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Unformatted text preview: 180.101 Principles of Macroeconomics, Fall 2011 Second Term Exam : Practice Problems 1. Consider the Great Depression, which was a recession in which both output and prices fell. Using just those facts, can you make any conclusions as to whether a fall in aggregate demand or in aggregate supply was the primary cause of the recession? What about the recession and stagflation (low or negative output growth with rising prices) of the 1970s? Explain. In class, we discussed two general principles with respect to AD and AS. One principle was that shifts in the aggregate demand curve cause output and the price level to move in the same direction. The other principle was that shifts in the aggregate supply curve cause output and the price level to move in opposite directions. With that in mind, it seems that the Great Depression (in which output and prices both fell) was caused primarily by a shift of the AD curve (specifically, a leftward shift or adverse AD shock). On the other hand, the stagflation of the 1970s (in which output went down and prices went up) was caused primarily by an adverse AS shock. 2. Suppose that Americans become angry with the Australians because they have funny accents and drive on the wrong side of the road. As such, America declares war on Australia and, in preparation for the invasion, begins buying a lot of military equipment. At the same time, Australia begins sinking oil tankers shipping oil to the US. (a) Write down a model that will help you to analyze the effects of the war on output and prices in the US economy. The model is the AD-AS model, given by Y d = D ( P, C, I, G, TX, TR,t ) Y s = S ( P,W,Z,TE,K ) Y s = Y d . (b) Explicitly identify the variables in your model that will be affected and state whether they increase or decrease. An increase in government purchases of military equipment (final goods) is an increase in government expenditures, G , and the sinking oil tankers means that less oil reaches the US, so that oil is more expensive in the US. Thus, we have an increase in G and in Z simultaneously. (c) Using the above, which curves shift, in what direction do they shift, and why? Remember to explain in intuitive/economic terms why the curves shift like they do (dont just refer to the equations). An increase in government purchases of military equipment (final goods) is an increase in government expenditures, G , and the sinking oil tankers means that less oil reaches the US, so that oil is more expensive in the US. Thus, we have an increase in G and in Z simultaneously. The increase in government expenditures causes the AD curve to shift to the right, since when the government buys more goods and services, aggregate planned spending is directly increased so that at any given price level, more output is demanded....
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This note was uploaded on 01/12/2012 for the course ECON AS.180.101 taught by Professor Maccini during the Fall '08 term at Johns Hopkins.
- Fall '08