AD and Multipliers
Aggregate Demand is made up of:
C, I, G, Xn
Firms choose to produce more output in the short run as the price level increases because of?
Name three ways the LRAS and PPC are similar
full employment, maximum output, efficient use of resources
If the economy is in an expansionary gap, what type of fiscal policy should be implemented? Provide one example and what will happen to the AD/AS Model.
Contractionary Fiscal Policy
decrease gov spending, increase taxes
AD shifts L, decrease in price level and output
An advantage of automatic stabilizers is
no new law needed to implement
How will AD be impacted by:
An increase in military spending
An decrease in consumer confidence
An increase in income tax
AD increase and shift R
AD decrease and shift L
AD decrease and shift L
Which way will SRAS shift?
the stock of physical capital increases
decrease in labor productivity
decrease in nominal wages
decrease in the Labor Force Participation Rate
SRAS shifts R
SRAS shifts L
SRAS shifts R
SRAS shifts L
True or False: A decrease in business taxes would lead to an increase in national income by increase AD and AS.
True
increase C and I, decrease of resource prices
An increase in government expenditures will have what short run effects on unemployment, inflation, and real GDP?
Unemployment decreases
Inflation increases
real GDP increases
Which of the following is NOT an automatic stabilizers:
unemployment insurance benefits
personal income taxes
welfare benefits
corporate income taxes
tariffs
tariffs
If MPC is .75, a $100 increase in investment would cause an increase on GDP of?
$400
A decrease in the prices of inputs will cause what to happen in the short run with output and price level?
price level decreases, output increases
What happens to price level, inflation, unemployment, and output for following scenarios?
increase in the price of crude oil, and important natural resource
technological change that increases productivity of labor
an increase in spending by consumers
crude oil: SRAS L, GDP decreases, increase unemployment, price level increases, increase inflation
technology: SRAS R, GDP increases, decrease unemployment, price level decreases, decrease inflation
spending: AD R, GDP increases, decrease unemployment, price level increases, increase inflation
If, at full employment, the government wants to increase its spending by $100 billion without increasing inflation in the short run, it must do what with taxes?
raise taxes by more than $100 billion
In a contraction, what typically happens with the automatic stabilizer of tax structure? Transfer Payments?
Less income - reduced tax revenue with drop in GDP, increase C
less income/jobs - increase need for welfare benefits, increase G
IF MPC is .8, taxes are 30%, and gross income increases by $100, how much will consumption initially increase by?
$56
.8=x/100 = $80
70% of $80 = $56
A decrease in AD will cause an increase in unemployment in the short run because of
sticky nominal wages and prices
If a country is in a Recessionary Gap and no intervention happens, what will happen in the long-run?
falling wages will shift AS to the R, resulting in full employment output and price level decrease
When is fiscal policy ineffective? Explain why.
Stagflation -
increase in AD will correctly increase output, but will result in an increase in price level
decrease in AD will correctly decrease price level, but will result in a decrease in output
If a government adopts an annually balanced budget rule that requires the government to eliminate any deficits or surpluses, what will happen to automatic stabilizers?
They will be eliminated
If MPC is .8, how will a tax decrease of $100 billion and a decrease in government spending of $100 billion affect AD
G: -100 billion * 5 = -$500 billion
T: -100 billion * -4 = $400 billion
Draw an accurately labeled AD/AS graph. If there is a decrease in how much workers can produce, what will happen with price level and output. Draw out the change and explain.
y-axis: price level
AD downward sloping, AS upward sloping
SRAS shifts L due to a decrease in productivity
price level increases and output decreases
Draw a correctly labeled AD/AS graph for a country whose actual unemployment rate is less than the NRU, using PL1 for current price level, Y1 for current output, and Yf for full-employment output.
What would happen to equilibrium price level and real output in the short run if consumer spending increases? Identify one fiscal policy that can be implemented to restore full employment. If no government action is taken, explain what happens to SRAS in the long run.
Yf to the left of Y1
AD shifts to the R, PL and output increases
decrease government spending or increase in taxes
SRAS decreases as input prices/nominal wages increase in the long run
Draw an accurately labeled AD/AS model showing an economy in an expansionary gap with Y1 at $85 million and Yf at $50 million
If the MPC is .8 how much of a change in government spending would be needed to close the gap? How much of a change in taxes would be needed to close the gap? What would be the net effect if both policies are implemented?
x-axis: real GDP, y-axis: price level, LRAS to the left of equilibrium, LRAS is Yf $50 million, AD/AS equilibrium is Y1 at $85 million
G: gap is $35 million, multiplier is 5, initial change = $7 million decrease
T: gap is $35 million, multiplier is 4, initial change = $8.75 million increase
net effect: $250,000 increase in budget surplus
In an expansion, how would automatic stabilizers react? How is this different than LR self-adjustment?
increased income/GDP - more tax revenue and less C OR less unemployment and less G
LR self-adjustment relies on price/wage flexibility to return to equilibrium - increased income/GDP - demand higher wages and increase in input prices (SRAS L)
Automatic stabilizers rely on existing policies to dampen impact (not return to equilibrium)