Chapter 9: Demand-Side Equilibrium- Unemployment or Inflation

Question 1

Equilibrium

Answer 1

refers to a situation in which neither consumes nor firms have any incentive to change their behavior; they are content to continue with things as they are

Question 2

Total production and total income __________ ___ _______, but the same need not be true of total ______

Answer 2

must be equal; spending

Question 3

When total spending _______ current production, neither output nor the price level is in equilibrium

Answer 3

exceeds

Question 4

The equilibrium level of GDP on the demand side cannot be one at which total spending exceeds output because firms will notice that they are depleting their inventory stocks; firms may first decide to ______ production sufficiently to meet the higher demand. Later they may decide to _____ prices

Answer 4

increase ; raise

Question 5

The equilibrium level of GDP on the demand side cannot be one at which total spending is less than output, because firms will not allow inventories to pile up; they may decide to _______ production, or they may decide to ____ prices in order to stimulate demand

Answer 5

decrease ; cut

Question 6

The equilibrium level of GDP on the demand side is the level at which total spending ______ production; in such a situation, firms find their inventories remaining at desired levels, so they have no incentive to change output or prices

Answer 6

equals

Question 7

Expenditure schedule

Answer 7

shows the relationship between national income (GDP) and total spending

Question 8

45 degree line

Answer 8

displays all the points at which the economy can possibly be in demand-side equilibrium

• firms will be content with current output levels only if total spending equals production

Question 9

income-expenditure diagram or 45 degree line diagram

Answer 9

plots total real expenditure against real income; the 45 degree angle marks off points where income and expenditure are equal

Question 10

To the left of the equilibrium line, the expenditure line lies above the 45 degree line, what does this mean?

Answer 10

Total spending exceeds total output
- hence, inventories will be falling, and firms will conclude that they should increase production; thus production will rise toward the equilibrium point

Question 11

To the right of the equilibrium line, the expenditure line lies below the 45 degree line, which means what?

Answer 11

spending falls short of output, inventories rise, and firms will cut back production, therefore moving closer to the equilibrium point

Question 12

Whenever production is ABOVE the equilibrium level, market forces will drive output ______

Answer 12

down

Question 13

Whenever production is BELOW the equilibrium level, market forces will drive output ______

Answer 13

up

Question 14

Aggregate demand curve

Answer 14

shows the quantity of domestic product that is demanded at each possible value of the price level

Question 15

REAL wealth ______ whenever the price level rises, which ______ their spending

Answer 15

declines; decreases

Question 16

Higher prices _______ the demand for goods and services because they erode the purchasing power of consumer wealth

Answer 16

decrease

Question 17

Lower prices _______ the demand for goods and services by enhancing the purchasing power of consumer wealth

Answer 17

increase

Question 18

A higher price level leads to _____ real wealth and therefore to less spending at any given level of real income; thus a higher price level leads to a _____ consumption function (right) and a lower price level leads to a _____ consumption function (left)

Answer 18

lower; lower; higher

Question 19

The consumption function displays the relationship between real consumer income and real consumer spending. Thus, if real income declines for any reason, the economy moves leftward along a fixed consumption function. By contrast, a decline in REAL WEALTH will shift the entire consumption function downward, which means

Answer 19

people spend less at any given level or real income

Question 20

A rise in the price level will _______ ______ consumption function and total expenditure schedule

Answer 20

pull down

Question 21

A fall in the price level will ______ consumption function and total expenditure schedule

Answer 21

rise

Question 22

A rise in the price level, by shifting the expenditure schedule downward, leads to a ________ in the equilibrium quantity of real GDP demanded

Answer 22

reduction

Question 23

A fall in the price level, by shifting the expenditure schedule upward, leads to a _____ in the equilibrium quantity of real GDP demanded

Answer 23

rise

Question 24

Higher prices on consumer wealth is just one reason why the AD curve slopes __________

Answer 24

downward

Question 25

Higher US prices (holding foreign prices constant) will _______ exports (X) and stimulate imports (IM). That means that higher US price levels will reduce the net exports component of total expenditure, therefore shifting the expenditure line __________ and __________ real GDP

Answer 25

depress; downward; lowering

Question 26

When equilibrium GDP falls ______ potential GDP, the economy will be plagued by inflation, and when equilibrium falls ______ potential GDP, unemployment and recession will result

Answer 26

above; below

Question 27

An equilibrium below potential GDP can arise when consumers or investors are unwilling to spend at normal rates, when government spending is low, when foreign demand is weak, or when the price level is too high. Any of these events would _______ the C+I+G+(X-IM) curve. Unemployment then occurs because not enough output is demanded to keep the entire labor force at work

Answer 27

depress

Question 28

Recessionary gap

Answer 28

amount by which the equilibrium level of real GDP falls short of potential GDP

Question 29

An equilibrium above potential GDP can arise when consumer or investment spending is usually buoyant, when foreign demand is particularly strong, when the government spends too much, or when a low price level pushes the expenditure curve _________

Answer 29

upward

Question 30

Inflationary gap

Answer 30

amount b y which equilibrium real GDP exceeds the full-employment level of GDP
- the price level would have to rise enough to drive the expenditure schedule down until it passed through the 45 degree line

Question 31

T/F Only if the price level and spending plans are “just right” will the expenditure curve intersect the 45 degree line precisely at full employment, so that neither a recessionary gap nor an inflationary gap occurs

Answer 31

True

Question 32

Multiplier

Answer 32

the ratio of the change in equilibrium GDP (Y) divided by the original change in spending that causes the change in GDP

Question 33

Multiplier=

Answer 33

change in Y / change in I

Y is the original change in spending that caused GDP to change

I is investment

Question 34

Multiplier is always _______ than 1

Answer 34

greater