Short-term Economic Fluctuations

Question 1

Expansion

Answer 1

is a period in which the economy is growing at a rate significantly above normal

Question 2

Boom

Answer 2

a particularly strong and protracted expansion

Question 3

Recession

Answer 3

a period of declining real incomes and rising unemployment, growth rate below normal

Question 4

Total Unemployment

Answer 4

= Frictional + Structural + Cyclical Unemployment

Question 5

Cyclical Unemployment

Answer 5

= Total - (Frictional + Structural)

= Total - Natural rate of unemployment

Question 6

Okun’s Law

Answer 6

• The relationship between unemployment and GDP

- Negative Relationship -> Higher unemployment associated with lower production

Question 7

The Basic Keynesian Model

Answer 7

• A theory of how recessions and expansions arrive from changes in aggregate spending
• “Too little” spending leads to a recessionary output gap (actual output < potential output)
• “Too much” spending leads to an expansionary output gap (actual output > potential output)
• Prices are fixed

Question 8

Stabilization policies

Answer 8

Aim to reduce or eliminate output gaps

Question 9

Planned Aggregate Expenditure (PAE)

Answer 9

Output is determined by amount people want to spend 
- Consumer Expenditure of Households (C)
- Investment (I)
- Government Purchases (G)
- Net Exports (NX) aka exp. - imp.
Y = C + I + G + NX

Question 10

Investment (I)

Answer 10

Firms sometimes sell more or less than expected because of pre-set prices.
This means that actual investment (I) will exceed planned investment (I raised to p)

Question 11

Consumer Expenditure (C)

Answer 11

• Primary determinant is disposable (or after-tax) income

Question 12

The Consumption Function

Answer 12

C = C dash + c(Y-T)
C dash = autonomous spending (Money you always have to spend, regardless of income)
c = Marginal propensity to consume (0 < c < 1), Income - Taxes. Aka disposable income.

Question 13

The Multiplier

Answer 13

How much our total output changes when our expenditure changes
Y = (1/1-c)A dash
- The smaller the marginal propensity to consume, the smaller the multiplier effect

Question 14

The multiplier with induced imports

Answer 14

Y = (1/1-c+m)A dash

Question 15

m

Answer 15

Marginal Propensity to Import
A part of our income is spent abroad. Hence, Marginal propensity to import doesn’t have to add up to 1 because that wouldn’t make sense.