Macro Test #3

Front 1

Aggregate Expenditure is calculated how?

Back 1

Consumption + Planned investment + Government purchases + Net Exports

Front 2

What is the Aggregate Expenditure Model?

Back 2

A macroeconomics model that focuses on the short-run relationship between total spending and real GDP, assuming that the price level is constant.

Front 3

What is the key idea of the aggregate expenditure model?

Back 3

It is that in any particular year, the level of GDP is determined mainly by the level of aggregate expenditure.

Front 4

What is consumption?

Back 4

This is spending by households on goods and services, such as automobiles and haircuts.

Front 5

What is Planned Investment?

Back 5

This is planned spending by firms on capital goods, such as factories, office buildings, and machine tools, and by households on new homes.

Front 6

What is Government Purchases?

Back 6

This is spending by local, state, and federal governments on goods and services, such as aircraft carriers, bridges, and the salaries of FBI agents.

Front 7

What is Net Exports?

Back 7

This is spending by foreign firms and households on goods and services produced in the United States minus the spending by U.S. firms and households on goods and services produced in other countries.

Front 8

What are Inventories?

Back 8

Goods that have been produced but not yet sold.

Front 9

Changes in inventories are included as part of...

Back 9

Investment spending, along with spending on machinery, equipment, office buildings, and factories.

Front 10

Changes in inventories depend on...?

Back 10

sales of goods, which firms can not always forecast with perfect accuracy.

Front 11

For the economy as a whole:

1. Actual investment spending > Planned investment spending, when...?

2. Actual < Planned, when?

Back 11

1. there is an unplanned increase in inventories.

2. there is an unplanned decrease in inventories.

Front 12

Actual will equal Planned only when...?

Back 12

There is no unplanned change in inventories.

Front 13

For the economy as a whole, macroeconomic equilibrium occurs where...?

Back 13

total spending, or aggregate expenditure, equals total production, or GDP.

Front 14

If the economy is not growing, then equilibrium GDP will not change unless...?

Back 14

aggregate expenditure changes.

Front 15

When aggregate expenditure is greater than GDP, the total amount of spending in the economy is ______ than the total amount of production.

Back 15

Greater

Front 16

When spending is greater than production, many businesses will sell...?

Back 16

More goods and services than they had expected to sell.

Front 17

When aggregate expenditure is greater than GDP, inventories will ______, and GDP and total employment will ______.

Back 17

1. Decline
2. Increase

Front 18

When aggregate expenditure is less than GDP, inventories will ______, and GDP and total employment will ______.

Back 18

1. Increase
2. Decrease

Front 19

Increases and decreases in aggregate expenditure cause the...?

Back 19

year to year changes we see in GDP.

Front 20

When aggregate expenditure declines, what happens to GDP and the economy?

Back 20

GDP declines and the economy dips into a recession.

Front 21

Which component is clearly the largest of aggregate expenditure?

Back 21

Consumption

Front 22

Only during when does the growth in consumption decline?

Back 22

During a recession.

Front 23

What are the 5 most important variables that determine the determine the level of consumption?

Back 23

1. Current disposable income
2. Household wealth
3. Expected future income
4. The price level
5. The interest rate

Front 24

What is the most important determinant of consumption?

Back 24

Current disposable income

Front 25

What is a household's wealth?

Back 25

The value of its assets minus the value of its liabilities.

Front 26

The price level measures the...?

Back 26

average prices of goods and services in the economy.

Front 27

If price level rises/falls, what happens?

Back 27

Rises: The real value of your wealth declines, and so does your consumption, at least a little bit.

Falls: Happens rarely in the U.S., your consumption would increase.

Front 28

When the interest rate is high, households are likely to...?

Back 28

Save more and spend less

Front 29

What is the nominal interest rate?

Back 29

The stated interest rate on the face of the loan.

Front 30

What is the real interest rate?

Back 30

It corrects the nominal interest rate for the change in inflation and is equal to the nominal interest rate minus the inflation rate.

Front 31

Spending on what is most likely to be affected by changes in the interest rate?

Back 31

Durable goods

Front 32

What is the consumption function?

Back 32

The relationship between consumption spending and disposable income.

Front 33

What is the marginal propensity to consume (MPC) ?

Back 33

The slope of the consumption function.

It is equal to the change in consumption divided by the change in disposable income.

For example:

10,000 / 11,000 = .91

That means that households spent 91% of the increase in their household income.

Front 34

MPC can also be used to determine what?

Back 34

How much consumption will change as income changes.

Change in consumption = Change in disposable income x MPC

For example:

With an MPC of .91, a $10,000 increase in disposable income will increase consumption by $9,100. (found by doing $10,000 x .91)

Front 35

GDP and _______ ________ are basically the same thing and can be used interchangeably?

Back 35

National Income

Front 36

Disposable income is found by what equation?

Back 36

National income + Government transfer payments - Taxes.

Front 37

What are Net Taxes?

Back 37

Taxes - Government transfer payments

Front 38

The equation to find National Income (or GDP) is...?

Back 38

Disposable income + Net Taxes

Front 39

As income rises, net taxes do what?

Back 39

Rise

Front 40

What is the Marginal Propensity to Save (MPS) ?

Back 40

The amount by which saving changes when disposable income changes.

Change in saving / Change in disposable income

Front 41

When taxes are constant, MPC + MPS must equal...?

Back 41

1

Front 42

As far as consumption, saving, and taxes are concerned, National Income equals what?

Change in national income equals what?

Back 42

Consumption + Saving + Taxes

Change in consumption + Change in saving + Change in taxes

Front 43

What are the 4 most important variables that determine the level of investment?

Back 43

1. Expectation of future profitability
2. Interest Rate
3. Taxes
4. Cash flow

Front 44

A higher real interest rate affects investment spending how?

Back 44

A higher real interest rate will lower investment spending, and vice versa.

Front 45

What is Cash Flow?

Back 45

It is the difference between the cash revenues received by a firm and the cash spending by the firm.

Front 46

Net Exports equal...?

Back 46

Exports - Imports

Front 47

When the U.S. is in a recession, what happens to Net Exports usually?

Back 47

Net Exports tend to increase when the economy is in a recession.

Front 48

What graph can be used to show macroeconomic equilibrium?

Back 48

The 45* degree line diagram.

Front 49

On the 45* degree line diagram, all points of macroeconomic equilibrium must lie where on the graph?

Back 49

On the 45* degree line.

Front 50

All points above the 45* degree line mean what? Below?

Back 50

Above: Planned Aggregate Expenditure is greater than GDP.

Below: Planned Aggregate Expenditure is less than GDP

Front 51

Which line is the Planned Aggregate Expenditure (AE) line on the 45* degree line diagram?

Back 51

The line that s C + I + G + NX

Front 52

At what point on the 45* degree line diagram, is the economy in macroeconomic equilibrium?

Back 52

Where the AE line crosses the 45* degree line. Thats where planned aggregate expenditure is equal to GDP.

Front 53

At what point would macroeconomic equilibrium be at ideally? Why is this?

Back 53

Ideally, the equilibrium would occur at Potential GDP. At the potential GDP, firms will be operating at their normal level of capacity, and the economy will be at the natural rate of unemployment.

Front 54

Changes in GDP have a much greater impact on ______, than the rest of the main components of AE.

Back 54

Consumption

Front 55

Does consumption increase as GDP increases?

Back 55

Yes

Front 56

What determines Real GDP in the short run?

Back 56

Aggregate Expenditure

Front 57

What is Autonomous Expenditure?

Back 57

An expenditure that does not depend on the level of GDP.

Front 58

What is the Multiplier?

Back 58

The increase in equilibrium real GDP divided by the increase in autonomous expenditure.

Front 59

What is the Multiplier Effect?

Back 59

The process by which an increase in autonomous expenditure leads to a larger increase in real GDP.

Front 60

How do you calculate the value of the multiplier?

Back 60

Change in Real GDP / Change in Autonomous Expenditure

Front 61

What is an example of a multiplier?

Back 61

Change in Real GDP = $400 billion
Change in Autonomous Expenditure = $100 billion.

400/100 = 4

With a multiplier of 4, each increase in autonomous expenditure of $1 will result in an increase in equilibrium GDP of $4.

Front 62

During the multiplier process, each round of increases in consumption is _____ than in the previous round.

Back 62

Smaller

Front 63

What is the formula to find out the multiplier?

Back 63

1 / (1 - MPC)

For example:

1 / (1 - .75) = 1 / .25 = 4

Then you would times your multiplier (4) by your increase in autonomous expenditure. This will give you your increase in equilibrium GDP.

Front 64

The value of the multiplier depends on the value of...?

Back 64

The MPC

Front 65

The larger the value of the MPC, the _____ the value of the multiplier.

Back 65

Larger.

Example:

If MPC is .9, then the multiplier is going to be 10 (1 / .1). If the MPC is .5, then the multiplier is going to be 2 (1 / .5).

Front 66

When does the multiplier effect occur?

Back 66

Both when autonomous expenditure increases and decreases.

If the autonomous expenditure decreases, then the same numbers come out as they would with an increase, but you have to decrease the autonomous expenditure and the equilibrium GDP.

Front 67

The multiplier has what effect on the economy?

Back 67

It makes the economy more sensitive to changes in autonomous expenditure that it would otherwise be.

Because of the multiplier effect, a decline in spending and production in one sector of the economy can lead to declines in spending and production in many other sectors of the economy.

Front 68

How is the formula for the multiplier (1 / 1 - MPC) oversimplified?

Back 68

It ignores some real world complications, such as the effect that increase in GDP have on imports, inflation, interest rates, and individual income taxes. These effects combine to cause the simple formula to OVERSTATE the true value of the multiplier.

Front 69

What are the short term effects of AE and Real GDP if households save more of their income and spend less of it?

Back 69

They both decline.

Front 70

Increases in the price level cause AE to do what? Decreases? What are the 3 main reasons for this?

Back 70

Increases: Fall

Decreases: Rise

Why:

1. A rising price level decreases consumption by decreasing the real value of household wealth; a falling price level has the reverse effect.

2. If the price level in the US rises relative to the price levels in other countries, US exports will become relatively more expensive, and foreign imports will become relatively less expensive, causing net exports to fall. A falling price level in the US has the reverse effect.

3. When prices rise, firms and households need more money to finance buying and selling. If the central bank (the federal reserve in the US) does not increase the money supply, the result will be an increase in the interest rate. At a higher interest rate, investment spending falls as firms borrow less money to build new factories or install new machines and households borrow less money to buy new houses. A falling price level has the reverse effect: other things being equal, interest rates will fall and investment spending will rise.

Front 71

How do we measure the price level?

Back 71

As an index number with a value of 100 in the base year.

Front 72

What happens if the price level rises, say from 100 to 103. Why is this? If the Price Level falls what happens?

Back 72

Consumption, planned investment, and net exports will all fall, causing the AE line to shift down on the 45* degree line diagram.

The AE line shifts down because with higher prices, less spending will occur in the economy at every level of GDP.

If the price level falls then investment, consumption, and net exports will all rise. The AE line will shift up, which will cause the equilibrium real GDP to increase.

Front 73

What is the Aggregate Demand (AD) Curve?

Back 73

A curve that shows the relationship between the price level and the level of planned aggregate expenditure in the economy, holding constant all other factors that affect aggregate expenditure.