Week 6 - Terms & Main Lecture

what is fisal policy?

federal government policy on taxes, spending, and borrowing designed to influence business fluctuations

what are the two ways the government influences business fluctuations?

1. increasing government spending

2. decreasing taxes

what is the multiplier effect?

Additional increase in spending caused by the initial increase in government spending

when does fisal policy fail?

crowding out & time lags

what are automatic stabilizers?

 fiscal policies built into the economic system that act without interference from policy makers → ex. progressive tax systems

what are business fluctuations (business cycles)?

fluctuations of real GDP around its long-term trend or “normal” growth rate

what is a recession?

significant widespread decline in real income and employment, resources are being wasted & economy is operating below its full potential

what is the aggregate demand curve (AD)?

tells us all the combinations of inflation and real growth that are consistent with a specified rate of spending growth

how do you shift the aggregate demand curve?

increase or decrease in spending growth (M & v)

what is the long run aggregate supply curve (LRAS)?

vertical line at the solow growth rate

what is the solow growth rate?

rate of economic growth given flexible prices and the existing real factors of capital, labor, and ideas

how to shift the long-run aggregate supply curve?

real shocks / productivity shocks → increase or decrease an economy’s fundamental ability to produce goods and services & thus increase or decrease the Solow growth rate

effect increasing/dereasing LRAS?

• positive shock increase LRAS (increase in supply of goods) → lower inflation & increase growth rate

• negative shock decreases LRAS (fewer goods) → increase inflation & decreases the growth rate

what is the short-run aggregate supply curve (SRAS)?

upward sloping curve that shows the positive relationship between the inflation rate and real growth during the period when prices and wages are sticky

what does the SRAS show?

the short run an increase in AD will increase the inflation rate & the growth rate

what is nominal wage confusion?

situation that occurs when workers respoind to their nominal wage (amount they are paid) instead of their real wage (how much goods and services they can buy with their wage)

what are menu costs?

the cost of changing prices → takes time since firms may wait and see before taking action but will eventually change if they think its permanent (long-run equilibrium)

what is the difference between real shocks & aggregate demand shocks?

real demand shocks directly alters productive capacity or technological potential of an economy (ex. natural disaster) vs. aggregate demand shocks is just a decrease in spending (ex. tax policy)

what is adverse selection

asymmetric information occurs—meaning one party in a transaction holds more or better information (hidden attributes) than the other