Economics Midterm 2 Study Guide: Economic Growth, Aggregate Demand, and Aggregate Supply

Vocabulary practice flashcards covering economic growth models, technology, production functions, and the aggregate demand-aggregate supply framework.

Industrial Revolution

The application of mechanical power to the production of goods that began in England around $1750$.

Economic Growth Model

A model that explains growth rates in real GDP per capita over the long run.

Labor Productivity

The quantity of goods and services that can be produced by one worker or by one hour of work.

Technological Change

A positive or negative change in the ability of a firm to produce a given level of output within a given quantity of inputs.

Human Capital

The accumulated knowledge and skills that workers acquire from education, training, and their life experiences.

Per-Worker Production Function

The relationship between real GDP per hour worked ($Y/L$) and capital per hour worked ($K/L$), holding the level of technology constant.

New Growth Theory

A model of long-run economic growth which emphasizes that technological change is influenced by economic incentives and determined by the working of the market system, stating that increases in knowledge capital result in increasing returns to scale at the economy level.

Knowledge Capital

A form of capital that is nonrival in production (two people can use the same knowledge simultaneously) and nonexcludable, allowing firms to free ride on other firms' research and development.

Theory of Creative Destruction

A concept formulated by Joseph Schumpeter describing a process by which new products unleash a gale of destruction that drives old products out of the market.

Diminishing Returns

The condition that occurs when additions of an input to a fixed quantity of another input lead to progressively smaller increases in output.

Patent

The exclusive legal right granted to a firm to produce a product for a period of $20$ years from the date the application is filed with the government.

Brain Drain

The departure of highly educated individuals (such as doctors) leaving developing countries to seek better opportunities in high-income countries.

The Catch-Up Effect

The economic concept stating that developing nations grow faster than richer countries because adding new technology and machinery creates bigger initial boosts in output.

Foreign Direct Investment (FDI)

An investment in foreign facilities and operations that only firms can engage in, providing low-income countries with access to funds and technology.

Foreign Portfolio Investment

Investment in foreign financial assets (such as stocks and bonds) that individuals are able to engage in.

Technological Improvement (Per-Worker Production Function)

An upward shift of the production function curve, illustrated by moving from point E on Production function$_{1}$ to point B on Production function$_{2}$ and to point D on Production function$_{3}$, holding capital per hour worked constant at $\$60{,}000$.

Wealth Effect

An aggregate demand concept stating that when the price level falls, the real value of household wealth rises, leading to higher consumption.

International Trade Effect

The macroeconomic concept stating that an increase in the price level makes domestic goods relatively more expensive, which decreases net exports.

Long-Run Aggregate Supply (LRAS) Curve

A vertical line located at potential or full-employment GDP, reflecting that changes in the price level do not affect the level of aggregate supply in the long run.

Short-Run Aggregate Supply (SRAS) Curve

A positively sloped curve showing the direct relationship between the price level and the quantity of real GDP supplied in the short run.

Stagflation

A macroeconomic condition characterized by a simultaneous rise in inflation and a fall in real GDP.

Monetarism

A school of thought put forth by Milton Friedman arguing that the economy would ordinarily be at potential GDP and advocating that the Federal Reserve adopt a constant monetary growth rule.

New Keynesian Model

A macroeconomic model that emphasizes the importance of sticky wages and sticky prices in analyzing economic fluctuations.

Eventual Long-Run Equilibrium After a Government Spending Decrease

Point A; beginning from point C, lower government spending shifts aggregate demand from $AD_1$ to $AD_2$, followed by downward adjustments in wage and price expectations that shift short-run aggregate supply from $SRAS_1$ to $SRAS_2$, restoring output to potential GDP ($Y_1$) along the $LRAS$ line.