ADAS

Question 1

Wealth effect of downward-sloping AD curve

Answer 1

When the general price level rises, given that the nominal value of wealth remains unchanged, the purchasing power of wealth decreases, people will buy fewer goods and private consumption decreases, aggregate real output decreases

Question 2

Interest effect of downward-sloping AD curve

Answer 2

When the general price level rises, transaction demand for money increases. Given that the money supply is fixed, the nominal interest rate will decrease. Consumption and investment decrease, aggregate real output decreases

Question 3

Upward sloping SRAS curve

Answer 3

When the general price level rises, real cost of production will fall due to imperfect adjustment of input prices. Firms will use more factor inputs to increase their output, therefore SRAS is upward-sloping.

Question 4

Inflationary / Deflationary gap

Answer 4

The difference between aggregate output (Y) and full-employment output level (YF) when Y is above / below YF.

Question 5

Restoration of long-run equilibrium under an inflationary gap

Answer 5

There is an excess demand in the factor market. There will be an upward pressure in the factor prices and the cost of production will rise. Short run aggregate supply will decrease. Price level increases and aggregate output decreases and returns to the full-employment output level.

Question 6

Restoration of long-run equilibrium under an deflationary gap

Answer 6

There is an excess supply in the factor market. There will be a downward pressure in the factor prices and the cost of production will fall. Short run aggregate supply will increase. Price level decreases and aggregate output increases and returns to the full-employment output level.

Question 7

Expansionary monetary policy

Answer 7

● Money supply increases
● Nominal interest rate falls
● Consumption and investment expenditure increases
● Aggregate demand increases
● General price level and aggregate output level rises

Question 8

Contractionary monetary policy

Answer 8

● Money supply decreases
● Nominal interest rate rises
● Consumption and investment expenditure decreases
● Aggregate demand decreases
● General price level and aggregate output level falls