Given a real GDP of 8983, Unemployment rate of 5.5,5.7,5.9, CPI of 130.5,131.6,1
ID: 1206273 • Letter: G
Question
Given a real GDP of 8983, Unemployment rate of 5.5,5.7,5.9, CPI of 130.5,131.6,132.5, Real GDP potential of 8970 and a NAIRU of 5.9, answer the followig:
it appearas the economy is experiencing a: recessionary gap, inflationary gap, full employment?
classical economist would suggest that the gov: do nothing and wait for wages to start falling, do nothing and wait for wages to start rising, inrease gov spending and or cut taxes, reduce gov spending and or raise taxes?
Keynesian econoists would suggest that the gov: do nothing and wait for wage rates to start falling, do nothing and wait for wages to start rising, increase gov spending and or cut taxes, reduce gov spending and or raise taxes?
Explanation / Answer
Hope it clears your doubts :-)
If real GDP < Potential real GDP (full employment GDP), then a recessionary gap exist. If real GDP > Potential real GDP (full employment GDP), then an inflationary gap exist. If real GDP = Potential real GDP (full employment GDP), then it shows full employment. In this Question, the Real GDP is 8983 while the Potential Real GDP is only 8970, thus there exists a situation of Inflationary Gap Under this situation, Unemployment rate < natural rate of unemployment. Since job seekers are less than job openings in the market, employers are forced to raise the wage to attract new workers. High wage will decrease the AS, and raise the price. Higher price will lower consumption. This process will repeat until the long run equilibrium is reached. According to the Classical Theory, an economy is always at full employment in the long run, any inflationary or recessionary gaps in the short run are automatically corrected by adjustments in wages and interest rates In our question, as there is an inflationary gap, the Classicals would suggest to "Do nothing and wait for wages to start rising" According to the Keynesian Theory, whenever an economy faces inflationary or deflationary gap, the government needs to adopt a fiscal policy involving alterations in government spending and taxes. In our question, as there is an inflationary gap, the Keynesian Theory would suggest to "Reduce government spending and or raise taxes"Related Questions
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