Unit 3 Exam- Chapters 10, 12-13

Refer to the diagram. Consumption equals disposable income when a. disposable income is B. b. disposable income is D. c. CD equals A. d. B equals CD.

a. disposable income is B.

Last Word- Chapter 11 - Say's Law, the Great Depression, and Keynes

Classical economics •Say's Law •Economy will automatically adjust •Laissez-faire Keynesian economics •Cyclical unemployment can occur •Economy will not correct itself •Government should actively manage macroeconomic instability

Last Word- Stimulus and the Great Recession

GDP growth has been disappointing. High debt load due to low interest rates. High rate of savings. Unequal impact. Price increases rather than output gains.

Consider This- the Great Recession and the Paradox of Thrift

Great Recession of 2007-2009- altered the prior consumption and saving behavior in the economy. People concerned for reduced wealth, high debt, potential job loss, so they increase their saving and reduced their consumption. Therefore, the paradox of thrift, which states that the recession can worsen when households becomes more thrifty and save more. Two Ironies: 1. Saving more is good for the economy in the long-run...but bad for the economy in a recession. 2. fallacy of composition- households as a group may inadvertently end up saving less when each individual household saves more.

In contrast to investment, consumption is a. relatively unstable. b. relatively stable. c. measurable. d. unmeasurable.

b. relatively stable.

Global Perspective 10.1- Average Propensity to Consume, Selected Nations

In 2018, Finland and Spain had APCs higher than 100 percent (negative saving). Switzerland and Sweden had low APCs, and thus high APSs.

Last Word- Toppling Dominoes A Humorous Look at the Multiplier

One person in town decides not to buy a product. This creates a ripple effect of people not spending, following the first decision. Ultimately, the entire town experiences an economic downturn.

Global Perspective 12.1- Size of GDP Gaps, 2017

Positive: - Iceland - Czech Republic - Germany Negative: - Mexico - Canada - US

Disposable Income Saving 0 -10 50 0 100 10 150 20 200 30 Refer to the given data for a hypothetical economy. At the $100 level of income, the average propensity to save is a. 0.10. b. 0.20. c. 0.25. d. 0.90.

a. 0.10.

Which one of the following would not shift the aggregate demand curve? a. a change in the price level b. depreciation of the international value of the dollar c. a decline in the interest rate at each possible price level d. an increase in personal income tax rates

a. a change in the price level

Which of the following would most likely shift the aggregate demand curve to the right? a. an increase in stock prices that increases consumer wealth b. increased fear that a recession will cause workers to lose their jobs c.an increase in personal income tax rates d. a reduction in household borrowing because of tighter lending practices

a. an increase in stock prices that increases consumer wealth

The investment demand curve will shift to the left as a result of a. an increase in the excess production capacity available in industry. b. a decrease in business taxes. c. increased business optimism with respect to future economic conditions. d. a decrease in labor costs.

a. an increase in the excess production capacity available in industry. Explanation: Anything that changes r will change investment demand (shift investment demand curve) •Acquisition, maintenance, and operating costs; ex. Higher energy costs increase operating costs, reduces demand for I (leftward shift) •Business taxes: businesses are concerned with after-tax r •Technological change: technology reduces operating costs; also, profitable new products create additional investment demand •Stock of capital goods on hand: if businesses have a lot of capital and increasing inventories, they will reduce investment demand •Planned inventory changes: when firms plan to increase inventory because of expectation of greater sales •Expectations: about profitability, including changes in operating costs, political climate, international relations, consumer tastes, etc.

As disposable income goes up, the a. average propensity to consume falls. b. average propensity to save falls. c. volume of consumption declines absolutely. d. volume of investment diminishes.

a. average propensity to consume falls. Explanation: Average propensity to consume (APC) •Fraction of DI consumed •As DI increases, APC decreases = consumption/income Average propensity to save (APS) •Fraction of DI saved •As DI increases, APS increases =saving/income APC+APS =1

When consumption and saving are graphed relative to real GDP, an increase in personal taxes will shift a. both the consumption and saving schedules downward. b. both the consumption and saving schedules upward. c. the consumption schedule upward and the saving schedule downward. d. the consumption schedule downward and the saving schedule upward.

a. both the consumption and saving schedules downward.

The economy's long-run AS curve assumes that wages and other resource prices a. eventually rise and fall to match upward or downward changes in the price level. b. are flexible upward but inflexible downward. c. rise and fall more rapidly than the price level. d. are relatively inflexible both upward and downward.

a. eventually rise and fall to match upward or downward changes in the price level.

If the MPC is 0.70 and investment increases by $3 billion, the equilibrium GDP will a. increase by $10 billion. b. increase by $2.10 billion. c. decrease by $4.29 billion. d. increase by $4.29 billion.

a. increase by $10 billion.

If investment decreases by $20 billion and the economy's MPC is 0.5, the aggregate demand curve will shift a. leftward by $40 billion at each price level. b. rightward by $20 billion at each price level. c. rightward by $40 billion at each price level. d. leftward by $20 billion at each price level.

a. leftward by $40 billion at each price level.

Refer to the given graph. A movement from b to a along C1 might be caused by a(n) a. recession. b. wealth effect of an increase in stock market prices. c. decrease in income tax rates. d. increase in saving.

a. recession.

The shape of the immediate-short-run aggregate supply curve implies that a. total output depends on the volume of spending. b. increases in aggregate demand are inflationary. c. output prices are flexible, but input prices are not. d. government cannot bring an economy out of a recession by increasing spending.

a. total output depends on the volume of spending.

Disposable Income. Consumption 200 205 225 225 250 245 275 265 300 285 Refer to the given data. If disposable income was $325, we would expect consumption to be a. $315. b. $305. c. $20. d. $290.

b. $305.

The size of the multiplier associated with an initial increase in spending will be a. the same whether or not inflation occurs. b. diminished if inflation occurs. c. zero if any increase in the price level occurs. d. enhanced if inflation occurs.

b. diminished if inflation occurs.

The actual multiplier effect in the U.S. economy is less than the multiplier effect in the text examples because a. the real-world MPS is larger than the MPS in the examples. b. in addition to saving, households use some of any increase in income to buy imported goods and to pay additional taxes. c. the gap between the nominal interest rate and the real interest rate widens as the economy expands or contracts. d. the MPC in the United States is greater than 1.

b. in addition to saving, households use some of any increase in income to buy imported goods and to pay additional taxes. Explanation: the Multiplier Effect An initial change in spending is multiplied to produce a greater change in equilibrium real GDP, assuming the economy has room to expand Multiplier= change in real GDP/ initial change in spending Change in GDP = multiplier × initial change in spending Ex. If I increases by $30B and real GDP increases by $90B, the multiplier = 3

The foreign purchases effect suggests that an increase in the U.S. price level relative to other countries will a. increase the amount of U.S. real output purchased. b. increase U.S. imports and decrease U.S. exports. c. increase both U.S. imports and U.S. exports d. decrease both U.S. imports and U.S. exports

b. increase U.S. imports and decrease U.S. exports.

In an effort to avoid recession, the government implements a tax rebate program, effectively cutting taxes for households. We would expect this to a. affect neither aggregate supply nor aggregate demand. b. increase aggregate demand. c.reduce aggregate demand. d. reduce aggregate supply.

b. increase aggregate demand.

Other things equal, a reduction in personal and business taxes can be expected to a. increase aggregate demand and decrease aggregate supply. b. increase both aggregate demand and aggregate supply. c. decrease both aggregate demand and aggregate supply. d.decrease aggregate demand and increase aggregate supply.

b. increase both aggregate demand and aggregate supply.

The aggregate supply curve (short run) a. graphs as a horizontal line. b. is steeper above the full-employment output than below it. c. slopes downward and to the right. d. presumes that changes in wages and other resource prices match changes in the price level.

b. is steeper above the full-employment output than below it.

A rightward shift in the aggregate supply curve is best explained by an increase in a. business taxes. b. productivity. c. nominal wages. d. the price of imported resources.

b. productivity.

Suppose that nominal wages fall and productivity rises in a particular economy. Other things equal, the aggregate a. demand curve will shift leftward. b. supply curve will shift rightward. c. supply curve will shift leftward. d. expenditures curve will shift downward.

b. supply curve will shift rightward.

Refer to the given graph. A shift of the consumption schedule from C1 to C2 might be caused by a(n) a. recession. b. wealth effect of an increase in stock market prices. c. increase in income tax rates. d. increase in saving.

b. wealth effect of an increase in stock market prices.

Assume a machine that has a useful life of only one year costs $2,000. Assume, also, that net of such operating costs as power, taxes, and so forth, the additional revenue from the output of this machine is expected to be $2,300. The expected rate of return on this machine is a. 7.5 percent. b. 10 percent. c. 15 percent. d. 20 percent.

c. 15 percent.

Refer to the given diagram. The marginal propensity to consume is equal to a. AE/0E. b. CF/CD. c. CB/AB. d. CD/CF.

c. CB/AB.

The 45-degree line on a graph relating consumption and income shows: a. all the points where the MPC is constant. b. all the points at which saving and income are equal. c. all the points at which consumption and income are equal. d. the amounts households will plan to save at each possible level of income.

c. all the points at which consumption and income are equal. Explanation: Consumption Schedule (consumption function): a schedule which shows the various amounts that households would plan to consume at each of the various levels of DI during a specific period of time; direct relationship Saving Schedule (savings function): a schedule which shows the various amounts that households would plan to save at each of the various levels of DI during a specified period of time; direct relationship When graphing the functions we use a 45-degree line for reference; at any point along the reference line, DI = C

The interest-rate effect suggests that a. a decrease in the supply of money will increase interest rates and reduce interest-sensitive consumption and investment spending. b. an increase in the price level will increase the demand for money, reduce interest rates, and decrease consumption and investment spending. c. an increase in the price level will increase the demand for money, increase interest rates, and decrease consumption and investment spending. d. an increase in the price level will decrease the demand for money, reduce interest rates, and increase consumption and investment spending.

c. an increase in the price level will increase the demand for money, increase interest rates, and decrease consumption and investment spending.

Dissaving occurs where a. income exceeds consumption. b. saving exceeds consumption. c. consumption exceeds income. d. saving exceeds income.

c. consumption exceeds income.

A decline in disposable income a. increases consumption by moving upward along a specific consumption schedule. b. decreases consumption because it shifts the consumption schedule downward. c. decreases consumption by moving downward along a specific consumption schedule. d. increases consumption because it shifts the consumption schedule upward.

c. decreases consumption by moving downward along a specific consumption schedule. Explanation: Personal Consumption (C): household purchases of goods and services Personal Saving (S): the part of disposable income that is not consumed DI = C + S C and S are directly related to the level of DI DI is the most important factor in determining C & S Households consume most of their income. Households spend a larger proportion of smaller incomes and save a larger proportion of larger incomes

The investment demand slopes downward and to the right because lower real interest rates a. expand consumer borrowing, making investments more profitable. b. boost expected rates of returns on investment. c. enable more investment projects to be undertaken profitably. d. create tax incentives to invest.

c. enable more investment projects to be undertaken profitably. Explanation: •Businesses will invest in (real) capital to the point where Marginal Benefit = Marginal Cost •MB: additional profit resulting from the investment; •r: Expected real rate of return •MC: real interest cost of borrowing funds to invest; •i: The real interest rate •Therefore, expected returns and the interest rate determine investment

When aggregate demand declines, wage rates may be inflexible downward, at least for a time, because of a. the foreign purchases effect. b. inflexible product prices. c. labor contracts. d. the wealth effect.

c. labor contracts.

The aggregate supply curve (short run) is upsloping because a. wages and other resource prices match changes in the price level. b. the price level is flexible upward but inflexible downward. c. per-unit production costs rise as the economy moves toward and beyond its full-employment real output. d. wages and other resource prices are flexible upward but inflexible downward.

c. per-unit production costs rise as the economy moves toward and beyond its full-employment real output.

Assume a machine that has a useful life of only one year costs $2,000. Assume, also, that net of such operating costs as power, taxes, and so forth, the additional revenue from the output of this machine is expected to be $2,300. If the firm finds it can borrow funds at an interest rate of 10 percent, the firm should a. not purchase the machine, because the expected rate of return exceeds the interest rate. b. not purchase the machine, because the interest rate exceeds the expected rate of return. c. purchase the machine because the expected rate of return exceeds the interest rate. d. purchase the machine because the interest rate exceeds the expected rate of return.

c. purchase the machine because the expected rate of return exceeds the interest rate.

Graphically, the full-employment, low-inflation, rapid-growth economy of the last half of the 1990s is depicted by a a. rightward shift of the aggregate demand curve along a fixed aggregate supply curve. b. rightward shift of the aggregate supply curve along a fixed aggregate demand curve. c. rightward shift of the aggregate demand curve and a rightward shift of the aggregate supply curve. d. leftward shift of the aggregate demand curve and a leftward shift of the aggregate supply curve.

c. rightward shift of the aggregate demand curve and a rightward shift of the aggregate supply curve.

Other things equal, a 10 percent decrease in corporate income taxes will a. decrease the market price of real capital goods. b. have no effect on the location of the investment demand curve. c. shift the investment demand curve to the right. d. shift the investment demand curve to the left.

c. shift the investment demand curve to the right.

Assume there are no prospective investment projects (I) that will yield an expected rate of return (r) of 25 percent or more, but there are $5 billion of investment opportunities with an expected rate of return between 20 and 25 percent, an additional $5 billion between 15 and 20 percent, and so on. If the real interest rate is 15 percent in this economy, the aggregate amount of investment will be a. $25 billion. b. $20 billion. c. $15 billion. d. $10 billion.

d. $10 billion.

Disposable Income. Consumption 200 205 225 225 250 245 275 265 300 285 Refer to the given data. The marginal propensity to consume is a. 0.25. b. 0.75. c. 0.20. d. 0.80.

d. 0.80.

Which of the following is a true statement? a. Firms and resource suppliers generally find it easier to reduce prices than to raise them. b. As the price level increases, interest rates will rise and therefore consumption and investment spending will also rise. c. An initial increase in aggregate demand may cause a further increase in aggregate demand because higher prices mean higher incomes. d. A decline in aggregate demand will primarily affect real output and employment if prices are inflexible downward.

d. A decline in aggregate demand will primarily affect real output and employment if prices are inflexible downward.

Refer to the given diagram. At income level F, the volume of saving is a. BD. b. AB. c. CF − BF. d. CD.

d. CD.

Refer to the given diagram, which shows consumption schedules for economies A and B. We can say that the a. MPC is greater in B than in A. b. APC at any given income level is greater in B than in A. c. MPS is smaller in B than in A. d. MPC is greater in A than in B.

d. MPC is greater in A than in B. Explanation: Marginal propensity to consume (MPC) •Proportion of a change in DI consumed •Numerical value of the slope of Consumption function =change in consumption/change in income Marginal propensity to save (MPS) •Proportion of a change in DI saved •Numerical value of the slope of Savings function =change in saving/change in income MPC+MPS=1

If the marginal propensity to save is 0.2 in an economy, a $20 billion rise in investment spending will increase a. eGDP by $120 billion. b. GDP by $20 billion. c. saving by $25 billion. d. consumption by $80 billion.

d. consumption by $80 billion.

If 100 percent of any change in income is spent, the multiplier will be a. equal to the MPC. b. 1. c. zero. d. infinitely large.

d. infinitely large.

In annual percentage terms, investment spending in the United States is a. less variable than real GDP. b. less variable than consumption spending. c. less variable than the price level. d. more variable than real GDP.

d. more variable than real GDP.

Given the consumption schedule, it is possible to graph the relevant saving schedule by a. subtracting the MPC from 1 at each level of income. b. subtracting investment from consumption at each level of GDP. c. plotting the horizontal differences between the consumption schedule and the 45-degree line. d. plotting the vertical differences between the consumption schedule and the 45-degree line.

d. plotting the vertical differences between the consumption schedule and the 45-degree line.

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. All else being equal, if the price of each input increased from $4 to $6, productivity would a. fall from 2 to 3. b. fall from 0.50 to 0.33. c. rise from 1 to 2. d. remain unchanged.

d. remain unchanged.