AP Macroeconomics Flashcards
When Aggregate Demand shifts right, what happens to unemployment?
Decreases
When Aggregate Demand shifts right, what happens to price level?
Increases
When Aggregate Demand shifts left, what happens to price level?
Decreases
When Aggregate Demand shifts left, what happens to unemployment?
Increases
When Aggregate Demand shifts right, what happens to aggregate production?
Increases
When Aggregate Demand shifts left, what happens to aggregate production?
Decreases
When Short Run Aggregate Supply shifts right, what happens to unemployment?
Decreases
When Short Run Aggregate Supply shifts left, what happens to unemployment?
Increases
When Short Run Aggregate Supply shifts left, what happens to price level?
Increases
When Short Run Aggregate Supply shifts right, what happens to price level?
Decreases
What is a liquidity trap?
When the interest rate hits 0% and increasing the money supply no longer moves aggregate demand.
An increase in expected inflation shifts the short run Phillips curve in which direction?
Up/Right
Bringing down inflation that has become embedded in expectations is called what?
Disinflation
Deflation is defined as what?
Negative inflation; a dropping aggregate price level.
Inflation is defined as what?
An increasing aggregate price level.
Why is deflation bad?
People will refuse to loan out or spend money since its value is increasing as long as they hold it. This shifts aggregate demand left, which creates more deflation, etc.
In the classical model, wages and prices are what?
Flexible
In the Keynesian model, wages are what?
Sticky
In the Keynesian model, prices are what?
Downwardly inflexible (they tend not to decrease but can increase)
In the monetarist model, what will steadily grow GDP?
Steadily growing money supply
In the classical model the short run aggregate supply curve is:
Vertical
In the Keynesian model short-run shifts in aggregate demand can affect what?
Real aggregate output (GDP) and Price Level
According to Keynes, government should use fiscal and monetary policy to smooth out what?
Business cycle fluctuations
According to the monetarists, should the Fed target a constant rate of growth in the money supply regardless of fluctuations in the economy?
Yes
Does the monetarist model recommend discretionary monetary policy?
No
According to the classical model, increasing aggregate demand (for instance through increasing the money supply) leads to what?
Only inflation
The natural rate hypothesis states that the unemployment rate should be:
At the level where expected inflation equals actual inflation.
Fluctuations in total factor productivity causing business cycles is what theory?
Real business cycle theory
What monetary policy does monetarism suggest?
Monetary policy rule of slowly expanding money supply regardless of economic fluctuations
What is the monetary velocity equation
M x V = P x Y
What do the variables in the monetary velocity equation stand for
Money x Velocity = Price level x GDP
The main idea of Keynesian economics is
Due to sticky wages, shifting Aggregate Demand can affect short term real GDP (and we should do it to smooth out business cycles).
In the long run, changing the quantity of money should only affect what?
Price level
An increase in the money supply does what to aggregate demand in the short run?
Increase
In the long run a 10% decrease in the money supply will change price levels by how much?
10%
Money neutrality is defined as:
The fact that in the long run money supply has no real effect on the economy (no effect other than price level changes).
In the short run decreasing the money supply causes aggregate output to:
Decrease
In the long run decreasing the money supply causes aggregate output to:
Do nothing
In the short run increasing the money supply causes price levels to
Slowly increase (lag due to sticky prices)
In the long run increasing the money supply causes price levels to
Increase proportionately to the money supply
In the short run the real value of the entire money supply does what when the supply of money is increased?
Increase
In the long run the real value of the entire money supply does what when the supply is increased?
Nothing
What is the real quantity of money equation?
M/P
In the classical model of price level, both the short and long run aggregate supply curves are:
Vertical
An inflation tax is
A decrease in the real value of money held by the public due to the government inflating the currency
Revenue generated by the government’s ability to coin money is:
Seignorage
What are the two most common causes of a negative supply shock?
Commodity prices and wages rising
Demand-pull inflation is inflation caused by
Aggregate demand shifting right
Supply-push inflation is inflation caused by
Short Run Aggregate Supply shifting left
What is the budget balance equation?
S = T - G - TR
What do the variables in the budget balance equation stand for?
Government savings = Tax revenues - Government spending - Government transfers
Expansionary fiscal policies do what to the budget balance?
Decrease it
Contractionary fiscal policies do what to the budget balance?
Increase it
When the government spends more than it receives in tax revenue is called
A budget deficit
Government debt is
The net total budget deficits and surpluses over time
At each FOMC meeting, the Fed sets the:
Federal Funds target
The Fed’s Open Market Desk is located at the Federal Reserve Bank of
New York
The ability of governments to pay their debt is best measured by what ratio?
Debt-GDP Ratio
If the federal funds rate needs to be decreased, the open market desk will do what to securities like treasury bills and bonds?
Buy them
If the federal funds rate needs to be increased, the open market desk will do what to securities like treasury bills and bonds?
Sell them
If the open market desk of the Fed sells bonds and treasury bills what will happen to the money supply?
It will decrease
Contractionary monetary policy does what to money supply?
Decrease
Contractionary monetary policy does what to interest rates?
Increase
Contractionary monetary policy does what to quantity of loanable funds?
Decrease
Contractionary monetary policy does what to aggregate demand?
Decrease
Contractionary monetary policy does what to unemployment?
Increase
In the long run trying to maintain an unnatural rate of unemployment via controlling aggregate demand will not work because of
Changes in wages shifting SRAS back to long run equilibrium
What two variables does the Phillips curve show the relationship between?
Unemployment and inflation
An estimate of what the budget balance would be if real GDP were exactly equal to potential output is known as the ____________________________ budget balance.
Cyclically adjusted
The unemployment rate at which inflation does not change over time is known as the ___________________
Non-Accelerating Inflation Rate of Unemployment (NAIRU)
The long-run Phillips curve is a vertical line at what point?
NAIRU / Natural Unemployment Rate
The effect of deflation in reducing aggregate demand is known as _________________ deflation.
Debt
The nominal interest rate can’t go below zero. This is known as the zero _______________.
Bound
During the 1930s, economists had an incentive to develop theories to guide macroeconomic policy-making as a result of ___________________.
The Great Depression
The ability of a country to pay its debts can be worse than it appears because of ___________.
Implicit Liabilities
Who was the leading economist of the monetarist movement?
Milton Friedman
Today, most economists agree that __________ policy should play the main role in stabilization policy.
Monetary
A formal guideline for what the inflation rate should be is known as an inflation __________.
Target
While the Fed does not have a formal policy, it is widely believed to want an inflation rate around _________ %.
2
Holding everything else constant, a government’s budget balance tends to do what during expansionary fiscal policy?
Decrease
A government typically funds spending more than it receives in tax revenues by doing what?
Borrowing money
If a country’s aggregate output increases and all else is held constant, what will happen to the interest rate?
Increase
What is the Taylor Rule formula?
Federal Funds Rate Target = 1 + (1.5 x inflation rate) + (0.5 x output gap)
How is an inflation target different than the Taylor Rule?
Taylor rule uses existing inflation rate. Inflation targeting tries to predict and adjust the inflation rate in advance.
What is the political business cycle?
Politicians are incentivized to pump up the economy before an election to get re-elected regardless of the business cycle.
Why is disinflation hard on an economy?
It usually requires AD to shift left, generating a recession.
Why does expansionary monetary policy stop working in a liquidity trap?
At 0% interest nobody will loan any money anymore because it makes you no interest. This means you can’t increase spending (and therefore AD) by increasing loans once you hit 0% interest.
What is the start date of the fiscal year in the US?
October 1st
The Short Run Phillips Curve says that when unemployment goes up, inflation tends to
Decrease
The Short Run Phillips Curve says that when inflation increases, unemployment tends to
Decrease
What are two major problems with governments carrying a large debt relative to their GDP?
Crowding out and bankruptcy
An increase in inflation has what impact on the Short Run Phillips Curve?
Movement along the curve up and to the left.
An increase in expected inflation has what impact on the Short Run Phillips Curve?
Shifts the curve up/right.
The Laffer curve serves what purpose?
It suggests an optimal tax rate considering the trade-off between revenues now and growth in the long run.
Rational expectations theory suggests what?
That individuals can use all of the information available, including probabilities about what will happen in the future, to optimize their decisions. For instance, they can predict an increase in the inflation rate and this will impact their decisions about holding money now.
The long run Phillips curve should have what shape and be placed at what point?
Vertical line at the natural rate of unemployment
What is the rule of 70?
Something doubles in time = 70 / growth rate
What is labor productivity?
The efficiency with which workers can produce goods for a given level of labor.
What is total factor productivity?
The overall efficiency with which goods can be produced in an economy.
What are the three main contributors to labor productivity?
Physical capital, human capital, and technology.
What is the purpose of the aggregate production function?
To state the relative impact of physical capital, human capital, and technology on productivity.
What is an example equation proposed for the aggregate production function?
GDP/worker = T * (physical capital/worker)^0.4 * (human capital/worker)^0.6
Which productivity factor drives most GDP growth in advanced western nations like the United States?
Technology
What is physical capital?
Physical items that aid workers in producing goods, like tools or assembly lines or computers.
What is human capital?
A worker’s quality/amount of training and education.
What is technology as a factor of production?
A new idea for training/education or a new invention for physical capital that is more effective at production than what came before. Computers and the internet are big, but so are sticky notes and standardized shipping containers.
Why can’t nations just produce a huge amount of physical capital to boost productivity indefinitely?
Physical capital has diminishing returns. A man with two tractors is no better than a man with one tractor, and a $20,000 computer isn’t ten times more productive than a $2,000 computer.
What is growth accounting?
The study of which productivity factors increase growth most effectively.
What is the convergence hypothesis?
The theory that nations with low GDP/capita can take the advances from leading nations to grow their GDP/capita more rapidly and catch up to the leading nations.
Is the convergence hypothesis true?
Somewhat. It seems to be working for East Asia, but not as much for South/Central America, Central Asia, or Africa.
Name 3 ways governments can directly contribute to real GDP growth per capita.
- Investing in public infrastructure (physical capital)
- Investing in public education & job training (human capital)
- Investing in public Research & Development (technology, e.g. NASA or public universities’ science departments)
Name 1 way a government can indirectly contribute to real GDP growth per capita (hint: encourages the 3 productivity factors).
Creating a stable society so people will risk long-term investments and savings.
What are the two main types of goods produced in a society?
Consumer goods and investment goods
How is long-term economic growth represented in the production possibilities curve model?
The curve shifts rightward.
How is long-term economic growth represented in the Aggregate Demand - Aggregate Supply Model?
LRAS shifts rightward.
What are the Balance of Payments Accounts?
A way to track international payments.
What are the two main categories of the Balance of Payments Accounts?
Current Account and Financial Account (sometimes also called the Capital Account)
What are the three sub-categories of the Current Account in the Balance of Payments Accounts?
Imports/Exports of goods & services, factor income, and transfers
What is “factor income” in the context of the Balance of Payments Current Account?
Income earned from other nations renting your factors of production. For instance, a foreigner renting your apartment or your factory.
What is a transfer in the context of the Balance of Payments Current Account?
Somebody giving away money to someone outside your country. For instance, a migrant worker sending their wages to their family in their home country.
What are the two sub-categories of the Financial Account in the Balance of Payments Accounts?
Official (government) sales and purchases of financial assets and private sales and purchases of financial assets.
If Nation A has a high interest rate and Nation B has a low interest rate, assuming funds can flow internationally, what will happen to the interest rates of these nations over time?
They will both head towards a middle value between them as funds flow out of the low-interest country into the high-interest country for investment.
If nation A has 8% interest and nation B has 2% interest, what interest rate will their respective loanable funds markets head towards assuming international capital flows exist?
5%
How does the supply of loanable funds market graph change to represent the flow of loanable funds from one nation to another?
The supply curve shifts left (for nations whose money is going elsewhere) or right (for nations who have foreign money coming in).
What is the “invisible hand of the market”?
Adam Smith proposed that when everyone acts in their own self-interest it seems to create more wealth overall, as if people’s behavior was guided by some “invisible hand”.
What famous book did economist Adam Smith write in 1776?
Wealth of Nations
Economics is the study of what topic?
How people allocate scarce resources.
What is a scarce resource?
A resource like labor that is not infinite.
What is an abundant resource?
A resource like water that is effectively infinite.
What is a normative economic statement?
A statement about how things ought to be or personal preferences. e.g. “Welfare programs are good/bad.”
What is a positive economic statement?
A statement about how things are right now factually. e.g. “Welfare programs reduce the incentive to work.” Not about whether you like them or not, just what they do.
A command economy is…
An economy where the government has significant or complete control over the means of production. Think Soviet Union.
A market economy is…
An economy where private citizens own the means of production. Think America in the 1800s.
A traditional economy is…
A pre-modern economic system. Example: serfdom, feudalism, and manorialism in the middle ages.
What is the main benefit of a command economy?
Centralized control can take direct action. This can establish fairness and solve problems like the tragedy of the commons that are hard to solve through free markets.
What is the main benefit of a market economy?
Overall efficiency. Market economies tend to produce the most stuff overall.
What is the main disadvantage of a command economy?
It is slow to react to people’s needs and tends to produce less overall.
What is the main disadvantage of a market economy?
It has a hard time solving problems with poor incentives, like creating public goods.
What is a mixed economy?
A blend of free market and command economy features. Western countries today like the US are classified as mixed economies. They command certain key features (e.g. welfare programs, an army, utilities) and let the market take care of everything else.
What is an “agent” in economic terms?
A person who can make decisions. Basically a normal person as you would think of them.
What are the two axes on the PPC graph?
Amount produced of two different things.
What does “PPC” stand for in the term PPC graph?
Production Possibilities Curve
What is another name for the PPC?
Production Possibilities Frontier
A point inside the PPC line represents what?
Production of the two PPC goods/services that is not fully utilizing all available resources.
A point outside the PPC line represents what?
An amount of production that is not sustainable or sometimes even possible.
A point on the PPC line represents what?
A production of goods/services that is efficiently using all available resources.
What is an opportunity cost?
What you give up in order to do something else. You give up the opportunity to do that other thing.
What does the PPC line curve?
Increasing opportunity costs.
What is the idea of increasing opportunity costs?
As you do one thing more and more, it becomes harder and harder to get the last few %.
What is comparative advantage?
One producer has a lower opportunity cost to create a good or service than another.
Why is specializing and trading good?
Comparative advantage means more goods will be produced overall.
What is an absolute advantage?
One producer can make more of a good than another.
What is the law of demand?
The quantity demanded of a product goes down as price goes up.
What is the law of supply?
The quantity supplied of a product goes up as its price goes up.
Which way does the demand line slope?
Down
Which way does the supply line slope?
Up
If people’s income goes up what happens to demand?
The demand line shifts right
What is an inferior good?
A bad substitute for a certain good, like bad Soviet cars or knockoff Chinese iPhones.
What happens to the quantity demanded of inferior goods as people’s income goes up?
It goes down
What happens to the quantity demanded of inferior goods as people’s income goes down?
It goes up
If people prefer a good more than they used to what happens to demand?
Demand shifts right
If people expect the price of something to go up in the future what happens to demand?
The quantity demanded in the short run increases – people buy and stockpile it, if they can
What is a related product / substitute good?
A good that fulfills the same purpose. If macbooks become really expensive people will substitute a different laptop.
What is a complementary good?
A good that you need to use your other good. Like batteries for a toy.
If the price of a complementary good increases what happens to the demand for its complement?
The other good will have a lower quantity demanded.
In the circular flow diagram, households are responsible for supplying what to firms?
Factors of production like labor.
In the circular flow diagram, firms are responsible for supplying what to households?
Goods and services.
What is GDP?
The market value of all final goods and services produced within a country within a period (usually a year).
What is a final good or service?
The thing that the consumer buys and uses – no longer an input to further production processes. Blue denim fabric is not final, but blue jeans are.
Does GDP include illegal things?
No
Does GDP include goods and services that are not purchased by another person?
No – GDP doesn’t count anything done for free.
What is GNP?
The final goods and services produced in a period by citizens of a country no matter where in the world they are.
What is an intermediate good?
A good that will be used up turning it into another good. e.g. denim fabric becomes blue jeans
Do you count intermediate goods in GDP?
No
What is included in Investment spending?
capital equipment, inventory, new buildings
What is the formula for the income model of GDP?
C + I + G + Net Exports
What is C in the income model of GDP?
Consumption spending
What is I in the income model of GDP?
Investment spending
What is the G in the income model of GDP?
Government purchases
Are transfers counted in GDP?
No
Which unemployment measure is the official US unemployment statistic?
U3
In U3 what is the definition of unemployment?
Willing, able, civilian workers who have been looking for work in the last 4 weeks.
What is a discouraged worker?
Looked for work in the last 12 months but not the last 4 weeks. Believe no jobs are available for them despite wanting to work.
Are discouraged workers counted in official unemployment?
No
What is a marginally attached worker?
Looked for jobs in the last 12 months but not the last 4 weeks. Want to work but aren’t for any reason.
Are marginally attached workers counted in official unemployment?
No
What is the labor force?
People of legal working age who are not retired or in school and looking for work or currently working.
What is the natural unemployment rate?
The average rate of unemployment over the long run - averages out business cycles.
What is cyclical unemployment?
The unemployment that the business cycle is responsible for.
What is structural unemployment?
Unemployment because workers available do not match the needs of current jobs.
What is frictional unemployment?
Unemployment due to system inefficiencies, e.g. looking for work takes time.
What is the labor force participation rate?
The percentage of the country’s population that is in the labor force.
What is inflation?
An increase in the overall price level of goods and services.
How much inflation is desirable?
Usually around your population growth rate, 1-3%.
What does CPI stand for?
Consumer Price Index
Who wins from a high unexpected inflation rate?
People who borrowed money who will pay back their loans with less valuable money.
Who wins from unexpected deflation?
People who loan out money, who will be repaid in money more valuable than they loaned out.
What is disinflation?
Reducing the rate of inflation. Might turn into deflation if you do it enough.
What is the GDP deflator?
A special kind of price index. A ratio of nominal GDP to a price index in a later year divided by a price index in an earlier year.
Nominal GDP / (price index year 2 / price index year 1)
What is the name for the stage of the business cycle where the economy is increasing?
Expansion
What is the name for the stage of the business cycle where the economy is declining?
Contraction
What is the name for the stage of the business cycle where it is as high as it will go?
Peak
What is the name for the stage of the business cycle where it is as low as it will go?
Trough
Do you count sales of used things in GDP?
No
Do you count goods made in foreign countries as part of GDP?
Not unless you import them, then they are part of net exports
