MACRO CH 13

Which of the following statements best represents a neoclassical interpretation of a short-run increase in aggregate supply? Select the two correct answers below.

-Short-run increases in supply will not have an effect on prices in the long term. -Short-run increases in GDP due to a shift in aggregate supply cannot be maintained over the long term.

Increases in _________ result GDP growth.

-physical capital per person -human capital per person

The core assumption(s) of the neoclassical theory rests on __________.

-the behavior of individuals to make rational decisions in their own self-interest -the reliability of individuals to always maximize their utility, wealth, and profit

According to neoclassical economists, what effect would a decrease in aggregate demand have over the long run?

A decrease in prices and a return to potential GDP

According to neoclassical economists, what effect does an increase in aggregate demand have over the long run?

An increase in prices and a return to potential GDP.

Human capital per person, physical capital per person, and advances in technology have no impact on GDP growth. True or false?

False Economists benchmark actual or real GDP against the potential GDP to determine how well the economy is performing. We can explain GDP growth by increases and investment in physical capital and human capital per person as well as advances in technology.

Rational expectations tend to look back at past experience while adaptive expectations look ahead to the future.

False No, this statement is false. It would be more accurate to say that rational expectations seek to predict the future as accurately as possible, using all of past experience as a guide. Adaptive expectations are largely backward looking; that is, they adapt as experience accumulates, but without attempting to look forward.

Suppose the economy is initially in the long-run equilibrium, but a drop in consumer confidence causes the AD curve to shift to the left. What will be the impact on prices and output in the short run and long run?

In the short run, both prices and output fall. In the long run, prices fall, but output stays the same.

The graph below depicts the Long Run Aggregate Supply Curve (LRAS), initial Short Run Aggregate Supply Curve (SRAS), and initial Aggregate Demand Curve (AD). An increase in government spending causes Aggregate Demand to shift to New AD. How will the Short Run Aggregate Supply Curve adjust in the long run to move the economy back to the full employment level of output? The New Equilibrium is misplaced. Reposition the new equilibrium point on SRAS to reflect the new, long-run, full employment equilibrium.

The new equilibrium point is located at (200,115). The increase in Aggregate Demand will cause Real GDP to increase in the short run and unemployment will fall. As a result, in the long run, wages and other resource costs will rise causing SRAS to fall. The equilibrium will shift SRAS from SRAS to the intersection of the new Aggregate Demand curve and LRAS.

The neoclassical model is mostly based on _______________ expectations of inflation.

adaptive

In a recession, the neoclassical economic model advocates __________.

waiting out the recession and allowing the market to correct itself The neoclassical model, not the Keynesian model, advocates taking no action during a recessionary gap due to the belief that the economy will self-correct.

If the short-run aggregate supply curve moved left because unemployment rates were unsustainably low for a period of time, express what had initially happened to the aggregate demand curve.

Aggregate demand would have increased, creating the unsustainably low unemployment rate and increasing the price level. In response, eager employers would bid up wages, reducing their supply, and shifting the short-run aggregate supply curve to the left.

According to neoclassical economics, what happens to the price level when aggregate demand increases and aggregate supply is set at potential output?

Price levels increase. When aggregate supply is set at potential output one can assume the model is in the long run. When aggregate supply is viewed in the long run it is the same at all price levels because potential output is maintained at all price levels. When aggregate demand increases it shifts to the right and price level increases. AD1 moves to AD2 along the LRAS curve and price level moves from P1 to P2.

Which of the following is true in the long run?

Prices are flexible and allow the economy to produce at the full employment level of output.

The graph below depicts the Long Run Aggregate Supply Curve (LRAS), Short Run Aggregate Supply Curve (SRAS), and initial Aggregate Demand Curve (AD). An optimistic view of the economy has caused firms to increase investment, and Aggregate Demand has shifted to "New AD" and "New SRAS," respectively. How has the price level and real GDP changed due to this event in the short-run? How has the price level and real GDP changed in the long-run? The "Short-Run Equilibrium" and "Long-Run Equilibrium" points are misplaced. Reposition these points to reflect the change in the economy due to the event described above.

The Short-Run Equilibrium will increase to (600,100), the intersection of the New AD and the SRAS. In the short-run prices are "sticky." The increase in investment expands output beyond the full employment rate for a short period of time. In the short-run the economy will operate at the intersection of the Short Run Aggregate Supply Curve and New Aggregate Demand Curve. The Long-Run Equilibrium is (400,100). Once wages and other contacts can be negotiated the economy will move back to the full employment level, at the intersection of the New Short-Run Aggregate Supply Curve (New SRAS) and the New Aggregate Demand Curve (New AD).

Use the aggregate supply (AS) curve and aggregate demand (AD) curve below to determine the equilibrium price level and equilibrium real GDP for this economy.

The intersection of the aggregate supply and aggregate demand curves shows the equilibrium level of real GDP and the equilibrium price level in the economy. In this, the equilibrium price level is 150 and equilibrium Real GDP is $8000.

The data below represents inflation and unemployment rates over a period of time for an imaginary country. The data points have been plotted and the short-term Phillips Curve with a downward slope is shown. Based on the provided data and visual graph, reposition the vertical curve which represents the long-run Phillips curve on the natural rate of unemployment. We are assuming the natural rate of unemployment just happens to be also the most frequent value in the table (which is a coincidence).

The natural rate of unemployment is 5%.

The graph below depicts the Long Run Aggregate Supply Curve (LRAS), initial Short Run Aggregate Supply Curve (SRAS), and initial Aggregate Demand Curve (AD0). A reduction in real interest rates on business loans has caused an increase in business investment. The increase in investment causes Aggregate Demand to shift to New AD. How will the Short Run Aggregate Supply Curve adjust in the long run to move the economy back to the full employment level of output? The New Equilibrium is misplaced. Reposition the new equilibrium point on SRAS to reflect the new, long-run, full employment equilibrium.

The new equilibrium point is located at (400,105). The increase in Aggregate Demand will cause Real GDP to increase in the short run and unemployment will fall. As a result, in the long run, wages and other resource costs will rise causing SRAS to decrease. The equilibrium will shift SRAS from SRAS to the intersection of the new Aggregate Demand curve and LRAS.

The graph below depicts the Long Run Aggregate Supply Curve (LRAS), initial Short Run Aggregate Supply Curve (SRAS), and initial Aggregate Demand Curve (AD). A recession abroad has caused a decrease in exports. The fall in exports caused Aggregate Demand to shift to New AD. How will the Short Run Aggregate Supply Curve adjust in the long run to move the economy back to the full employment level of output? The "New Equilibrium" is misplaced. Reposition the point on the New SRAS to reflect the new, long-run, full employment equilibrium.

The new equilibrium point is located at (400,85). The reduction in Aggregate Demand will cause Real GDP to fall in the short run and unemployment will rise. As a result, in the long run, wages and other resource costs will fall causing SRAS to increase. The equilibrium will shift SRAS from the SRAS to the intersection of the new Aggregate Demand curve and LRAS.

In a recession, a neoclassical economist would likely argue for changes to labor policy institutions and nothing more.

True A neoclassical economist would argue for policy changes in labor institutions, but would not advocate for fiscal or monetary policy measures due to the length of time these would take, as well as the inherent belief that the economy will stabilize itself over the long run. Your answer:

True or false?A neoclassical long-run aggregate supply curve will imply a vertical shape for the Phillips curve, indicating no long run tradeoff between inflation and unemployment.

True A neoclassical long-run aggregate supply curve will imply a vertical shape for the Phillips curve, indicating no long run tradeoff between inflation and unemployment.

Neoclassical economists tend to focus more on long term economic growth.

True Neoclassical economists do not believe in "fine-tuning" the economy - they believe in long term economic growth. They believe that economic growth is fostered by a stable economic environment with a low rate of inflation

True or false?Policy makers who try to expand the economy below its natural rate of unemployment can trigger an increase in inflation.

True Policy makers who try to expand the economy below its natural rate of unemployment can trigger an inflationary spiral. More demand for labor means more income in the economy, which leads to more consumption, which leads to higher prices, which leads to inflation.

True or false? The short run perspective on the Phillips Curve helps illustrate how inflation can spiral out of control.

True The in the short run the Phillips Curve helps illustrate how inflation can spiral out of control. As policymakers try to stimulate the economy to reduce unemployment below its natural rate, more working people earning income increases consumption and causes prices to rise and inflation to increase.

The theory of adaptive expectations posits that the speed of macroeconomic adjustment is always gradual.

True The theory of adaptive expectations states that firms and people will base their understanding of future shifts in the macroeconomy on their experiences in the past. This virtually guarantees an incremental rate of change.

Flexible prices allow output to remain the same in the long run even when there are short run shifts in aggregate demand or supply.

True When demand shifts right, output and prices both rise in the short run. However in the long run, prices are free to adjust, and the economy produces at the full employment level of output. So in the long run, prices rise but output stays the same.

Suppose the economy of the U.S. was in long run equilibrium, but then a recession caused a leftward shift in AD. According to the neoclassical perspective, how would the economy return to a new long run equilibrium over time?

Unemployment caused by the recession will put downward pressure on wages, causing AS to shift down and to the right.

A short-run Phillips curve seems to suggests ________________________________.

a smooth inverse transition between unemployment and inflation The Phillips curve suggested a smooth transition between unemployment and inflation. As expansionary policies are undertaken to move the economy out of a recessionary gap, unemployment will fall and inflation will rise. Policies will correct an inflationary gap and bring down the inflation rate, but at a cost of higher unemployment.