Econ final study guide
Econ final study guide Econ 102
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This 16 page Study Guide was uploaded by samantha Handwerger on Monday February 2, 2015. The Study Guide belongs to Econ 102 at Washington State University taught by Mark Gibson in Fall. Since its upload, it has received 199 views. For similar materials see Macro Economics in Economcs at Washington State University.
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Date Created: 02/02/15
Apply the basic principles of economics resource is anything that can be used to produce something else ie land labor capital ampamp resources are scarce the quantity available isn t large enough to satisfy all productive uses Thereaioianitemisits opportunity cost what you must give up in order to get it helps understand individual choice You make a trade off when you compare the costs with the benefits of doing something Decisions about whether to do a bit more or a bit less of an activity are marginal decisions An incentive is anything that offers rewards to people who change their behavior Examples 1 Price of gasoline rises people buy more fuelefficient cars 2 There are more wellpaid jobs available for college graduates with economics degrees more students major in economics market economy individuals engage in trade They provide goods and services to others and receive goods and services in return people can get more of what they want through trade than they could if they tried to be self sufficient An economic situation is in equilibrium when no individual would be better off doing something different An economy is efficient if it takes all opportunities to make some people better off without making other people worse off The incentives built into a market economy already ensure that resources are usually put to good use One party prevents mutually beneficial trades from occurring in the attempt to capture a greater share of resources for itself Overall Identify opportunity costs Opportunity Cost most valued opportunity of alternative you give up to do something that is something important to you making decision requires comparing the costs and bene ts of alternative choices opportunity cost of any item is whatever must be given up to obtain it We engage in tradeoffs everyday Ex Missing class to go sur ng you can risk not passing the class because you miss it for the good surf Perform marginal analysis Making trade offs at the margin comparing the costs and benefits of doing a little bit more of an activity versus doing a little bit lessThe study of such decisions is known as marginal analysis Examples Hiring one more worker studying one more hour eating one more cookie buying one more CD etc Graph and interpret a PPF use it to analyze opportunity cost feasibility efficiency other things equal Production Possibilities Frontier Shows all possible combinations of 2 goods that an economy can produce in a certain period of time the curve is a PPF The actual curve illustrates scarcity by creating by creating 2 regains 1 Consisting of points on the PPF amp below it represents what is available to us 2 The points beyond the PPF represent what is unavailable to us Figure CaQtion Figure 21 The Production Possibility Frontier The production possibility frontier illustrates the tradeoffs facing an economy that produces two goods It shows the maximum quantity of one good that can be produced given the quantity of the other good produced Here the maximum quantity of Dream liners that Boeing Quantity ofmeamlinesrs can produce depends on the quantity of small jets that Boeing can manufacture and vice versa His feasible production is shown by the area inside or on the curve 30 a a 9 0 Production at point C is feasible but not efficient Points 39 A and B are feasible and efficient in production but point D is not feasible The Production P nssiibiilliity lFrnntier Feasibie and e icierit Not in production feasrbie Feasible 9 butnot e icierrr I Production possibility frontier 1 PPF Quantity of smallijieis Vilncreasing Dppnrtunit y Cast Figure CaQtion Quantity of Dreamliners Figure 22 Increasing Opportunity Cost The bowedout shape of the production possibility as P gg g jgf sf migrggrgfggggup frontier re ects increasing opportunity cost In this I B d ut r0 ucin example to produce the first 20 small Jets Boeing must 3 A 20 marepsmalljefs give up 5 Dreamliners But to produce an additional 20 25 small jets he must give up 25 more Dreamliners 20 15 s39 gr i i l Identify What causes a PPF to shift 0 5 1 Economic Growth I j I I PPF I 0 10 20 30 40 50 Quantity of small jets 2 Change in Technology 3 Natural Disaster or WAR 4 Investment in Consumer goods IE If someone developed a faster computer or a more efficient way of manufacturing cars we might see a shift right in the PPF IE natural disaster to hit which destroys some of the inputs in the production process Imagine if a hurricane took out a factory then we would see lower production in the economy as a result shift to the left IE it capital grows over time then we could see the PPF curve shift out representing higher possibilities for production Identify absolute and comparative advantage Comparative Advantage means producer has a comparative advantage in the production of cats if he or she can produce a unit of cats at a lower opportunity cost than another extremely low productivity with few recourses lower because it can be produced very inef ciently or produced very ef ciently Absolute Advantage Absolute advantage means greaterproductive capacity A producer has an absolute advantage in the production of cats if he or she can produce more units of cats per period than another producer Chapter 3 Apply the competitive model of supply and demand A competitive market Many buyers and sellers Same good or service Demand curve Demand curves goes down from left to right slopes down because the supply curve is going to go up left to up Steep curve it will bottom out and the demand will disappear Supply curve supply curve shows the amount of a goods sellers are willing able to sell at various prices price is independent value Change in supply change in supply curve increase supply then shifts to the right and other way around Demand and supply curve shifts Increase in demand curve will shift to right decrease curve shifts to the left based off the change in the demand of the good The demand reasons to sift 1 Income money one has normal good demand risesfalls with income inferior good demand Price of cotton per pound Demand Cu rue A demand curve is the graphical representation of the demand schedule It shows how much of a good or service consumers want to buy at any given price Demand curve D l I 13 15 17 Quantity of cotton billions of pounds falls as income rises rises as income falls demand more with more money demand less of with less money neutral good good for demand remains unchanged as incomes rises or falls 2 preferencetaste time goes on and taste in goods change 3 Prices related goods substitutes complements 4 of buyers 5 Future Price Expatiations DETERMINANTS OF SUPPLY increase I Lower input prices increase in suppl supply Increase in Number of producers inc supply today Price of cotton per pound 200 175 150 39 125 100 075 050 l Expectations of lower future prices Increase In A supply curve shows graphically how lmlUdh of a SUPPWSWWEI good or service people are willing to sell at any given price l 11 1 3 15 1 7 IQua ntity of cotton lbil lions of pounds P Prices of other goods T Technology T Taxes and Subsidies DETERMINANTS OF DEMAND decrease I Lower income lower demand N Fewer consumers lower demand Expectations of lower future prices lower demand today P Prices of other goods T Tastes and preferences T Taxes and Subsidies Market equilibrium When there is no surplus and no shortage Where there is a shortage price goes UP Quantity of supply gt quantity of demand surplus Quantity of demand gt quantity of supply shortage Quantity of demand quantity of supply equilibrium Supply Demand work together not side by side Supply remains stable and increase demand the equilibrium price is increasing Demand Drops and supply remains the same the equilibrium price will move as demand moves STABLE demand and increase in supply equilibrium price drops we get more at a lower price Decrease supply then demand remains the same equilibrium price rises but quantity decreases Effect on Effect on 1 Market Equilibrium Equilibriu Equilibrium iquot WW I I 7 Elli Ol i I m Price Quantlty Mimi Marlket equilibrium Increase In Increase Increase mo Siiii39i occurs at IooIInt E where D 6 the supply curve and the emand Alone ght ght 115 demand curve intersect Increase In Decrease Increase V 150 Supply Alone left right I Ih I25 Simultaneous Shift both Increase 1353 i00 5 iiiiiiiiiii Increase in curves so right 075 050 Demand i i I I I I a 0 7 10 13 15 17 l Quantity of cotton billions of pounds I l l Equilibrium I I quantity l DemandSuppl equilibriu y msays consisten t Demand decrea5e5amp Effect Effect Supply increases on on Equili Equili brium brium Price Quant Piazza ity Mississauga 8 Increase in Demand Decre Decre Alone ase ase 39 left left quot Increase Decr Increase right in Supply ease Alone left UL 81915 12 1 Simultan Decr Shift both curves so eous ease equilibrium says Increase left consistent in Demand Supply Price of cotton per pound 200 115 150 125 100 075 050 39 Identify consumer and producer surplus Chapter 4 Graphically illustrate price ceilings price oors and Tlhere IS a surplus of la quotas good when tlhe quantity supplied exceeds the quantity demanded Surpluses occur when the price is above its equilibrium level Supply l Surplus Price Floor legal minimum on the price of a good or service Example minimum wage effect on market only when binding must be set above the equilibrium price Price oors cause a surplus unless something is done to prevent Price oors misallocate sales by Allowing highcost rms to operate amp Preventing lowcost rms from entering the industry Demand ll ll I ll 10 112 l3 15 17 Quantity of cotton Quantity billions of pounds demanded Quantity supplied Price ceiling consumers would like you because you know what you are paying a legal maximum on the price of a good or service Example rent control They do bene t some people who are typically better organized and more vocal than those who are harmed by them the price ceiling is longstanding buyers may not have a realistic idea of what would happen without iteffect on market must be set below the equilibrium price Below Shortage Above Surplus Governments sometimes control quantity instead of price Quota an upper limit set by the government on the quantity of some good that can be bought or sold also referred to as a quantity control the difference between the demand price and the supply price at the quota limit Equal to the market price of the license when the license is traded Quota limit the total amount of a good under a quota or quantity contrathat can be legally transacted Chapter 7 Calculate GDP three ways GDP Consumption purchases Investment purchases Government purchases Exports Imports GDP wages interest rent profit add up the value of all producers sales value of intermediate goods and services the producer bought from other firms Distinguish between What is and is not included in GDP GDP DOES NOT INCLUDE used goods aren t in GDP nancial assets aren t in GDP iee stocks and bonds intermediate goods aren t in GDP and imports aren t in GDP aka produced in other countries GDP Included domestically produced nal goods and services including capital goods new construction of structures changes to inventories Calculate real GDP using base period price Real GDP is the total value of the nal goods and services produced in the economy during a given year calculated using the prices of a selected base yeah Calculate a real GDP deflator Economists also use the GDP de ator which H Effectfa Quota on the Market for llfax39i Rides measures the price level by calculating the 323 ratio of nominal GDP to real GDP FEES mmmspewean Quantity Quantity 8 demanded supplied 700 5 14 A 550 7 13 500 a 12 E 550 9 11 500 10 10 450 11 9 B 400 12 a 350 13 7 300 14 a The GDP de ator for a given year is 100 times the ratio of nominal GDP to realGDP in that yeah Quota D l I l l 0 6 7 8 9 10 11 12 13 14 Quantity of rides millions per year Calculate a CPI or PPI for a given basket of goods Market Basket a hypothetical consumption bundle of consumers purchases of goods and services used to measure overall price level In ation is an increase in the overall level of prices In ation is caused by too much money chasing too few goods does not make everyone poorer affects incomes as well as prices Real Rate Nominal rate in ation rate Chapter 8 Calculate employment statistics Labor Force not in the labor force is everyone else employed unemployed labor force is the total number of workers including the employed and unemployed Unemployment rate 100 of unemployedlabor force Labor force participation rate 1 00 labor forceadult population Population labor force not in labor force Classify types of unemployment and how the types relate to the natural rate of unemployment full employment Discouraged workers would like to work but have given up looking for jobs classified as not in the labor force rather than unemployed Marginally Attached Workers would like to be employed and have looked for a job in the recent past but are not currently looking for work Underemployment is the number of people who work part time because they cannot find full time jobs Unemployed people not working who have looked for work during previous 4 weeks Employed paid employees self employed and unpaid workers in a family business Full Employment if there is no cyclical unemployment the economy is said to have achieved full employment not zero but only frictional structural unemployment Natural Rate of Unemployment The natural rate of unemployment is the unemployment rate that s consistent with equilibrium in the labor market If the unemployment rate is equal to the natural rate the labor market is neither slack nor tight and there is no tendency for nominal wages to change actual frictional structural cyclical actual natural rate cyclical the actual unemployment rate rises above the natural rater during a recession and falls below the natural rate during a boom Causes a Change Changes in characteristics of the labor force Changing demographics Changes in labor market institutions unions temp agencies and new technology Changes in government policies job training programs generosity of unemployment compensation Identify costs of in ation gtp quot In ationrise in overall rices What are the Redistributive Effects of In ation Savers who earn a xed rate of interest lose while debtors gain from unanticipated in ation People whose income is in the form of xed pension payments lose while the pension providers gain Workers whose wages do not keep pace with in ation lose purchasing power while their employers gain Holders of money balances lose while governments gain Causes in ation Economy money supply total quantity of assets that can be readily used to make purchases hyperin ation rise in the cost of living Business cycle economy down and jobs are hard to find in ation falls economy booming in ation rises People don t want to hold on to cash no price stability Chapter 9 Apply the rule of 70 Analyze the contributions of TFP physical capital per worker and human capital per worker to output per worker and what policies affect each Graph the aggregate production function and identify what shifts it Understand the implications of diminishing returns to physical capital per worker Analyze the role of nonrenewable resources in economic growth Chapter 10 Understand how investment national savings and net capital in ows are related Investment is spending on goods or services whose value is not used up in the current period spend money today the value received in exchange is not used up in a short time because its stored for the future Net Capital In ow Imports Exports Savings Investment Spending Identity in an Open Economy a country that spends more on imports than it earns from exports must barrow the difference from foreigners borrowing from foreigners gives rise to in ow of financial capital Nation Saving as the sum of private saving and government saving National Saving GDP Transfers Taxes Consumption Taxes Transfers Government purchases National Saving GDP Consumption Government Purchases Model the market for loanable funds and distinguish between demand and supply shocks Market for loanable funds the people with money to lend are not usually the same as people who want to borrow savers and borrowers are brought together by demand for funds generated by borrowers and the supply of funds provided by lenders assume price of loans is the nominal interest rate Loanable Funds Market a hypothetical market that brings together those who want to lend money and those who want to borrow A Consumer spending A Disposable income MPC 1 AAAS 1 MPC Multiplier Increase in the Demand for Lnenebile Funde In ereet HIE S V An increase in file rg r demand for ieee e in e I Jeenebie Funds rise in ihe l J 39 equilibrium nu nn n n 139 interest reie sine en 7 increase in the eqeiiieriurn queniiiji of saving and fending 3 5 39 T5 25 QUEI IIJL f ei leanerIE fu de Predict changes in equilibrium interest rates using the loanable funds model The Equilibrium Interest Rate lnteneed vane 12 The Qqn b u i Meme rate ie timersWeed em r enemeifen ei emen end ef Leaneme rquot E q CI Guantny erf Inananle Tunes tullllene a dellersj Chapter 11 Derive the MPC the multiplier and the consumption function and show how they relate Marginal Propensity to Consume or MPC is the increase in consumer spending when disposable income rises by 1 The multiplier is the ratio of the total change in real GDP caused by an autonomous change in aggregate spending to the size 0 f that autonomous change Consumption Function is an equation showing how an individual household s consumer spending varies with the ho usehold s current disposable income c a MPC x y Determine income expenditure equilibrium GDP using the Keynesian cross diagram incomeexpenditure equilibrium planned aggregate spending which in a simpli ed model with no government and no trade is the sum of consumer spending and planned investment spending is equal to real GDP At the incomeexpenditure equilibrium GDP or Y unplanned inventory investment is zero The Keynesian cross shows how the economy selfadjusts to income expenditure equilibrium through inventory adjustments Understand how Planned Investment Depends on the interest rate Planned investment spending is the investment spending that businesses plan to undertake during a given period It depends negatively on interest rate amp existing production capacity and positively on expected future real GDP I I Unplanned IPlanned Analyze how changes in inventories unplanned investment lead to income eXpenditure equilibrium GDP Analyze how autonomous changes in aggregate spending affect the equilibrium C h a pte r 1 2 Understand why the AD SRAS and LRAS curves have the slopes they do the demand curve shows the relationship between aggregate price level and the quantity of the aggregate output demanded by households businesses and the government and the rest of the world it slopes for two reasons The first is the wealth effect of a change in the aggregate price level the second is the interest rate effect of a change in aggregate the price level Distinguish between demand and supply shocks and predict their effects A demand shock shifts the aggregate demand curve moving the aggregate price level and aggregate output in the same direction In panel a a negative demand shock shifts the aggregate demand curve leftward from AD1 to ADZ reducing the aggregate price level from P1 to P2 and aggregate output from Y1 to Y2 In panel b a positive demand shock shifts the aggregate demand curve rightward increasing the aggregate price level from P1 to P2 and aggregate output from Y1 to Y2 Distinguish between short and long run effects of shocks AM as nominal wages rise in response to low unemployment Aggregate output falls back to Y1 the aggregate price level rises again to P3 and the economy returns to long run macroeconomic equilibrium at E3 Distinguish between in ationary and recessionary gapsThere is a recessionary gap when aggregate output is below potential outputThere is an in ationary gap when aggregate output is above potential outputThe output gap is the percentage difference between actual aggregate output and potential outpu Al P 391 ctua aggregate output otentia output X Out ut a P g P Potential output t Analyze the effects of stabilization policy Stabilization policy is the use of government policy to reduce the severity of recessions and rein in excessively strong eXpansions Chapter 13 Analyze the government s budget Distinguish between expansionary and contractionary fiscal policy expansionary scal policies make a budget surplus smaller or a budget deficit bigger contractionary fiscal policies smaller government purchases of goods and services smaller government transfers or higher taxes increase the budget Analyze the short and long run effects of fiscal policy using the aggregate demand and supply model Fiscal policy is the use of taxes government transfers or government purchases of goods and services to shift the aggregate demand curve Explain problems with fiscal stabilization policy lags crowding out Ricardian equivalence Public debt may crowd out investment spending which reduces long run economic growthAnd in extreme cases rising debt may lead to government default resulting in economic and financial turmoil Contrast the multiplier effects of government spending and tax cutsFiscal policy has a multiplier effect on the economy Example The government hands out 50 billion in the form of tax cuts There is no direct effect on aggregate demand by government purchases of goods and services GDP goes up only because households spend some of that 50 billion Analyze how the govemment s budget behaves over the business cycle and the role of automatic stabilizers Chapter 14 Explain the roles types and measures of money Money is any asset that can easily be used to purchase goods and servicesCurrency in circulation is cash held by the publiCCheckable bank deposits are bank accounts on which people can write checksThe money supply is the total value of financial assets in the economy that are considered money A medium of exchange is an asset that individuals acquire for the purpose of trading rather than for their own consumptionA store of value is a means of holding purchasing power over timeA unit of account is a measure used to set prices and make economic calculations Understand a bank s balance sheet and the roles of bank reserves and capital Bank reserves are the currency banks hold in their vaults plus their deposits at the Federal Reserve Reserve requirements rules set by the Federal Reserve that determine the minimum reserve ratio for a bank For example in the United States the minimum reserve ratio for Checkable bank deposits is 10 Derive the simple money multiplier and analyze more realistic versions of it The monetary base is the sum of currency in Circulation and bank reserves The money multiplier is the ratio of the money supply to the monetary base Understand the Fed s balance sheet LTCM was so large that in selling assets to cover its losses it caused balance sheet effects for firms around the world leading to the prospect of a Vicious cycle of deleveraging As a result credit markets around the world froze Predict how the Fed s actions will affect the money supply C h a pte r 1 5 Model the supply of and demand for money using the liquidity preference theory The money demand curve arises from a trade off between the opportunity cost of holding money and the liquidity that money provides The opportunity cost of holding money depends on shortterm interest rates not longterm interest rates Changes in the aggregate price level real GDP technology and institutions shift the money demand curve The liquidity preference model of the interest rate the interest rate is determined in the money market by the money demand curve and the money supply curve Distinguish between money demand and supply shocks and predict their effects on interest rates money demand and supply shocks effect interest rates because when the demand of money goes up the interest rates go up and it effects the huge demands on money and products Discuss the Taylor rule and in ation targeting In ation targeting occurs when the central bank sets an eXplicit target for the in ation rate and sets monetary policy to hit that target The Taylor rule for monetary policy the target interest rate rises when there is in ation or a positive output gap or both the target interest rate falls when in ation is low or negative or when the output gap is negative or both Distinguish between expansionary and contractionary monetary policy and analyze economic effects using the aggregate demand and supply model Expansionary monetary policy reduces the interest rate by increasing the money supply This increases investment spending and consumer spending which in turn increases aggregate demand and real GDP in the short run Contractionary monetary policy raises the interest rate by reducing the money supply This reduces investment spending and consumer spending which in turn reduces aggregate demand and real GDP in the short run Distinguish between short and long run effects of monetary shocks Apply the concepts of monetary neutrality and the Fisher effect Chapter 5 Use the Ricardian model to predict the pattern of trade The Rica rdian model of international trade analyzes international trade under the assumption that opportunity costs are constant This means that one country will continue trading just because it s a cycle and constantly going The Ricardian model of international trade shows that trade between two countries makes both countries better off than they would be in autarky that is there are gains from trade Identify sources of comparative advantage The Heckscher Ohl in model ShOWS hOW comparative advantage can arise from differences in factory endowments goods differ in their factor intensity and countries tend to eXport goods that are intensive in the factors they have in abundanceTrade in manufactured goods amongst developed countries is best explained by increasing returns to production Analyze the effects of tariffs and quotas A tariff iS a tax levied on imports It raises the domestic price above the world price leading to a fall in trade and total consumption and a rise in domestic production An import quota is a legal limit on the quantity of a good that ca n be imported Its effect is like that of a tariff except that revenues the quota rents accrue to the license holder not to the government Show how trade and tariffs affect consumer and producer surplus Chapter 19 Understand the balance of payments and classify international transactions as being in the current or financial account A country s balance of payments accounts summarize its transactions with the rest of the world The balance of payments on current account or current account includes the balance of payments on goods and services together with balances on factor income and transfers The merchandise trade balance or trade balance is a frequently cited component of the balance of payments on goods and services The balance of payments on nancial account or nancial account measures capital ows By de nition the balance of payments on current account plus the balance of payments on nancial account is zero Analyze factors behind international capital ows Capital OWS respond to international differences in interest rates and other rates of return they can be usefully analyzed using an international version of the loanable funds model which shows how a country where the interest rate would be low in the absence of capital ows sends funds to a country where the interest rate would be high in the absence of capital ows The underlying determinants of capital ows are international differences in savings and opportunities for investment spending Analyze the effects of changes in exchange rates the effects of changes in exchange rates effect what happens to countries who are importing and exporting to each other They must cut deals and figure out the currency price Understand supply and demand in the foreign exchange market and predict the effects of shocks on exchange rates Currencies are traded in the foreign exchange market the prices at which they are traded are exchange rates When a currency rises against another currency it appreciates when it falls it depreciates The equilibrium exchange rate matches the quantity of that currency supplied to the foreign exchange market to the quantity demanded Calculate real exchange rates and compare to purchasing power parity not calculating but here is what that means To correct for international differences in in ation rates economists calculate real exchange rates which multiply the exchange rate between two countries currencies by the ratio of the countries price levels The current account responds only to changes in the real exchange rate not the nominal exchange rate Purchasing power parity is the exchange rate that makes the cost of a basket of goods and services equal in two countries It is a good predictor of actual changes in the nominal exchange rate Explain how a government maintains or Changes a fixed exchange rate Countries can x exchange rates using exchange market intervention which requires them to hold foreign exchange reserves that they use to buy any surplus of their currency Alternatively they can change domestic policies especially monetary policy to shift the demand and supply curves in the foreign exchange market Finally they can use foreign exchange controls
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