Economics: AS and AD Models
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Questions and Answers

What happens to the Long-Run Aggregate Supply (LRAS) when there is an increase in resources or productivity?

  • It becomes horizontal.
  • It shifts to the left.
  • It remains unchanged.
  • It shifts to the right. (correct)

    • What is the relationship between short-run shocks and Long-Run Aggregate Supply (LRAS)?

  • Short-run shocks cause immediate changes in LRAS.
  • Short-run shocks lead to temporary changes and the economy returns to Y₀. (correct)
  • Short-run shocks permanently change the LRAS.
  • Short-run shocks do not affect the LRAS.

    • How does a decrease in available resources affect the Long-Run Aggregate Supply (LRAS)?

  • It causes LRAS to shift left. (correct)
  • It alters the slope of LRAS.
  • It causes LRAS to shift right.
  • It keeps LRAS constant.

    • What does the vertical shape of the Long-Run Aggregate Supply (LRAS) represent?

    <p>Maximum sustainable output regardless of price levels.</p> Signup and view all the answers

    What is the underlying principle of the IS-Fed Rule in relation to interest rates and output?

    <p>Higher interest rates reduce aggregate demand.</p> Signup and view all the answers

    What is the shape of the Long-Run Aggregate Supply (LRAS) curve?

    <p>Vertical due to wage adjustments</p> Signup and view all the answers

    What happens to output in the short run when there is an increase in the price level?

    <p>Output increases due to sticky wages</p> Signup and view all the answers

    Which factor would lead to a decrease in Aggregate Demand (AD)?

    <p>Decline in consumer confidence</p> Signup and view all the answers

    How does an increase in the interest rate (R) affect aggregate output (Y) according to the IS-Fed Rule Model?

    <p>It decreases investment and decreases Y</p> Signup and view all the answers

    What is a likely cause for a shift in the Aggregate Supply (AS) curve?

    <p>Fluctuations in oil prices</p> Signup and view all the answers

    What does the downward slope of the Aggregate Demand (AD) curve indicate?

    <p>Higher prices lead to lower demand</p> Signup and view all the answers

    What does the Fed Rule indicate regarding interest rates?

    <p>Interest rates are adjusted to stabilize aggregate output</p> Signup and view all the answers

    Which of the following components is NOT part of the formula R = αY + βP + γZ?

    <p>Government spending (G)</p> Signup and view all the answers

    Study Notes

    Aggregate Output, Price Level, and Interest Rates

    • Aggregate Supply (AS): Represents the total production of goods and services in an economy.
      • AS Curve: Shows the relationship between the price level and the quantity of output (Y).
      • Shape:
        • Flat (elastic): Economy has unused resources.
        • Steep (inelastic): Economy near full capacity.
        • Short-Run AS: Upward sloping due to sticky wages.
        • Long-Run AS: Vertical because wage adjustments ensure output remains at potential GDP (Yo).
      • Key Points:
        • Higher prices encourage more production in the short run as wages adjust slowly.
        • In the long run, wage adjustments balance increased revenues with higher costs, keeping output fixed at Yo.
      • Formulas:
        • Short-Run AS movements: Increase in price = Increase in output.
        • Shifts in AS: Caused by changes in input costs (like oil prices).

    Aggregate Demand (AD)

    • Definition: Total demand for goods and services in an economy.
    • AD Curve: Downward sloping because:
      • Higher prices reduce purchasing power and demand.
      • Higher prices increase interest rates, decreasing investment.
    • Factors Shifting AD:
      • Increase in AD: Higher consumption, investment, or government spending; lower taxes.
      • Decrease in AD: Opposite of the above factors; decline in consumer confidence.

    IS-Fed Rule Model

    • Definition: Relationship between interest rates (R) and aggregate output (Y).
    • IS Curve: Downward sloping, Higher interest rate (R) leads to lower investment (I) and lower output (Y). Shifts caused by changes in G, C, I, or T.
    • Fed Rule: Central bank's response to economic changes.
      • Formula: R = αY + ẞP + γZ (where R = interest rate, Y = output, P = price level, Z = other factors).

    Long-Run Aggregate Supply (LRAS)

    • Definition: Maximum sustainable output (Yo) regardless of the price level.
    • Shape: Vertical.
    • Shifts:
      • Increase in resources or productivity → Shift right.
      • Resource depletion → Shift left.
    • Adjustments: Short-run shocks to AD affect output (Y) in the short run, but wage adjustments return Y to Yo in the long run.

    Summary of Formulas

    • Aggregate Supply:
      • Short-run: Prices increase → Output increases.
      • Long-run: Prices and wages adjust → Output = Yo.
    • Aggregate Demand: AD = C + I + G.
      • Higher prices → Lower AD.

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    Related Documents

    Chapter 26: Aggregate Output, Price Level, and Interest Rates PDF

    Description

    This quiz focuses on the concepts of Aggregate Supply (AS) and Aggregate Demand (AD) in economics. You'll explore the characteristics of the AS curve, how price levels affect output, and the interaction between wages and production. Test your understanding of these fundamental economic theories.

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