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39 Cards in this Set

  • Front
  • Back
aggregate demand (AD) curve
A curve that shows how a change in the price level will change aggregate expenditures on all goods and services in an economy.
aggregate demand management
Government's attempt to control the aggregate level of spending in the economy.
countercyclical fiscal policy
Fiscal policy in which the government offsets any change in aggregate expenditures that would create a business cycle.
A continuous fall of the price level.
equilibrium income:
The level of income toward which the economy gravitates in the short run because of the cumulative cycles of declining or increasing production.
Fiscal policy designed to keep the economy always at its target or potential level of income
fiscal policy:
The deliberate change in either government spending or taxes to stimulate or slow down the economy. Also, the changing of taxes and spending to affect the level of output in the economy.
inflationary gap
A difference between equilibrium income and potential income when equilibrium income exceeds potential income. That is, aggregate expenditures above potential output that exist at the current price level.
interest rate effect
The effect that a lower price level has on investment expenditures through the effect that a change in the price level has on interest rates.
international effect
: As the price level falls (assuming the exchange rate does not change), net exports will rise.
long-run aggregate supply (LAS) curve
A curve that shows the long-run relationship between output and the price level.
money wealth effect
A fall in the price level will make the holders of money richer, so they buy more.
multiplier effect
The amplification of initial changes in expenditures.
paradox of thrift:
An increase in saving can lead to a decrease in expenditures, decreasing output and causing a recession.
potential income
The level of income that the economy technically is capable of producing without generating accelerating inflation.
quantity-adjusting markets
Markets in which firms respond to changes in demand primarily by changing production instead of changing their prices.
recessionary gap
The amount by which equilibrium output is below potential output.
short-run aggregate supply (SAS) curve:
A curve that specifies how a shift in the aggregate demand curve affects the price level and real output in the short run, other things constant.
1. What are five factors that cause the AD curve to shift?
a. (1) Changes in foreign income, (2) changes in expectations, (3) changes in exchange rates, (4) changes in the distribution of income, and (5) changes in governmental aggregate demand policy.
1. Explain how a rise in the price level affects aggregate quantity demanded with the:
a. Interest rate effect.- A rise in the price level reduces the value of cash people are holding. To keep the real value constant, they withdraw more from their banks. This reduces the amount banks have to lend, which leads to higher interest rates and lower investment expenditures.

b. International effect.- Assuming fixed exchange rates, a rise in the price level makes goods less internationally competitive, decreasing exports.
1. What will likely happen to the slope or position of the AD curve in the following circumstances?
a. A fall in the price level creates expectations of a further-falling price level. Steeper

b. Income is redistributed from rich people to poor people. Shift to the right
1. What are two factors that cause the SAS curve to shift?
a. Chanes in wages paid to factors of production. Lower wages shift SAS to the right, higher wages shift SAS to the left.
1. What will likely happen to the SAS curve in each of the following instances?
a. Productivity rises 3 percent; wages rise 4 percent.
b. Productivity rises 3 percent; wages rise 1 percent.
c. Productivity declines 1 percent; wages rise 1 percent.
d. Productivity rises 2 percent; wages rise 2 percent
WHy is the LAS curve vertical?
Because it is not affect by price
1. What will happen to the position of the SAS curve and/or LAS curve in the following circumstances?
a. Available factors of production increase.

The LAS will shift to the right. The SAS curve will not shift initially.

b. Wages that were fixed become flexible, and aggregate demand increases.

The SAS curve will shift up. The LAS curve will not shift.
1. Congratulations! You have been appointed an economic policy adviser to the United States. You are told that the economy is significantly below its potential output and that the following will happen next year: World income will fall significantly and the price of oil will rise significantly. (The United States is an oil importer.)
a. What will happen to the price level and output? Using the AS/AD model, demonstrate your predictions graphically.

The SAS curve will shift left, and the AD curve will shift left. This would case a rice in Price level and a fall in Output.

b. What policy might you suggest to the government?

Expansionary monetary policy & Expansionary Fiscal Policy
1. What fiscal policy actions would you recommend in the following instances?
a. The economy begins at potential output, but foreign economies slow dramatically.

Increase spending while decreasing taxes (expansionary fiscal policy)
1. Why is countercyclical fiscal policy difficult to implement?
a. It is difficult to assess the condition of the economy at any one time.
b. It tales a long time to enact new government policies.
c. Politically it is difficult to raise taxes, even when countercyclical policy is contractionary.
2. Why is macro policy more difficult than the simple model suggests?
The model does not take into account the difficulties in implementing fiscal policies.
Without knowing potential income, we cannot know whether expansionary or contractionary policy is called for.
The model does not take into account the uncertain effectiveness of fiscal policies
The model does not take into account potential negative feedback effects.
Classical growth theory ephasized the role of CAPITAL in the growth process, while new growth theory emphasizes the role of
Why AD might shift
Changes in foreign income
Exchange rate movements
Distribution of income-Different earning income level (households)
Fisical policy does what to G
If money supply goes up interest rate goes
SHort run AS- WHy is it upward sloping and why it shifts
Changes in input prices
Productivity changes
WHy is AD downward sloping
Recall that a downward sloping aggregate demand curve means that as the price level drops, the quantity of output demanded increases. Similarly, as the price level drops, the national income increases.
Long run aggregate supply=
Potential output
If AD shifts out, what hapens next?
All depends on where LAS is at.
Wher is the recessionary gap
It is the space between the equilibrium and LAS