Chapter 27 - AS/AD

Question 1

What is the shape of Long-run Aggregate supply curve, and what will shift the curve?

Answer 1

It is a vertical line loacated at potential GDP, and an increase in potential GDP is cause by:

1) Increase in full-employment quantity of labour

2) increase in quantity of capital

3) Technological advancements

Question 2

What changes affect Short-Run Aggregate supply?

Answer 2

1) Increase in money wage => Decrease in short-run aggregate supply

Money wage is affected by:

• Unemployment:
  Unemployment above natural rate decreases money wage rate, unemployment below natural rate increases money wage rate
• Expected inflation : Increase in expected inflation => increase in money wage

Question 3

Why does Aggregate demand slope downwards

Answer 3

1) Wealth effect:
* Inrease in price level => decrease in wealth level => decrease in consumption=> decrease in aggregate demand

2) Substitution effect
* Increase in price level => Inrease in interest rate, which will lead to people delaying plans to spend money => decrease in aggregate demand

Question 4

Aggregate demand of GDP increases with:

Answer 4

1) Expected future incomes increases
2) Fiscal policy increases government expenditure, decreases taxes or increases transfer payments.
3) Monetary policy increases QTY of money and decreases interest rates
4) Exchange rate decreases or foreign income increases

Question 5

Describe the Keynesian model:

Answer 5

If left alone, the economy would rarely operate at full-employment. In order to achieve full employment, active help from fiscal policy and monetary policy is required.

1) AD greatly affected by expectation

2) AS money wage rate does not fall