Intro to Macroeconomics Test 2 Erwin Erhardt, UC

consumption function

the relationship between consumption and income, other things considered

Marginal Propensity to Consume

The fraction of a change in income that is spent on consumption; the change in consumption divided by the change in income that caused it.

Marginal Propensity to Save

The fraction of a change in income that is saved; the change in income that caused it.

Saving Function

The relationship between saving and income (O.t.c)

Net Wealth

the value of assets minus liabilities

Life-Cycle Model of Consumption and Saving

Young people borrow, middle agers pay off debts and save, and older people draw down their savings; on average net savings over a lifetime are small.

Investment Function

the relationship between the amount businesses plan to invest and the economy's income, other things considered

Autonomous

A term that means "independent"; for example, autonomous investment is independent of income.

Government Purchase Function

the relationship between government purchases and the economy's income, (o.t.c)

Net Exports

The relationship between net exports and the economy's income,(o.t.c)

Planned Investment

the amount of investment that firms plan to undertake during a year.

Actual Investment

The amount of investment actually undertaken; equals planned investment plus unplanned changes in inventories.

Aggregate Expenditure Line

A relationship showing, for a given price level, planned spending at each income, or real GDP; the total of C+I+G+(X-M) at each income, or real GDP.

Income-Expenditure Model

A relationship between aggregate income and aggregate spending that determines, for a given price level, where the amount people plan to spend equals the amount produced.

Simple Spending Multiplier

The ratio of a change in real GDP demanded to the initial change in spending that brought it about; the numerical value of the simple spending multiplier is 1(1-MPC); call "simple" because only consumption varies with income.

Nominal Wage

the wage measured in current dollars; the dollar amount on a paycheck.

Real Wage

The wage measured in dollars of constant purchasing power; the wage measured in terms of the quantity of goods and services it will buy.

Potential Output

The economy's maximum sustainable output, given the supply of resources, technology, and production incentives; the output level when there are no surprises about the price level.

Natural Rate of Unemployment

the unemployment rate when the economy produces its potential output

Short Run

In macroeconomics, a period during which some resource prices, especially those of labor, are fixed by explicit or implicit agreements.

Short-Run aggregate supply curve

A curve that shows a direct relationship between the price level and real GDP supplied in the short run, (O.t.c)

Short-Run equilibrium

The price level and real GDP that occur when the aggregate demand curve intersects the short-run aggregate supply curve

Expansionary Gap

The amount by which output in the short run exceeds the economy's potential output. (This is a bad thing, economy grows too fast - risking inflation)

Long Run

In macroeconomics, a period during which wage contracts and resource price agreements can be renegotiated; there are no surprises about the economy's actual price level.

Long-Run Equilibrium

The price level and real GDP that occurs when (1) the actual price level equals the expected price level, (2) real GDP supplied equals potential output, and (3) real GDP supplied equals real GDP demanded.

Contractionary Gap

The amount by which actual output in the short run falls short of the economy's potential output.

Long-Run Aggregate Supply Curve

A vertical line at the economy's potential output; aggregate supply when there are no surprises about the price level and all resource contracts can be renegotiated.

Coordination Failure

A situation in which workers and employers fail to achieve an outcome that all would prefer.

Supply Shocks

Unexpected events that affect aggregate supply, sometimes only temporarily.

Beneficial Supply Shocks

Unexpected events that increase aggregate supply, sometimes only temporarily.

Adverse Supply Shocks

Unexpected events that reduce aggregate supply, sometimes only temporarily.

Hysteresis

The theory that the natural rate of unemployment depends in part on the recent history of unemployment, high unemployment rates increase the natural rate of unemployment.

Automatic Stabilizers

Structural features of government spending and taxation that reduce fluctuations in disposable income and thus consumption, over the business cycle. (Ex: Income tax)

Discretionary Fiscal Policy

The deliberate manipulation of government purchases, taxation, and transfer payments to promote macroeconomic goals, such as full employment, price stability, and economic growth.

Simple Tax Multiplier

The ratio of a change in real GDP demanded to the initial change in autonomous net taxes that brought it about; the numerical value of the simple tax multiplier is -MPC/(1-MPC)

Expansionary Fiscal Policy

An increase in government purchases, decrease in net taxes, or some combination of the two aimed at increasing aggregate demand enough to return the economy to its potential output thereby reducing unemployment; policy used to close a contractionary gap.

Contractionary Fiscal Policy

A decrease in government purchases, increase in net taxes, or some combination of the two aimed at reducing aggregate demand enough to return the economy to potential output without worsening inflation; policy used to close an expansionary gap.

Classical Economists

A group of 18th and 19th century economists who believed that economic downturns were short-run phenomena that corrected themselves through natural market forces; thus, they believed the economy was self-correcting and needed no government intervention.

Automatic stabilizers

smooth out fluctuations in disposable income over the business cycle, thereby stimulating aggregate demand during recessions and dampening aggregate demand during expansions.

Progressive Income Tax

during economic expansions and recession

Unemployment Insurance

during economy expansion, the system automatically increases the flow of unemployment insurance taxes from the income stream into the unemployment insurance fund, moderating aggregate demand.

Double Coincidence of Wants

Two traders are willing to exchange their products directly.

Money

Anything that is generally accepted in exchange for goods and services. (Money fulfills three important functions: a medium of exchange, a unit of account, and a store of value)

Medium of Exchange

Anything that facilitates trade by being generally accepted by all parties in payment for goods or services.

Commodity Money

Anything that serves both as money as a commodity; money that has intrinsic value.

Unit of Account

a common unit for measuring the value of each good or service.

Store Value

Anything that retains its purchasing power over time.

Gresham's Law

People tend to trade away inferior money and hoard the best. [Bad money drives out good- debasing the coinage]

• Ex: Grandpa saving his old coins because they made new,cheaper versions...Holes in coins etc.

Money should maintain a relatively stable value

Seigniorage

The difference between the face value of money and the cost of supply it; the "Profit" from issuing money.

Token Money

Money whose face value exceeds its cost of production.

Check

A written order instructing the bank to pay someone rom an amount deposited.

Transactions Account

A bank account that permits direct payment to a third party- for example, with a check or debit card.

Fractional Reserve Banking System

Only a portion of bank deposits is backed by reserves.

Bank Notes

Originally, papers promising a specific amount of gold and silver to anyone who presented them to issuing banks for redemption; today, Federal Reserve notes are mere paper money.

Representative Money

Bank notes that exchange for a specific commodity, such as gold.

Fiat Money

Money not redeemable for any commodity; its status as money is conferred initially by the government but eventually by common experience.

• Happened during Articles of Confederation period in U.S.

Legal Tender

U.S. currency that constitutes a valid and legal offer of payment of debt.

Financial Intermediaries

Institutions that serve as go-betweens, accepting funds from savers and lending them to borrowers.

Depository Institutions

Commercial banks and thrift institutions; financial institutions that accept deposits from the public.

Commercial Banks

Depository institutions that historically make short-term loans primarily to businesses.

Thrift Institutions

Savings banks and credit unions; depository institutions that historically lent money to households.

Federal Open Market Committee (FOMC)

The 12-member group that makes decisions about the open-market operations- purchases and sales of U.S. government securities by the FED that affect the money supply and interest rates; consists of the 7 Board governors plus 5 of the 12 presidents of the reserve banks.

Open-market Operations

Purchases and sales of government securities by the Federal Reserve in an effort to influence the money supply.

Open-market purchase

The purchase of U.S. government bonds by the FED to increase the money supply.

Open-market sale

The sale of U.S. government bonds by the FED to reduce the money supply.

Discounting

Federal Reserve lending of reserves to private banks.

Money Market Mutual Fund

A collection of short-term interest-earning assets purchased with funds collected from many share-holders. (Limited check writing privileges)(competition for banks)

Bank Deregulation

Deregulation and deposit insurance created "Moral hazard."

S and L Collapse

Congress 1989 - $250 billion dollar bailout

Bank Branches

A bank's additional offices that carry out banking operations

Bank Holding Company

A corporation that owns banks.

Checkable Deposits

Deposits in financial institutions against which checks can be written and ATM or debit cards can be applied.

Money Aggregates

Measures of the economy's money supply

M1

The narrowest measure of the money supply, consisting of currency and coins held by the non-banking public, checkable deposits, and traveler's checks.

Savings Deposits

Deposits that earn interest but have no specific maturity date.

Time Deposits

Deposits that earn a fixed rate of interest if held for the specified period, which can range from several months to several years; also called certificates of deposits (CD's)

M2

A money aggregate consisting of M1 plus savings deposits, and money market deposit accounts; and small denomination time deposits (less than $100,000), and money market mutual funds.

Debit Card

Cards that tap directly into the depositor's bank account to fund purchases; also called a check card, and usually doubles as an ATM card.

Asymmetric Information

A situation in which one side of the market has more reliable information than the other side.

Net worth

Assets minus liabilities.

Balance Sheet

A financial statement that shows assets, liabilities, and net worth at a given point in time; all these are stock measures; because assets must equal liabilities plus net worth, the statement is in balance.

Asset

anything of value that is owned.

Liability

Anything that is owed to another individual or institution.

Required Reserves

The dollar amount of reserves a bank is obligated by regulation to hold.

Excess Reserves

Bank reserves exceeding required reserves.

Liquidity

A measure of the ease with which an asset can be converted into money without a significant loss of value.

Open Market Operations

Federal Reserve purchases and sales of government bonds for the purpose of altering bank reserves. [Quantitative Easing: 2009-2011]

Bond

A certificate acknowledging a debt and the amount of interest to be paid each year until repayment; an IOU.

Yield

The rate of return on a bond; the annual interest payment divided by the bond's price.

Discount Rate

The interest rate the FED charges banks that borrow reserves.

Stock of Money

How much you have right now

Flow

How much you earn epr period. (w/m/y)

Demand for Money

The relationship between how much money people want to hold and the interest rate.

People demand money to carry out market transactions.

Rule

The higher the economy's price level, the greater the demand for money.

Bonds

a store of value. Earn interest for loaning you money.

Problem

Liquidity

Adding short-Run aggregate supply Rule

For a given shift of the aggregate demand curve, the steeper the short-run aggregate supply curve, the smaller the increase in real GDP and the larger the increase in the price level.

Equation of Exchange

The quantity of money,M, multiplied by its velocity, V equals nominal GDP, which is the product of the price level, P, and real GDP, Y. M[oney] x V[elocity] = P[rice] x Y[GDP]:

Velocity of Money

The average number of times per year each dollar is used to purchase final goods and services.