APEX AP Macroeconomics Unit 5 Test
A household pays $5,000 in taxes and has an autonomous consumption of $10,000 and a MPC of 0.8. How much will that household consume if it has an income of $80,000. Why?
$70,000. Consumption=MPC(income-taxes)+autonomous consumption
When the government borrows money, private borrowing decreases. What is this called?
Crowding out
What is the balanced budget multiplier?
Effect on GDP of equal changes in taxes and government spending
Which fiscal policy increases RGDP?
Expansionary
A reduction in the tax rates may not stimulate the economy if:
The tax cut is temporary and does not change permanent disposable income
What happens if an expansionary fiscal policy is implemented when there is low unemployment because of government lag?
There will be an initial increase in AD, which leads to a decrease in AS
What happens when private investment gets crowded out by government borrowing?
There's a decrease in the growth of the economy's full employment level
If the economy is in a recession, how similar are the predictions of the AD/AS model to predictions of the Keynesian model?
They are similar, but not the same
In the section of the aggregate supply curve with a somewhat gentle upward slope (the middle of the curve), when AD increases what happens to RGDP and price level?
They both rise
True or False: At all points along a given consumption curve, the marginal propensity to consume is constant.
True
According to Keynes:
Wages and prices are not flexible and do not adjust easily to changes in the economy.
When does crowding out in the market for goods and services occur?
When the AS curve is steep
The basic Keynesian model is particularly applicable in what situations in the economy?
When the economy is below full employment level
When will crowding out in the market for goods and services be most severe?
When unemployment is low
How do you find equilibrium income?
Y = [1/(1 - b) * (a + I + G + NX)] - [b/(1 - b) * T]
If the economy is near the full employment level of output, will the AD/AS analysis of a change in government spending or taxation be different from the Keynesian analysis?
Yes
Crowding out in private consumption occurs when increases in government spending result in:
an increase in the price level
Keynes asserted that as disposable income rises, people are likely to increase their consumption expenditures:
Less than the increase in their income
What is the policy that we replaced fiscal policy with and still use today?
Monetary policy
Which curve shows that investment demand is very sensitive to the interest rate?
Negative line starting at the y-axis and a relatively small slope
According to the Keynesian theory, what happens if the economy is operating below full employment and government spending increases?
Output will increase without any significant change in prices.
When the economy is on the very flat segment of the aggregate supply curve:
Real GDP can increase with no, or very little, effect on the economy's price level
Which model of the economy most accurately describes what happened during the Great Depression?
The Keynesian model
If an economy is operating near full employment and the government cuts spending and taxes by the same amount, how much will the RGDP decrease?
The RDGP will decrease by less than the number taxes and spending were cut by.
What will happen to investment if future expectations improve and interest rates rise at the same time?
The answer is indeterminiate
How do you find change in equilibrium income?
The change in equilibrium income is equal to the change in autonomous expenditure times the spending multiplier. And the spending multiplier is equal to 1/(1 - b).
What is a key difference between the Keynesian and Classical models?
The classicists thought the economy would automatically adjust to full employment equilibrium. Keynes thought that an equilibrium output less than full employment was possible.
What portion of the AS curve corresponds to Keynesian theory?
The flat segment
What is an expansionary fiscal policy?
increasing government spending and decreasing taxes to increase AD
If the economy is healthy, the predictions of the AD/AS model are ________ the predictions of the Keynesian model.
very different from
What are the characteristics of a classical economy?
1. An economy automatically moves to equilibrium at full employment level of GDP. 2. The economy will stay out of equilibrium only for short periods. 3. Prices and wage variations are the mechanism for short-run adjustments leading to long run-equilibrium. 4. The level of production determines the short run economic equilibrium.
What are criticisms of fiscal policy?
1. The time lag for implementing fiscal policy is substantial. 2. There is a fairly good alternative to fiscal policy. 3. The effects of fiscal policy on aggregate demand are uncertain. 4. Fiscal policies in times of recession will only increase the size of the federal debt.
What does the AD/AS model say about adjustment in the economy?
1. There is room for government intervention. 2. Adjustment falls somewhere in between automatically adjusting to full employment (classical model) and not automatically shifting in the short run (Keynesian model). 3. The economy fully adjusts in the long run 4. In short run equilibrium, the economy can operate at less than full employment.
What was the US national debt in 1996?
5 trillion
What is the spending multiplier when the MPC is 0.8? What is the formula for the spending multiplier?
5. The spending multiplier=1/(1-b)
What is the tax multiplier when the MPC is 0.9? What is the formula for the tax multiplier?
9. Tax multiplier=b/(1-b)
In an economy characterized by low inflation, strong growth, and very low unemployment the government decides to cut taxes. What else needs to happen to make such a tax reduction have a positive effect on the economy?
A cut in government spending
What is the equation for MPC using AE?
AE=Y and Y = [1/(1 - b) * (a + I + G + NX)] - [b/(1 - b) * T]. Find the MPC by finding b.
When does Keynesian equilibrium occur?
AE=income, AE=output, the AE line intersects the 45 degree line, Investments=savings
What is one result of a government deficit?
An increase in interest rates
What does crowding out cause an increase in interest rates?
Because the government has increased the demand for funds
An important similarity between the AD/AS model and the Keynesian model is:
Both models allow for government intervention in the short run.
How does the government borrow money?
By issuing loans in the form of T-bonds
the government plans to increase taxes to pursue a contractionary policy when the economy is operating above the full employment level. By the time the government implements the contractionary policy, the economy has stabilized itself. What results from the delayed contractionary policy?
Increased unemployment
If the economy is near full employment, the AD/AS analysis says expansionary fiscal policy will cause:
Inflation
In an economy characterized by low inflation, strong growth, and very low unemployment the government decides to cut taxes. What would result from a tax cut in these circumstances?
Inflation
What happens to the consumption function when marginal propensity to consume increases?
It gets steeper
What happens to the consumption function when autonomous consumption decreases?
It shifts downward
What happens to the consumption function when taxes decrease?
It shifts upward.
What will happen to investment if future expectations worsen and interest rates rise at the same time?
It will decrease
If the quantity of capital going unused by firms decreases, what will happen to the amount of new investment that firms will undertake?
It will increase
When the economy is at full employment how will an increase in net exports affect the economy based on the AS/AD model and the Keynesian model?
It will increase the price level in the AD/AS model, but will not affect it in the Keynesian model. The RGDP does not change in either model.