Macro Econ II

Consumption Function :

The relationship between consumption and income, (o.t.c.)

Marginal Propensity to Consume (MPC) :

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.

Saving Function :

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

Marginal Propensity to Save (MPS) :

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

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. (o.t.c)

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)

Aggregate Supply :

The relationship between the economy’s price level and the amount of output firms are willing and able to supply, o.t.c

Labor is the most important resource :

Labor is the most important resource, accounting for about 70% of production costs.

Nominal Wages :

The wage measured in dollars of the year in question: 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 buys.

Potential Output :

The economy’s maximum sustainable output, given the supply of resources, technology and know-how, and rules of the game; 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 for labor, remain fixed by explicit or implicit agreements.

Short-Run Aggregate Supply (SRAS) curve :

A curve that shows a direct relationship between the actual price and real GDP supplied in the short run, o.t.c. including the expected price level.

Short-Run equilibrium :

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

Expansionary Gap :

The amount by which actual output in the short run exceeds the economy’s potential output.

Long Run :

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

Long-Run Equilibrium :

The price level and real GDP that occur 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.

Wage Price Spiral :

increasing wages lead to higher prices, which in turn leads to demands for further wage increases, creating a loop of rising wages and prices.

Recessionary (Contractionary) Gap:

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

Long-Run Aggregate Supply (LRAS) 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 negotiated.

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 Shock :

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; a long period of high unemployment can increase the natural rate.

Automatic Stabilizers :

Structural features of government spending and taxation that reduce fluctuations in disposable income and thus consumption, over the business cycle. (Truman introduces this)

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 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.

Classic 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.

Prior to the 1930s :

Discretionary fiscal policy was seldom used as an instrument of macroeconomic policy.

1929 :

Stock Market Crash

1930 and beyond :

The Great Depression- at its height, 25% of the working population was unemployed.

1933 Banking Act :

FDIC (1934- $5,000) (Federal Deposit Insurance Corporation)

1935 Banking Acts :

FED gains more independence - although unemployment dropped, the ‘invisible hand’ was nowhere to be found

1936 John Maynard Keynes :

Key Findings were Prices and wages inflexible in a downward direction… natural market forces were not correcting the situation. Even with lower interest rates, bleak business expectation (too conservative)

Three developments bolstered discretionary fiscal policy (1) :

With the economy operation below its potential, the government need to increase aggregate demand to boost output and employment

Three developments of bolstered discretionary fiscal policy (2) :

WWII – lifted US out of the depression

Three developments of bolstered discretionary fiscal policy(3) :

Employment Act of 1946 – gave the federal government responsibility for promoting full employment and price stability

Overall impact of fiscal policy :

don’t worry about a balanced budget, promote full employment and price stability.

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 expansion and recession.

Unemployment Insurance :

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

Golden Age of Keynesian Economics :

Early 1960s

President Johnson :

Cut taxes – Great Society

Discretionary fiscal policy :

Discretionary fiscal policy is a demand-management policy; the objective is to increase or decrease aggregate demand to smooth economic fluctuations

1970s Stagflation :

High unemployment, high inflation resulting from a decrease in aggregate supply. [Crop failures, oil shocks, and war cost]

Demand management policies weren’t working :

Demand management policies weren’t working.

1980s Supply Side experiment :

President: 23% tax cut

Government spending :

[7.1% to 6.3%]

Stimulus from tax cut :

The stimulus from the tax cut helped sustain a continued expansion during the 1980s---the longest peacetime expansion to that point in the nation’s history.

National debt :

The national debt strongly increased

President Clinton 1993 :

substantially increased taxes on high income households.

1994 Republican Congress :

more discipline on Federal Spending.

1990s economic recovery :

growing consumer spending, rising business optimism (tech), globalization, and the bull market. [8.3% to 3.2%]

Early 2001 :

the economy was in recession.

September 11, 2001 :

attack on the United States

President Bush tax cut :

proposed a tax cut to help stimulate the economy… helped get the economy back in gear during 2002.

War on Terror :

tremendous deficit began to grow

Jobless recovery :

Loss of jobs in American Economy began to take its toll.

2008 stimulus checks :

$600 per taxpayer; money channeled back into consumption and investment.

Lehman Brothers and Bear Stearns :

failed; JP Morgan acquired Bear Stearns cheap.

Sub-prime loans collapse :

Freddie Mac, Fannie Mae, AIG, and numerous banks began to fail

Too big to fail banks :

JP Morgan Chase, Goldman Sachs, Bank of America, Morgan Stanley

$700 billion bailout :

government became more of an “owner” of financial institutions

Auto industry collapse :

GM and Chrysler shut down hundreds of dealerships

2008 recession official :

confirmed entering 2009

Great Recession cause :

declining home prices, rising foreclosure rates, borrowers failed to make mortgage payments

Lehman bankruptcy :

largest in US history

AIG :

bailed out

TARP :

Troubled Asset Relief Program

TARP effects :

credit markets calmed but economy continued to fall

4th quarter 2008 GDP :

fell 8.9%

Unemployment 2008 :

5.0 to 7.4 percent

Recovery and Reinvestment Act :

787 billion dollars of tax benefits and spending programs

Stimulus package :

rose to 831 billion or 7000 per household

Stimulus was deficit spending :

The stimulus package was all deficit spending.

GDP 2007–2009 :

GDP fell 0.7%, employment declined 6.1%

Unemployment 2012 :

remained above 8.0%

Federal deficit 2007–2009 :

161b → 359b → 1.4t

Deficits after 2009 :

topped 1 trillion for three years

Tax incentives :

home buyers and car buyers

Cash for Clunkers :

June 2009 approved $1 billion to pay 3500–4500 per car

Cash for Clunkers expansion :

Congress added $2 billion

Program issues :

135 pages of rules, website crashes, reimbursement delays

Program results :

680,000 new vehicles sold

Deficit impact :

money government didn’t have; deficit sharply increased

Interest cost :

extra 90 million per year

Program beneficiaries :

Japanese manufacturers 41%, Big Three 39%

Auto bailout losses :

25 billion never repaid

Used car market impact :

680,000 cars destroyed

Public opinion :

program unpopular

2016 election :

President Trump wins

Trump tax cuts :

business and taxpayers (35 to 21%), 200,000–450,000 (33 to 35%)

Economy recovering :

low unemployment, more jobs, pay picking up