Chapter 13: The Aggregate Demand-Aggregate Supply Model

Classify each event either as shifting the aggregate demand curve or as causing movement along the curve.

State governments cut their budgets for infrastructure maintenance, Technological advances generate wealth in a broad range of industries.

Which of these are conditions for long-run equilibrium in the aggregate demand-aggregate supply model?

Short-run aggregate supply equals aggregate demand, Long-run aggregate supply equals aggregate demand

What is the meaning of a leftward shift in the long-run aggregate supply (LRAS) curve?

The unemployment rate has not changed, but workers are less productive.

Recessions in the United States occur with regular, predictable frequency; hence the term "business cycle."

False

With the figure for reference, match each shift to the expected consequence on aggregate output (Y), the price level (P), and the unemployment rate (u).

Y increases, P increases: Aggregate demand shifts to the right, Y decreases, P increases: LRAS shifts to the left, U falls, P falls: SRAS shifts to the right, Y falls, P falls: Aggregate demand shifts to the left.

Which of the following are reasons the aggregate demand curve slopes downward, as shown in the figure?

When the price level increases, U.S. exports become relatively more expensive for foreign buyers and they want to purchase less, When the price level increases, the real value of wealth falls and therefore buyers want to purchase less, When the price level increases, people save less, thus interest rates rise and investment falls

Consider the graph below. Assume that, initially, an economy has long-run aggregate supply corresponding to LRAS, short-run supply corresponding to SRAS1, and aggregate demand corresponding to AD1. Where will the new equilibrium be in the long run if a virus renders a significant fraction of the nation's computers unusable for two months before a fix is found?

The black dot box

The U.S. economy's initial aggregate demand curve is AD1. Drag each event to the curve that would result from it.

AD1: The price level increases, New communication technologies lower the production cost of many services; AD3: The value of the U.S. dollar increases relative to other currencies; AD2: Foreign incomes increase

Assume that an economy initially has a long-run aggregate supply curve corresponding the LRAS1 in the graph below. Click on the long-run aggregate supply curve that would most likely result if a new shipping method, using drone technology, made it easier to transport goods between any two locations.

Right box

Whenever the long-run aggregate supply curve shifts to the right as shown, the long-run unemployment rate will decrease.

False

Imagine that the U.S. economy has an initial unemployment rate equal to the natural rate of unemployment. Identify each event as a factor that will either increase or decrease unemployment in the short run.

The U.S. dollar gains value against foreign currencies, An oil cartel raises oil prices

There are three reasons for the downward slope of the demand curve: the wealth effect, the interest rate effect, and the international trade effect. Match each effect with the component of aggregate demand it most closely impacts.

Consumption: the wealth effect, Net exports: the international trade effect, Investment: the interest rate effect

This graph illustrates an economy, initially in long-run equilibrium, which then experiences a decrease in short-run aggregate supply (from SRAS1 to SRAS2). Label the two short-run equilibria (before and after the shift) with the appropriate relation between u, the short-run equilibrium unemployment rate, and u*, the natural long-run rate.

u>u*: Y1 u = u*: Y*

Place the three components of aggregate demand in order of relative size, starting with the one representing the largest component of GDP.

Consumption, Investment, Net exports

Which of the following phenomena help explain why the short-run aggregate supply curve is sloped instead of vertical?

Menu cost, Sticky prices, Money illusion

Which of these are consequences of an increase in long-run aggregate supply?

An increase in short-run aggregate supply, An increase in full-employment output

Since the beginning of the twentieth century, the United States has experienced (1) recessions. Of those, (2) have occurred since 1970.

1. 22

2. 7

A simple model of a firm describes it as an entity that buys (1) (for example, labor) and sells (2) (goods and services). A firm's input prices, which affect costs, are generally (3) in the short run, while a firm's output prices, which affect revenue, are (4). Therefore, an increase in the short-run price level raises revenue (5) than costs, so firms produce more in the short run. consequently, the SRAS curve slopes upward.

1. inputs

2. outputs

3. sticky

4. flexible

5. more

Please attach the most appropriate label to the curve in the graph below. Note that the curve is perfectly vertical.

In the box: long-run aggregate supply

Since 1985, the highest monthly unemployment rate in the US was (1), this happen in (2). Following the recession of 1991-1992, GDP growth was generally strong, at one point exceeding 4% for four consecutive (3).

1. 10%

2. 2009

3. Quarters

How do aggregate demand and aggregate supply differ from regular demand and supply?

Regular demand and supply describe the market for a single good, while aggregate demand and aggregate supply describe the combined market for all final goods and services.

Imagine that the U.S. economy is initially operating at full-employment output (Y*). Identify each event as a factor that will either increase or decrease real GDP in the short run.

The member nations of an oil cartel have internal disputes that lead to a temporary breakdown in the cartel's control of oil prices. Cheap oil floods the world market, American workers expect a surge in their incomes due to upbeat media coverage of the economy.

Consider the graph below, and assume that Ireland's economy initially has a short-run aggregate supply curve corresponding to SRAS1. Click on the SRAS curve that would most plausibly result if technological improvements lowered costs of production in Ireland.

SRAS2

Consider the following graph. Assuming that the U.S. economy begins with an aggregate demand curve equal to AD1, click on the aggregate demand curve you would expect to see following a rise in the U.S. price level.

AD1

When aggregate demand increases, output and employment rise in the short run before returning to their initial values in the long run. Therefore, everyone is better off in the short run.

False

Consider the graph below, and assume that the U.S. economy initially has a short-run aggregate supply curve corresponding to SRAS1. Click on the SRAS curve that would most plausibly result if the Federal Reserve announced a plan to increase the U.S. money supply one year from now, and citizens responded by expecting higher prices in the future.

SRAS3

Match each of the following terms with the phrase that best describes it.

Aggregate supply: the producing side of the economy, Aggregate demand: the spending side of the economy, GDP deflator: a measure of the price level, Consumer sentiment index: a measure of consumers' expectations

One branch of macroeconomics focuses on long-run growth and development, while the other branch focuses on (1), which are fluctuations in (2), typically over time periods of five years or (3). One model that macroeconomists use to study these fluctuations, which are called recessions and expansions, is the (4) model.

1. business cycles

2. an economy's growth rate

3. less

4. aggregate demand-aggregate suppy

Of the four major components that make up aggregate demand, which one has the most significant impact on GDP?

Consumption

When the U.S. price level increases, Americans increase their demand for German cars, while Germans demand fewer American cars. This is an example of the (1).

1. International trade effect

Consider the following graph. Assuming that the U.S. economy begins with an aggregate demand curve equal to AD1, click on the aggregate demand curve you would expect to see following a decrease in the value of the U.S. dollar.

AD2

A small manufacturer, operating out of a rented space in a light-industrial area, produces inexpensive office supplies. Classify each aspect of the operation as an example of sticky input prices, menu costs, or money illusion.

Money illusion: Due to lower-than-usual inflation, workers get a smaller-than-usual annual raise, which hurts morale; Menu costs: The flagship product has been packaged and advertised as "The two-buck stapler." Changing the price would require new packaging and rebranding of the item; Sticky input prices: The warehouse space is on a 3-year lease, with two years still to go.

Which of the following would result in a decrease in U.S. aggregate demand?

Buyers become less optimistic about their future income, South American nations experience a recession, A stock market crash erodes U.S. citizens' retirement savings

Consider a situation where the residents of a major U.S. trade partner see an increase in their income. Assuming the U.S. economy starts in equilibrium, order the following time periods by price level, from lowest to highest.

Immediately before an increase in the income of foreign buyers, A month after an increase in the income of foreign buyers, Several years after an increase in the income of foreign buyers.

Put in chronological order the events that take an economy from its original long-run equilibrium to a new long-run equilibrium.

Stock prices rise in the U.S., increasing citizens' real wealth, Aggregate demand shifts to the right, increasing the price level in the short run, Gradually, all prices in the economy adjust to the demand shift, Short-run aggregate supply shifts to the left, returning to long-run equilibrium and a higher price level.

Assuming the U.S. economy's initial aggregate supply curve is LRAS1, label the other two curves with the event most likely to cause a shift to each curve.

Line left of LRAS1: A new law prohibits employers from hiring anyone under the age of 21, Line right of LRAS1: Oil prospectors discover a previously unknown reserve of oil in California.

A supply shock is by definition an abrupt change in supply that raises a firm's production costs.

False

You read a news article reporting that a nation's real output fell while its inflation rate temporarily jumped up. From this you can conclude that the recession was likely caused by which of these scenarios?

A decrease in aggregate supply.

Suppose that a new technology, nuclear fusion, makes it much cheaper to generate power. Would this development cause a shift in the short-run aggregate supply curve (SRAS), the long-run aggregate supply curve (LRAS), both, or neither?

Both curves shift

Which of these scenarios would cause the U.S. short-run aggregate supply curve to shift to the left?

A mysterious disease kills off half of the nation's corn crop, Many workers signed contracts last year assuming 1% future inflation. This year, it was revealed that current inflation is nearly 5%.

Consider the graph below. Assume that, initially, an economy has long-run aggregate supply corresponding to LRAS, short-run supply corresponding to SRAS1, and aggregate demand corresponding to AD1. Where will the new equilibrium be in the short run if political events cause workers to lower their expectations of future income?

The box at the point of the light blue line and the SRAS1 line