We have spent the last few chapters discussing fluctuations in GDP, analysing the present rise in inflation, and comparing measurements of Unemployment. I
have purposefully included multiple aspects of social responsibility in my presentations by noting the “real, live, impact” of certain macroeconomic policies
and/or ideologies. Please keep these class discussions in mind, reference your notes, consult reputable sources, and follow the given rubric and attached
sample answer (different but similar questions) when you are answering the following questions.
1. Chapter 11 noted that Classical Macroeconomic Theory suggests that the macroeconomy, like the human body, has “natural restorative powers”.
a. Illustrate the Short-Run Effect of a fall in Aggregate Demand using the AD-AS Model. Include a final analysis detailing impact on total output (Real GDP);
Consumer/Household Income; and Employment Levels.
b. Write a paragraph analysing what happens to the economy over time if the federal government does not engange in stabilization policy. Make sure to
include the “real, live, costs” of such a decision in the short run; how the macroeconomy will eventually return to full-employment; and a rough timeline on
how long it usually takes for the macroeconomy to “self-adjust”. Draw the eventual adjustment in a separate diagram from the one you drew in problem 1a.
c. Write a paragraph evaluating the “natural restorative powers” of the economy. Do you think the “natural restorative powers” of the macroeconomy mean
that policymakers should be passive in response to business cycles?
2. Your final task is to apply what you have learned about Fiscal Policy in the following fictional and simplified examples.
In each of the following cases, either a recessionary or inflationary gap exists. Assume that the SRAS is horizontal, so that the change in Real GDP arising
from a shift of the Aggregate Demand curve equals the size of the shift of the curve. Calculate both the change in government purchases of goods and
services, and, alternatively, the change in government transfers necessary to close the gap and return the macroeconomy to full-employment.
1.
a. Real GDP equals $100 Billion, potential output equals $160 Billion, and the Marginal Propensity to Consume is 0.75
b. Real GDP equals $250 Billion, potential output equals $200 Billion, and the Marginal Propensity to Consume is 0.5.
c. Real GDP equals $180 Billion, potential output equals $100 Billion, and the Marginal Propensity to Consume is 0.8.