Banking-Chapter 25-Aggregate Demand and Aggregate Supply

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Banking-Chapter 25-Aggregate Demand and Aggregate Supply

Y=C+I+G+NX

C=goods and services for consumption
I=investment in business plant and equipment
G=gov't purchases of goods and services
NX=net exports

aggregate demand (AD) curve equation

expansionary

a shift in the aggregate demand curve to the right is _________

contractionary

a shift in the aggregate demand curve to the left is _________

Ricardian equivalence proposition

reduction of taxes doesn't improve consumers' well-being; the increase in current income from a tax cut is offset by higher taxes in the future to pay off the debt

-increases nominal money supply: prices are stick in short, real money balances rise, real interest rate falls in assets. Then savings must fall, investment increase, and agg demand shifts
-decline in money demand: reduces real interest rate and raises agg demand in goods market

Causes of expansionary agg demand shift originating in the asset market:

-decline in the nominal money supply
-rise in money demand at each output level

causes of contractionary agg demand shifts in the asset market:

-decline in saving
-increase in investment
-increase in gov't purchases
-increase in net exports

causes of expansionary agg demand shift originating in goods market:

-increase in saving
-decrease in investment
-decrease in gov't purchases
-decrease in net exports

causes of contractionary agg demand shift originating the goods market:

aggregate supply

total quantity of output that producers are willing to sell at various price levels

aggregate supply (AS) curve

levels of output that producers are willing to supply at each price level

short run aggregate supply (SRAS)

most economist believe the ______ is positively related to general price level

new classical view of aggregate supply in short run (or) misperception theory

if general price level increases, just increase price
if demand for product causes your price level to increase, increase production as well

research by Robert E. Lucas Jr. ; relationship between agg output and price level

Y=Y*-a(P-Pe)

Y=agg output
Y*=full employment output
a=positive number that indicates by how much output responds when the actual price level is greater than the expected price level
P=actual price level
Pe=expected price level

full employment output

output produced by full employment of existing factors of production

Keynesian view

prices are sticky in the short run and don't reflect changes in agg demand

new Keynesian view

use characteristics of many real-world markets-rigidity of long term contracts and imperfect competition-to explain price behavior

-prices will adjust gradually in monopolistically competitive markets
-prices adjust fairly quickly in commodity markets

nothing

in a perfectly competitive market, when a seller raises prices slight he will sell _____

higher

in a monopolistically competitive firm, the product price is ____ than the marginal cost (cost of producing extra unit); firm will sell extra output which will satisfy level of demand and firms output will then rise and fall according to deman

P=Pe+b((1-c)/c)(Y-Y*)

P=agg price level
c=fractoin of firms with stick prices
1-c=fraction of firms with flexible prices
Y*=full employment output
Y=output
b=parameter with a value greater than zero

-an increase in the expected price level raises expected costs and leads firms to raise prices
-an increase in current output raises the demand for an individual firm's products, so flexible-price firms raise their prices

aggregate price level equation

it reminds us that:

flatter

the larger the proportion of firms in the economy with sticky prices, the _____ the SRAS curve will be

vertical at Y*

under the new classical view, the LRAS curve is _______

sloping upward

under the new classical view, the SRAS curve is______

sloping upward

under the new Keynesian view, the SRAS curve is ________

vertical at Y*

under the new Keynesian view, the LRAS curve is ______

-labor cost
-input costs
-expected price level

factors that cause shifts in the SRAS curve under the Keynesian and new classical view

up and to the left

increases in labor costs cause SRAS to shift _______

down and to the right

decreases in labor costs cause the SRAS to shift ____

supply shocks

shifts in price or avaliability of raw materials or in production technologies affect production costs and the agg supply curve (tech, weather, prices of oil, etc)

down and to the right

positive supply shocks (labor saving tech, etc) cause the SRAS to shift ______

up and to the left

negative supply shocks (increase in input costs, etc) cause the SRAS to shift ______

up and to the left

an increase in the expected price level shifts the SRAS _______

down and to the right

a decrease in the expected price level shifts the SRAS _____

-increases in capital and labor inputs
-increases in productivity growth (output produced per unit of input)

2 things that cause the full employment level growth

-energy prices
-tech advances
-worker training
-education
-regulation of production

5 principal sources of change in productivity growth:

none, meaning LRAS does not shift in response to AD

in general, increases and decreases in agg demand have what kind of effect on the full employment level of output?

hysteresis

large negative shifts in AD reduce teh full employment level of output (believed by some economists); unemployment rates can then be higher than those associated with the full employment level of output for extended periods of time

monetary neutrality

changes in AD affect the price level, but no the output level in the long run

real business cycle view

assumes perfect information; the SRAS is also vertical; changes in AD have not effect on output in short run either; assumes perfectly flexible prices;

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