Econ 210 test 2

Match the following descriptions with the correct aggregate supply curve

Immediate short run -The price level is fixed -A horizontal line Short run -An upsloping curve -Output prices are flexible, but input prices are fixed Long run - A vertical line -Output is fixed

Frictional unemployment

Individuals searching for jobs or waiting to take jobs soon

Federal Reserve Functions

Issue currency Set reserve requirements Lend money to banks Collect checks Act as a fiscal agent for U.S. government Supervise banks Control the money supply

How does the purchasing power of money relate to the price level?

It is inversely related to the price level.

Assets

Liabilities + Networth

Redistribution Effects of Inflation

Nominal income: Unadjusted for inflation. Real income: Nominal income adjusted for inflation

Structural unemployment

Occurs due to changes in the structure of the demand for labor

What determines the value (domestic purchasing power) of money?

People's willingness to accept it in exchange for goods and services

Productivity formula

Productivity = Outputs/Inputs

What type of tax system would have the most built-in stability?

Progressive tax system, because it increases at an increasing rate as incomes rise, thus having more of a dampening effect on rising (or falling) incomes.

Determinants of aggregate demand

Shift factors affecting C, I, G, Xn.

Who measures the labor force, and how is it defined?

The U.S. Bureau of Labor Statistics (BLS) measures the labor force as people over 16 years of age who are employed and those who are actively seeking work.

The explanation for a downsloping aggregate demand curve differs from the explanation for the downsloping demand curve for a single product because

a downsloping, single-product demand curve assumes constant money income such that a lower price causes a substitution of the now relatively cheaper product for those whose prices have not changed.

Other than its main role of controlling the supply of money, functions of the Federal Reserve include

issuing Federal Reserve Notes, providing for check collection, and supervising the operation of banks.

interest rate effect

occurs when a change in the price level leads to a change in interest rates and, therefore, in the quantity of aggregate demand

An asset on a bank's balance sheet is something

owned by the bank, whereas a liability is something owed by the bank.

In sequential order, the four phases of the business cycle are

peak, recession, trough, and expansion.

unemployed

people not working who have looked for work during previous 4 weeks

Rapid inflation can undermine money's ability to perform its functions. During periods of runaway inflation,

people often revert to barter because money fails as a medium of exchange.

employed

people who are currently holding a job in the economy, either full time or part time

A political business cycle is the idea that

politicians are more interested in reelection than in stabilizing the economy.

Real GDP formula

real gdp = nominal gdp - change in price level

Government's fiscal policy options for ending severe demand-pull inflation include

reducing government spending, increasing taxes, or both

The long-run aggregate supply curve is vertical because the economy's potential output is determined by

the availability and productivity of real resources, not by the price level.

The Board of Governors of the Federal Reserve System

coordinates policies for the 12 Federal Reserve Banks

If there is an increase in the unemployment rate, the size of the labor force

could increase or decrease.

The problem of time lags in enacting and applying fiscal policy is

in the time it takes to identify the situation, enact a policy, and allow it to work, economic circumstances may have changed.

Hyperinflation

A very rapid rise in the price level; an extremely high rate of inflation.

Balance Sheet

A financial statement that reports assets, liabilities, and owner's equity on a specific date.

Spending Multiplier

1/(1-MPC)

Monetary multiplier formula

1/required reserve ratio

Inflation Rate Formula

(Current year CPI ) - (Earlier Year CPI) / (Earlier Year CPI) x100 (Current year CPI ) - (Base Year CPI) / (Base Year CPI) x100

The Federal Reserve and the Banking System

- Historical background - Has a Board of Governors - 12 Federal Reserve Banks: •Serve as the central bank •Quasi-public banks - Banker's banks

Functions of Money

- Medium of exchange: Used to buy and sell goods. - Unit of account: Goods valued in dollars. -Store of value: Hold some wealth in money form. Money is liquid.

Cost-push inflation

-Due to a rise in per-unit input costs -Supply shocks -Cost-push ends in a recession -Reduces real output. -Redistributes a decreased level of real income. -more likely to be associated with a negative GDP gap

Cyclical Impact

-Durable goods affected most (capital goods, consumer durables) -Nondurable consumer goods affected less (services, food and clothing)

Federal Reserve Independence

-Established by Congress as an independent agency -Protects the Fed from political pressures -Enables the Fed to take actions to increase interest rates in order to stem inflation as needed

Demand-pull inflation

-Excess spending relative to output -Central bank issues too much money -Demand-pull continues as long as the excess spending continues -One view is that zero inflation is best. -Another view is that mild inflation is best. -more likely to be associated with a positive GDP gap

Who is hurt by inflation?

-Fixed income receivers: Real incomes fall. -Savers: Value of accumulated savings deteriorates. -Creditors: Lenders get paid back in "cheaper dollars."

Who Is Unaffected by Inflation?

-Flexible income receivers •COLAs •Social Security recipients •Union members -Debtors: Pay back the loan with "cheaper dollars."

Anticipated Inflation (expected)

-Real interest rate: Rates adjusted for inflation. -Nominal interest rate: Rates not adjusted for inflation.

Consumer Price Index (CPI) formula

= (current or most recent cost of market basket/base year cost of market basket) x 100

Which of the following is not a function of the Fed?

Advising Congress on fiscal policy

M2

All of M1 + less immediate (liquid) forms of money to include savings (MMDA), money market mutual funds, and small denomination time deposits.

The business cycle

Alternating increases and decreases in economic activity over time

In the United States, who is responsible for maintaining money's purchasing power?

Board of Governors of the Federal Reserve System

Which of the following will shift the aggregate supply curve to the right?

Business taxes fall A new networking technology increases productivity all over the economy.

Cyclical unemployment

Caused by the recession phase of the business cycle

Determinants of aggregate supply

Collectively position the AS curve Changes raise or lower per-unit production costs

Consumer Spending

Consumer wealth Household borrowing Consumer expectations Personal taxes

fiscal policy

Deliberate changes in: •Government spending •Taxes Designed to: •Achieve full-employment •Control inflation •Encourage economic growth Discretionary or nondiscretionary

Okun's Law

Every 1% of cyclical unemployment creates a 2% negative GDP gap

Which of the following will shift the aggregate demand curve to the left?

The government raises corporate profit taxes Interest rates rise

foreign purchases effect

The inverse relationship between the net exports of an economy and its price level relative to foreign price levels.

Securitization

The process of slicing up and bundling groups of loans into new securities

What "Backs" the Money Supply?

There is no concrete backing to the money supply in the United States.

Inflation

a general increase in prices and fall in the purchasing power

Consumer Price Index (CPI)

a measure of the overall cost of the goods and services bought by a typical consumer

The crowding-out effect is

a reduction in investment spending caused by an increase in interest rates arising from an increase in government spending

GDP Gap

actual gdp - potential gdp (can be negative)

Excess reserve

actual reserve - required reserve

money

anything that serves as a medium of exchange, a unit of account, and a store of value

Net worth is equal to

assets - liabilities

in inflation

borrows gain, fixed incomes in nominal terms loose

The multiplier

causes an initial change in spending to generate an even larger change in the aggregate demand curve.

required reserves

checkable deposits reserve ratio

reserve ratio formula

commercial bank's required reserves/commercial bank's checkable deposit liabilities

M1

consists of currency and checkable deposits

Expectations of a near-term policy reversal weaken fiscal policy because

consumers may hesitate to increase their spending because they believe that tax rates will rise again.

When demand increases

demand curve shifts right, increasing equilibrium

The Council of Economic Advisers (CEA) advises the president on

economic matters and provides recommendations for discretionary fiscal policy action.

An important reason why members of the Federal Reserve's Board of Governors are each given extremely long, 14-year terms is to:

insulate members from political pressures that could result in inflation.

The Federal Open Market Committee (FOMC) includes

members of the Board of Governors and 5 of the 12 presidents of the Federal Reserve Banks, of which the president of the New York Fed has a permanent voting seat.

Some politicians have suggested that the United States enact a constitutional amendment requiring that the federal government balance its budget annually. Such an amendment, if strictly enforced, would force the government to enact a contractionary fiscal policy whenever the economy experienced a severe recession because

net tax revenue falls and transfer payments rise during a recession, so balancing the budget would require lowering transfer payments and raising taxes

real interest rate

nominal interest rate - inflation rate

Seasonal variations and long-run trends complicate the measurement of the business cycle because

normal seasonal variations do not signal boom or recession.

Government Spending

spending by all levels of government on final goods and services Government spending increases: •Aggregate demand increases (as long as interest rates and tax rates do not change) •More transportation projects Government spending decreases: •Aggregate demand decreases Less military spending

Investment Spending

spending on new productive physical capital, such as machinery and structures, and on changes in inventories

Built-in (automatic) stabilizers work by changing __________ so that changes in GDP are reduced.

taxes and government payouts

Each member of the Board of Governors of the Federal Reserve System is selected by

the U.S. president and confirmed by the Senate.

The short-run aggregate supply curve is relatively flat to the left of the full-employment output because

there are large amounts of unused capacity and idle human resources

If the annual interest payments on the U.S. public debt sharply increased as a percentage of GDP, then

the government would have to use tax revenues or go deeper into debt.

The downsloping aggregate demand curve can be explained by

the interest-rate effect, the real-balances effect, and the foreign purchases effect

The unemployment rate that is consistent with full employment is

the natural rate of unemployment

Deflation means

the price level is falling, whereas with inflation overall prices are rising. Correct

Aggregate Demand

the relationship between average price level and demand for all goods and services inverse relationship between average price level and real output demanded

labor force

the total number of workers, including both the employed and the unemployed Involuntary part-time workers counted as full-time. Discouraged workers are not counted as unemployed

The business cycle affects output and employment in capital goods industries and consumer durable goods industries more severely than in industries producing consumer nondurables because

these goods last, so that purchases can be postponed

Economists nearly uniformly support an independent Fed rather than one beholden directly to either the president or Congress because

this independence allows the Fed to more effectively control the money supply and maintain price stability.

Per-unit production cost formula

total input cost/total output

Unemployment rate formula

unemployed/labor force x 100

A positive unemployment rate—more than zero percent—is fully compatible with full employment because at full employment,

unemployment includes frictional unemployment, which is always positive because people are transitioning to new jobs

The shape of the short-run aggregate supply curve is

upsloping, because wages adjust more slowly than the price level.

The length of a complete business cycle

varies greatly in duration and intensity.

The Federal Open Market Committee (FOMC)

votes on the Fed's monetary policy and directs the purchase or sale of government securities.

real balances effect

when a price increases, your buying power is decreased, causing you to buy less

Natural Rate of Unemployment (NRU)

•Full employment level of unemployment. •Can vary over time due to: •Demographic changes •Changing job search methods •Public policy changes •Actual unemployment can be above or fall below the NRU.

The business cycle

•Peak-- highest point •Recession-- gpd is falling (6 months or more continuous) •Trough-- lowest points •Expansion-- gdp is rising

Causes of economic shock

•Political events •Financial instability •Irregular innovation •Productivity changes Monetary factors

Core inflation

•Without food and energy goods. Focuses on more stable prices