32. Business Fluctuations: Aggregate Demand and Supply

Question 1

Define business fluctuations.

Answer 1

Fluctuations of the growth rate of GDP and its trend in growth rate.

Question 2

Define a recession.

Answer 2

A decline in real income and employment.

Question 3

True or false: Economic growth is not smooth.

Answer 3

True.

Question 4

What do AD and AS stand for?

Answer 4

Aggregate demand and aggregate supply.

Question 5

What does aggregate mean?

Answer 5

Total (combination of fragments)

Question 6

What are the two types of economic shocks?

Answer 6

1) Real shocks (aggregate supply shocks)

2) Aggregate demand shocks

Question 7

What does the aggregate demand curve show?

Answer 7

It shows all combinations of inflation and real growth that are consistent with a specified rate of spending growth.

Question 8

What does more spending plus the same goods equal?

Answer 8

Higher prices.

Question 9

What does M stand for in the aggregate demand curve?

Answer 9

Growth rate in money supply.

Question 10

What does v stand for in the aggregate demand curve?

Answer 10

Growth rate in velocity.

Question 11

What does P stand for in the aggregate demand curve?

Answer 11

Growth rate in prices; inflation (pie).

Question 12

What does Yr stand for in the aggregate demand curve?

Answer 12

Growth rate of real GDP (real growth).

Question 13

What do the arrows on top of letters stand for in the aggregate demand curve?

Answer 13

Growth rate.

Question 14

What does M + V (with arrows on top) also equal to?

Answer 14

Inflation + real growth.

Question 15

How does the AD curve shift?

Answer 15

Along the AD curve.

Question 16

How does an AD curve shift if spending growth increases?

Answer 16

Up and to the right (outward).

Question 17

True or false: An increase in spending growth can be caused by either an increase in M or v (with arrows on top).

Answer 17

True.

Question 18

What does economic growth depend on?

Answer 18

Increase in the stocks of labor and capital, and productivity.

Question 19

What is the Solow growth rate?

Answer 19

An economy’s potential growth rate given that there are flexible prices and existing real factors of production.

Question 20

What is money like in the long run?

Answer 20

Neutral

Question 21

What is the long-run aggregate supply (LRAS) curve like? And on which axis is the inflation rate and real growth rate on?

Answer 21

It’s a vertical line at the Solow growth rate.

Inflation on the vertical axis, real growth on the horizontal.

Question 22

What is the “real business cycle” (RBC) model used for?

Answer 22

Business fluctuations caused by real shocks.

Question 23

What do AD and LRAS curves determine?

Answer 23

The equilibrium inflation rate and growth rate.

Question 24

What is a consequence of real shocks (productivity shocks)?

Answer 24

Increase or decreases on an economy’s ability to produce goods and services.

Increases or decreased the potential growth rate.

They increase or decrease the Solow growth rate.

Question 25

Are changes in the economy by real shocks rapid, moderate or slow?

Answer 25

Rapid

Question 26

What does an aggregate demand shock entail?

Answer 26

A rapid and unexpected shift in the AD curve (spending).

Question 27

What are "sticky" wages and prices? What curve does it relate to?

Answer 27

"Sticky" means not very flexible. It related to the short-run aggregate supply (SRAS).

Question 28

What are the effects of a positive shock (increase in spending) in the short run and long run?

Answer 28

Short-run: increased output Long-run: increased prices (inflation)

Question 29

What is the curve for short-run aggregate supply (SRAS) like?

Answer 29

Upward-sloping.

Question 30

What is the symbol for expected inflation rate?

Answer 30

E(pie)

Question 31

Define nominal wage.

Answer 31

Wage number.

Question 32

When does nominal wage confusion occur?

Answer 32

When workers respond to wage numbers on their checks instead of what the money can actually buy.

Question 33

Define menu costs.

Answer 33

Costs of changing prices.

Question 34

Where is the actual inflation rate found?

Answer 34

Where the LRAS curve intersects the AD curve.

Question 35

Why does an economy take a long time to adjust to a decrease in aggregate demand?

Answer 35

Sticky wages, menu costs and uncertainty makes businesses reluctant to change prices immediately.

Question 36

What is a short run effect in a fall in aggregate demand?

Answer 36

It is split between a fall in inflation rates and a fall in growth.

Question 37

What would a fall in aggregate demand induce in the long-run?

Answer 37

A recession

Question 38

What do changes to V (with arrow on top) result to in the short run and long run?

Answer 38

Short run: decreased inflation Long run: shifts back to equilibrium (therefore changes are temporary)

Question 39

What can tax shocks shift?

Answer 39

Consumption growth and investment spending growth.

Question 40

What are some positive shocks that increase AD?

Answer 40

- confidence - faster money growth rate - increased wealth - lower taxes - increased export growth - decreased import growth

Question 41

What was the initial shock that caused the Great Depression in 1929? How did it affect people? What did it do to the AD curve?

Answer 41

Wealth shock (fall in stock prices). People limited spending, so consumption fell. Money supply fell. The AD curve shifted inwards and to the left.

Question 42

What shocks followed in 1930 during the Great Depression?

Answer 42

Confidence shock (drop of confidence) regarding banks. People had bank runs.

Question 43

What was the largest negative shock to aggregate demand in American history in 1931?

Answer 43

Shock for money supply, where money supply fell by about 1/3 . The Fed's decision not to increase money supply made the Great Depression longer than it needed to be.

Question 44

What did a decrease in aggregate demand cause during the Great Depression?

Answer 44

A fall in prices which raised the value of debts. Many debtors went bankrupt. Debtors spent less money, thereby decreasing aggregate demand more.

Question 45

What were failures of the American Government during the Great Depression?

Answer 45

- Federal Reserve failed to increase money supply - tried to combat falling prices by reducing supply - raised tariffs (taxes) on imported goods (other countries retaliated); the tariffs were a negative productivity shock

Question 46

What was a natural shock of the Great Depression?

Answer 46

The Dust Bowl (drought caused dust storms).