Midterm 2 important facts and misunderstandings Flashcards
Only current changes in productivity shift the FE line, not expected changes in i.e MPK, because…
The production function is only affected by increases in either K or L (or MPL and/or MPK), and not expected changes
The IS Curve shifts to the right as a result of an increase in expected MPK because…
the current desired level of investment increases. (strictly speaking, investment in capital, since I = NK + dK, and if the productivity of K increases, naturally, investors should want to increase their future amount of capital by investing in the present)
An permanent increase in government purchases shifts the labor supply more to the right than a temporary increase in government purchases because…
In the case of a permanent increase, the income effect outweighs the sub. effect: although leisure is now technically cheaper, the majority of workers will attempt to work more hours in order to maintain the same level of income, and therefore utility.
On the other hand, In the case of a temporary increase, although the same substitution effect occurs, the income effect can be either negative or positive depending whether workers just choose to work less in the present and enjoy more leisure, knowing that their incomes will remain the same in the future. This is not the case for a permanent increase.
The equation for SRAS line in the misperceptions theory is Y bar = Y + b(P - Pe) because…
If the actual price level is higher than the expected price level, producers will misperceive the price differential as an increase in the relative prices of their goods, and therefore choose to produce more.
The monopolistic competition assumption allows for output to temporarily exceed the FE level without any price change because…
P= (1+n)MC, meaning prices are marked up by produces in the Keynesian ISLM. This means that increases in MC in the event of producing beyond current levels of output will not decrease profits unless MC begins to exceed P. Coupled with the presence of surplus labor due to efficiency wages, producers can therefore just choose to increase output by employing more labor and not changing prices. (A movement up the effective demand for labor curve).
The Endogenous growth theory advocates policies to increase the savings rate because…
delta K / K = sA - d, meaning that increases in the savings rate can increase the level of capital stock, which is not the case in the Solow model, which only advocates the savings rate as a tool to increase LR consumption up to a certain point.
