Final Exam Flashcards
Validity
Conclusion follows logically from the premises.
Cogency
Argument is valid and has reasonable/plausible premises.
Explain why injections must be equal to leakages in a closed system.
AE=C+I+G+(X-M) & Y=C+S+T.
Because every dollar spent (AE) is a dollar earned (Y), AE=Y.
Then C+I+G+(X-M) = C+S+T.
Then I+G+X = S+T+M.
I+G+X represents injections, and S+T+M represents leakages. Moreover, Y is a function of S+T+M.
2 possibilities
Injections > Leakages: Y (income) will rise, and thus leakages will rise (i.e. higher injections→higher incomes, which correspond with higher savings & higher taxes). Leakages will continue to rise until Injections = Leakages
Leakages > Injections: Y (income) will fall, and it will continue to do so until Leakages = Injections (i.e. high leakages→high savings→not as much spending, so incomes fall).
Derive the simple income multiplier. Note that this is also covered in Paul Davidson
Y=C+I+G+(X-M).
C=a+bY.
Then Y=a+bY+I+G+(X-M).
Then Y-bY= a+I+G+(X-M).
Then Y(1-b)=a+I+G+(X-M).
Then Y=[1/(1-b)][a+I+G+(X-M)].
[1/(1-b)] is the simple income multiplier, where b is the MPC.How does, ceteris paribus, a more even distribution of income create a higher level of
GDP?
The top 20% of income earners tend to save a significantly larger proportion of their earnings than do the bottom 80%. As income is unevenly distributed towards the top 20%, spending per dollar declines. Hence, lower MPC→lower multiplier→lower GDP. However, a more even distribution of income means that there is not quite as much money in the pockets of the top 20%. It follows that there is now slightly more income in the pockets of the bottom 80%. Since more money is now in the hands of those who tend to spend more, the MPC increases→multiplier increases→GDP increases.
Government surpluses do not help the economy grow because they represent what?
They represent a net drain on private sector income.
What is the chance that the US could be forced to default on the debt and why is that so?
There is a 0% chance that the U.S. could be forced to default on the debt. This is the case because every cent of U.S. debt is owed in a currency that they are legally permitted to print.
That we owe money to China has nothing to do with what and everything to do with what?
It has nothing to do with the federal government budget deficit and everything to do with the trade deficit.
Say’s Law implies what because the very act of production does what?
Say’s law implies that a recession or depression will never occur because the very act of production generates enough income and demand to purchase everything produced.
Davidson argues that the decision to invest is a weighty one because one is very unlikely to be able to find a new buyer for a sausage machine, and certainly not at a price that would recoup costs. He further argues that the key to understanding investment behavior is the knowledge that entrepreneurs will order new capital goods (i.e., invest) whenever the demand price for plant and equipment (i.e., the price those demanding investment goods are willing to pay) exceeds the flow supply price (i.e., the price firms producing investment goods require to supply them). Write Davidson’s stock demand quantity for capital (equation 4.2), define each variable, and tell the sign of the independent variables with respect to the dependent.
Dk=f(pk, i, Φ, E)
- - + +
pk is the market price of capital goods, i is the rate of future discount, Φ is the set of expectations about the growth in demand for the products produced by capital, and E is the ease in which entrepreneurs can obtain bank loans.
Echoing Davidson, Harvey says that investment will inevitably decline because of the continuous additions to the capital stock. Why will this not lead to a stationary state and what happens instead?
This will not lead to a stationary state because the decline in investment will cause a fall in demand, disappointing entrepreneurs’ expectations. Entrepreneurs are rudely reminded that they never had a firm basis for their expectations in the first place, and their error of optimism is replaced by a contrary error of pessimism. What had been slowing but positive net investment now becomes negative net investment.
What is the hope of those who favor functional finance?
The hope of those who favor functional finance is that the government will decide on a level of spending and taxation, running deficits and surpluses, to keep the total rate of spending in the country on goods & services neither greater nor less than the rate which would buy all the goods it is possible to produce.
What is the moral of the history of the national debt from the Depression through WWII?
The moral is that there is nothing to fear about running big government deficits when, during a recession with significant unemployment, the government is the only spender capable of sufficiently increasing market demand for products of our industries and thereby maintaining a profitable entrepreneurial system.
Our desire to hold money as a store of wealth is a barometer of what?
A barometer of the degree of our distrust in our own calculations and conventions concerning the future.
Without what would real world entrepreneurial activities quickly wither away?
Animal Spirits
Very briefly, in what sense is the existence of liquidity-creating financial markets a double-edged sword (good times versus bad times)?
The existence of liquidity-creating financial markets is a double-edged sword that in good times facilitates investment in real capital goods but in bad times contributes heavily to the instability of the real economy.
What is the result of the fact that minority shareholders have little knowledge or interest in the long-run prospective yield of capital assets that they legally own?
The result is that financial asset market valuations are established based on the mass psychology of a large number of ignorant individuals.
Explain the process by which the inflation of the 1970s occurred and show how it is that a rise in the money supply may accompany a rise in prices, even though the former does not, indeed cannot, cause the latter.
In 1973, OPEC countries raised the price of oil by restricting its supply→increased input costs for entrepreneurs in the industry→entrepreneurs needed to borrow more cash to purchase inputs→banks obliged→as banks loaned more money to entrepreneurs, they began to lack sufficient reserves→FED accommodated banks’ need for additional reserves by supplying them with more reserves. Meanwhile, as entrepreneurs produced output, they had to sell at higher prices to compensate for the increased input costs. Hence we see that the money supply and prices rose, but it was the initial rise in input prices that caused the increased money supply.
Economists stood idly by (and even praised) as what four transformations took place in the
US economy over the past thirty years?
Economists stood idly by as 1) jobs went overseas, 2) demand was snapped by uneven income distribution, 3) competition was destroyed by lax attitudes toward antitrust laws, and 4) safeguards were discarded in the financial sector.
Minsky’s financial instability hypothesis is best understood by considering the early stages of an expansion, where the economy is growing but everyone (firms, consumers, and banks) is still cautious. This means that most projects succeed. As a consequence, what two things gradually become evident to managers and bankers and as a result, what do they do?
Existing debts were easily validated, and units heavily in debt prospered. Managers and bankers began to regard previously accepted risk premiums as excessive.
Keen says that his model suggests that any policies aimed at lowering interest rates once the collapse has occurred will be futile since the economy has “passed into its catastrophic region.” In fact, he says, “the weight of the accumulated debt upon a depressed economy (is) so great that any government action at that time may be too little, too late.” What does Keen say is the essential policy message of the financial instability hypothesis and what institutional arrangements are necessary?
The essential policy message is that we should avoid crises in the first place, developing and maintaining institutions and policies that enforce a good financial society in which the tendency by businesses and bankers to engage in speculative finance is constrained. The institutional arrangements include close and discretionary supervision of financial institutions and financial arrangements and a bias toward income equity rather than inequality.
How can economic statistics be abused (there are four varieties of abuse)?
1) To apply them to situations for which they were never intended, 2) to apply some series as indicators of future economic activity when, in fact, they are actually coincident or lagging indicators, 3) to focus on nominal dollar values when the real, or inflation-adjusted, figured give a better picture of the underlying changes, and 4) when the media sometimes reports on new economic figured without giving us enough information to evaluate the significance of the numbers.
What is GDP (the phrase after the hyphen)?
The market value of all final goods, services, and structures produced in one year by labor and property located in the United States, regardless of who owns the resources.
What does GDP overlook
GDP 1) tells us nothing about the mix, or composition of output, 2) doesn’t tell us anything about the quality of life, and 3) excludes nonmarket activities such as services performed by homemakers and the services people perform for themselves.
Specifically, when is the economy in recession
The economy is in Recession whenever real GDP declines for two consecutive quarters.
