L5: Output, inflation and interest
10 important questions on L5: Output, inflation and interest
Aggregate supply = the total supply of goods/services.
- What shows the Aggregate Supply curve?
- An Aggregate Supply curve is the relationship between the quantity supplied and the price at which firms are willing to sell.
We distinguish two-time frames associated with different states of the labour market.
- Define those two time-frames:
- Long-run Aggregate Supply.
- Short-run Aggregate Supply.
Aggregate Supply in the short-run.
- When the economy is in a recession, the aggregate supply curve is fairly flat.
- When the economy produces high levels of output the curve is vertical or nearly vertical.
- Define the Short-run Aggregate Supply:
- Short-run Aggregate Supply is the relationship between the quantity of real GDP supplied and the price level when the money wage rate, the prices of other resources, and potential GDP remain constant.
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- Define the Wealth effect:
A rise in the price level, other things remaining the same, decrease the quantity of real wealth (money and stocks).
- To restore their real wealth, what do people do?
- People increase saving and decrease spending.
International substitution effect.
- Finish the sentence:
"A rise in the price level, other things remaining the same, increases the price of domestic goods relative to foreign goods.
Imports increase and exports decrease."
- What happens to the quantity of real GDP?
- It decreases the quantity of real GDP demanded.
A change in any influence on buying plans other than the price level changes aggregate demand.
- Define the main influences of Aggregate Demand:
- Expectations.
- Fiscal Policy and monetary policy.
- The world economy.
Expectations about future income, future inflation, and future profits change Aggregate demand.
- How?
- Increases in expected future income increase people's consumption today and increase Aggregate Demand.
A government policy change could shift the Aggregate Demand. There are two categories of government policies, Monetary and Fiscal.
Monetary policy. The actions of the Central Bank takes to manage the money supply and interest rates to pursue macroeconomic policy objectives.
- What will happen when the Central Bank causes interest rates to rise?
- Investment spending will fall. An increase in interest rates shifts the Aggregate Demand curve to the left.
- Higher interest rates raise the cost to firms and households of borrowing, reducing consumption and investment spending.
AD shifts: Changes in Fiscal Policy.
Fiscal Policy: Changes in federal taxes and purchases that are intended to achieve macroeconomic policy objectives.
- What happens to the Aggregate Demand curve when the government increases government purchases?
- The Aggregate Demand curve shifts to the right because government purchases are a component of aggregate demand.
AD shifts: Changes in Fiscal Policy.
- What happens to the Aggregate Demand curve when the government increases personal income taxes or business taxes?
- The Aggregate Demand curve shifts to the left because, consumption spending falls when personal taxes rise, and investment falls when business taxes rise.
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