Macro 3 - week 2 - Flexible Price Model

Question 1

AD/ AS Model

Answer 1

Supply side - Firms / producers (factor markets) - determination of output / income

Demand side - Consumers / government - determinants of C, I, G

Equilibrium - Goods market (demand) equals aggregate supply

Question 2

Factors of production

Answer 2

K - Capital (tools, machinery…)

L - Labour - physical and mental efforts of workers

Question 3

Production function

Answer 3

Y = F(K,L)

Shows how much output the economy can produce from K units of capital and L units of labour

Question 4

Marginal Product of Labour (MPL)

Answer 4

The extra output the firm can produce using an additional unit of labour (holding other inputs fixed)
MPL = W/P

Question 5

Diminishing Marginal Returns

Answer 5

As a factor input is increased, its marginal product falls (other things being equal)

Question 6

Marginal Product of Capital (MPK)

Answer 6

The extra output the firm can produce using an additional unit of capital (holding other inputs fixed)
MPK = R/P

Question 7

Neoclassical Theory of Distribution

Answer 7

Each factor input will be paid its marginal product in equilibrium

Question 8

Disposable Income

Answer 8

Total Income MINUS Total taxes

Y - T

Question 9

Marginal Propensity to Consumer (MPC)

Answer 9

Increase in consumption (C) caused by a one-unit increase in disposable income

Question 10

Notation for variables

Answer 10

W = nominal wage
R = nominal rental rate
P = Price of output
W/P = real wage - measured in units of output
R/P - real rental rate

Question 11

The demand for labour from the firm

Answer 11

A firm hires each unit of labour if the cost does not exceed the benefit

cost = real wage
benefit = marginal product of labour
Firm stops hiring when W/P = MPL

Question 12

Factor Prices

Answer 12

Prices per unit that firms pay for the factors of production

It will use those prices to base its decision