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Hmwk 3

The most important determinant of consumer spending is
the level of income
The MPC can be defined as that fraction of a
change in income that is spent
The consumption schedule shows
the amounts households intend to consume at various possible levels of aggregate income
A decline in disposable income
decreases consumption by moving downward along a specific consumption schedule
Refer to the figure on the right. The consumption schedule indicates that
up to a point consumption exceeds income, but then falls below income
Tessa's break-even income is $10,000 and her MPC is 0.75. If her actual disposable income is $16,000, her level of
consumption spending will be $14,500
Dissaving means:
that households are spending more than their current incomes
At the point where the consumption schedule intersects the 45 degree line:
saving is zero
The greater is the marginal propensity to consume, the:
smaller is the marginal propensity to save
If the saving schedule is a straight line, the:
MPS must be constant
Refer to the graph on the right. A movement from b to a along C might be caused by a
Refer to the data on the right. The marginal propenstiy to consume is
Refer to the above data. At the $200 level of disposable income:
dissaving is $5
Refer to the above data. If disposable income was $325, we would expect consumption to
The real-balances effect indicates that
a higher price level will decrease the real value of many financial assets and therefore reduce spending
The foreign purchaes effort suggests that a decrease in the U.S. price level relative to other countries will
increase U.S. exports and decrease U.S. imports
In an effort to avoid recession, the government implements a tax rebate program, effectively cutting taxes for households. We would this expect to:
increase aggregate demand
If investment decreases by $20 billion and the economy's MPC is, .5, the aggregate demand curve will shift
leftward by $40 billion at each price level
Which of the following is incorrect?
when the price level increases, real balances increase, business and households find themselves wealthier and therefore increase spending OR as the US price level rises, US goods become relatively more expensive so that US exorts fall and US imports rise, OR as the rice level falls, the demand for mney declines, the interest rate declines, and interest-rate sensitive speding increases; OR given aggregate demand, an increase in aggregate supply increases real output and, assuming downward flexible prices, reduces the price level.
In the diagram on the right a shift from AS-1 to AS-3 might be caused by a
increase in the prices of imported resources
In the above diagram, a shift from AS-1 to AS-2 might be caused by a(n)
decrease in the prices of domestic resources
refer to the diagrams on the right in which AD and AS are the "before" curves and AD2 and AS1 are the "after" curves. A recesion is depicted by:
panels (A) and (B)
Refer to above diagrams in which AD and AS are the "before" curves and AD2 and AS2 "after" curves. Cost push inflation is depicted by
panel B only
Refer to above diagrams in which AD and AS are the "before" curves and AD2 and AS2 "after" curves. Growth, full-employment and price stability is depicted by
panel C only
Refer to above diagrams in which AD and AS are the "before" curves and AD2 and AS2 "after" curves. Other things equal, a decline in net exports caused by the foreign purchases affect of a price level increase is depicted by the
move from point a to point b in panel (B).
Explain how it is possible for households to dissave at very low income levels.
It is possible for households to dissave at very low income levels due to consuming in excess of after tax income that occurs as a result of liquidating accumulated wealth or by borrowing
If the proportion of total income consumed (APC) decreases and the proportion saved (APS) increases as income rises explain how the MPC and MPS can be constant at various levels of income
If the proortion of total income consumed decreases and proortion saved increases as income rises, incomes will consume 15/20 or 1/4 and save 5/20 or 1/4 of the increase in income. The MPC is 1/4 or .25. MPC + MPS=1.
Is the equilibrium real output also necessarily the full-capacitiy real input?
Yes, the equilibrium real outut is also necessarily the full-capacity real output because equilibrium occurs at the price level that equalizes the amounts of real output demanded and supplied. The intersection of the aggregate demand curve AD and the aggregate supply curve AS establishes the economy's equilibrium price level and equilibrium real output. So aggregate demand and aggregate supply jointly establish the price level and level of real GDP.
Why would a price level of 150 not be an equilibrium price level in this hypotehetical economy? Why not $250?
A price level of 150 or 250 would not be an equilibrium price level in this economy because the increase in aggregate demand beyond the full-employment level of output causes inflation.
What factors might cause a change in aggregate demand?
Change in consumer spending, change in investment spending, change in government spending, and change in net export spending.
Use shifts in the AD and AS curves to explain the US experience of strong economic growth, full employment, and price stability in the late 1990s and early 2000s.
Between 1996 and 2000, the US experienced a combination of full employment, strong economic growth, and very low inflation. Specifically, the unemployment rate fell to 4 percent and real GDP grew nearly 4 percent annually, without igniting inflation. At first thought, this 'macoreconomic bliss' seems to be incompatible with the AD-AS model. The aggregate supply curve suggests that increase in aggregate demand that is sufficient for over-full emloyment will raise the price level. Higher inflation, so it would seem, is the inevitable price paid for expanding output beyond the full-employment level. Inflation remained very mild in the late 1990s. Between 1990 and 2000, larger-than-usual increases in productivity occurred because of a burst of new technology relating to computers, the internet, inventory management systems, electronic commerce, etc. This higher-than-usual productivity growth was represented as the rightward shift from AS1 to AS2. The reluctant aggregate demand and aggregate supply curves thus became AD2 and AS2, not AD2 and AS1. Instead of moving from a to b, the economy moved from a to c. Real output increased from Q1 to Q3, and the prive level rose only modestly (fr P1 to P2). The shift of the aggregate supply curve from AS1 to AS2 accommodated the rapid inc in aggregate demand & kept inflatin mild. This remarkable combination of rapid productivitiy growth, rapid real GDP growth, full employment, and relative price-level stability led some observers to proclaim that the US was experiencing a "new era" or a New Economy.
Explain how a strong negative wealth effect from, say, a precipitous drop in the stock market could cause a recession even though productivity is surging.
In 2001 the New Economy came face-to-face with old economic principles. AD declined because of a substantial fall in investment spending, and in Mar 2001, the economy exp a recession. The terrorists' attacks of 9/11/01, further dampened rivate spending and prolonged the recession throuoghout 2001. The unemployment rate rose from 4.2% in Jan 2001 to 6% in Dec 2001. Throughout 2001 the Fed Reserve lowered interest rates to try to halt the recession and promote recovery. Those Fed actions, along with Fed tax cuts, increased military spending, and strong demand for new housing, help spur recovery. The economy haltingly resumed its economic growth in 2002 and 2003 and then expanded rapidly in 2004 & 2005. Robust growth continued in 2006 and the first three quarters of 2007. However, the economy slowed greatly in late 2007 and early 2008, leading many economists to predict a 2008 recession that has continued in some respects currently.
Explain " A change in the price level shifts the aggregate expenditures curve but not the aggregate demand curve."
Other things equal, a change in the price level will change the amt of aggregate spending and therefore change the amt of real GDP demanded by the economy. Movements along a fixed aggregate demand curve represent these changes in real GDP. However, if one or more of the determinants of aggregate demand take place such as: A change in one of the determinants of AD (consumer/investment/government/net export spending) that directly changes the amount of real GDP demanded; OR A multiplier effect that produces a greater ultimate change in aggregate demand than the initiating change in spending. Therefore, the entire aggregate demand curve will shift rightward.