Deck 18: Extending the Analysis of Aggregate Supply

Question 1

Use graphical analysis to show how each of the following would affect the economy first in the short run and then in the
b.?Construction spending on new homes rises dramatically, greatly increasing total U.S. investment spending.
c.?Economic recession occurs abroad, significantly reducing foreign purchases of U.S. exports.

Answer 1

(a) Because of a war abroad, the oil supply to the is disrupted, sending oil prices rocketing upwards. It shifts aggregate supply curve leftwards from AS 1 to AS 2 because of the increase in the per-unit production cost of producing and transporting goods and services rises significantly and the price level rises from P 1 to P 2. In the(b) Construction spending on new homes rises dramatically, greatly increasing total investment spending. An increase in the investment spending shifts aggregate demand curve rightwards from AD1 to AD2. This increase in aggregate demand increases the price level from P1 to P2 and expands real output from Yp to Y2, and hence a positive GDP gap occurs. In the(c) Economic recession occurs abroad, significantly reducing foreign purchases of exports. It shifts aggregate demand leftwards from AD1 to AD2. If prices and wages are downwardly flexible, the price level falls from P1 to P2 and real output decreases from Yp to Y2, and hence a negative GDP gap occurs.
In the

Question 2

Why might one person work more, earn more, and pay more income tax when his or her tax rate is cut, while another person will work less, earn less, and pay less income tax under the same circumstance?

Answer 2

Proponents of supply-side economics argue that one person work more, earn more, and pay more income tax when his or her tax rate is cut because tax cuts provides work incentives to the person who substitute work for leisure since the opportunity cost of leisure has increaseD.But critics of supply-side economics reason that another person will work less, earn less, and pay less income tax under the same circumstances because tax cuts provides him or her higher after-tax pay enabling him or her to enjoy more leisure, and hence with tax cut, he or she can earn the same level of after-tax income as before with fewer work hours.

Question 3

Between 1990 and 2009, the U.S. price level rose by about 64 percent while real output increased by about 62 percent. Use the aggregate demand-aggregate supply model to illustrate these outcomes graphically.

Answer 3

Between 1990 and 2007, the price level rose by about 61 percent while real output increased by about 63 percent. Economic growth driven by supply factors (quantity and quality of resources and technology) shifts thePrice level ASLR 1 ASLR 2 AD 2 AD 1 P 2
P 1 AS 2
AS 1
0 Q 1 Q 2 Real GDP
Economic growth with mild inflation

Question 4

Distinguish between the short run and the

Question 5

LAST WORD On average, does an increase in taxes raise or lower real GDP? If taxes as a percent of GDP go up 1 percent, by how much does real GDP change? Are the decreases in real GDP caused by tax increases temporary or permanent? Does the intention of a tax increase matter?

Question 6

Use the accompanying figure to answer the follow questions. Assume that the economy initially is operating at price level 120 and real output level $870. This output level is the economy's potential (or full-employment) level of output. Next, suppose that the price level rises from 120 to 130. By how much will real output increase in the short run? In the
LO1

Question 7

Assume there is a particular short-run aggregate supply curve for an economy and the curve is relevant for -several years. Use the AD-AS analysis to show graphically why higher rates of inflation over this period would be associated with

Question 8

Suppose the full-employment level of real output (Q) for a hypothetical economy is $250 and the price level (P) initially is 100. Use the short-run aggregate supply schedules below to answer the questions that follow:

a.?What will be the level of real output in the short run if the price level unexpectedly rises from 100 to 125 because of an increase in aggregate demand? What if the price level unexpectedly falls from 100 to 75 because of a decrease in aggregate demand? Explain each situation, using numbers from the table.
b.?What will be the level of real output in the
c.? Show the circumstances described in parts a and b on graph paper, and derive the

Question 9

Aggregate supply shocks can cause______ rates of inflation that are accompanied by_______ rates of unemployment.

A) Higher; higher.
B) Higher;
Chigher.
Dlower.

Question 10

Which of the following statements are true? Which are false? Explain why the false statements are untrueaggregate supply curves reflect an inverse relationship between the price level and the level of real output.
b.?The
c.?In the

Question 11

Suppose that firms are expecting 6 percent inflation while workers are expecting 9 percent inflation. How much of a pay raise will workers demand if their goal is to maintain the purchasing power of their incomes?

A) 3 percent.
B) 6 percent
C) 9 percent.
D) 12 percent.

Question 12

ADVANCED ANALYSIS Suppose that the equation for a particular short-run AS curve is P = 20 +.5 Q , where P is the price level and Q is real output in dollar terms. What is Q if the price level is 120? Suppose that the Q in your answer is the full-employment level of output. By how much will Q increase in the short run if the price level unexpectedly rises from 120 to 132? By how much will Q increase in the

Question 13

Suppose that firms were expecting inflation to be 3 percent, but then it actually turned out to be 7 percent. Other things equal, firm profits will be:
a. Smaller than expected.
b. Larger than expected.

Question 14

Suppose that AD and AS intersect at an output level that is higher than the full-employment output level. After the economy adjusts back to equilibrium in the a. Higher than it is now.
Bthan it is now.
C) The same as it is now.

Question 15

Suppose the government misjudges the natural rate of unemployment to be much

Question 16

Suppose that over a 30-year period Buskerville's price level increased from 72 to 138 while its real GDP rose from $1.2 trillion to $2.1 trillion. Did economic growth occur in Buskerville? If so, by what average yearly rate? Did Buskerville experience inflation? If so, by what average yearly rate? Which shifted rightward faster in Buskerville: its

Question 17

Suppose that an economy begins in a. The AD curve shifting right.
B) The AS curve shifting right.
C) The AD curve shifting left.
D) The AS curve shifting left.

Question 18

What do the distinctions between short-run aggregate supply and

Question 19

Suppose that for years East Confetti's short-run Phillips Curve was such that each 1 percentage point increase in its unemployment rate was associated with a 2 percentage point decline in its inflation rate. Then, during several recent years the short run pattern changed such that its inflation rate rose by 3 percentage points for every 1 percentage point drop in its unemployment rate. Graphically, did East Confetti's Phillips Curve shift upward or did it shift downward?

Question 20

Identify the two descriptions below as being the result of either cost-push inflation or demand-pull inflation.
a. Real GDP is below the full-employment level and prices have risen recently.
b. Real GDP is above the full-employment level and prices have risen recently.

Question 21

What is the Laffer Curve, and how does it relate to supply-side economics? Why is determining the economy's