(14) Aggregate Output, Prices, and Economic Growth Flashcards
LOS 16. a: Calculate and explain gross domestic product (GDP) using expenditure and income approaches.
Gross domestic product (GDP) is the market value of all final goods and services produced within a country during a certain time period.
Using expenditure approach, GDP is calculated as the total amount spent on goods and services produced in the country during a time period.
Using the income approach, GDP is calculated as the total income earned by households and businesses in the country during a time period.
LOS 16. b: Compare the sum-of-value added and value-of-final-output methods of calculating GDP.
The expenditure approach to measuring GDP can use the sum-of-value-added method or the value-of-final-output method.
Sum-of-value-added: GDP is calculated by summing the additions to value created at each stage of production and distribution.
Value-of-final-output: GDP is calculated by summing the values of all final goods and services produced during the period
LOS 16. c: Compare nominal and real GDP and calculate and interpret the GDP deflator.
Nominal GDP values goods and services at their current prices. Real GDP measures current year output using prices from a base year.
The GDP deflator is a price index that can be used to convert nominal GDP into real GDP by removing the effects of changes in prices.
LOS 16. d: Compare GDP, national income, personal income, and personal disposable income.
The four components of gross domestic product are consumption spending, business investment, government spending, and net exports. GDP = C + I + G + (X – M).
National income is the income received by all factors of production used in the creation of final output.
Personal income is the pretax income received by households.
Personal disposable income is person income after taxes.
LOS 16. e: Explain the fundamental relationship among saving, investment, the fiscal balance, and the trade balance.
Private saving and investment are related to the fiscal balance and the trade balance. A fiscal deficit must be financed by some combination of a trade deficit or an excess of private saving over private investment.
(G – T) = (S – I) – (x – M).
LOS 16. f: Explain the IS (income-savings) and LM (liquidity-money) curves and how the combine to generate the aggregate demand curve. Define IS curve.
The IS curve (income-savings) in Figure 2 illustrates the negative relationship between real interest rates and real income for equilibrium in the goods market. Points on the IS curve are the combination of real interest rates and income consistent with equilibrium in the goods market (i.e., those combinations of real interest rates and income for which planned expenditures equal income)
Lower interest rates tend to decrease savings (in favor of current consumption) and tend to increase investment by firms because more investments will have positive NPVs when firm’s’ cost of capital is lower.
LOS 16. f: Explain the IS (income-savings) and LM (liquidity-money) curves and how the combine to generate the aggregate demand curve. Define LM curve.
The LM curve (liquidity-money) in Figure 3 illustrates the positive relationship between real interest rates and income consistent with equilibrium in the money market. Higher real interest rates decrease the quantity of real money balances individuals want to hold, so for a given real money supply (M/P constant), equilibrium in the money market requires that an increase in real interest rates be accompanied by an increase in income. The increase in the demand for money from an increase in income an offset the decrease in demand for money from higher real interest rates and restore equilibrium in the money market.
LOS 16. f: Explain the IS (income-savings) and LM (liquidity-money) curves and how the combine to generate the aggregate demand curve.
The points at which the IS curve intersects LM curves for different levels of the real money supply (i.e., for different price levels, holding the nominal money supply constant) form the aggregate demand curve. The aggregate demand curve shows the negative relationship between GDP (real output demanded) and the price level, when other factors are held constant.
LOS 16. g: Explain the aggregate supply curve in the short run and long run.
The short-run aggregate supply curve shows the positive relationship between real GDP supplied and the price level, when other factors are held constant. Holding some input costs such as wages fixed in the short run, the curve slopes upward because higher output prices result in greater output (real wages fall).
Because all input prices are assumed to be flexible in the long run, the long-run aggregate supply curve is perfectly inelastic (vertical). Long-run aggregate supply represents potential GDP, the full employment level of economic output.
LOS 16. h: Explain causes of movements along and shifts in aggregate demand and supply curves.
Changes in the price level cause movement along the aggregate demand or aggregate supply curves.
LOS 16. h: Explain causes of movements along and shifts in aggregate demand and supply curves.
Shifts in the aggregate demand curve are caused by changes in:
household wealth
business and consumer expectations
capacity utilization
fiscal policy
monetary policy
currency exchange rates
global economic demand
LOS 16. h: Explain causes of movements along and shifts in aggregate demand and supply curves. (Shifts in short-run aggregate supply)
Shifts in the short-run aggregate supply curve are caused by changes in:
nominal wages or other input prices
expectations of future prices
business taxes
Business subsidies
Currency exchange rates
As well as by the factors that affect long-run aggregate supply
LOS 16. h: Explain causes of movements along and shifts in aggregate demand and supply curves. (Shifts in long-run aggregate supply)
Shifts in the long-run aggregate supply curves are caused by:
Changes in labor supply and quality
The supply of physical capital
The availability of natural resources
Level of technology
LOS 16. i: Describe how fluctuations in aggregate demand and aggregate supply cause short-run changes in the economy and the business cycle. The short-run effects of changes in aggregate demand and in aggregate supply are summarized in the following table:
LOS 16. j: Distinguish between the following types of macroeconomic equilibria: long-run full employment, short-run recessionary gap, short-run inflationary gap, and short-run stagflation
In long-run equilibrium, real GDP is equal to full-employment (potential) GDP.
LOS 16. j: Distinguish between the following types of macroeconomic equilibria: long-run full employment, short-run recessionary gap, short-run inflationary gap, and short-run stagflation.
In long-run equilibrium, real GDP is equal to full-employment (potential) GDP. An increase in aggregate demand can result in a short-run equilibrium with GDP greater than full-employment GDP, termed an inflationary gap.
LOS 16. j: Distinguish between the following types of macroeconomic equilibria: long-run full employment, short-run recessionary gap, short-run inflationary gap, and short-run stagflation.
A decrease in aggregate demand can result in a short-run equilibrium with GDP less than full employment, termed recessionary gap.
LOS 16. j: Distinguish between the following types of macroeconomic equilibria: long-run full employment, short-run recessionary gap, short-run inflationary gap, and short-run stagflation
When short-run aggregate supply decreases, the resulting short-run equilibrium is with GDP reduced to less than full-employment GDP but with an increase in price, termed stagflation.
LOS 16. l: Analyze the effect of combined changes in aggregate supply and demand on the economy.
Short-run effects of shifts in both aggregate demand and aggregate supply on the price level and real GDP:
