Macroeconomics Exam 3 Study Guide: Chapters 24, 26, & 27

Vocabulary practice flashcards for Macroeconomics Exam 3, covering aggregate demand, short-run and long-run aggregate supply, and fiscal policy.

Aggregate demand (AD)

The total spending on final goods and services in the economy, calculated as $AD = C + I + G + NX$, where $C$ is consumption, $I$ is business investment, $G$ is government purchases, and $NX$ is net exports.

Disposable income (DI)

The total personal income remaining after deducting taxes ($DI = \text{income} - \text{taxes}$), which is either consumed or saved.

Marginal propensity to consume (MPC)

The fraction of additional disposable income that households spend on consumption, defined by the formula $\text{MPC} = \frac{\Delta C}{\Delta \text{DI}}$.

Consumption function

A schedule or graph showing the relationship between disposable income and household consumption. Changes in disposable income cause movements along the line, while changes in wealth or consumer optimism shift the curve.

Short-run aggregate supply (SRAS)

An upward-sloping aggregate supply curve representing the short run (defined as less than one year), during which wages and some input costs remain relatively fixed by contracts.

Long-run aggregate supply (LRAS)

A vertical supply curve situated at potential GDP representing the long run (more than one year), where potential output depends strictly on fundamental factors such as labor, capital, technology, and institutions.

Productivity

The ratio of output produced per unit of input, increases in which shift aggregate supply to the right.

Real shock

Any event that changes the factors that turn economic inputs into output, such as changes in oil supply, weather, natural resources, or technology.

Stagflation

A macroeconomic condition characterized by stagnation, slow growth, or high unemployment occurring simultaneously with inflation, commonly caused by negative supply shocks.

Recessionary gap

The condition where equilibrium real GDP falls below potential GDP, typically accompanied by higher unemployment.

Inflationary gap

The condition where equilibrium real GDP exceeds potential GDP, putting upward pressure on the aggregate price level.

Fiscal policy

The government's use of taxes, expenditures, and borrowing to influence aggregate demand and mitigate business-cycle fluctuations.

Expansionary fiscal policy

Fiscal measures taken during a recession to boost aggregate demand by decreasing taxes, increasing government purchases, or increasing transfer payments.

Contractionary fiscal policy

Fiscal measures taken to curb inflation by increasing taxes, decreasing government purchases, or decreasing transfer payments to reduce aggregate demand.

Multiplier effect

The process by which an initial change in spending or taxes generates successive rounds of spending, resulting in a total change in GDP larger than the initial expenditure ($\Delta \text{GDP} = \text{multiplier} \times \text{initial change}$).

Automatic stabilizers

Built-in fiscal mechanisms—such as progressive income taxes, unemployment insurance, and transfer payments—that buffer the economy against shocks automatically without requiring new legislation.

Government purchases ($G$)

Direct expenditures by the government to buy current goods and services (e.g., road construction), which directly contribute to aggregate demand and GDP.

Transfer payments

Government disbursements (such as Social Security, food stamps, and unemployment insurance) provided without receiving a current good or service in return; they do not count directly in GDP but influence disposable income and consumption.

Budget deficit

A fiscal shortfall that occurs when government expenditures exceed tax revenue during a given period.

Budget surplus

A fiscal excess that occurs when government tax revenue exceeds total expenditures during a given period.

Supply-side economics

An economic policy approach that uses incentives, such as lower tax rates on saving, to encourage capital formation, investment, saving, and overall productivity.