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Chapters 6-8 for Macroeconomic Exam 2

by: Flor Rodriguez

Chapters 6-8 for Macroeconomic Exam 2 ECON 1110

Marketplace > University of North Texas > ECON 1110 > Chapters 6 8 for Macroeconomic Exam 2
Flor Rodriguez
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In depth review from the professor for the 2nd exam of the semester.
Principles of Economics 1
Harry Ellis
Study Guide
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This 5 page Study Guide was uploaded by Flor Rodriguez on Thursday April 14, 2016. The Study Guide belongs to ECON 1110 at University of North Texas taught by Harry Ellis in Spring 2016. Since its upload, it has received 85 views.


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Date Created: 04/14/16
Chapter 6: Aggregate Demand and Aggregate Supply Aggregate Demand – Total demand of all final goods and services; shows the negative or inverse relationship between the price level and the total quantity demanded of real GDP, ceteris paribus Reasons for Negative Slope o Real Balance Effect: As price level decreases, purchasing power of money increases, and balances. People can then purchase more goods and services  Negative relationship o Interest Rate Effect: Price of money, tends to follow the price level. As price level decreases, interest rates decrease, and interest rates of spending toed to households and businesses increases  Positive relationship o International Trade Effect: As domestic price level decreases (assuming no change in foreign prices) the U.S. tends to export more and import less, and spending on domestic output increases  Negative relationship  Changes in the price level will cause changes in quantity demanded, which are movements along the AD curve Shifts in Aggregate Demand o Consumer spending (C)  Positive relationship o Investment (I)  Positive relationship o Government (G)  Positive relationship o Net Exports  Positive relationship o Money Supply  Positive relationship o Personal Income Taxes  Negative relationship Short-Run Aggregate Supply – Shows the positive or direct relationship between the price level and the total quantity supplied of real GDP, ceteris paribus  Increases in price levels result in increases in quantity supplied  Change in the price level will result in movement along the short-run aggregate supply Shifts in SRAS o Resource Costs  Negative relationship o Productivity  Positive relationship o Supply Shocks  Adverse – high energy costs caused SRAS to shift left o Negative relationship  Beneficial – beneficial to consumers o Negative relationship Short-run Macro Equilibrium  Increases in Aggregate Demand suggest inflation, expanding economy, and lower unemployment  Decreases in Aggregate Demand suggest deflation, decreasing economic growth, and higher unemployment Macro equilibrium in the short-run conditions of the economy  Recessionary Gap – occurs when the equilibrium level of read GDP is less than the natural level of real GDP (Qe < Qn) o LRAS: the vertical line at full employment. Suggests that the level of output is independent of the price level.  Perfectly Inelastic; U> Un  Inflationary Gap – occurs when equilibrium level of real GDP is greater than the natural level of real GDP (Qe > Qn) o Unemployment < Natural rate of Unemployment  Long-run Equilibrium - occurs when the equilibrium level of real GDP is equal to the natural level of real GDP (Qe = Qn) Chapter 7: Classical Economics Classical Theory – Assumption that all prices in the economy (output, prices, wages, and other input prices, and interest rates) are perfectly flexible. Characteristics o Very limited role of government; laissez faire  Believes the government should play a limited role of government o Say’s Law – according to Say’s Law, supply creates it’s own demand  What is supplied will be purchased  What is produced will be consumed  Self-correction is all about supply  Supply is the overarching force o Long-run view of economy  Not as concerned with the short-run. Want to know the overall impact on the market overtime o Self-regulating markets / self-correction  When problems develop, they will regulate themselves without government intervention o Flexible prices, wages, and interest rates  Increase in wages result in decreases in quantity demanded for labor  Decreases in wages result in increases in quantity supplied for labor Closing Gaps through Self-Correction  Recessionary Gaps o High unemployment rates suggest that we have a surplus of labor o Labor-Market Surplus  Firms will want to lower wages in response to the surplus  As wages and input prices decrease, costs of producing output decrease, and the lower cost of production causes SRAS to increase o Labor-market surplus  decrease in wages  increase in SRAS o Decrease Price, Decrease, output, and Increase Unemployment rates  Inflationary Gap o Low unemployment rates suggest we have a shortage of labor o Labor-market shortage  Firms will want to hire more labor to increase output, which leads to them biding for available workers by offering higher wages o Labor-market shortage  increase in wages  decrease in SRAS o Increase Price, Increase Output, and Decrease Unemployment rates Chapter 8: Keynesian Economics Keynesian Economics – view that government can and should play an active role in managing the macro economy Characteristics o Active role of government o Inadequate AD causes recessions o Short-run view of economics o Inflexible prices, wages, and interest rates o Equilibrium may not equal full employment o Stimulating economy may not be inflationary  Suggests that if AD intersects AS on SRAS, Qe < Qn  Recessionary Gap Aggregate Spending  Keynesian model is based on aggregate spending o AS = C + I + G + (Ex-IM)  Consumer Spending (C) : primary determinant of how much people spend depends on how much they make; C = Co + MPC (Yd)  Marginal Propensity to Consume (MPC) : The change in consumer spending associated with a change in disposable income o MPC = (change in C) / (change in Yd)  Marginal Propensity to Save (MPS) : The change in saving associated with a change in disposable income o MPS = (change in S) / (change in Yd)


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