Packers
What is a recession?
A significant decline in economic activity/real GDP, commonly identified as falling real GDP for two consecutive quarters
Name the three leakages & injections from the circular flow of income.
Savings, taxes, imports
Investment, government spending, exports.
What does Yfe represent on an AD/AS diagram?
Full-employment/potential output.
Define monetary policy.
The central bank's use of interest rates and the money supply to manage the economy.
Why is the money-supply curve drawn vertically in the money market model?
The quantity of money supplied is treated as fixed at a particular point in time.
What are the four components of aggregate demand?
C + I + G + (X − M)
What are the four factor payments households receive for providing the factors of production?
Wages, rent, interest, profit/dividends
If consumption and investment both decrease, what happens to aggregate demand?
AD shifts left.
Name two major macroeconomic objectives a central bank may attempt to achieve through monetary policy.
Any two: low/stable inflation, low unemployment, smoother business cycle, long-term growth/stability, external balance.
If the central bank increases the money supply, what happens to the equilibrium interest rate, all else equal?
Interest rate falls.
Business confidence falls and firms postpone buying machinery. Identify the AD component affected and explain the effect on real GDP, assuming spare capacity exists.
Investment decreases → AD shifts left → equilibrium real GDP falls, assuming spare capacity.
If household saving rises while investment does not rise by the same amount, what is likely to happen to the size of the circular flow and national income?
Leakages exceed injections → circular flow/economy contracts → expenditure/output/income fall.
An economy is producing below Yfe. What type of output gap exists?
Recessionary/Contraction/deflationary gap.
Would a central bank normally raise or lower interest rates to fight a recession? Explain why.
Lower rates to encourage borrowing, C and I.
Explain the chain of events connecting a central bank's purchase of government bonds to a lower equilibrium interest rate.
Central bank buys bonds → money enters circulation → money supply shifts right → surplus of money at original interest rate → equilibrium interest rate falls.
An economy has falling real GDP, rising unemployment, and falling inflation. What phase of the business cycle is it most likely experiencing, and why?
Contraction/recession; output is falling and cyclical unemployment is increasing.
Explain the reasoning behind Say's Law's statement that “supply creates its own demand.”
Producing output requires firms to employ factors of production and pay incomes; those incomes provide households with purchasing power to buy output.
According to the Keynesian model, why can an increase in AD substantially increase real GDP when there is a large amount of spare capacity?
Idle workers/capital can be brought into production without large increases in production costs since PL stays sticky, so output can rise substantially.
Complete the transmission mechanism:
Interest rates ↓ → ______ ↑ and ______ ↑ → AD ______ → real GDP ______.
C ↑, I ↑, AD ↑, rGDP ↑.
A central bank has an inflation target of 2%, but inflation has fallen to 1% while unemployment has risen sharply. Would expansionary or contractionary monetary policy be more appropriate?
Expansionary monetary policy.
A central bank reduces its required reserve ratio. What happens to banks' ability to make loans and to the potential money supply?
Banks keep a smaller proportion in reserve → can lend more → greater potential credit/money creation.
The required reserve ratio is 5%. Calculate the credit multiplier.
1 ÷ 0.05 = 20
According to the Neoclassical/Monetarist view, explain how falling wages and resource prices could eventually return an economy from a recessionary gap toward full employment without an increase in AD.
Unemployment puts downward pressure on wages/resource prices → production costs fall → SRAS shifts right → output moves toward Yfe.
Why might expansionary monetary policy fail to significantly increase AD even after the central bank lowers interest rates?
Weak confidence may mean households/firms don't borrow or spend even when credit is cheaper; banks may also remain unwilling to lend.
With a 5% reserve requirement and an initial deposit of $10 million, calculate the maximum total deposits and the maximum new credit created under the simplified credit-creation model.
Total deposits = $200 million. Total new credit creation = $190 million.