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49 Cards in this Set

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Ch. 8

What are the formulas for the following?

1- Labor Force
2- Labor Force Participation Rate
3- Rate of Unemployment
4- Employment/ Population Ratio
Unemployed= workers seeking employment (ACTIVELY)

1-Labor Force: Employed + Unemployed
2- Labor Force Participation Rate: # in Labor Force/ Population (age 16 and over)
3- Rate of Unemployment: # of unemployed/# in labor force
4- Employment Population Ratio: # empoyed/Population( age 16 and over)

slight diff. in 3 & 4; not all in the population are seeking employment or have. 4 is a more true/ objective #.
1- What is FRICTIONAL unemployment?

2- What is STRUCTURAL unemployment?
1- FRICTIONAL unemploymt. occurs when employees are unaware of opportunities or employers are are unaware of candidates.

2-STRUCTURAL unemploymt. occurs when basic characteristics of the economy prevent the matching up of available jobs with available workers.

The difference between the above is with FRICTIONAL unemploymt. the workers possess the requisite skills whereas technology might render some employees obsolete for STRUCTURAL unemploymt.
1- What do KEYNSIANS believe?

2- How is Keynsian economics effected by "the crowding-out effect"?
1-Keynsians believe in either more gov't spending OR lower taxes to stimulate the economy & in the MULTIPLIER EFFECT. If inflation exisits they tend to combat it with restrictive FISCAL policies.

2- When the economy is bad less taxes are collected, so when the gov't spends more money, it has to get the money by borrowing. The way they borrow is by issuing US GOV'T BONDS. As they issue more bonds, the increase in supply of bonds drives (price) interest rates higher. Higher interest rates lead to less capital and other expenditures, which leads to a worse economy. The increase in bonds "crowds out" the supply of bonds increasing rates.

(The vice versa is true as well)
1- What is a counter-acting factor to the crowding-out effect?

2- But what is the problem with that argument?

3- What do New Classical Economists believe? (with respect to fiscal policy (Keynsian economics)
1- A counter-acting effect to the "crowding-out" effect is foreign investments. As interest rates rise, it will attract foreign investments increasing demand and neutralizing the effects of crowding-out.

2- Foreign investors will have to buy dollars in order to purchase bonds, whcih will shrink the supply of the dollar, making the dollar more powerful, leading to imports being cheaper and investments away from the US. (bad for the economy)

3- New Classical Economists: stress that debt simpLy substitutes higher futures taxes for lower current taxes. Thus, budget defecits affect the TIMING of taxes but not their MAGNITUDE. Hence, thEy believe people will save for the future taxes, lessening the impact of expansionary fiscal policy, known as RICARDIAN EQUIVALENCE.
1- What do Supply-Side Economists believe?

2- what is empirical evidence regarding tax revenue versus lowering the marginal tax rate at the higher levels?

3- Is Keynsian Economics long term or countercyclical? How about supply-side economics?
1- SUPPLY-SIDE ECONOMISTS: believe that a reduction in marginal taxes spur people not to avoid taxes by buying tax free items and instead buy income-producing activities and ventures (things that make more money)

Critics say supply-side econ. leads to large budget defecits with modest gains.

2- Contrary to intuition, lowering marginal tax rates has historically increased tax revenues for the gov't.

3- Supply-side economics is LONG TERM in nature. But. Keynsian econ. is COUNTERCYCLICAL, which makes Keynsian econ. hard to time because of the slow nature of tax cuts/ increase spending.
1- What does store of value mean?

2- What does unit of account mean?

3- What is fiat money?
1- STORE OF VALUE: an asset that will allow people to transfer purchasing power from one period to the next (e.g. money)

2- UNIT OF ACCOUNT: the units of measurement used by people to post prices and keep track of revenues and costs- MONEY

3- FIAT MONEY: money that has neither instrnsic value nor the backing of a community with intrinsic value (for example: paper currency)
1- M1
A- Transaction Accounts
a. Demand Deposits
b. Other Checkable Deposits
1- M1: The sum of currency in circulation, checkable deposits maintained in depository institutions, and traveler's checks.

A- Transaction Accounts: Deposits that can be drawn from writing a check. (The following two are the two kinds.)

a. Demand Deposits: Non interest earning deposits, available for withdrawl without penalty

b. Other Checkable Deposits: earn interest but carry restrictions or transferability such as minimum balance or # of checks written

M1= currency in circulation, checkable deposits & traveler's checks
1- M2

2- Monetary Base
1- M2: Money supply equal to M1 plus savings deposits, time deposits (<$100,000) held in depository instituions, and money market mutual fund shares.

2- Monetary Base: The sum of currency in circulation plus bank reserves ( vault cash and reserves with the FED). It reflects the stock of US securities held by the FED.
What are the differences among:

A- Savings and loan associations
B- Credit Unions
C- Commercial Banks
A- Savings & Loans: accept deposit in exchange for shares that pay dividends

B- Credit Unions: are cooperative financial organizations of individuals with a common affiliation that accept deposits, pay interst or dividends on them, and generate earnings primarily through the _____ of loans to the members.

C- Commercial Banks: offer a wide range of services and are owned by stock holders

* They all offer checks and savings.
1- What is Fractional Reserve banking?

2- What insures banks and for how much?

3- What is the deposit expansion multiplier?
1- Fractional Reserve Banking: are allowed to maintain only a fraction of their deposits in the form of cash and other reserves. The ammount is called the REQUIRED RESERVE. (p. 299)

2- FDIC: 100,000

3- Deposit Expansion Multiplier:
The Deposit/ Required Reserve
(Jorge, check this in your cards-- not clear: "the inverse of")
It's how much the money supply is increased by a deposit of money due to banks re-loaning.

Deposit Expansion Multiplier= 1/ r

r= reserve requirement
What are the 3 major centers for decision-making within the Federal Reserve?
The Board of Governors, the District and Regional Banks & the Federal Open Market Committee

a. Board of Governors: has 7 members appointed by the US president; 14 year terms-- one is chair for a term of 4 years (Greenspan)

b. Federal District Banks and 25 regional branches regulate all the banks

c. FOMC: a 12 member board that establishes poilcy with repsect to gov't securities (bonds). Includes the 7 governors, the president of the New York district bank and 4 other district bank presidents.
1- What are the 3 ways the Fed. can regulate the money supply?

2- What is the formula for Total Reserve?
a. buying and selling gov't securities (MOST COMMON METHOD THE FED USES)

b. setting interest rates for banks= discount rate

c. establishing reserve requirements

2- Total Reserve=
Bank Vault Cash + Reserve Requirements held at the FED.
1- What is the Federal Funds Market?

2- How does the FED lower the Federal Fund Rate using US gov't securities?
1- It's where banks with extra reserves lend to other banks NEEDING RESERVES FOR THE FED.

2- The FED can LOWER the FED FUND RATE by BUYING GOV'T SECURITIES, thereby INCREASING the money supply, thereby lowering the interest rate


SELL treasuries LOWERING the money supply and INCREASING the Fed. Fund Rate.

Treasuring Buying= Individuals selling = more money for individual & bank
(more money at bank = more reserves = more lending)

Treasuring Selling = individuals buying = less money for banks

*less money = higher interest
more money = lower interest
1- What is the relationship between interest and money?

2- What's the formula for converting Real GDP into Nominal GDP?
1- As interst rates rise, individuals and businesses will hold smaller checking balances and larger interest earning balances. M1 shrinks. Inverse relationship for b/w interest rates and demand for money. (p.322)

Demand for money = borrowing (banks, people, etc.)
Supply of money is determined by the FED.

As interest rates decrease, money is cheaper so demand is higher.

2- Real GDP 2001 = Nominal GDP 2001 X GDP Deflator 1996/ GDP Deflator 2001
1- What do foreigners do when US interest rates go down? (ie. is there a net inflow or outflow of money?)

2- What happens to the dollar?
1- As interst rates decline, the dollar depreciates, making US goods cheaper. Why? Less foreigners will want to hold dollars b/c interst elsewhere will be better. so they'll exchange dollars for foreign currency.

2- Decreased Interest Rates= a.dollar weaker
b.exporting increase c.increase in demand d.increase in infaltion

Economy increase in short-run.
1- What is the Quantity Theory of Money?

2- What are the 2 seperate formulas for GDP?
1- Anexpansion in monetary policy with no REAL increase in output will only lead to inflation in the long-run, but will help output & employment in the short-run. Short-run interest rates can go down, while long-term interest MAY go up.

a. Price of Good (P) X Output (Y)= GDP

b. Money Supply (M) X Velocity of Money (V)= GDP


V= Velocity of Money is the average # of times a dollar is used to purchase FINAL GOODS. It's a multiplier.

V= GDP/ Money Supply Stock of Money
If the FED shifts to a more restrictive monetary policy, it will generally sell bondsin the open market. How will this action influence each of the following?

a. the reserves available to banks
b. real interest rates
c. household spending on consumer durables
d. the exchange rate value of the dollar
e. net exports
f. the prices of goods and services
g. real GDP
a. down
b. up
c. down
d. increase
e. decrease
f. decrease
g. decrease
What is the relationship between demand for money and aggregate demand?
As demand for money increases, people/ businesses want more money; consequently aggregate demand decreases.

There us an inverse relationship b/w demand for money and aggregate demand.
1- What index do economists use to predict where the economy is going?

2- How long of a lag b/w fiscal and monetary policy change and the desired results? What are the 3 types of lags?
1- The Index of Leading Indicators: 10 different measures or indicators of the economy.

2- It generally takes 12-18 months before the effects of fiscal & monetary policy changes are realized.
a. RECOGNITION LAG- recognizing the problems
implementing the solution
c. IMPUT LAG- letting the solution take effect
1- What is the Adaptive- Expectations Hypothesis?

2- What is the Rational- Expectations Hypothesis?
1- The hypothesis that economic decision-makers base their future expectaions on actual outcomes observed during recent periods.

2- The hypothesis that economic decision-makers base their future expectations on ALL available evidence & their potential ramifications. Rational expecation economists think that monetary policy will quickly be anticipated, hence they will reflect the long-term relatively quickly. But the economist may OVER/UNDER estimate affects, thus policy changes could or couldn't work.

Policy Ineffectiveness Theorem: policies become inneffective once the pattern is figured out.
What do non-activists believe monetary policy should be?
They believe monetary policy should not change; instaed they believe a set growth in money or 3% should be set. They think any other policy makes the economy unstable.
COMPARATIVE ADVANTAGE: the ability to produce a good at a lower opportunity cost than others can produce it. i.e. If a country can produce one good beter than it has an advantage by trading, b/c the opportunity to produce one good is lower than the other so the country is utilizing its resources better.

ABSOLUTE ADVANTAGE: a situation in which a nation, as the result of its experience or endowments, can produce more of a good (with the SAME amount of resources) than another nation.

A country can have absolute advantage with 2 goods, but may still have a comparative disadvantage with one of those goods b/c of opportunity cost.

2- What does WTO do?
1- Dumping is where a foreign competitor lowers its price so low as to try to bankrupt domestic competition and then raise the prices back up.

*Dumping is illegal in the US.

2- The World Trade Organization (formerly known as GATT) was established after WWII to monitor thrade agreements b/w countries.
1- Utility

2- What is the Law of Diminishing Marginal Utility?

3- What is Marginal Utility?

4- Marginal Benefit?
1- Utility: the subjective personal benefits that result from action.

2- The Law of Diminishing Marginal Utility: states that the marginal utility derived from consuming successive units of a product will eventually decline as the rate of consumption increases. Like getting sick of ice cream after gorging.

3- Marginal Utility: the additional utility received from the the consumption of an additional unit of a good.

4- Marginal Benefit: the max someone is willing to pay for an additional unit.
1- What is the maximum amount a consumer is willing to consume?

2- What ia the substitution effect?

3- What is the income effect?
1- The consumer will purchase as much of a product that exists, where his marginal benefit is greater than the price. MB=P

2- SUBSTITUTION EFFECT: that part of an increase (decrease) in amount consumed that is the result of a good being cheaper (more expensive) in relation to other goods b/c of a reduction (increase) in price.

3- INCOME EFFECT: that part of an increase (decrease) in amount consumed that is the result of the consumer's real income (the consumption possibilities available to the consumer)being expanded (contracted) by a reduction (rise) in the price of a good.
What is the definition and formula for the price elasticity of demand?
PRICE ELASTICITY OF DEAMAND: What the responsiveness of buyers to a change in price is measured by.

Price Elasticity of Demand=
% change in Quantity Demanded/ % change in price = -30%/ +10%

* the higher the quotient the more elastic it is

- Quotient always negative

Change in Quantity Demanded=
Q0-Q1/ (Q0+ Q1)/2 X 100

Change in Price= P0-P1/(P0-P1)/2 X 100

(Q0-Q1)/ (Q0+Q1)
(P0-P1)/ (P0=P1)

* GREATER than 1= Elastic
1- What does a perfectly inelastic demand curve looks like?

2- what does a perfectly elastic demand curve look like?

3- What is the second law of demand?
see cards for graphs (orange)

-no substitutes
-highly differentiated
-often inexpensive things can be inelastic b/c people don't care about cheap increases in price

-lots of substitutes
-no differentiation

3- 2nd Law of Demand: the demand for most products will be more elastic in the long-run then in the short-run.
1- What is the definition and formula for Income Elasticity?

2- What is a "normal good"?
1- Income Elasticity: indicates the responsiveness of the demand for a product to a change in income.


% change in Quantity Demanded/ % change in income

2- Normal Good: a good that has apositive income elasticity, so that, as consumer income rises, demand for that good rises also

A few commodities: margarine, low-quantity meat, bus travel; actually have a negative income elasticity these goods are called INFERIOR GOODS.

*quantity always on top and always stated as %
Why is water cheaper than oil in economic terms?
Water is cheaper than oil b/c its MARGINAL UTILITY is less than that of oil, since water is abundant; however, TOTAL UTILITY is greater for water since MUST have it.
Changes in Price that lead to an increase in /or expenditures are indicative of what?
a. Price Elasticity
b. Price Inelasticity
a. Price Elasticity: a reduction in price will result in an increase in revenue or expenditures
1- Residual Claimants

2- Shrinking

3- Principal-Agent Problems
1- RESIDUAL CLAIMANTS: Owners of companies are residual claimants b/c they get what's left over after paying expenses.

2- SHRINKING: It is when employees don't work on what they are getting paid for.

3- PRINCIPAL-AGENT PROBLEMS: arise from the principal/owner delegating to an agent a job, but the agent does what's in his best interest
e.g. taking a car to a mechanic might get you a quick fix
1- Describe economic profit.

2- Describe Normal Profit Rate.
1- The difference b/w the firm's total revenues and its total costs, INCLUDING BOTH THE EXPLICIT COSTS AND IMPLICIT COSTS OR OPPORTUNITY COSTS.

Accounting profits > Economic Profits

Opportunity Cost of Equity Capital= Required Rate of Return

2- Normal profit is an Economic Profit of zero. No more or less revenue than both explicit and implicit costs--- MR=ATC

A zero economic profit doesn't imply a firm is going to go out of business. It implies a rate of return that just meets expectations.
1- Formula for Average Fixed Cost

2- What shape will the average total cost curve have?

3- What is the formula for economic profit?
1- Average Fixed Cost (AFC): Total Fixed cost divided by output.

2- The ATC curve will be U-shaped b/c when the output rate of a plant is small relative to its capacity, AFC will be high. At the other extreme, overutilization can also result in high unit cost b/c of congestion (workers waiting for machines, etc.)

3- Economic Profit = Price -ATC(average total cost) (p.528)

where MR=MC on the demand curve
What is a. Total Product and b. Marginal Product? c. Average Product?
a. Total Product: the entire ouput of a product

b. Marginal Product: the increase in total product that is associated with a unit of input or additional unit of labor

c. Average Product: the total product (output) divided by the # of units of variable input required to produce thta output level.

Price always lies on the demand curve. (know the graphs)
What is different about increasing and diminishing returns and economies and diseconomies of scale?

(double check the flashcard-orange)
Economies and diseconomies of scale (the latter caused by things like innovation and problems of beaurocracy) are long-run concepts. They realte to conditions of production when all factors are variable ( in the long-run ALL factors are variable). In contrast, increasing and diminishing returns are short-run contrast, applicable only when the firm has a fixed factor of production.
1- What is a price-searcher?

2- Where is profit maximized for a price taker?

3- What happens when a firm's MR (marginal revenue) dips below ATC (Average Total Cost)?
1- A price-searcher is a firm that is "searching" for the best price to charge for optimizing profit based on supply and demand. Price- searcher is OPPOSITE of price-taker.

2- Price-takers maximize profits @ MR=MC=P where the price of the good equals the cost of the good. P=MR which in turn equals the demand line. P=MR---Demand

3- A firm CANNOT sustain marginal revenue being below average total cost. In the long-run it will go out of business. owever, if MR is at or about average variable cost, it can sustain this in the short-run. When PRICE= ATC the firm is making a "normal rate of return" or an economic profit of zero.
What happens in the long-run when there is a shift in demand?
IN the long-run supply is elastic that is demand will shift up forcing price up correspondingly. Suppliers will make more profit so they will expand until MC= MR driving price back down to where it all started. (ie. in the LONG-RUN supply is ELASTIC or price is HORIZONTAL b/c the supply curve is horizontal.
1- If there was a draught that took place in the farming industry (price-takers), what would happen to price and revenue of the farmers?

2- What is a Monopolistic Competition?
1- Price would increase as supply was reduced and revenue would and profit unless they were hit hard by the draught. (p. 523)

2- Monopolistic Competition: essentially the same as a price-searcher market; it's characterized by a large number of sellers and shouldn't be confused with a monopoly.
1- For price-searchers will marginal revenues be lower, the same or higher than the demand curve?

2- IN the long-run where will ATC(average total cost) be in relation to the demand curve?
1- Marginal revenue will ALWAYS be LOWER than the demand curve, hence lower than price for price-searchers. -THIS IS DIFFERENT for price-takers.

2- The demand curve establishes the price along with where MR=MC. Economic profit is always zero in the long-run; and economic profit= pricce-ATC; so, in the long-run the ATC curve will intersect the point where MR=MC on the demand curve. ie. Price. 'This' is due to competition coming in and eating economic profit away (both INTRINSIC and EXTRINSIC).
1- What is a Contestable Market?

2- What is a main difference b/w price-takers and price-searchers, monopoly and oligopolies?
1- Contestable Market: A market in which the costs of entry or exit are low.

2- Price-takers MR line are the same as the demand line and is perfectly elastic (meaning completely horizontal). For prioce-searchers and others the MR is inside or lower than the demand line and is downward sloping. (See graphs pink cards)
1- What is a cartel?
2- What is allocative efficiency?

3- What is rent seeking?

4- What is a natural monopoly?
1- Cartel: when an oligopoly binds together to collude on price

2- Allocative efficiency: is being able to sell a product for more than the costs of its parts

3- Rent seeking: actions to restructure public policy in a manner that will profit them

4- Natural monoploy: is where the public's bests interests are served by hvaing only one provider due to economies of scale
1- What is a Resource Market compared to a Product Market?

2- If there are more substitutes, is the product more or less elastic? How about in the short-run?

3- What is the defenition of Marginal Revenue Product?
1- Resource Market: is the market of labor where the product market is products and services. Resource Markets are unfinished markets like labor, capital (cash) and natural resources. The demand for a resource exists b/c there is a demand for goods that the resource helps to produce.

2- More Elastic: lots of substitutes / Inelastic= LESS subs

In the short-run everything is inelastic b/c it takes a while to substitute.

3- The change in the total revenue of a firm that results form the employment of one additional uniot of a resource. The marginal revenue product of an imput is equal to its MARGINAL PRODUCT multiplied by the MARGINAL REVENUE of the good or service.
1- What is Value Marginal Product?

2- What is the equilibrium point for the purchasing of resources and the supply of resources?
1- VMP: is the marginal product of a resource multiplied by the selling price of the product. The difference b/w VMP and MRP is the same difference BETWEEN THE DEMAND LINE AND THE MARGINAL REVENUE LINE.

2- Companies will buy resources so long as the marginal revenue product (MRP) is higher than alternatives and is equal to the price of that resource. Suppliers will supply as long as there are no better alternatives (jobs). MRP= P and P is better than alternatives. Resources are often people. Price is salary. (Read economics p.590)

1- What is derived demand?

2- What are the 2 ways to measure GDP?
1- Derived Demand: is the demand for a RESOURCE; it stems from the demand for the final good the resource helps to produce.


a. By totaling expenditures during the year or the EXPENDITURE APPROACH.


b. by summing the income payments to the resource suppliers and other costs of producing good & services, also called the RESOURCE COST-INCOME APPROACH.
1- What is the formula for the Expenditure Approach?

2- What is the formula for the Resource Cost-Income Approach?
1- Expenditure Approach:

Personal Competition +
Gross Private Domestic Investment+
Gov't Consumption Gross Investment+
Net Exports of Goods & Services

2- Resource Cost-Income Approach:

All incomes for individuals+

Rents, Profits, Interest+

Non-income Cost Items Indirect Business Tax depreciation+
Net Income of Foreigners
1- What is the difference b/w GDP and GNP? (LOS)

2- What is the difference b/w the GDP deflator and CPI?
1- GDP= the market value of all final goods and services produced within a country during a specific period.

GNP= the total market value of all final goods and services produced by the citizens of a of a country. GDP- net income of foreigners

2- The GDP deflator is a broader index than the CPI. It's designe to measure the change in the average price of the market basket of goods included in GDP.

1- Personal Income
2- Disposable Income
3- National Income
1- Personal Income: The total income recieved by domestic households (not corporate buisneses)

2- Disposable Income: The income available to individuals after personal income taxes

3- National Income: total income earned by natioanals (citizens) during a period
What will happen to:

a- real rate of interest
b- resources prices relative to produact prices
c- out put

when an economy is operating at less than full employment
When an economy is operating at less than full employment, weak demand in resources markets will tend to reduce...

a- the real rate of interest
b- resource prices relative to product prices
c- restore and normalize profit and output
1- Who were the classical economists?

Since keynes is all about increasing aggregate demand, what is the effect of increasing aggregate demand or expenditures using

a- expenditure multiplier
b- marginal propensity to consume
1- Economists from Adam Smith to the time of Keynes who focussed their analysis on economic efficiency and production.

Example iif your income increases by $100 thus you spend $75 more, your marginal propensity to consume = 75/100 = 3/4 = .75

MPC= additional consumption/ additional income

This means that $75 will be income for someone else who may spend 3/4 or 56.25, and so on until the original amount times expenditure multiplier is spent or = expenditure multiplier =
1/(1-MPC) or
1/(1-.75)= 1/.25= 4, so 4 times $100 would be spent