EXAM 2

Question 1

What is the sole explanation for persistently high living standards?

Answer 1

Technological Growth

Question 2

The Solow model attempts to explain what?

Answer 2

Variation in growth rates across countries

Question 3

Solow model implies that economic growth is only achieved through changes in what?

Answer 3

exogenous technology

Question 4

Kaldor’s Stylized Growth Facts

Answer 4

1. The shares of national income received by labor and capital are roughly constant over long periods of time
2. The rate of growth of the capital stock per worker is roughly constant over long periods of time
3. The rate of growth of output per worker is roughly constant over long periods of time.
4. The capital to output ratio is roughly constant over long periods of time
5. The rate of return on investment (return to capital owners) is roughly constant over time
6. There are appreciable variations in the growth of labor productivity and of total output among countries.

Question 5

Absolute Convergence

Answer 5

-Less well capitalized countries grow faster, as they reap higher MPK’s.
-Well capitalized countries grow slower, due to lower MPK’s and depreciation costs.
-Do we see this?
Germany after WW2, The US after the Civil war

Question 6

Conditional Convergence

Answer 6

-Countries converge to their own specific steady-states, which are products of underlying factors.
-Differential steady states helps to explain some of the variation in incomes globally.

Question 7

Golden Rule for saving

Answer 7

-MPK-delta= n+g
-MPK-delta> n+g, below golden rule (not enough saving)
-MPK-delta<n+g, above golden rule (too much saving)

Question 8

How to increase saving

Answer 8

• budget surpluses (deficits are public dissaving) lower’s interest rates through removing crowding out
• Lower taxes on saving/investment. No unrealized capital gains tax, etc.

Question 9

What is the tradeoff for reaching the golden rule of capital from below?

Answer 9

Consume less today so that you may consume more tomorrow, and in every period afterwards

Question 10

Institutions that promote growth

Answer 10

-Legal traditions
-Private property protection
-Intellectual property
-Patents
-Common law vs. Civil code
-Legal protections for shareholders and creditors are stronger under common law countries, and as a result these countries have better developed capital markets
-Transparency in government
-Lack of corruption
-Predation

Question 11

Besides institutions what promotes growth?

Answer 11

Culture

Question 12

Creative destruction

Answer 12

Entrepreneurs drive economic growth by inventing new products. Sometimes, these inventions may be so revolutionary that they disrupt or outright replace existing technology, leading to the unemployment of both labor and capital in the affected industries.

Question 13

4 important points for the economics of ideas

Answer 13

1) Ideas for increasing output are primarily researched, developed, and implemented by profit-seeking firms

2) Ideas can be freely shared, but spillovers mean that ideas are underprovided

3) Government has a role in improving the production of ideas

4) The larger the market, the greater the incentive to research and develop new ideas

Question 14

How to incentivize producing more ideas

Answer 14

The role of government: Patent Protections (short-term monopoly profit for new inventions, works of art/music), Prizes vs Patents (offering an award that can be claimed by anyone may speed up innovation, relative to patents), Subsidies/Grants (tax breaks for R&D, funding universities)

Question 15

Okun’s Law

Answer 15

There is a negative relationship between unemployment and real GDP

Question 16

Procyclical

Answer 16

means that the variable moves with GDP (as GDP increases, the variable also increases)

Question 17

Countercyclical

Answer 17

means that the variable moves against GDP (as GDP increases, the variables decrease)

Question 18

Leading

Answer 18

means that the variable moves before we see movements in the overall economy

Question 19

Coincident

Answer 19

means that the variable moves at the same time as we see movements in the overall economy

Question 20

Lagging

Answer 20

means that the variable moves after we see movements in the overall economy.

Question 21

In the long-run we assume that prices are

Answer 21

flexible and can adjust to a new equilibrium in response to changes in supply and demand.

Question 22

In the short-run we assume that prices are

Answer 22

sticky at some predetermined level

Question 23

The model of aggregate supply and aggregate demand can be used in order to

Answer 23

Study the implications of sticky prices

Analyze economic fluctuations

Compare stabilization policies

Study both the short-run and long-run

Question 24

Aggregate Demand

Answer 24

is the relationship between the quantity of goods and services demanded and the aggregate price level.

Question 25

Factors that shift the aggregate demand curve

Answer 25

Positive Shocks (Increase AD)(= Higher Growth Rate of Spending): a faster money growth rate, confidence, increased wealth, lower taxes, greater growth of government spending, increased export growth, decreased import growth.

Negative Shocks (Decreased AD)(=lower growth rate of spending): a slower money growth rate, fear, reduced wealth, higher taxes, lower growth of gov spending, decreased export growth, increased import growth.

Question 26

Aggregate Supply

Answer 26

is the relationship between the quantity of goods and services supplied and the aggregate price level.

Question 27

Short-Run Aggregate Supply (SRAR) Curve

Answer 27

is perfectly elastic (price doesn’t change with output).
Perfect elasticity comes from the assumption that prices are sticky, and don’t change in the short-run.
In the short-run, firms are willing to sell as much as people are willing to buy.

Question 28

Long-Run Aggregate Supply (LRAS) curve

Answer 28

perfectly inelastic (output doesn’t change with price).
Output is fixed at some (𝑌=𝑌̅=𝐹(𝐾̅,𝐿̅ )), which is the full-employment amount of output in which all an economy’s resources are fully employed, and 𝑌̅ is not dependent on the price level (𝑃).
In the long-run, unemployment is at it’s natural rate (not necessarily zero).

Question 29

Suppose a fall of aggregate demand in the short-run

Answer 29

Since SRAS is horizontal (perfect elasticity), a fall in AD leads to a lower level of output, while the price level remains the same.

Question 30

Suppose a fall of aggregate demand in the long-run

Answer 30

Since LRAS is vertical (perfect inelasticity), a fall in AD leads to a lower price level, while output remains the same.

Question 31

What is the goal of the IS-LM model

Answer 31

is to show what determines national income at a given price level. We can view the model as showing what causes the aggregate demand curve to shift.

Question 32

IS (Investment-Savings) Curve

Answer 32

equilibrates the market for goods and services.

Question 33

LM (Liquidity-Money) Curve

Answer 33

equilibrates the market for money balances.

Question 34

IS-LM model assumptions: In the long-run

Answer 34

(1) Prices are flexible.

(2) Output is determined by factors of production and technology.

(3) Unemployment is at its natural rate.

Question 35

IS-LM model assumptions in the short-run:

Answer 35

(1) Prices are fixed.

(2) Output is determined by aggregate demand.

(3) Unemployment is negatively related with output.