 | Economics 14/e McConnell | |||||
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| Economics 14/e McConnell | |||||
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17-1 Use the aggregate demand – aggregate supply model to compare the "old" classical and Keynesian interpretations of (a) the aggregate supply curve and (b) the stability of the aggregate demand curve. Which of these interpretations seems most consistent with the realities of the Great Depression?
17-4 Supppose that the money supply and the nominal GDP for a hypothetical economy are $96 billion and $336 billion respectively. What is the velocity of money? How will households and businesses react if the central bank reduces the money supply to $20 billion? By how much will nominal GDP have to fail to restore equilibrium according to the monetarist perspective?
17-7 Use and AD-AS graph to demonstrate and explain the price-level and the real-output outcome of an anticipated decline in aggregate demand as viewed by RET economists. (Assume that the economy initially is operating at its full-employment level of output.) Then demonstrate and explain on the same graph the outcome as viewed by mainstream economists.
17-13
Place MON
RET
or MAIN besides statements which most closely reflect monetarist
rational
expectations
or mainstream views
respectively.
Answers:
| 17-1 (a) Classical economists envisioned the AS curve as being perfectly vertical. When prices fall real profits do not decrease because wage rates fall in the same proportion. With constant real profits firms have no reason to change the quantities of output they supply. Keynesians viewed the AS curve as being horizontal at outputs less than the full-employment output. Declines in aggregate demand in this range do not change the price level because wages and prices are assumed to be inflexible downward. (b) Classical economists viewed AD as stable so long as the monetary authorities hold the money supply constant. Therefore inflation and deflation are unlikely. Keynesians viewed the AD curve as unstable -- even if the money supply is constant -- since investment spending is volatile. Decreases in AD can cause a recession; rapid increases in AD can cause demand-pull inflation. The Keynesian view seems more consistent with the facts of the Great Depression; in that period real output declined by nearly 40 percent in the United States and remained low for a decade.
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| 17-4 Velocity = 3.5. They will cut back on their spending to try to restore their desired ratio of money to other items of wealth. Nominal GDP will have to fall to $266 billion (= $76 billion of money supply x 3.5) to restore equilibrium.
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| 17-7 See the graph and the decline in aggregate demand from AD1 to AD2. RET view: The economy anticipates the decline in the price level and immediately moves from a to d. Mainstream view: The economy first moves from a to b and then to c. In view of historical evidence the mainstream view seems more plausible to us than the RET view; only when aggregate demand shifts from AD2 to AD1 will full-employment output Q1 be restored.
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| 17-13 (a) RET; (b) MAIN; (c) MON; (d) MAIN; (e) MON. |
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