Practice Exam Exercises for Chapter 7_key

Practice Exam Exercises for Chapter 7_key - BEcon 301...

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BEcon 301 Practice EXAM Exercises for Chapter 7 1. AD; left 2. Increase; increase; 3. Decrease; can’t tell exactly; 4. True. 5. Explain what the aggregate supply curve represents and why it is upward sloping. The AS curve illustrates the effects of output on the price level and is derived from wage setting and price setting relations in the labor market. An increase in Y causes an increase in P. Why? It is because an increase in output requires firms to increase employment. An increase in employment implies a decrease in the unemployment rate, which means that workers have more bargaining power so the nominal wage will rise and cause an increase in firms' costs. As firms' costs rise, they will increase the prices as determined by price setting behavior. The AS curve is upward sloping. 6. Explain what the aggregate demand curve represents and why it is downward sloping. The AD captures the effects of the price level on output . Alternatively, the AD curve represents the combinations of P and Y that maintain equilibrium in the goods and financial markets. As P falls, the real money supply increases causing a reduction in the interest rate. The drop in the interest rate will likely lead to an increase in capital investment, an increase in demand, and an increase in production. So, the drop in P causes an increase in Y and the AD curve is downward sloping.
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Practice Exam Exercises for Chapter 7_key - BEcon 301...

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