Unit 03: National Income and Price Determination

Question 1

03.01 Classical Economics and Say’s Law

What is the Classical Theory?

Answer 1

Views full employment as the norm of a capitalist economy

• best way achieve price stability, full empoyment, and steady economy = government stay out of economy
• Hands-off approach: Laissez-faire
• Focus long-run: wages, prices, interest rates fully flexable → short run aggregated supply curve more verticle
• prices act rationing system for goods and services

Result:

1. Price rise: fewer people willing and able purchase
2. Price fall: more people purchase

Question 2

03.01 Classical Economics and Say’s Law

What contributed the creation of classical economics?

Answer 2

1. Adam Smith’s The Wealth of Nations

• at a time economy at time when factories were in use and labor fully employed
• society = Potential GDP
• economy should be self-regulated

Question 3

03.01 Classical Economics and Say’s Law

What determines growth in the economy from a classical viewpoint?

Answer 3

Amout of resources and improvements in technology

Question 4

03.01 Classical Economics and Say’s Law

How does the classical theory say money supply influence the economy?

Answer 4

• Increase money supply directly affect total spending in economy

Question 5

03.01 Classical Economics and Say’s Law

What is Say’s Law?

Answer 5

Who: Jean-Baptiste Say

• supported Smith’s work /own theory
• The Supply would be traded (demand) for other goods and services. Say and other Classical economics believe that producers only produce goods people willing to buy.*
• “Supply creates its own demand” = Say’s Law*

Question 6

Answer 6

Fully flexible wages, prices, and interest rates result in an economy that quickly stabilizes.

A proposal that “supply creates its own demand” is called Say’s Law.

Because the economy is self-correcting, there is no need for government involvement.

According to Classical economists, the aggregate supply curve is more vertical

Classical economists believe the economy is inherently stable

Question 7

03.02 Aggregate Supply

Define short-run aggregated supply.

Answer 7

• Total amount of goods and services that firms are willing and able to produce within economy.*
• short-run, long-run, and immediate short-run

Question 8

03.02 Aggregate Supply

What is the immediate short-run? how does it relate to supply?

Answer 8

• few days to few months
• input and output fixed

Short-run supply curve: horizontal line at fixed price

Question 9

03.02 Aggregate Supply

What is the short-run? how does it relate to supply?

Answer 9

• input fixed and output varies
• Prices go up → produce more of producct
  
  • resource prices (especially wages) may not adjust
• SRAS: up-sloping shape

1. producers need time adjust changing resource costs
2. unemployment recources at lower level = SRAS relatively flat
3. Rising levels = produce more until full capacity

Question 10

03.02 Aggregate Supply

What is the long-run? how does it relate to supply?

Answer 10

• input and output is variable
• price lvel not affect supply
• Supply determined:
  
  1. level of productivity
  2. supply of resources (especially capital and labor)
• Market-forces: self-adjusted to changes

Curve: verticle & economy using all productive resources

1. label YF (Y → acronym national income)
2. Supply refers to potential output
3. Intersection of aggregated demand and SRAS = real or actual output

Question 11

03.02 Aggregate Supply

What are the three ranges of the short run aggreagate supply curve?

Answer 11

1. Keynesian (Horizontal) Range:
   
   • recession or depression
   • produce more at nearly same price - many unemployed resources
   • Keynesian: never at full employment of resources and price level is stable
     
     • reason unemployment result lack of demand
     • government step in and create demand
2. Intermediate Range:
   
   • approaching full-employment resources
   • healthy economy
3. Classical (Verticle) Range:
   
   • full employment resources
   • increase demand results higher prices and little or no more production
   • Classical
     
     • economy self-correcting

Question 12

03.02 Aggregate Supply

What are the 4 determinants of Short-run Aggregate supply?

Answer 12

1. Resouce Prices
2. Actions by the government
3. Political or environmental phenonema
4. Productivity

Question 13

03.02 Aggregate Supply

Determinant of SRAS: Resource Prices (explain and its effect)

Answer 13

changes in input prices raw materials

1. Resource prices fall → SRAS increases
2. Resource prices rise → SRAS decrease

Question 14

03.02 Aggregate Supply

Determinant of SRAS: Action by government (explain and its effect)

Answer 14

Changes in business taxes, business subsidies, and business regulations

• SRAS decreases:
  
  • taxes rise
  • subsidies fall
  • regulations increase
• SRAS increase:
  
  • taxes fall
  • subsidies rise
  • regulations decrease

Question 15

03.02 Aggregate Supply

Determinant of SRAS: Political or environmental phenonema (explain and its effect)

Answer 15

Changes in inflationary expectations, wars, and natural disasters

• SRAS decreases:
  
  • inflationary expectations increase
  • war or other natural disaster
• SRAS increases:
  
  • inflationary expectations decrease

Question 16

03.02 Aggregate Supply

Determinant of SRAS: Productivity (explain and its effect)

Answer 16

Changes in technology, worker education, or other factors that affect productivity

• SRAS increases:
  
  • technology increases
  • education increase
  • productivity increase
• SRAS decrease:
  
  • technology decreases
  • workers education decrease
  • productivity decrease

Question 17

03.02 Aggregate Supply

New laws result in an influx of highly educated immigrants. Aggregate supply will

1. increase.
2. decrease.
3. remain the same.

Answer 17

1. increase

Question 18

03.02 Aggregate Supply

Young adults of today, as a group, are more highly educated than the previous generation. The determinant causing the shift in this scenario is

1. price.
2. resource cost.
3. productivity.
4. government intervention (taxes, subsidies, or regulations).
5. political or environmental phenomena
6. consumer spending.

Answer 18

3. productivity

Question 19

03.02 Aggregate Supply

Congress votes to substantially increase the minimum wage. Aggregate supply will

1. increase.
2. decrease.
3. remain the same.

Answer 19

2. decrease

Question 20

03.02 Aggregate Supply

The government cuts business taxes by 10%. Aggregate supply will

1. increase.
2. decrease.
3. remain the same.

Answer 20

1. increase

Question 21

03.02 Aggregate Supply

Congress votes to increase farm subsidies by 15%. The determinant causing the shift in this scenario is

1. price.
2. productivity.
3. resource cost
4. government intervention (taxes, subsidies, or regulations).
5. political or environmental phenomena
6. consumer spending.
7. investment.

Answer 21

4. government intervention (taxes, subsidies, or regulations).

Question 22

03.02 Aggregate Supply

A new process for producing glass revolutionizes the industry. Aggregate supply will

1. increase.
2. decrease.
3. remain the same.

Answer 22

increase

Question 23

03.02 Aggregate Supply

A new process for producing glass revolutionizes the industry. The determinant causing the shift in this scenario is

1. price.
2. productivity.
3. resource cost
4. government intervention (taxes, subsidies, or regulations).
5. political or environmental phenomena
6. consumer spending.

Answer 23

2. productivity

Question 24

03.02 Aggregate Supply

New sources of silicon are located in Wyoming. The determinant causing the shift in this scenario is

1. price.
2. productivity.
3. resource cost
4. government intervention (taxes, subsidies, or regulations).
5. political or environmental phenomena

Answer 24

3. resource cost

Question 25

# 03.02 Aggregate Supply Short-run aggregate supply 1. is down sloping because producers supply less at higher prices. 2. is up sloping because producers supply less at higher prices. 3. shows how much Americans are willing and able to consume at each price level. 4. shows the various amounts that producers are willing and able to produce at each price level. 5. is up sloping because consumers demand more at higher prices.

Answer 25

**4.** shows the various amounts that producers are willing and able to produce at each price level

Question 26

# 03.02 Aggregate Supply Classical economists believe that 1. the economy will adjust to at full employment of resources. 2. the economy was never at full employment of resources. 3. the producer can produce more of the product at the same price. 4. the economy is approaching full employment as wages and prices increase. 5. there are many unemployed resources.

Answer 26

**1.** the economy will adjust to at full employment of resources

Question 27

# 03.02 Aggregate Supply If a new microchip technology was infused into all production processes, then 1. there is a movement down the AS curve as price level decreased. 2. AS shifts right and price level would decrease. 3. AS shifts right and price level would increase. 4. AS shifts left and price level would decrease. 5. AS shifts left and the price level would increase.

Answer 27

**2.** AS shifts right and price level would decrease

Question 28

# 03.02 Aggregate Supply If the best weather in years increased food production in the Midwest, then 1. there is a movement down the AS curve as price level decreased. 2. AS shifts right and price level would decrease. 3. AS shifts right and price level would increase. 4. AS shifts left and price level would decrease. 5. AS shifts left and the price level would increase.

Answer 28

**2.**AS shifts right and price level would decrease

Question 29

# 03.02 Aggregate Supply If Midwestern farmers were awarded record subsidies, then 1. there is a movement down the AS curve as price level decreased. 2. AS shifts right and price level would decrease. 3. AS shifts right and price level would increase. 4. AS shifts left and price level would decrease. 5. AS shifts left and the price level would increase.

Answer 29

**2.** AS shifts right and price level would decrease

Question 30

# 03.02 Aggregate Supply If an economic crisis caused the collapse of the automobile industry, then 1. there is a movement down the AS curve as output decreased. 2. AS shifts right and output would decrease. 3. AS shifts right and output would increase. 4. AS shifts left and output would decrease. 5. AS shifts left and the output would increase.

Answer 30

4. AS shifts left and output would decrease

Question 31

# 03.02 Aggregate Supply If subsidies were given to all road construction firms in the U.S as part of a stimulus package, then 1. there is a movement down the AS curve as output decreased. 2. AS shifts right and output would decrease. 3. AS shifts right and output would increase. 4. AS shifts left and output would decrease. 5. AS shifts left and the output would increase.

Answer 31

**3.** AS shifts right and output would increase

Question 32

# 03.02 Aggregate Supply OPEC radically cuts back on the production of oil used by U.S. manufacturers. Aggregate supply will 1. increase. 2. decrease. 3. remain the same.

Answer 32

**2.** decrease

Question 33

# 03.02 Aggregate Supply OPEC radically cuts back on the production of oil used by U.S. manufacturers. The determinant causing the shift in this scenario is 1. price. 2. productivity. 3. resource cost 4. government intervention (taxes, subsidies, or regulations).

Answer 33

**3.** resource cost

Question 34

# 03.02 Aggregate Supply Consumer spending increases suddenly. Aggregate supply will 1. increase. 2. decrease. 3. remain the same.

Answer 34

**3.**remain the same

Question 35

# 03.02 Aggregate Supply Which of the following statements is true about the Keynesian range of the short-run aggregate supply curve? 1. Price level is increasing at all production levels. 2. Price level is decreasing at all production levels. 3. Price level is nearly constant at all production levels. 4. Price level may increase or decrease as production increases or decreases. 5. Output is constant at all production levels.

Answer 35

**3.** Price level is nearly constant at all production levels

Question 36

# 03.02 Aggregate Supply Which of the following statements is true about the Classical range of the short-run aggregate supply curve? 1. Price level is decreasing at all production levels. 2. Price level is constant at all production levels. 3. Output is increasing at all production levels. 4. Output may increase or decrease as price level increases or decreases. 5. Output is nearly constant at all production levels.

Answer 36

**5.** Output is nearly constant at all production levels

Question 37

# 03.02 Aggregate Supply When the economy is at full employment of resources, 1. the economy is operating in the vertical segment of the SRAS curve. 2. the economy is operating in the intermediate segment of the SRAS curve. 3. the economy is operating in the horizontal segment of the SRAS curve. 4. there is no unemployment in the economy. 5. there is no inflation in the economy.

Answer 37

**1.** the economy is operating in the vertical segment of the SRAS curve

Question 38

# 03.02 Aggregate Supply A healthy economy would operate 1. in the Keynesian range of the SRAS. 2. in the Intermediate range of the SRAS. 3. in the Classical range of the SRAS. 4. in the vertical range of the SRAS. 5. in the horizontal range of the SRAS.

Answer 38

**2.** in the Intermediate range of the SRAS

Question 39

# 03.02 Aggregate Supply Keynes believed that 1. the economy was always at full employment of resources. 2. the economy was never at full employment of resources. 3. the economy was self-correcting. 4. any increase in demand will only be met with higher prices and little or no more production. 5. wages and prices increase to attain full employment of resources.

Answer 39

**2.** the economy was never at full employment of resources.

Question 40

# 03.02 Aggregate Supply If the tourist industries were awarded subsidies due to the downturn in the economy, then 1. there is a movement down the AS curve as output decreased. 2. AS shifts right and output would decrease. 3. AS shifts right and output would increase. 4. AS shifts left and output would decrease. 5. AS shifts left and the output would increase.

Answer 40

**3.** AS shifts right and output would increase

Question 41

# 03.03 Aggregate Demand Define aggregate demand (AD)?

Answer 41

*Total quantity of output demanded by individuals (consumers), business (industry), and government at different price levels in a given time.*

Question 42

# 03.03 Aggregate Demand How is aggregate demand different from demand?

Answer 42

* Price of one good or service not really reflected in AD unless there is no substitute

Question 43

# 03.03 Aggregate Demand What is the formula for Aggregate Demand?

Answer 43

***AD = C + Ig + G + (X – M)*** * AD - aggregate demand * C - consumer spending * Ig - investment spending * G - government purchases * (X - M) - Net Exports [e**x**ports - i**m**ports]

Question 44

# 03.03 Aggregate Demand How does Aggregate Demand compare to GDP?

Answer 44

AD about **spending** & GDP is about **production** * GDP not include transfer payments; no good or service is produced in transaction * AD include transfer payments; consumer spending change with change in income

Question 45

# 03.03 Aggregate Demand What is Consumer Spending (in relation to AD)?

Answer 45

*All goods purchased (consumed) by households.* * largest portion AD (2/3 percent) * Too much results in _demand pull inflation_

Question 46

# 03.03 Aggregate Demand What 4 concepts effect consumer spending?

Answer 46

1. **Consumer Wealth**: * greater income = more consumer spending * less income = less consumer spending 2. **Consumer expectation**: * except economy to do well = spend more money 3. **Consumer Indebtedness**: * more debt = not spend more new money 4. **Taxes and transfer payments**: * lower taxes = more money to spend * higher taxes = decreases spending ability * -- * more transfer payments = more income to save and spend

Question 47

# 03.03 Aggregate Demand What is investment spending and what are the 4 determinants?

Answer 47

* All goods and services purchased by businesses make products.* * Gross private investment; not net investment* 1. **Interest Rates:** * lowerst rates → stimuate investment spending * higher rates → less investment spending 2. **Profit expectations on projects:** * business except high profits → more likely borrow money for investment spending 3. **Degree of excess capacity:** (how much factory space is used) * high degree excess capacity = lot empty room = no need engage investment spending * low degree = encourage investment spending 4. **Producer confidence:** * except economy improve = increase investment spending

Question 48

# 03.03 Aggregate Demand Define Government Spending (AD)

Answer 48

Purchased by government (*not transfer payments)*

Question 49

# 03.03 Aggregate Demand Describe the aggergate demand curve

Answer 49

* similar demand curve * Slope increase - real gross domestic product will be lower and as price levels drop

Question 50

# 03.03 Aggregate Demand What is the difference between _price_ and _price level_?

Answer 50

* Price: *supply and demand curve & indicates how much one product will cost at each point* * Price Level: *average price all goods and services in economy*

Question 51

# 03.03 Aggregate Demand What are the three reasons the AD is downwards sloping?

Answer 51

1. ***Wealth Affect***: * Price rise → real value of household income decline and consumer spending drops * Drop = decrease in real GDP 2. ***Interest Rate Affect***: * Price **rise** - real value household income declines * Continue current lifestyle: borrow money * Increase demands for loans → increase interest rate * Interest rates increase → 1. less investment spending by businesses 2. consumers put off buying high ticket items like homes 3. decrease real GDP * Price **drop** - interest rates decrease * consumer and investment spending increase * increase real GDP 3. ***Net Exports (Foreign Trade) Effect:*** * price **rise**: buy cheaper goods & fewer domestic products = _decrease net exports_ * Demand foreign products increase = interest rates abroad increase * Domestic" more appealing put money overseas assests rather keeping in domestic financial assets * decrease real GDP * Price **decrease**: reverse

Question 52

# 03.03 Aggregate Demand Congress decreases personal income taxes. Aggregate demand will 1. increase. 2. decrease. 3. remain the same.

Answer 52

**1.** increase

Question 53

# 03.03 Aggregate Demand Congress decreases personal income taxes. Which determinant of aggregate demand causes the change? 1. Price 2. Consumer spending 3. Investment spending 4. Government spending 5. Net exports 6. Productivity 7. Resource cost 8. Government intervention (taxes, subsidies, or regulations) 9. None of the above

Answer 53

**2.** Consumer spending

Question 54

# 03.03 Aggregate Demand Consumers rush to purchase new gaming systems and other electronic goods. Aggregate demand will 1. increase. 2. decrease. 3. remain the same

Answer 54

**1.** increase

Question 55

# 03.03 Aggregate Demand Consumers rush to purchase new gaming systems and other electronic goods. Which determinant of aggregate demand causes the change? 1. Price 2. Consumer spending 3. Investment spending 4. Government spending 5. Net exports 6. Productivity

Answer 55

**2.** Consumer spending

Question 56

# 03.03 Aggregate Demand Manufacturers begin building a new plant in Arizona. Aggregate demand will 1. increase. 2. decrease. 3. remain the same

Answer 56

**1.** increase.

Question 57

# 03.03 Aggregate Demand Manufacturers begin building a new plant in Arizona. Which determinant of aggregate demand causes the change? 1. Price 2. Consumer spending 3. Investment spending 4. Government spending 5. Net exports 6. Productivity

Answer 57

**3.** Investment spending

Question 58

# 03.03 Aggregate Demand Congress authorizes expansion of the shuttle program. Aggregate demand will 1. increase. 2. decrease. 3. remain the same

Answer 58

**1.** increase

Question 59

# 03.03 Aggregate Demand Congress authorizes expansion of the shuttle program. Which determinant of aggregate demand causes the change? 1. Price 2. Consumer spending 3. Investment spending 4. Government spending 5. Net exports 6. Productivity

Answer 59

**4.** Government spending

Question 60

# 03.03 Aggregate Demand Imports of foreign automobiles increase 10%. Aggregate demand will 1. increase. 2. decrease. 3. remain the same.

Answer 60

**2.** decrease

Question 61

# 03.03 Aggregate Demand Imports of foreign automobiles increase 10%. Which determinant of aggregate demand causes the change? 1. Price 2. Consumer spending 3. Investment spending 4. Government spending 5. Net exports 6. Productivity

Answer 61

**5.** Net exports

Question 62

# 03.03 Aggregate Demand Fair weather helps produce the largest crop of peanuts in a decade. Aggregate demand will 1. increase. 2. decrease. 3. remain the same.

Answer 62

**3.** remain the same

Question 63

# 03.03 Aggregate Demand Fair weather helps produce the largest crop of peanuts in a decade. Which determinant of aggregate demand causes the change? 1. Price 2. Consumer spending 3. Investment spending 4. Government spending 5. Net exports 6. Productivity 7. Resource cost 8. Government intervention (taxes, subsidies, or regulations) 9. None of the above

Answer 63

**9.** None of the above

Question 64

# 03.03 Aggregate Demand Unemployment drops as more jobless Americans find positions in local businesses. Aggregate demand will 1. increase. 2. decrease. 3. remain the same.

Answer 64

**1.** increase

Question 65

# 03.03 Aggregate Demand Tourists flock to the United States for vacation after disposable income rises in Europe. Aggregate demand will 1. decrease. 2. increase. 3. remain the same.

Answer 65

**2.** increase

Question 66

# 03.03 Aggregate Demand The Government Accounting Office (GAO) announces deep cuts to social security, Medicare, and welfare programs. Aggregate demand will 1. increase. 2. decrease. 3. remain the same

Answer 66

**2.** decrease

Question 67

# 03.03 Aggregate Demand The wealth effect states that 1. as price levels fall, interest rates decrease and real GDP increases. 2. as prices rise in an economy, consumers tend to buy cheaper foreign products and fewer domestic products. 3. if price levels drop, the value of money is higher, and consumers will spend more. 4. aggregate demand can increase any time there is an increase in consumption, investment, government spending, or net exports. 5. aggregate demand can decrease any time there is a decrease in consumption, investment, government spending, or net exports.

Answer 67

**3.** if price levels drop, the value of money is higher, and consumers will spend more

Question 68

# 03.03 Aggregate Demand The interest rate effect states that 1. as price levels fall, interest rates decrease and real GDP increases. 2. as prices rise in an economy, consumers tend to buy cheaper foreign products and fewer domestic products. 3. if price levels drop, the value of money is higher, and consumers will spend more. 4. aggregate demand can increase any time there is an increase in consumption, investment, government spending, or net exports. 5. aggregate demand can decrease any time there is a decrease in consumption, investment, government spending, or net exports.

Answer 68

**1.** as price levels fall, interest rates decrease and real GDP increases

Question 69

# 03.03 Aggregate Demand The exchange rate effect states that 1. as price levels fall, interest rates decrease and real GDP increases. 2. as prices rise in an economy, consumers tend to buy cheaper foreign products and fewer domestic products. 3. if price levels drop, the value of money is higher, and consumers will spend more. 4. aggregate demand can increase any time there is an increase in consumption, investment, government spending, or net exports. 5. aggregate demand can decrease any time there is a decrease in consumption, investment, government spending, or net exports.

Answer 69

**2.** as prices rise in an economy, consumers tend to buy cheaper foreign products and fewer domestic products

Question 70

# 03.03 Aggregate Demand Newspapers report that consumer debt is at an all time high. Aggregate demand will 1. increase. 2. decrease. 3. remain the same.

Answer 70

**2.** decrease

Question 71

# 03.03 Aggregate Demand Personal income tax cuts increase consumer incentive to save and spend. Aggregate demand will 1. increase. 2. decrease. 3. remain the same.

Answer 71

**1.** increase

Question 72

# 03.03 Aggregate Demand Tax cuts increase consumer incentive to save. Which determinant(s) of aggregate demand cause the change? 1. Price 2. Consumer spending only 3. Investment spending and consumer spending 4. Government intervention (taxes, subsidies, or regulations) 5. Productivity and consumer spending

Answer 72

**3.** Investment spending and consumer spending

Question 73

# 03.03 Aggregate Demand Aggregate demand is the total quantity of 1. consumer spending, government spending, investment spending and exports supplied in an economy during a given time period. 2. consumer spending, government spending and investment spending in an economy during a given time period. 3. output supplied by individuals (consumers), businesses (industry), and the government at different price levels in a given time period. 4. of output produced by individuals (consumers), businesses (industry), and the government at different price levels in a given time period. 5. output demanded by individuals (consumers), businesses (industry), and the government at different price levels in a given time period.

Answer 73

**5.** output demanded by individuals (consumers), businesses (industry), and the government at different price levels in a given time period

Question 74

# 03.03 Aggregate Demand When price level decreases, 1. AD will shift left. 2. AD will shift right. 3. there will be a movement to the right along the AD curve. 4. there will be a movement to the left along the AD curve. 5. a corresponding decrease in output will always occur.

Answer 74

**3.** there will be a movement to the right along the AD curve

Question 75

# 03.03 Aggregate Demand All of the following will cause an increase in aggregate demand except an increase in 1. consumer confidence. 2. business inventories. 3. personal income taxes. 4. national exports. 5. road projects.

Answer 75

**3.** personal income taxes

Question 76

# 03.03 Aggregate Demand All of the following will cause a decrease in aggregate demand except 1. an increase in imports. 2. an increase in exports. 3. a decrease in consumer spending. 4. a decrease in national income. 5. a decrease in business expansion.

Answer 76

**2.** an increase in exports

Question 77

# 03.03 Aggregate Demand If consumer debt increases as a result of a nationwide spending spree, then 1. there is a movement down the AD curve as output decreased. 2. AD shifts right and output would decrease. 3. AD shifts right and output would increase. 4. AD shifts left and output would decrease. 5. AD shifts left and the output would increase.

Answer 77

**4.** AD shifts left and output would decrease

Question 78

# 03.03 Aggregate Demand If consumer wealth decreases as the stock market plunges, then 1. there is a movement down the AD curve as price level decreased. 2. AD shifts right and price level would decrease. 3. AD shifts right and price level would increase. 4. AD shifts left and price level would decrease. 5. AD shifts left and the price level would increase.

Answer 78

**4.** AD shifts left and price level would decrease

Question 79

# 03.03 Aggregate Demand If consumer wealth increases as the stock market rebounds, then 1. there is a movement down the AD curve as output decreased. 2. AD shifts right and output would decrease. 3. AD shifts right and output would increase. 4. AD shifts left and output would decrease. 5. AD shifts left and the output would increase.

Answer 79

**3.** AD shifts right and output would increase

Question 80

# 03.03 Aggregate Demand If interest rates increase, then 1. there is a movement down the AD curve as output decreased. 2. AD shifts right and output would decrease. 3. AD shifts right and output would increase. 4. AD shifts left and output would decrease. 5. AD shifts left and the output would increase.

Answer 80

**4.** AD shifts left and output would decrease

Question 81

# 03.03 Aggregate Demand If interest rates decrease, then 1. there is a movement down the AD curve as price level decreased. 2. AD shifts right and price level would decrease. 3. AD shifts right and price level would increase. 4. AD shifts left and price level would decrease. 5. AD shifts left and the price level would increase.

Answer 81

**3.** AD shifts right and price level would increase

Question 82

If foreigners find U.S. goods more desirable and less costly, then 1. there is a movement down the AD curve as price level decreased. 2. AD shifts right and price level would decrease. 3. AD shifts right and price level would increase. 4. AD shifts left and price level would decrease. 5. AD shifts left and the price level would increase.

Answer 82

**3.** AD shifts right and price level would increase

Question 83

# 03.04 The Expenditure and Tax Multipleirs 03.04 THE EXPENDITURE AND TAX MULTIPLIERS

Question 84

# 03.04 The Expenditure and Tax Multipleirs Define **marginal prospensity to consume** (MPC):

Answer 84

*Change in the amount of additional income you are willing to spend on buying some consumer goods or services divided by change in disposable income* {Change in Consumer Spending} ÷ {Change in Income} * how much you spend of every extra dollar you earn * MPC = ΔConsumption /ΔIncome

Question 85

# 03.04 The Expenditure and Tax Multipleirs Define **marginal propensity to save** (MPS):

Answer 85

*Change in amount of additional income you are willing to save (not spend) on consumer goods divided change disposable income.* * {Change in saving} ÷ {Change in income} * MPS = ΔSavings/ΔDisposable Income * spend of every extra dollar you earn

Question 86

# 03.04 The Expenditure and Tax Multipleirs What is MPC + MPS?

Answer 86

MPC + MPS will always equal "1"

Question 87

# 03.04 The Expenditure and Tax Multipleirs What is the multiplier effect?

Answer 87

When you spend a dollar, whomever you give it to spends it, and that company or person spends it, and so on and so on * consumer, government, investment spending chagnes - economy exands more than just initial value

Question 89

# 03.04 The Expenditure and Tax Multipleirs What is the Expenditure Multiplier formula?

Answer 89

Expenditure (Spending) Multiplier: 1. 1/(1-MPC) 2. 1/MPS 3. (ΔGDP)/(ΔSpending) **ΔExpenditures (Spending) × Multiplier = ΔGDP**

Question 90

# 03.04 The Expenditure and Tax Multipleirs What is the formula for tax multiplier?

Answer 90

Tax Multiplier = 1. –MPC / MPS 2. (ΔGDP) / (ΔTaxes) ΔTaxes × Multiplier = ΔGDP

Question 91

# 03.04 The Expenditure and Tax Multipleirs How do you calculate the change in GDP of the exchange multiplier?

Answer 91

**ΔGDP = Multiplier x Δ(spending or taxes)**

Question 92

# 03.04 The Expenditure and Tax Multipleirs Why is the tax multiplier always less than the expenditure multiplier?

Answer 92

* change government spending hits economy right away * Delayed impact in change of taxes * adjust what people do with savings when personal taxes change * _Decrease_: save some of what they get back * _Increase_: take money out of savings

Question 93

# 03.04 The Expenditure and Tax Multipleirs What are the most frequently used multipliers?

Answer 93

Question 94

# 03.04 The Expenditure and Tax Multipleirs What is the Balanced Budget Multiplier?

Answer 94

* Government wants to increase GDP without increasing national debt How: 1. change taxes and spending by same amount 2. balanced budget multiplier used creating change in GDP equal change in government spending _Balanced Budget Multiplier:_ * equal to 1

Question 95

# 03.05 Equilibrium in the AD and AS Model 03.05 Equilibrium in the AD/AS Model

Question 96

# 03.05 Equilibrium in the AD and AS Model Describe the aggregate demand curve in long-run equilibrium:

Answer 96

Must equal short-run aggregate supply curve (SRAS) and long-run aggragate supply curve (LRAS) ## Footnote *full employment and most efficient*

Question 97

# 03.05 Equilibrium in the AD and AS Model Describe the type of unemployment that exists in the economy in the long-run equilibrium.

Answer 97

Structural and frictional unemployment Intersection above or below: more or less unemployment

Question 98

# 03.05 Equilibrium in the AD and AS Model How does the graph look if there is an inflationary gap?

Answer 98

*equilibrium is above full employment*

Question 99

# 03.05 Equilibrium in the AD and AS Model How does the graph look if there is a recessionary gap?

Answer 99

*equilibrium is below full employment*

Question 100

# 03.05 Equilibrium in the AD and AS Model How does stagflation occur?

Answer 100

* SRAS shifts left = **stagflation** * Price levels increase (inflation) & output decrease (unemployment) * increase inflation * decrease unemployment

Question 101

03.06 Economic Growth and Productivity

Question 102

What is the most importantt factor impacting real economic growth?

Answer 102

PRODUCTIVITY

Question 103

How is productivity estimated and how does it grow?

Answer 103

_Productivty_ = Real Output ÷ Input _Factors_: 1. increase real investment or capital 2. improvement in workers skills (human capital) 3. technological advancement 4. legal and social environment that rewwards achievement and improves economic organization 5. new resources

Question 105

How does interest rates contribute to economic growth? How do banks use money?

Answer 105

* investment spending dependent on interest rates * Uses money to loan out to businesses * increases investment spneidng * Long-run: more capital investment occurs * increase economic growth Change interest rates → change in economic growth caused by change in capital investment

Question 106

What is the _Rule of 70_?

Answer 106

* Divide 70 by annual percentage rate of growth * determine how long it taks GDP to double

Question 107

What is the different between economic growth and productivity?

Answer 107

**Economic growth** is changed by _new resources_ (including capital investment) and **productivity** and refers to _long-run activities in the economy_. ## Footnote *On the AP exam, always assume the question is asking about the short-run unless the question specifically mentions economic growth or long-run changes.*

Question 108

# 03.07 Keynesian Economics and Fiscal Policy 06.07 Keynesian Economic and Fiscal Policy

Question 109

# 03.07 Keynesian Economics and Fiscal Policy What is Keynesian Theory based on?

Answer 109

* economy may be in **equilibrium in short-run** (either above or below full employment) Truth: * economy is inherently unstable * not enough demand goods and services

Question 110

# 03.07 Keynesian Economics and Fiscal Policy How does Keynesians regard **price levels**?

Answer 110

* not a factor * output is constantly changing but price levels stable * prices and wages "sticky" or downwardly inflexible * Result: * government actively pursue **monetary policies** (Federal Reserves Bank) & **fiscal policies** (Congress and most reliable) * why: reach price level, employment, output goals * Shift AD as method of controlling the economy

Question 111

# 03.07 Keynesian Economics and Fiscal Policy What is the role of the government in Keynesian Theory?

Answer 111

*Role to correct problems in the economy* * close tabs on economy to ensure that inflation or recession does not cause problems * Problem: discretionary _fiscal policy_ correct it * discretionary → take some sort of actions using specific tools 1. change government expenditures or tax

Question 112

# 03.07 Keynesian Economics and Fiscal Policy How can the government improve the economy if it slowed down (or a recession is comming)?

Answer 112

Increase Aggregate Demand → increase government expenditure Example: 1. increase **wages** government employees (teachers) 2. increase spending on roads to **build infrustructure**

Question 113

# 03.07 Keynesian Economics and Fiscal Policy What does the government do when the economy is growing too rapidly?

Answer 113

*Decrease AD* 1. delay or cancel road repairs 2. cancel grants teachers

Question 114

# 03.07 Keynesian Economics and Fiscal Policy What is the relationship between government spending and AD?

Answer 114

An increase in government spending directly increases AD and a decrease in government spending directly decreases AD.

Question 115

# 03.07 Keynesian Economics and Fiscal Policy What are the two ways the government can intervene in the economy?

Answer 115

1. Increase or decrease **government spending** 2. increase or decrease **taxes**

Question 116

# 03.07 Keynesian Economics and Fiscal Policy How can the government intervene in the economy through taxation?

Answer 116

1. Personal income tax 2. excise tax (taxes required on specific goods or services like fuel, tobacco, and alcohol) 3. corporate taxes

Question 117

# 03.07 Keynesian Economics and Fiscal Policy How does the Keynesians think taxation should be implimented

Answer 117

Advocate change in personal income tax (*goal is to shift AD)*

Question 118

# 03.07 Keynesian Economics and Fiscal Policy How can the government respond to a slowing economy (besides increasing government spending)? What can be done if the economy is moving to fast?

Answer 118

Slower: Lower taxes Faster: increase taxes

Question 119

# 03.07 Keynesian Economics and Fiscal Policy Why would the government change both government expenditure and taxation?

Answer 119

Ensure the federal budget is balanced

Question 120

# 03.07 Keynesian Economics and Fiscal Policy What are the Fiscal Policy tools?

Answer 120

Increase aggregate demand to stimulate growth: ## Footnote **1. Government expenditure:** *Increase government spending on programs*. Leads to: * increased aggregate demand * more people with jobs * more income * more spending * increased employment * more output **2. Personal Income taxes**: Decrease (cut) personal income taxes leads to more disposable income for consumers. Consumption increases which leads to increased aggregate demand. Decrease aggregate demand to slow growth: **1. Government expenditure:** *Decrease or cut government spending on programs.* Leads to: * decreased aggregate demand * federal workers cutback in pay * less income * less spending * decreased employment * less output **2. Personal Income taxes:** Increase (raise) personal income taxes leads to less disposable income for consumers. Consumption decreases which leads to decreased aggregate demand.

Question 121

# 03.07 Keynesian Economics and Fiscal Policy What are the steps to solve a multiplier problem?

Answer 121

**Step 01:** Find the difference between real and potential GDP **Step 02:** Determine if you need to increase or decrease AD. *Always want to be at potential GDP rather than RGDP* **Step 03:** Find tax and expenditure multipliers * Expenditure Multiplier*: 1/(1 - MPC)* * Find MPS: *1 - MPC* * Tax Multiplier: *MPC / MPS* **Step 04:** Divide difference between real and potential GPD by tax and expenditure multipliers **Step 05:** Determine if you increase of decrease taxes and Expenditure

Question 122

# 03.07 Keynesian Economics and Fiscal Policy What is the difference between expansionary monetary policies and contractionary monetary policies?

Answer 122

Expansionary monetary policy is simply a policy which expands (increases) the supply of money, whereas contractionary monetary policy contracts (decreases) the supply of a country's currency.Dec 23, 2018

Question 123

# 03.07 Keynesian Economics and Fiscal Policy When looking at an AD/AS graph with LRAS, the intersection of AD/AS 1. is potential GDP and LRAS represents full employment GDP. 2. represents full employment GDP and LRAS is potential GDP. 3. represents full employment GDP and LRAS represents RGDP 4. represents RGDP and LRAS is potential GDP. 5. is potential GDP and LRAS represents RGDP.

Answer 123

**4.** represents RGDP and LRAS is potential GDP

Question 124

# 03.07 Keynesian Economics and Fiscal Policy What is the problem in the economy illustrated in the graph above? 1. Stagflation 2. Inflation 3. Unemployment 4. Expansion 5. Economic growth

Answer 124

**3.** Unemployment

Question 125

# 03.07 Keynesian Economics and Fiscal Policy If Congress wants to increase aggregate demand, they could 1. increase the amount of personal income taxes an individual pays. 2. decrease the amount of personal income taxes an individual pays. 3. decrease exports out of the nation. 4. decrease government purchases in the economy. 5. increase imports into the nation.

Answer 125

**2.** decrease the amount of personal income taxes an individual pays

Question 126

# 03.07 Keynesian Economics and Fiscal Policy If the government increases personal taxes, then 1. output will increase and price level will decrease. 2. output will decrease and price level will increase. 3. output and price level will increase. 4. output and price level will decrease. 5. output will increase and price level will be indeterminate.

Answer 126

**4.** output and price level will decrease

Question 127

# 03.07 Keynesian Economics and Fiscal Policy If real GDP is $200 billion, full employment GDP is $500 billion, and the marginal propensity to consume is 0.75, then Congress should 1. decrease taxes by $50 billion. 2. increase government purchases by $50 billion. 3. decrease government purchases by $50 billion. 4. decrease taxes by $100 billion. 5. increase government purchases by $300 billion.

Answer 127

**4.** decrease taxes by $100 billion

Question 128

# 03.07 Keynesian Economics and Fiscal Policy If real GDP is $400 billion, full employment GDP is $800 billion, and the marginal propensity to consume is 0.5, then Congress should 1. decrease taxes by $200 billion. 2. increase taxes by $400 billion. 3. increase purchases by an amount slightly more than $200 billion. 4. increase purchases by $200 billion. 5. increase purchases by $400 billion.

Answer 128

**4.** increase purchases by $200 billion

Question 129

# 03.07 Keynesian Economics and Fiscal Policy An example of a government transfer of funds would include 1. wages paid to the President as part of his salary. 2. Social Security paid to retired department of defense workers. 3. funds paid to secret service agents who protect the President. 4. expenses paid for grounds maintenance at the white house. 5. funds transferred when the President or members of Congress acquire a new bullet-proof limousine.

Answer 129

**2.** Social Security paid to retired department of defense workers

Question 130

# 03.07 Keynesian Economics and Fiscal Policy A change in personal income taxes impact gross domestic product through a change in 1. government spending. 2. investment spending. 3. autonomous consumer spending. 4. disposable income. 5. net exports.

Answer 130

**4.** disposable income

Question 131

# 03.07 Keynesian Economics and Fiscal Policy Using the graph above, the government should 1. increase taxes to close the inflationary gap. 2. decrease taxes to close the inflationary gap. 3. increase spending to close the inflationary gap. 4. decrease spending to close the recessionary gap. 5. decrease taxes to close the recessionary gap.

Answer 131

**5.** decrease taxes to close the recessionary gap

Question 132

# 03.07 Keynesian Economics and Fiscal Policy The government of an economy in equilibrium above potential output should 1. increase taxes to close the inflationary gap. 2. decrease taxes to close the inflationary gap. 3. increase spending to close the inflationary gap. 4. decrease spending to close the recessionary gap. 5. decrease taxes to close the recessionary gap.

Answer 132

**1.** increase taxes to close the inflationary gap

Question 133

# 03.07 Keynesian Economics and Fiscal Policy Assume an economy in long-run equilibrium. If there is a rise in the stock market that increases the value of stocks held by households, which of the following will be true? I. Inflationary gap develops. II. Recessionary gap develops. III. Expansionary policy should be used to return the economy to equilibrium. IV. Contractionary policy should be used to return the economy to equilibrium. V. Economy remains in long-run equilibrium. 1. V only. 2. I and III only. 3. II and III only. 4. I and IV only. 5. II and IV only.

Answer 133

**4.** I and IV only

Question 134

# 03.07 Keynesian Economics and Fiscal Policy Assume an economy in long-run equilibrium. If in an effort to reduce the debt the government decides to decrease spending on social programs, which of the following will be true? I. Inflationary gap develops. II. Recessionary gap develops. III. Expansionary policy should be used to return the economy to equilibrium. IV. Contractionary policy should be used to return the economy to equilibrium. V. Economy remains in long-run equilibrium. 1. V only. 2. I and III only. 3. II and III only. 4. I and IV only. 5. II and IV only.

Answer 134

**3.** II and III only

Question 135

# 03.07 Keynesian Economics and Fiscal Policy Which of the following correctly describes the cause and effect chain for a decrease in personal income taxes? 1. A decrease in taxes will decrease disposable income which increases consumer spending and shifts AD right. 2. A decrease in taxes will increase disposable income which increases consumer spending and shifts AD left. 3. A decrease in taxes will decrease disposable income which decreases consumer spending and shifts AD right. 4. A decrease in taxes will decrease disposable income which increases consumer spending and shifts AD left. 5. A decrease in taxes will increase disposable income which increases consumer spending and shifts AD right.

Answer 135

**5.** A decrease in taxes will increase disposable income which increases consumer spending and shifts AD right

Question 136

# 03.07 Keynesian Economics and Fiscal Policy Which of the following correctly describes the cause and effect chain for an increase in personal income taxes? 1. An increase in taxes will decrease disposable income which increases consumer spending and shifts AD right. 2. An increase in taxes will increase disposable income which increases consumer spending and shifts AD left. 3. An increase in taxes will decrease disposable income which decreases consumer spending and shifts AD right. 4. An increase in taxes will decrease disposable income which decreases consumer spending and shifts AD left. 5. An increase in taxes will increase disposable income which increases consumer spending and shifts AD right.

Answer 136

**4.** An increase in taxes will decrease disposable income which decreases consumer spending and shifts AD left