1) Suppose the economy is in a long run equillibrium. a. draw a diagram to illus
ID: 1177425 • Letter: 1
Question
1) Suppose the economy is in a long run equillibrium.
a. draw a diagram to illustrate the state of the economy. Be sure to show aggregate deman, short run aggregate supply, and long run aggregate supply.
b. Now suppose that a stock market crash causes aggregate demand to fail. Use your diagram to show what happens to output and then price level in the short run. what happens to the unemployment rate?
c. Use the sticky-wage theory of aggregate supply to explain what will happen to output and the price level in the long run (assuming there is no change in policy) Be sure to illustrate your analysis in a graph.
2) In 1939, with the U.S economy not yet fully recovered from the great depresion, President Roosevelt proclaimed that Thanksgiving would fall a week earlier than usual so that the shopping period before Chirstmas would be longer. Explain what President Roosevelt might have been trying to achieve, using the model of aggregate demand and Aggregate supply.
3) For each of the following events , explain the short run and long effects on output and the price level, assuming polycimakers take no action.
a. the federal goverment increases spending on national defense
b. A technological improvement raises productivity.
c. A recession overseas causes foreigners to buy fewer U.S goods. .
Explanation / Answer
if the stock market crashed for a long time, ie sparked by a financial crisis, then yes, we would most probably go into recession. I think the definition of recession differs from country to country. But I think the general definition is if the country's quarterly GDP is of a negative value for two consecutive periods. so if the country does go into recession then yes it will affect aggregate demand.
Recession means the slowing down of the economy, whereby the demand for goods are relatively lesser, hence the aggregate demand for the country would decrease. Since aggregate demand is decreasing, on a firm basis, sales has dropped hence they would have to reduce cost to achieve the same level of profit. One way is to retrench workers that are redundant in the firm. hence the unemployment.
When recession happens, the government would conduct an expansionary fiscal policy whereby there will reduce tax rates and/or increase government spending. When the government increases government spending, the government is developing more projects in the country, hence this creates jobs for the people (and for those recently unemployed).
1) Price level and output both will fall, unemployment will rise.
2) Sticky wage will cause rise of unemployment more than without sticky wage effect, thus supply may fall in the long-run which and consequently will lead to some rise in price level.
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