacity.

Increases in Real GDP per Capita Depend On Increases in Labor Productivity

Labor productivity is the quantity of goods & services that can be produced by one worker or by one hour of work. (output per worker) Increases in labor productivity are caused by increases in the quantity of capital & technology.

Rule of 70

Rule of Thumb for how long it takes for something, like GDP or a financial investment, to double. Real GDP per capita in the U.S. grew from $6,000 in 1900 to $51,690 in 2016, which represents an annual growth rate of 1.9 percent. If the U.S. continues to grow at this rate, how many years will it take for real GDP per capita to double.

Saving, Investment, & the Financial System

The financial system is crucial for economic growth by providing funds for investment projects (capital equipment, training workers, new technologies, R&D). Consumption is smoothing Important for economic growth as it provides funds to firms for capital investment,

Potential GDP

The level of real GDP attained when all firms are producing at capacity. Not maximum output, but output when operating on normal hours, using a normal workforce. Potential GDP increase over time as the labor force grows, new factories & office buildings are built, machinery & equipment are installed, and technological changes takes place. From 1949‐2017, potential GDP in U.S. grew at an annual average rate of 3.2%

Business Cycle - Phases

Two Phases - Expansion --- Increase in economic activity - Recession --- Significant decline in economic activity spread across the country, lasting more than a few months. Two Turning Points - Peak --- Highs - Trough --- Low

Unemployment Rate Typically Rises After the End of a Recession During the Early Stages of Recovery

Why - discouraged workers reentering the labor force Firms still operating slow capacity so slow to to hire & may even continue to lay off workers.

Best (but not perfect) measure of standard of living

real GDP