Midterm Exam Part II
Essay 50 points.
Give a detailed explanation of each of the three short-run macro-policy goals—1) maintaining high output; 2) maintaining high employment (low unemployment); and 3) price stability.
What are the two principal domestic macroeconomic policy instruments? Explain the Federal Reserve’s monetary policy and the president and congress’ fiscal policy in detail. What is the policy mix? Explain.
Problem: Analyzing FIVE SHOCKS, 50 Points, 10 Points for Each Shock
Use your knowledge of aggregate supply and aggregate demand theory and the diagram below to analyze each of the following FIVE SHOCKS.
Analyze Each of the following Five Shocks
Shock 1: Real estate and stock prices collapse, households and business leaders turn pessimistic about the future, and interest rates are reduced to near-zero levels.
Shock 2: Energy prices soar, wages rise rapidly, and productivity growth slows.
Shock 3: Household and business spending increases and the government increases its military spending to fight a major war.
Shock 4: The rest of the world falls into a major slump and the dollar appreciates on world currency markets.
Shock 5: The government decides to reduce its large budget deficit by raising income taxes and cutting government spending.
INSTRUCTIONS:
For each shock, explain the macroeconomic impact and likely policy response to the FIVE SHOCKS listed above. Assume that the macroeconomy prior to each shock is in Macroeconomic Bliss, as in the diagram.
In analyzing each of FIVE SHOCKS LISTED, make sure to include the following:
1) Explain how each shock impacts either aggregate demand or aggregate supply.
2) Indicate which way each shock shifts the aggregate demand or aggregate supply curve.
3) What impact does the shift in aggregate demand or aggregate supply have on output, the output gap, the employment rate (unemployment rate), and the price level.
4) Explain how the Federal Reserve can use monetary policy and/or the President and Congress can use fiscal policy to counter the adverse consequences of each shock.
5) Explain how the policies work to restore Macroeconomic Bliss.