Macroe Study Guide Key PDF

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Module 1 Answer Key 1. Scarcity refers to the basic economic problem, the gap between limited – that is, scarce – resources and theoretically limitless wants. This situation requires people to make decisions about how to allocate resources efficiently, in order to satisfy basic needs and as many additional wants as possible. 2. the loss of potential gain from other alternatives when one alternative is chosen. 3. This curve shows the various output combinations of two goods or groups of goods that can be produced in an economy with the available resources. This economic model is based on a few assumptions: 1. All of the economy's productive resources are fully employed. This means that everyone who wants a job has one. Also, factories, land, and other resources are being used to full capacity. 2. There are only two goods (or types of goods) in the economy. 3. The resources used in production are interchangeable. 4. We are looking at the economy at a specific period of time (the short run). During this time period, both the quantity and quality of resources are fixed, and the technology does not change. 4. 1) Output combinations that can be attained in this economy with the available resources. (2) Some resource are unemployed making this point inferior to all points along PPF. (3) Represents unattainable production possibilities for available resources. 5. By improving technology, the economy is able to produce more and produce those goods more efficient, thus causing the PPC to shift outward. Added resources, usually labor or capital, are sources of economic growth. New technology can also shift a production possibilities curve outward and account for economic growth.

Module 2 1. 1. A traditional economy answers the basic economic questions by tradition, or custom. 2. A command economy, or planned economy, answers the basic economic questions through central command and control. 3.A market economy relies on incentives and the self-interested behavior of individuals to direct production and consumption through market exchanges. 2. 1. What goods and services will be produced and in what quantities? 2. How will they be produced? (That is, what methods of production and combinations of inputs will be used?) 3. For whom will they be produced? (That is, who gets what share of the goods and services produced?) 3. a Company A has the competitive advantage in shirts because the opportunity cost for comforters is lower (0.1) vs. (0.25) for company B. b

Company B has the competitive advantage in comforters because the opportunity cost for shirts is lower (4) vs. (0.10) for company A.

c

Company A due to the competitive advantage in shirts due to the lower opportunity cost.

d

Company B due to the competitive advantage in comforters due to the lower opportunity cost.

4. By specializing, individuals, regions, and nations can produce greater total output without any increase in resources or breakthroughs in technology. Thus, specialization improves a nation's standard of living. Small countries especially can consume more goods and enjoy a wider range of goods and services through specialization and trade than if they were limited to what they produced. 5. Product/goods market - Firms sell goods and services to households resulting in consumer spending Resource/factors market - Firms buy resources like land, labor, capital and enterprise from households which receive wages, interest, rent and profit. 6. 1. Labor paid in wages 2. Land paid in rent 3. Capital paid in interest 4. Entrepreneurs paid in profit 7. Because of the advantages of the market system, even primarily traditional or command economies incorporate some elements of markets. Conversely, the pure market system is often modified to soften some of the harshness of pure capitalism. Canada, Japan, the United States, Australia, and the nations of Western Europe, have mixed economies.

Module 3 1. There is an inverse relationship between price and quantity demanded; as price increases, demand decreases, as price decreases, demand increases. 2. Demand curve relates the various amounts that consumers are willing to buy over a specified time period at various prices. 3. Changes in price impact the quantity demanded along the curve. Changes in other factors impact both price and quantity demanded, shifting the entire curve to the right or to the left. 4. 1. The tastes of the group demanding the good or service, 2. The size of the group demanding the good or service, 3. The income and wealth of the group demanding the good or service, 4. The prices of other goods and services, and 5. Expectations about future prices or income 5. Price has a negative association with quantity demanded; as price increases quantity demanded decreases. 6. The quantity supplied of a good or service in a given time period is generally positively related to its price, ceteris paribus. As prices rise, the quantity supplied will increase because it becomes more profitable to produce and sell the good. 7. Changes in price impact the quantity demanded along the curve. Changes in other factors impact both price and quantity supplied, shifting the entire curve to the right or to the left. 8. 1. The state of technology 2. The prices of the productive resources 3. The number of suppliers 4. Expectations about the future 5. The prices of related goods 9. A shortage (excess demand) occurs when the quantity demanded is greater than the quantity supplied. When this happens, there are too many buyers for relatively fewer goods and sellers typically respond by raising prices of their goods. As price increases, quantity demanded begins to decline and quantity supplied will start increasing (movement up the supply curve). This will happen until the equilibrium or market-clearing price is reached. 10. A decrease in demand from D0 to D2 causes the equilibrium price to fall from P0 to P2 and the quantity supplied to fall from Q0 to Q2.

Model 4 1. Labor force is sum of employed and unemployed workers (actively seeking work). • Unemployed workers/labor force X 100 • Limitations: retirees, incarcerated, discouraged workers, volunteers, home-makers, children, students are not counted 2. Frictional: When large number of high school, college, or immigrants enter into workforce. • Structural: mismatch of skill or location of available jobs. (lasts longer than frictional) • Cyclical: workers laid off due to decline to demand in products produced (industry workers) 3. During unemployment, there is no income, which leads to poverty. The burden of debt will increase, leading to economic problems. When there is unemployment, the state and the federal governments have to step in and pay unemployment benefits. By needing to pay more of these benefits, the government must borrow money to pay the benefits or reduce spending in other areas. 4. • Expansion: business is on the rise and consumer confidence grows, opportunity to expend, and income generally rises. • Peak: economy is maximizing its growth and business is booming and increased profits. • Contraction: downturn, business stops growing inflationary tendencies of peak period have a dragging effect on sales. • Trough/recession: business being reduced for an extended period, unemployment tends to rise and production declines. 5. Economy fluctuates between recession and expansion. Changes are caused by level of employment, productivity, and the total demand for and supply of goods and services. 6. 1. Inflation: prices of goods and services rise 2. Deflation: prices of goods and services decrease 7. Measures the average change in price over time that consumers pay for a basket of goods and services. Calculation= CPI • expenditures on market basket in yr/expenditures on market basket in base X 100 8. • Substitution bias ignores presence of substitutes. • Representation of novelty (distortion of actual cost of living after intro of new product.

• Quality changes, extremely hard to measure quality. • Might not accurately report the level of inflation experienced by an individual since it is based on a "typical consumer". 9. Governments are often winners during times of inflation because state and federal income tax revenues tend to rise faster than the inflation rate.

Module 5 1. Total market value of all final goods and services produced during a given time period. (often referred to as the size of the economy) 2. 1. Expenditure approach: adds up the market value of all domestic expenditures made on final goods and services in a single year. Includes: consumption, investment, government, net exports. GDP= C + I + G + (X-M) 2. Income approach: Starts with the income earned (wages, rents, interest, profits) from the production of goods and services. Add together factor incomes. 3. • Exclusion of non-market transactions • Failure to account for or represent the degree of income inequality in society • Failure to indicate whether the nation's rate of growth is sustainable or not • Failure to account for the cost imposed on human health and negative environmental effects. 4. Real GDP is adjusted for inflation whereas nominal GDP is not adjusted for inflation. 5. • Calculated by using the quantities of the current year and the prices of the base year. • GDP deflator= Nominal GDP/Real GDP X 100

Module 6 1. It is the total demand for final goods and services in an economy at a given time and price level. It is the sum of all goods and services in the economy that will be purchased at all possible price levels. AD=C+I+G+(X−M) . 2. Net exports, household wealth, government spending, and interest rates 3. Aggregate supply is the total amount of goods and services that firms are willing to sell at a given price level during a specific time period in an economy. 4. Many economists expect the aggregate supply curve to slope upward for some of the same reasons that supply curves for individual goods and services slope upward. As firms in general try to produce more output with given resources, some labor has to work overtime at higher pay, driving up costs and prices. 5. (b) The classical aggregate supply curve, with the economy producing at capacity (or fullemployment level of output, Y*). Attempts to increase real output will only drive up the price level.

(c) The Keynesian aggregate supply curve, which assumes that there are enough unemployed resources so that real output can increase without driving the price level

6. The costs of inputs used to produce the good or service, and government regulations regarding production 7. 1 Price and quantity supplied increase 2

Price and quantity supplied decrease

3

Price decreases, quantity supplied increases

4

Price increases, quantity supplied decreases

8. 1. Subsidies for Businesses 2. Productivity 3. Input prices 4. Taxes on businesses 5. Expectations about inflation

Module 7 1. 1. Say's Law (supply creates its own demand) 2. Self-regulating markets (equilibrium will be reached and maintained with full employment) 3. Quantity theory of money (changes in price level are proportional to changes in the money supply) 2. Defined as the total planned spending by all 4 sectors (household, gov't, firms, foreign) to show an economy's total output.

3. 1. The level of unemployment is directly related to the level of production or output. 2. In a market economy, planned spending on the output of the business sector will determine level of production. 3. Employment depends on production and production responds to spending, the level of employment in a market economy depends on the level of planned spending. 4. Classical theory believes the role of the government should be limited, that the market will self regulate. Keynesian theory believes that planned consumption, investment and net export spending alone may not bring the economy to full employment and government intervention may be required to increase spending. 5. The marginal propensity to consume (MPC) is the ratio of the change in consumption spending (ΔC) to the change in disposable income (ΔYd): Changes to disposable income change consumer spending by a constant fraction of the income. MPS marginal propensity to save refers the proportion of an aggregate raise in income that a consume saves rather than spends on the consumption of goods or services. 6.

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7.

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8. Tax Multiplier 9. Expenditure Multiplier 10. Money Multiplier 11. Balanced Budget multiplier

Module 8 1. a) A satisfactory rate of economic growth b) Full employment c) Price stability 2. [Government] spending or taxation in an attempt to influence unemployment, inflation and economic growth. 3. (a) Government purchases (b) Government taxes (c) Changes in transfer payments 4. Automatic stabilizers respond to changes in economic activity without any need for direct action by policy makers. (a) Changes in income tax collections (b) Social security & welfare benefits (c) Unemployment compensation claims 5. Fiscal policy can be contractionary, shifting AD to the left to reduce the equilibrium price level. 6. Fiscal policy can be expansionary, shifting AD to the right to increase output and employment. 7. Spending for federal programs that must receive annual authorization 8. Decrease in gov't spending or tax raise>> Aggregate Expenditure decreases>> Investment, Consumption, Net X decrease>> Aggregate Demand decreases>> Real GDP and Price level fall 9. Increase in gov't spending or tax cut>> Aggregate Expenditure increases>> Investments, Consumption, Net X increase>> Aggregate Demand increases>> Real GDP and Price Level rises 10. What is regressive tax? A tax for which the percentage of income paid in taxes decreases as income increases What is a proportional tax? A fixed tax that takes the same percentage of income from all taxpayers regardless of income level What is a progressive tax? A tax in which the tax rate increases as the taxable income amount increases 11. This is the view that consumption does not depend on current income alone, but on past and future income as well. 12. (a) Law-making time lag (b) Shrinking area of law-maker discretion 20% (c) Estimating Potential GDP (d) Inaccuracy of economic forecasting (e) Deficit and growing out 13. Direct crowding out is when the government spending directly replaces a good or service that people used to buy from private businesses. ... Indirect crowding out occurs if the government finances its new spending by borrowing.

MODULE 9 1. By selling bonds to private individuals and to the central bank 2. This means that the TAX REVENUES equal OUTLAYS or the budget balance is zero. 3. Federal budget deficit means the outlays EXCEED the tax revenues received. The government borrows to finance a budget deficit and repays when it has a surplus. National Debt is the overall outstanding accumulation of past budget deficits. 4. Pro: Higher government spending and higher private spending resulting from lower taxes creates a budget deficit, but also helps end the recession Con: Running a budget deficit ignore the importance of placing limitations on government spending. 5. 1. How large the debt is relative to the size of the economy. 2. Who owns the debt. 3. What the money was spent on to create the debt. 6. Aggregate Demand & Potential GDP 7. Aggregate Supply 8. Social Security Trust Fund & Federal Reserve 9. Private individual businesses & Foreign Governments Central Banks

MODULE 10 1. 1. Scarce (but not too scarce) 2. Portable 3. Durable 4. Divisible 5. Generally acceptable 2. 1. Simplifies transactions by acting as a medium for exchange. 2. Serves as a standard of value or a way to measure cost, value & prices of various goods. 3. To serve as a store of wealth. 3. Fiat money is whatever the government declares to be money. Commodity money has value in other uses equal to its monetary value (coins). 4. M1 is often referred to as the money supply and has the greatest liquidity: coins, currency in nonbank hands, checkable deposits, traveler's checks.

5. 6.

7. 8.

M2 is equal to M1 + small-time & savings deposits, money market accounts at banks/other financial institutions, a few other specialized monetary assets. When prices rise, a dollar buys less. When prices fall, it buys more. People will be concerned that a rising price level will cause their money holdings to decline in value. (1) the interest rate, determines the demand for money as a store of wealth (2) the level of income, which determines transactions demand (3) the price level and price expectations. The money supply is controlled by the central bank and is largely independent of interest rates. The Fed can attempt to change the money supply by affecting the reserve requirement and through other monetary policy tools.

9.

10. Higher interest can be earned by holding other assets such as bonds. When interest rates in general rise, the opportunity cost of holding money that earns little or no interest rises.

MODULE 11 1. To be an intermediary in the lending business, gathering up small sums from depositors and lending larger amounts to borrowers. 2. Assets - Vault cash, reserves, bonds, loans to public Liabilities - Checkable deposits, loans from the Fed, net worth 3. Bank reserves are the percentage of checkable deposits held by the bank as opposed to loaned to the public. Bank Reserves = required reserves + excess reserves 4. The Fed requires the banks and thrifts to hold a minimum % of deposits as reserves, known as a required reserve ratio. The Fed determines a required reserve ratio for each type of deposit. Currently, required reserve ratios range from zero to 3 percent on checkable deposits below a specified level to 10 percent on deposits in excess of the specified level. The banks NEED their reserves for depositors' withdrawals! They need to have cash on hand. The bank uses its reserve account at the Fed to receive and make payments to other banks and to obtain currency. 5. The number by which a change in the monetary base. The money multiplier is the reciprocal of the reserve ratio. When the reserve ratio changes from 20% to 10%, the money multiplier increases from 5 to 10. 6. UNKNOWN 7. 1. Sets monetary policy through decisions that affect the flow of money and credit 2. Contributes to the safety and soundness of the financial system by supervising and regulating banks 3. Serves as the bank for depository institutions and the government and makes sure the payment system works efficiently 8. Open market operations are purchases and sales of bonds by the Fed on the open market in order to affect bank reserves. The eventual impact on the money supply will differ depending on the multiplier. 9. Federal Funds rate is 12%, +/- 0.125%. Each Federal Reserve Bank sets a discount rate for the depository institutions of its district, usually the same in all 12 districts. Historically lower than the effective fed fund rate. Increase in FFR reduces borrowing; decrease stimulates the economy.

10. 1. Open market operations 2. Changes in the discount rate 3. Changes in the reserve ratio 11. Monetary base - the total amount of reserves and currency available for circulation. Money supply - the monetary base times the money multiplier. 12. Federal Funds

MODULE 12 1. 1. price stability 2. high employment 3. stability of financial markets and institutions 4. economic growth 2. Federal Reserve 3. Classical- Changes in money supply > Spending changes AE and AD > Output & Income. Keynesian- Changes in money supply > Interest rate changes > Investment changes > Output & Income More complicated 4. Monetary policy is affected by the same kinds of lags as fiscal policy: [inside lags-recognition, implementation (shorter than fiscal policy)], and [outside lagaction to impact]. Outside lag/Impact - Takes time for banks to increase or decrease their lending or for individuals to adjust their spending. 5. 1. Banks may not lend 2. Interest rates may not fall 3. Borrowers may not respond to lower interest rates 6. Open Market Purchases 7. he Fed will buy government ...