Name: ______Date: ______Period: ______

Macroeconomics

Unit 3: Aggregate Demand, Aggregate Supply and Fiscal Policy

Chapter 8: Macroeconomics: Multiplier Effect

Chapter 10: Aggregate Demand and Aggregate Supply Chapter 15: Analysis of AS

Chapter 11: Fiscal Policy, Deficits, and Debt Chapter 17: Disputes in Macro Policy (pgs.320-328)

1.  Basic Macroeconomic Relationships (C.8)

a.  Describe your families Marginal Propensity to consume (MPC) and Marginal Propensity to Save (MPS) . Which of the non-income determinants affects your family the most?

b.  Explain the importance of the Interest-rate / Investment Relationship.

c.  Suppose a $100 increase in desired investment spending results in a $300 increase in real GDP.

i.  What is the size of the multiplier?

ii. If the MPS is .4, what is the multiplier?

iii. If the MPC is .75, what is the multiplier?

iv. Suppose investment spending initially increases by $50 billion in an economy whose MPC is 2/3. By how much will this ultimately increase real GDP?

2.  Aggregate Demand and Aggregate Supply (C. 10)

a.  Explain the three reasons the aggregate demand curve is downward sloping. What are the reasons the aggregate demand curve will shift?

b.  Describe why the LRAS curve is vertical. Why is the SRAS curve upward sloping? What are the reasons the aggregate supply curve will shift (from the book and PowerPoint)?

c.  Describe and graph demand-pull inflation.

d.  Describe and graph cost-push inflation.

3.  Fiscal Policy, Deficits and Debt (C.11)

a.  Explain and graph expansionary fiscal policy. Use YOUR numbers to prove your point.

b.  Explain and graph contractionary fiscal policy. Use YOUR numbers to prove your point.

c.  Make a case for and against automatic stabilization policies.

d.  List the problems associated with fiscal policy. Describe how the Government can “Crowd out” investors in the Money Market.

4.  Extending the Analysis of Aggregate Supply (C.15)

a.  Fix a $50 billion dollar inflationary gap with taxes. Draw the gap. Use numbers and labels. Explain how fiscal policy is used to close the gap using accurate numbers (MPC is .80).

b.  Fix a $100 billion dollar recessionary gap with spending. Draw the gap. Use numbers and labels. Explain how fiscal policy is used to close the gap using accurate numbers (MPC is .90).

c.  Draw and explain the relationship between SRAD/SRAS with the Phillips Curve.

d.  Explain the difference between the Short-run Phillips curve and the Long-run Phillips curve.

e.  Why is the Laffer curve important to this chapter?

5. Disputes over Macro Theory and Policy (C.17: pgs. 320-328)

a. Explain, using graphs, the differences between Classical vs. Keynesian economic views.

b. Describe “monetarism.” Why is the fundamental equation of monetarism the equation of exchange? Be sure to use every element of the formula. (Side note: AP can also call this “The Theory of Liquidity Preference.”

Note to self from Alex Goringe

Formulas for multipliers:

Spending = MPS x Gap

Tax = Spending Need / MPC

Clifford

FRQ1 – 2001 #1

FRQ2 – 2002 #2

FRQ3 – 2005B #2

a.  The multiplier is defined as the ratio of the change in real GDP to the initial change in spending that brought it about. In this case, the multiplier is $300/$100 = 3.

b.  The multiplier is 1/MPS = 1/.4 = 2.5, in this example.

c.  As the MPS and the MPC sum to one, the multiplier can also be computed as 1/(1 – MPC) = 1/(1 – .75) = 1/.25 = 4.

d.  The multiplier in this example is 1/(1 – 2/3) = 3. The ultimate change in GDP is 3 x $50 = $150 billion.