Chapter 9... Flashcards
The equilibrium level of GDP on the demand side is …
The level at which total spending just equals production.
Y= C+I+G+(X-IM).
Output levels below equilibrium are bound to…
Rise because when spending exceeds output, firms will see their inventory stocks being depleted and will react by stepping up production.
Output levels above equilibrium are bound to…
Fall because when total spending is insufficient to absorb total output, inventory will pile up and firms will react by curtailing (reduce) production.
A 45% line determines the equilibrium level of GDP on the demand side on a Income-Expenditure Diagram. Why is this significant?
It is significant because it marks off points at which spending and outputs are equal- that is, Y= C+I+G+(X-IM), which is the basic condition of equilibrium.
How does higher prices affects the economy?
It reduces the purchasing power of consumer wealth and reduces total expenditures on the 45% line diagram. Therefore, equilibrium real GDP demanded is lower when prices are higher. This downward sloping relationship is known as the aggregate demand curve.
Can Equilibrium of GDP be above or below Potential GDP?
Yes.
If equilibrium GDP exceeds potential GDP, what is the difference called?
Inflation gap.
If equilibrium GDP falls short of potential GDP, what is the difference called?
Recessionary gap.
Any autonomous increase in expenditure has a multiplier effect on GDP; what doe this mean?
It increases GDP by more than the original increase in spending.
How does the Multiplier effects occur?
The multiplier effect occurs when a person’s additional expenditures constitutes a new source of income for another person, and this additional income leads to still more spending, and so on.
Rapid (or Sluggish) economic growth in one country contributes to rapid (or Sluggish) growth in other countries because one country’s imports are other countries exports.
True
The depressing effect of the price level on consumer spending WORKS THROUGH REAL WEALTH, NOT THROUGH REAL INCOME.
The Consumption Function displays the relationship between real consumer income and real consumer spending. thus, if real income declines for any reason, the economy Leftward along a fixed consumption function. By contrast, A DECLINE IN REAL WEALTH WILL SHIFT THE ENTIRE C.F. DOWNWARD, MEANING THAT PEOPLE SPEND LESS AT ANY GIVEN LEVEL OF REAL INCOME.
What are the determinants of Aggregate Supply?
AS= f( Pl, Ta, Ip, CAPITAL & LABOR)
P= Price level -+- If price levels go up,producers make more money; increase in production.
T= Technical advances-+- A technological breakthrough will result in more output per input; increase in production.
Ip= Input Prices - If input prices increases; less profit for firms which leads to cut in production.
Available Capital and Labor-+- The more available capital and labor, the more firms will be a ble to produce.
Formula for Disposable Income
DI= Y - T
Formula for finding the equilibrium value of Y in an economy
Y= A - B (T) + I + G + (X-IM) / 1 - B
What is the only way the economy will reach equilibrium on the demand side at full employment?
The economy will reach an equilibrium at full employment on the demand side only if the amount that consumers wish to save out of their full-employment incomes happens to equal the amount that investors want to invest. if these two magnitudes are unequal, full employment will not be an equilibrium.
- The market will permit unemployment when total spending is too low to employ the entire labor force.
Formula for the Multiplier
Multiplier= Change in Y / Change in I
Formula for Over Simplified Multiplier
Multiplier= 1 / 1 - MPC
EX: 1/1-0.90 = 1/0.1 = 10
The Multiplier in the real worlds cannot be calculated accurately with oversimplified multiplier formula. The actual multiplier is much lower than the formula suggest.
What is an Induced Increase in Consumption?
Induced Increase in Consumption an increase in consumer spending that stems from an increase in consumer incomes. It is represented on a graph as a movement along a fixed C.F.
EX: .8(DI)
What is an Autonomous Increase in Consumption?
An Autonomous Increase in Consumption is an increase in consumer spending without any increase in consumer incomes. It is represented on a graph as a shift of the entire C.F.
An autonomous increase in spending leads to a horizontal shift of the aggregate demand curve by an amount given by the oversimplified multiplier formula.
Changes in the volume of Government purchases of goods and services will change the equilibrium level go GDP on the demand side in the same direction, BUT BY A MULTIPLIED AMOUNT.
If G increases by 100 GDP will increase by 100-MPC.
What does the aggregate supply curve show us?
The A.S curve shows, for each possible level, the quantity of goods and services that all the nation’s businesses are willing to produce ruing a specified period of time, holding all other determinants of Aggregate Quantity Supplied constant.
A typical A.S Curve slopes upward, meaning that as prices rise, more output is produced.
Price / Unit =
Unit Profit = P - Uc (Price - Unit Cost).
A INCREASE in nominal wage shifts the AS curve INWARD,
Because the more the labor cost, the less Profit per unit firms will receive.
A DECREASE in nominal wages shifts the AS curve OUTWARD.
Because cheaper labor cost leads to more profit per unit.
