5) Output Gaps - MMT

Question 1

The size of the multiplier depends on the level of leakages from the system, the higher the MPW, the lower the…

Answer 1

MPC and smaller the multiplier effect

Question 2

What can leakages depend on; savings example

Answer 2

Interest rates go up, savings might increase

Question 3

What can leakages depend on; taxation example

Answer 3

If the government increases income tax or VAT rates, then more money leaks out of the circular flow into tax revenue

Question 4

What can leakages depend on; imports example

Answer 4

If the exchange rate increases then imports become cheaper (SPICED), and more leaks out of the system in imports

Question 5

What will increase the size of the multiplier effect?

Answer 5

Lower interest rates, tax rates and exchange rates will increase the size of the multiplier effect

Question 6

How can the multiplier and accelerator effect be demonstrated using the same diagram? (drawing)

Answer 6

1) AD and SRAS in equilibrium (PL1/Y1), below YFe
2) initial increase in AD shifts the AD curve right
3) the multiplier effect kicks, meaning that there is a 2nd movement right of AD (AD2 to AD3)

This could be partially explained by the Accelerator effect - the fact that Y has increased from Y1 to Y2 has boosted business confidence, increasing I and helping AD

Question 7

How can the multiplier and accelerator effect be demonstrated using the same diagram? (negative output gap)

Answer 7

The initial situation here, Y1 was the actual level of national output, demonstrated by the negative output gap. This is because many resources were not employed in the economy - factors of production like workers, land, buildings, machinery are idle. The increases in AD have resulted in the closing of the output gap. The difference between Y1 and YFe is now much smaller, far fewer resources are unemployed

Question 8

What is a positive output gap? What are the negatives?

Answer 8

This is where resources are over employed (eg workers doing 16 hour days, machines and land having too little rest), this is not sustainable in the long term - LRAS must shift right if these levels are to be maintained and that can’t happen overnight. Increased AD here will just cause inflation

Question 9

Output gaps can also be shown using… diagrams

Answer 9

PPF

Question 10

PPF diagram

Answer 10

YFe = any point on the curve, being fully utilised
Negative output gap = below the curve
Positive output gap = above the curve

Question 11

When do output gaps occur?

Answer 11

When the economy is in equilibrium at a point below YFe (negative) or occasionally above YFe (positive)

Question 12

What do the multiplier and accelerator effects do to AD?

Answer 12

Shift AD further to the right, closing a negative output gap or possibly causing a positive output gap if the economy is operating close to or at YFe

Question 13

When is there no output gap? What would need to happen for the economy to grow?

Answer 13

If the economy is in equilibrium at YFe there is no output gap - all resources are appropriately employed, for the economy to grow at this point, the LRAS has to shift right; a higher AD just causes inflation