macro week 2

S=−20 + 0.4Y Ig=25−3i (Advanced analysis) The equations refer to a private closed economy, where S is saving, Ig is gross investment, i is the real interest rate, and Y is GDP. If the real interest rate is 5 (percent), investment will be

$10 and the equilibrium GDP will be $75.

Assume there are no investment projects that will produce an expected rate of return of 8 percent or more. There are, however, $2 billion worth of investment projects with an expected rate of return at 7 percent, and an additional $2 billion for every drop of the interest rate by 1 percent. If the real interest rate is 3 percent in this economy, the cumulative amount of investment at the 3 percent or higher rate of return is

$10 billion.

Change in Income Change in Consumption Change in Saving Assumed Increase in Investment $5.00 $ $1.25 Second Round $ $2.81 $ All Other Rounds $ $8.44 $ Totals $ $ $5.00 The table illustrates the multiplier process resulting from an autonomous increase in investment by $5. The change in income in round two will be

$3.75.

Expected Rate of Return Cumulative Amount of Investment (in Billions) 22% $110 20 150 16 180 10 210 5 295 2 380 According to the given cumulative investment table, if the real interest rate falls from 20 percent to 16 percent, then

$30 billion of additional investments will be undertaken.

Ca = 25 + 0.75 (Y - T) Ig = 50 Xn = 10 G = 70 T = 30 (Advanced analysis) The accompanying equations are for a mixed open economy. The letters Y, Ca, Ig, Xn, G, and T stand for GDP, consumption, gross investment, net exports, government purchases, and net taxes, respectively. Figures are in billions of dollars. If the economy's tax schedule was T = 0.2Y rather than T = T0 = 30, the equilibrium GDP would be

$387.5.

Security Amount (in Billions) Treasury Bills $220 Corporate Bonds 140 Treasury Notes 80 Corporate Stock 200 US Savings Bonds 60 Treasury Bonds 100 The public debt for the economy is

$460 billion.

Suppose that technological advancements stimulate $20 billion in additional investment spending. If the MPC = 0.6, how much will the change in investment increase aggregate demand?

$50 billion

Domestic Output or Income (GDP=DI) Consumption $540 $540 560 555 580 570 600 585 620 600 640 615 660 630 The table gives data for a private (no government) closed economy. All figures are in billions of dollars. If planned investment is $25 billion, then aggregate expenditures at the income level of $560 billion will be

$580 billion.

Real GDP C + Ig Net Exports $400 $420 $20 450 460 20 500 500 20 550 540 20 600 580 20 650 620 20 700 660 20 The table shows a private open economy. All figures are in billions of dollars. The equilibrium real GDP is

$600.

If the MPC in an economy is 0.9, a $1 billion increase in government spending will ultimately increase consumption by

$9 billion.

(Advanced analysis) The given equations describe consumption and investment (in billions of dollars) for a private closed economy. C = 60 + 0.6Y I = I0 = 30 In equilibrium, the level of consumption spending will be

195.

Real-Balances Effect Household Expectations Interest-Rate Effect Personal Income Tax Rates Profit Expectations National Incomes Abroad Government Spending Foreign Purchases Effect Exchange Rates Degree of Excess Capacity Answer the question based on the accompanying list of factors that are related to the aggregate demand curve. Changes in which two of the factors would most likely cause a shift in aggregate demand due to a change in consumer spending?

2 and 4

Possible Levels of Domestic Output and Income (GDP = DI) Consumption $320 $320 330 327 340 334 350 341 360 348 370 355 380 362 The table gives data for a private closed economy. At the $370 billion level of DI, the APS is approximately

4 percent.

In 2015, about ____ percent of the U.S. public debt was held by the U.S. government and Federal Reserve.

41

Real-Balances Effect Household Expectations Interest-Rate Effect Personal Income Tax Rates Profit Expectations National Incomes Abroad Government Spending Foreign Purchases Effect Exchange Rates Degree of Excess Capacity Answer the question based on the accompanying list of factors that are related to the aggregate demand curve. A change in net export spending would most likely be caused by changes in

6 and 9.

Which of the following is correct?

APC + APS = 1.

Which of the following is not true when there is an unplanned decrease in inventories?

Actual investment is greater than planned investment.

What do investment and government expenditures have in common?

Both represent injections to the circular flow.

Refer to the diagrams, in which AD1 and AS1 are the "before" curves and AD2 and AS2 are the "after" curves. Growth, full-employment, and price stability are depicted by

C.

In a mixed open economy, the equilibrium GDP exists where

Ca + Ig + Xn + G = GDP.

Refer to the diagram. Which tax system has the least built-in stability?

T4

The public debt is held as

Treasury bills, Treasury notes, Treasury bonds, and U.S. savings bonds.

In the accompanying graph, which of the following factors will shift AS1 to AS2?

a decrease in business taxes

Other things equal, a decrease in the real interest rate will

expand investment and shift the AD curve to the right.

The crowding-out effect arises when

government borrows in the money market, thus causing an increase in interest rates.

A decrease in business taxes will tend to

increase aggregate demand and increase aggregate supply.

An increase in productivity will

increase aggregate supply.

Refer to the graph. If aggregate supply shifts from AS1 to AS2, then the price level will

increase and real domestic output will decrease.

Given a fixed upsloping AS curve, a rightward shift of the AD curve will

increase both the price level and real output.

If a nation imposes tariffs and quotas on foreign products, the immediate effect will be to

increase domestic output and employment.

A rightward shift of the AD curve in the very flat part of the short-run AS curve will

increase real output by more than the price level.

The multiplier applies to

investment, net exports, and government spending.

Before Taxes After Taxes GDP C S Ca Sa $500 $480 $20 $474 $16 510 486 24 480 20 520 492 28 486 24 530 498 32 492 28 540 504 36 498 32 550 510 40 504 36 560 516 44 510 40 570 522 48 516 44 Refer to the accompanying table. The tax in the economy is a

lump-sum tax of $10.

A tax cut will have a greater effect on equilibrium GDP if the

marginal propensity to save is smaller.

If you were told that the government had an actual budget deficit of $50 billion, then you would

not be able to determine the direction of fiscal policy from the information given.

When aggregate demand declines, some firms may reduce employment rather than wages because wage reductions may

not be possible due to the minimum wage law.

Disposable Income Consumption $0 $8 80 80 160 152 240 224 320 296 400 368 The disposable income (DI) and consumption (C) schedules are for a private, closed economy. All figures are in billions of dollars. If consumption increases by $10 billion at each level of disposable income, the marginal propensity to consume will

not change, but the average propensity to consume will change.

There is general agreement among economists that a proposed fiscal policy should be evaluated for its

potential positive and negative effects on long-run productivity growth.

The crowding-out effect from government borrowing to finance the public debt is reduced when

public investment complements private investment.

In an aggregate expenditures diagram, equal increases in government spending and in lump-sum taxes will

shift the aggregate expenditures line upward.

(Last Word) Classical macroeconomics was dealt severe blows by

the Great Depression and Keynes's macroeconomic theory.

The public debt is the amount of money that

the federal government owes to holders of U.S. securities.

In the figure, AD1 and AS1 represent the original aggregate supply and demand curves, and AD2 and AS2 show the new aggregate demand and supply curves. The change in aggregate supply from AS1 to AS2 could be caused by

the increase in productivity.

Gross Domestic Product Consumption $100 $120 200 180 300 240 400 300 500 360 Expected Rate of Return Amount of Investment 25% $0 20 20 15 40 10 60 5 80 Refer to the tables of information for a private closed economy. The data suggest that

the interest rate and the equilibrium GDP are inversely related.

The most important determinant of consumer spending is

the level of income.

Art Buchwald's article in the Last Word section of the chapter, "Squaring the Economic Circle," is a humorous description of

the multiplier effect.

One important reason why the United States government is not likely to go bankrupt even with a large public debt is that it has

the power to print money to finance the debt.

If the full-employment GDP for the economy is at L, then we can say with certainty that the

cyclically adjusted budget will have a surplus.

In general, the steeper the consumption schedule, the

larger is the multiplier.

The numerical value of the multiplier will be smaller the

larger the slope of the saving schedule.

Assume that an increase in a household's disposable income from $40,000 to $48,000 leads to an increase in consumption from $35,000 to $41,000, then the

slope of the consumption schedule is 0.75.

An increase in taxes of a specific amount will have a smaller impact on the equilibrium GDP than will a decline in government spending of the same amount because

some of the tax increase will be paid out of income that would otherwise have been saved.

In the aggregate expenditures model, it is assumed that investment

does not change when real GDP changes.

An economy is employing 2 units of capital, 5 units of raw materials, and 8 units of labor to produce its total output of 640 units. Each unit of capital costs $10; each unit of raw materials, $4; and each unit of labor, $3. If the per-unit price of raw materials rises from $4 to $8 and all else remains constant, the aggregate

supply curve would shift to the left.

The amount by which government expenditures exceed revenues during a particular year is the

budget deficit.

According to Congressional Budget Office (CBO) projections,

budget deficits are expected to remain large for the next several years.

Refer to the diagram. The degree of built-in stability in the economy could be increased by

changing the tax system so that the tax line has a greater slope.

Expected Rate of Return (%) Amount of Investment With This Rate of Return or Higher ($B) 12% $10 10 20 8 30 6 40 4 50 2 60 The investment schedule in the given table indicates that if the real interest rate is 8 percent, then

$30 billion of investment will be undertaken.

Refer to the given diagram. The marginal propensity to consume is

0.8.

The APC is calculated as

consumption/income.

When aggregate demand declines, wage rates may be inflexible downward, at least for a time, because of

wage contracts.

Assume that for the entire business sector of a private closed economy, there are $0 worth of investment projects that will yield an expected rate of return of 25 percent or more. But there are $15 worth of investments that will yield an expected rate of return of 20-25 percent, another $15 with an expected rate of return of 15-20 percent, and an additional $15 of investment projects in each successive rate of return range down to and including the 0-5 percent range. If the real interest rate is 5 percent, what amount of investment will be undertaken?

$60

Disposable Income Consumption $0 $8 80 80 160 152 240 224 320 296 400 368 The disposable income (DI) and consumption (C) schedules are for a private, closed economy. All figures are in billions of dollars. If plotted on a graph, the slope of the consumption schedule would be

0.9.

Which of the diagrams for the U.S. economy best portrays the effects of a substantial reduction in government spending?

D

Refer to the accompanying consumption schedule. The average propensity to save at income level B is represented by

EF/BF.

Gross Domestic Product (GDP) Consumption (C) $0 $40 100 120 200 200 300 280 400 360 The accompanying table is the before-tax consumption schedule for a closed economy. If a lump-sum tax (the same tax amount at each level of GDP) of $40 is now imposed in this economy, the consumption schedule will be

GDP C $0 $8 100 88 200 168 300 248 400 320

If the MPC is 0.8 and disposable income is $200, then

If the MPC is 0.8 and disposable income is $200, then

Which of the following is correct?

MPC + MPS = APC + APS.

If the saving schedule is a straight line, the

MPS must be constant.

Price Level C Ig G X M Real GDP 128 $18 $2 $3 $1 $5 125 20 4 3 2 4 122 22 6 3 3 3 119 24 8 3 4 2 116 26 10 3 5 1 In the accompanying table for a particular country, C is consumption expenditures, Ig is gross investment expenditures, G is government expenditures, X is exports, and M is imports. All figures are in billions of dollars. The interest-rate effect of changes in the price level is shown by columns

Price Level and Ig on the table.

(Advanced analysis) The equation for the given saving schedule is

S = −20 + 0.2Yd.

In a mixed open economy, changes in which of the following all affect the equilibrium GDP in the same direction?

Sa, T, and M

Government Spending Tax Revenues GDP Year 1 $800 $825 $4,000 Year 2 850 850 4,200 Year 3 900 875 4,350 Year 4 950 900 4,500 Year 5 1,000 925 4,600 The table contains budget information for a hypothetical economy. All data are in billions of dollars. In which year is there a budget surplus?

Year 1

If the cyclically adjusted budget shows a deficit of zero and the actual budget shows a deficit of about $150 billion, it can be concluded that there is

a cyclical deficit.

Refer to the graph. Which of the following factors will shift AD1 to AD3?

a decrease in consumer wealth

An increase in aggregate demand is most likely to be caused by which of the following?

a decrease in the tax rates on household income

Which one of the following will cause a movement up along an economy's saving schedule?

an increase in disposable income

Refer to the graph. Which of the following factors will shift AD1 to AD2?

an increase in national incomes abroad

The difference between the investment demand curve and the investment schedule is that the former shows

an inverse relationship between investment and interest rate, while the latter shows no correlation between investment and income.

If government increases the size of its cyclically adjusted surplus, we can

assume that government is having a contractionary effect on the economy.

If households in the economy save more of any extra income that they earn, then the multiplier effect will

decrease.

When national income in other nations decreases, aggregate demand in our economy

decreases because our exports will decrease.

If the United States wants to increase its net exports in the short term, it might take steps to

depreciate the dollar compared to foreign currencies.

The size of the multiplier associated with an initial increase in spending will be

diminished if inflation occurs.

Refer to the diagram. Consumption equals disposable income when

disposable income is B.

In Year 1, the actual budget deficit was $200 billion and the cyclically adjusted deficit was $150 billion. In Year 2, the actual budget deficit was $225 billion and the cyclically adjusted deficit was $175 billion. It can be concluded that fiscal policy from Year 1 to Year 2 became more

expansionary.

The consumption schedule is drawn on the assumption that as income increases, consumption will

increase absolutely but decline as a percentage of income.

Assuming that MPC is 0.75, equal increases in government spending and tax collections by $10 billion will

increase the equilibrium GDP by $10 billion.

Security Amount (in Billions) Treasury Bills $220 Corporate Bonds 140 Treasury Notes 80 Corporate Stock 200 US Savings Bonds 60 Treasury Bonds 100 Other things equal, an increase of Treasury bonds from $100 billion to $120 billion in the economy would

increase the public debt from $460 billion to $480 billion.

The crowding-out effect of expansionary fiscal policy suggests that

increases in government spending financed through borrowing will increase the interest rate and thereby reduce investment.

Exports have the same effect on the current size of GDP as

investment.

One advantage of automatic fiscal policy over discretionary fiscal policy is that automatic fiscal policy

is not subject to the timing problems of discretionary policy.

Suppose that real domestic output in an economy is 20 units, the quantity of inputs is 10, and the price of each input is $4. Given an increase in input price from $4 to $6, we would expect the aggregate

supply curve to shift to the left.

If a $10 billion decrease in lump-sum taxes increases equilibrium GDP by $40 billion, then

the MPC for this economy is 0.8.

Refer to the diagram. Suppose that aggregate demand increased from AD1 to AD2. For the price level to stay constant,

the aggregate supply curve would have to shift rightward.

Deflation refers to a situation where

the price level falls; it could be caused by a shift of AD to the left.

Which of the following serves as an automatic stabilizer in the economy?

the progressive income tax

The cyclically adjusted budget refers to

the size of the federal government's budgetary surplus or deficit when the economy is operating at full employment.

The so-called negative taxes are better known as

transfer payments.

Domestic Output or Income (GDP=DI) Consumption $540 $540 560 555 580 570 600 585 620 600 640 615 660 630 The table gives data for a private (no government) closed economy. All figures are in billions of dollars. If planned investment is $18 billion, then at the $660 billion level of disposable income, there will be an

unplanned increase in inventories of $12 billion.