Macroeconomics Ch. 8-10

Suppose full employment real GDP is $13 trillion, current real GDP is $13.2 trillion, and the marginal propensity to consume is 0.5. The inflationary gap is

$0.1 trillion.

If $1,000 of additional spending occurs and the marginal propensity to consume is 0.8, the total effect on the economy is an increase of _____ in income or output.

$5,000

If the marginal propensity to consume is 0.9 and income increases from $10,000 to $11,000, by how much does consumption increase?

$900

Determinants of Aggregate Demand

*Shift the curve to the left or right* 1. Consumption Spending 2. Investment Spending 3. Government Spending 4. Net Exports

demand-pull inflation

- Increase in AD - equilibrium output > full employment output - can be controlled

supply-side fiscal policies

- focus on shifting LRAS to the right - promote growth - reduce unemployment - stabilize prices - takes longer to impact economy than policies to increase AD

cost-push inflation

- supply shock hits economy - reduces SRAS & output - increases price level - can't be controlled (increase in oil prices, natural disaster, etc.)

If disposable income is $3,000 and saving is $1,200, how much is the average propensity to consume?

0.6

MPC + MPS = _____

1

The slope of the saving schedule is

1 minus the marginal propensity to consume.

3 Main Reasons why Aggregate Demand curve is downward-sloping

1. Wealth Effect 2. Export Price Effect 3. Interest Rate Effect

Factors that shift LRAS curve

1. increase in technology 2. greater human capital 3. trade 4. innovation

Factors that shift SRAS curve

1. input prices 2. productivity 3. taxes and regulation 4. market power of firms 5. inflationary expectations

3 things the government does to finance its deficit

1. sell bonds to the Federal Reserve (monetizing the debt) 2. sell bonds to the public 3. sell assets

If the marginal propensity to consume is 0.85, the value of the spending multiplier will be

6.67

The 45-degree line in the Keynesian model represents:

AE = Y.

_____ is the output of goods and services demanded at different price levels.

Aggregate demand

Which of the following illustrates the paradox of thrift?

Consumer uncertainty causes people to save more; consumption falls; equilibrium income and production falls; savings decreases because income is lower.

Inflationary Gap

Decrease in aggregate spending to reduce income to full employment

Suppose policymakers wish to use fiscal policy to fight inflation. Which statement, then, is MOST accurate?

Essentially, the way to lower the inflation rate is to decrease aggregate demand, causing a rise in unemployment.

Federal budget deficit

G - T (Government spending - Tax revenue) - negative G - T value = budget surplus - positive G - T value = budget deficit

government budget constraint

G - T = ΔM + ΔB + ΔA G = government spending T = tax revenues ΔM = change in money supply (selling bonds to the Federal Reserve) ΔB = change in bonds held by public entities, domestic and foreign ΔA = sales of government assets

Simple Aggregate Expenditures Model

Ignores the government & foreign sector AE = C + I

Full Aggregate Expenditures Model

Includes the government & foreign sector AE = C + I + G + (X - M)

Recessionary Gap

Increase in aggregate spending to bring depressed economy back to full employment

Marginal Propensity to Consume

MPC = ΔC/ΔY ΔC = change in consumption ΔY = change in income

Marginal Propensity to Save

MPS = ΔS/ΔY ΔS = change in saving ΔY = change in income

Multiplier Equation

Multiplier = 1/(1-MPC) or Multiplier = 1/MPS

GDP Gap =

Multiplier x Recessionary Gap

_____ government spending, _____ transfer payments, and _____ taxes are all examples of contractionary fiscal policy.

Reducing; reducing; raising

The largest category of federal government spending in 2015 was

Social Security.

Which of the following did classical economists believe would happen if the economy experienced a downturn?

The economy would self-correct.

_____ is the change in consumption associated with a change in income.

The marginal propensity to consume

Which of the following items is NOT public debt?

U.S. dollars

When workers lose their job, they file for unemployment benefits; therefore government spending on such programs naturally rises during recessions. As the economy recovers and people go back to work, spending on unemployment programs shrinks. Based on the given information, which of the following is correct?

Unemployment compensation is a form of an automatic stabilizer.

Slope of short run aggregate supply curve (SRAS)

Upward

Slope of long run aggregate supply curve (LRAS)

Vertical

Paradox of Thrift

When households intend to save more, they reduce their consumption, which reduces income and output, and savings decrease

Simultaneous recession and deflation can be explained by

a decrease in aggregate demand.

Which of the following will NOT shift the aggregate supply curve to the left?

a decrease in corporate taxes

If a government collects $1,400 in tax revenue and spends $1,600, it has

a deficit of $200.

How much of the GDP does public debt represent

a little over 70%

What would cause the price level to decrease and employment to increase?

a shift to the right of the SRAS curve

After the acceptance of Keynesian analysis, the government

actions toward macroeconomic policy grew significantly.

The solution to simultaneous deflation and unemployment is to shift the

aggregate demand curve to the right.

contractionary fiscal policy

decrease AD to decrease output in an economy (reduced government spending, reducing transfer payments, raising taxes)

If the multiplier is 2 and investment spending falls by $5 billion, then equilibrium income

decreases by $10 billion.

fiscal policy

describes the use of government taxation and spending to influence the economy & involves 3 main tools 1. taxation 2. government spending on goods and services 3. transfer payments

The 45-degree line in the Keynesian model represents a set of points where _____ equals _____.

disposable income; consumption

The long-run aggregate supply curve uses the classical assumptions that all variables are _____ in the long run and that long-run equilibrium occurs at _____.

flexible; full employment

In the Keynesian model, the principal determinant of saving is

income.

expansionary fiscal policy

increase AD to expand output in an economy (increased government spending, increasing transfer payments, decreasing taxes)

A rising aggregate price level _____ an economy's interest rates and therefore _____ output demanded.

increases; reduces

Which of the following policies do supply-side economists believe is the best for increasing the standard of living?

increasing investment in capital that boosts worker productivity

The largest source of federal government revenues is

individual income taxes.

An expansionary fiscal policy can result in

inflation and higher GDP.

Full employment is when the long-run output is an equilibrium level where ______________________ are minimal.

inflationary pressures

The _____ lag is the time policymakers must wait for economic data to be collected, processed, and reported.

information

Keynesian macroeconomic equilibrium

injections = withdrawals I + G + X = S + T + M

According to public choice theorists, deficit spending

is undertaken as a politically palatable way of funding programs.

A stronger dollar will shift the U.S. aggregate demand curve to the _____ and _____ output demanded.

left; decrease

If aggregate expenditures equals $7,600 and aggregate income equals $8,000, businesses will produce

less, lowering both employment and income.

The focus of supply-side fiscal policies is on

long-run economic growth.

The short-run aggregate supply curve is positively sloped because

many input prices are slow to change in the short run.

If the pound sterling appreciates against the U.S. dollar, England buys _____ U.S. goods, causing the U.S. aggregate demand curve to shift to the _____.

more; right

stagflation

negative supply shock, worst kind of shock an economy can receive

Which is a determinant of aggregate supply?

productivity

externally held debt

public debt held by foreigners, including industries, banks, and governments

internally held debt

public debt owned by domestic banks, corporations, mutual funds, pension plans, and individuals

High taxes and/or heavy regulation

raise costs of production so that the aggregate supply curve shifts to the left.

Which of the following is an example of contractionary fiscal policy?

reducing military spending

If oil prices decline, the short-run aggregate supply curve shifts _____ and output supplied will _____.

right; increase

Increased consumer confidence will shift the aggregate demand curve to the _____ and _____ output demanded.

right; increase

The crowding-out effect recognizes that if the government sells bonds to finance spending, it can cause interest rates to _____ investment.

rise, thereby reducing

Cost-push inflation is a situation in which the

short-run aggregate supply curve shifts leftward.

Fiscal policy that focuses on shifting the long-run aggregate supply curve to the right is

supply-side fiscal policy.

Which of the following groups must agree in order to implement fiscal policy?

the Senate, House of Representatives, and executive branch

If a government always balances its budget

the effect of an increase in government spending on aggregate expenditures is weakened.

Firms decide how much to invest by comparing the rate of return on their projects with

the interest rate.

Which of the following tends to make aggregate demand decrease by more than the amount that consumer spending decreases?

the multiplier effect

decision lag

the time it takes Congress and the administration to decide on a policy once a problem is recognized.

recognition lag

the time it takes for policymakers to confirm that the economy is in a recession or a recovery.

information lag

the time policymakers must wait for economic data to be collected, processed, and reported.

implementation lag

the time required to turn fiscal policy into law and eventually have an impact on the economy.

public (national) debt

total accumulation of past debts - surpluses

crowding-out effect

when deficit spending requires the government to borrow, interest rates are driven up, reducing consumer spending and business investment

long-run macroeconomic equilibrium

where LRAS and AD intersect, at full employment

short-run macroeconomic equilibrium

where SRAS and AD intersect, below or above full employment