Download L - Spring Branch ISD

AP EXAM FRQs
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Assume that the United States economy is in long~'run equilibrium with an expected inflation rate
of 6 percent and an unemployment rate of 5 percent The nominal interest rate is 8 percent
A. Using a correctly labeled graph with both the short-run and long-run Phillips curves and the
rel-evant numbers from above, show the current long-run equilibrium as point A
B. Calculate the real interest rate in the long-run equilibrium.
C. Assume now that the Federal Reserve decides to target an inflation rate of 3 percent What
open-market operation should the Federal Reserve undertake?
D. Using a correctly labeled graph of the money market, show how the Federal Reserve's action
you identified In part (C) will affect the nominal interest rate.
E. How will the interest rate change you identified in part (0) affect aggregate demand In the
short run? Explain.
F. Assume that the Federal Reserve action is successful, What will happen to each of the
following as the economy approaches a new long-run equilibrium?
1. The short-run Phillips curve. Explain.
2, The natural rate of unemployment
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I. Assume that as a result of increased political instability, investors move their funds out of the
country of Tara.
A. How will this decision by investors affect the international value of Tara's currency on the
foreign exchange market? Explain.
B. Using a correctly labeled graph of the loanable funds market in Tara, show the impact of this
decision by investors on the real interest rate in Tara.
C. Given your answer in part (8), what will happen to Tara's rate of economic growth? Explain.
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I. Assume that the reserve requirement is 20 percent and banks hold no excess reserves.
A. Assume that Kim deposits $100 of cash from her pocket into her checking account Calculate
each of the foHowing.
1. The maximum dollar amount the commercial bank can initially lend
2. The maximum total change in demand deposits in the banking system
3, The maximum change in the money supply
B. Assume that the Federal Reserve buys $5 million in government bonds on the open market As
a result of tfie open market purchase, calculate the maximum increase in the money supply in
the banking system.
C. Given the increase in the money supply in part (8), what happens to real wages In the short
run? Explain.
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Assume that the economy of Country Z is operating on the upward-sloping portion of its short-run
aggregate supply curve. Assume that the government Increases spending.
A. How will the increase in government expenditures affect each of the following in the short
run?
1. Aggregate demand
2. Short-run aggregate supply
B. Using a correctly labeled graph of aggregate demand and aggregate supply, show the effect of
the increase in government expenditures on real output and the price level.
C. Assume that the government funded this increase in expenditure by borrowing from the
public. Using a correctly labeled graph of the loanable-funds market show the effect of the
increase in government borrowing on the real interest rate.
O. Given the change in the real interest rate in part (C). what will be the effect on each of the
followtng on the foreign exchange market?
1. Supply of Country Z's currency. Explain.
2. The value of Country Z's currency
E, Given your answer in part (D) (2), what will be the effect of the change in the value of Country
Z's currency on Country Z's exports? Explain.
I. Suppose that Mexico decreases its tariff rates on all of its imports of automobiles from abroad.
A. Will each of the following groups benefit from the decrease in the tariff rate?
1. Mexican consumers
2. Mexican automobile manuJacturers. Explain.
B. How would the decrease in the tariff rates affect each of the following in MexiCO?
1. Current account balance. Explain.
2. Capital account balance
C. Given the change In Mexico's current account in part (8)(1), what will happen to the aggregate
demand in Mexico?
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OUTPUTS AND PRICES IN GALA LAND
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This Year's Price
This Year's OutDut
$6 per loaf
400 loaves of bread
$2 per gallon
1,000 eaJlons of water
aoo pieces of fruit
$2 per piece
Gala Land produces three final goods: bread, water, and fruit The table above shows this year's
output and price for each good.
A. Calculate this year's nominal gross domestic product (GOP).
B. Assume that in Gala Land the GOP deflator (GOP price index) is 100 in the base year and 150
this year. Calculate each of the following.
1. The inflation rate. expressed as a percentage. between the base year and this year
2. This year's real GOP
C. Since the base year, workers have received a 20 percent increase in their nominal wages. If
workers face the same inflation that you calculated in part (8)(1), what has happened to their
real wages? Explain.
D. If the GDP deflator in Gala Land increases unexpectedly, would a borrower with a fLXed ·
interest·rate loan be better off or worse off? Explain.
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I. Assume the United States economy is operating at full-employment output and the government
has a balanced budget. A drop in consumer confidence redu ces consumption spending, causi ng
the economy to enter into a recession.
A. Using a correctly labeled graph of the short-run Ph illips curve, show the effect of the decrease
in consumption spending. Label the initial position "A" and the new posi tion "8".
B. What is the impact of the recession on the federal budget? Explain.
C. Assume that current real gross domesti c product falls sho rt of full-employment outpu t by
$500 billion and the marginal propensity to consume is O.B.
1. Calculate the minimum increase in government spending that could bring about full
employment
2. Assu me that instead of increasing government spending, the government de cides to
reduce personal in come taxes. Will the reduction in personal in co me taxes requir ed to
achieve full employment be larger than or smaller than the government spending cha nge
you calculated in part (C)? Explain why.
D. Using a correctly labeled graph of the loanable funds market, show the impact of the increased
government spending on the real interest rate in the economy.
E. How will the real interes t rate change in part (D) affect the growth rate of the United States
economy? Explain.
I. Balance of payments accounts record all of a country's international transactions during a year.
A. Two major sub accounts in the balance of payments accounts are the current account and the
capital account
B. In which of the se subaccounts will each of the following transactions be recorded?
1. A United States resident buys chocolate from 8elgium.
2. A United States manufacturer buys computer eqUipment from japan.
C. How would an increase in the real income in the United States affect the United States current
account balance? Explain.
D. Using a correctly labeled graph of the foreign exchange market for the United States dollar,
show how an increase in United States firms ' direct investme nt in India will affect the value of
the United State s dollar relative to the Indian currency (the rupee).
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two countries: Artland and Rayland. Using equal amounts of
resources, Artland can produ ce 600 hats or 300 bicycles, whereas
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Rayland can produ ce 1,200 hats or 300 bicycles.
A. Calculate the opportunity cost of a bicycle in Artland.
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B. If the two countries specialize and trade. which cou ntry will
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import bicycles? Explain.
C. If the terms of trade are 5 hats for 1 bicycle, would trade be
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advantageous for each of the following?
1. Artland
2. Rayland
D. (fproductivity in Artland triples, which co untry has the comparative advantage in the
production of hats?
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I. The diagram above shows the production poss ibilities curves for
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I. The unemployment rate in the country of Southland is greater than the natural rate of
unemployment
A. Using a correctly labeled graph of aggregate demand and aggregate supply, show the current
equilibrium real gross domestic product, labeled Yc, and price level in Southland, labeled PLc.
The president of Southland is receiving advice from two economic advisers-Kohelis and Raymond·
about how best to reduce unemployment in Southland.
B. Kohelis advises the president to decrease personal income taxes.
1. How would such a decrease in taxes affect aggregate demand ? Explain.
2. Us ing a correctly labeled graph of the short·run Phillips curve, show the effect of the
decrease in taxes. Label the initial equilibrium from part (A) as point A, and the new
equilibrium resulting from the decrease in taxes as point B.
C. Raymond advises the president to take no policy action.
1. What will happen to the short-run aggregate supply curve in the long run? Explain.
2. Using a new correctly labeled graph of the short-run Phillips curve, show the effect of the
change in the short-run aggregate supply you identified in part (C)(1).
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I. In Country Z, the required reserve ratio is 10 percent Assume that the central bank sells $50
million in government securities on the open market
A. Calculate each of the followtng.
1. The total change in reserves in the banking system
2. The maximum possible change in the money supply
B. USing a correctly labeled graph of the money market, show the impact of the central bank's
bond sale on the nominal interest rate.
C. What is the impact of the central bank's bond sale on the eqUilibrium price level in the short
run?
D. As a result of the price level Change in part (C), are people with fixed incomes better off, worse
off, or unaffected? Explain.
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I. Assume that the real interest rates in both Canada and India have been 5 percent Now the real
interest rate in India increases to B percent
A.. Using a correctly labeled graph of the foreign exchange market for the Canadian dollar, show
the effect of the higher real interest rate in India on each of the following.
1. Supply of the Canadian dollar. Explain.
2. The value of the Canadian dollar, assuming flexible exchange rates
B. Using a correctly labeled graph of the loanable funds market in Canada, show how the increase
in the real interest rate in India affects the real interest rate in Canada.
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I. Assume that declining stock market prices in the United States cause many United States financial
j'nvesto rs to sell their stocks and increase their money holdings.
A. Draw a co rrectly labeled graph of th e money market and show the impact of the financial
investors' actions on each of the following.
1. Demand for money
2. Nominal interest rate
B. Due to the decline in wealth caused by the change in s tock prices, the general price level in the
United States falls relative to the price level in Japan, a trading partner. Use a co rrectly labeled
graph of the foreign exchange market for the United States dollar to show the impact of the
change in rela tive price levels on each of the following.
1. Demand for the dollar
2. Price of the dollar (yen/dollar)
c. How will the change in the price of the dollar you indicated in part (B) (2) affect net exports of
the United States7 Explain.
O. Using a correctly labeled aggregate demand and aggregate supply graph, show how the
change in net exports in part (C) will affect each of the following in the short run.
1. Aggregate demand
2. Output and price level
E. Given your answers to part CD), what will happen to unemployment In the short run7 Explain.
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I. In recent years. the Federal Reserve has made targeting the federal funds rate a main fo cus of its
monetary policy.
A. Define the federal funds rate.
B. If the Federal Reserve wants to lower the federal funds rate, what open-market operation
would be appropriate7
C. Assume that the open-market operation that you indicated in part (8) is equal to $10 million.
If the required reserve ratio is 0.2, calculate the maximum Change in loans throughout the
banking system.
D. Indicate the effect of the open-market operation that you indicated in part (B) on the nominal
interest rate.
E. Assume that the Federal Reserve's action res uJts in some Inflation. What would be the impact
of the open-market operation on the real rate of interest? Explain.
I.
Indicate whether each o( the (allowing is counted in the United States gross domestic product for
the year 2006, Explain each of your answers.
A. The value of a used textbook sold through an online auction in 2006
B. Rent paid in 2006 by residents in an apartment building built in 2000
C. Commissions earned in 2006 by a stockbroker
D. The value of automobiles produced in 2006 entirely in South Korea by a finn fully owned by
United States Citizens,
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recession.
A. Now assume that Australia begins to recover from its recession, Using a correctly labeled
graph of aggregate demand and aggregate supply for New Zealand, show the impact of
Australia's rising income on each of the following in the s hort run.
1. Aggregate demand in New Zealand. Explain.
2, Output in New Zealand
B. Using a correctly labeled graph of the money market for New Zealand, show the effect of the
output change in part (A)(2) on the follOwing.
1, Demand for money. Explain.
2, The nominal interest rate
C. Assume that the price level in New Zealand rises. Given your answer to part (B)(2), explain
what will happen to real interest rates.
D. Although recovering. AustraJia remains in recession and its government takes no action.
Indicate whether each of the following curves will shift to the left, shift to the right. or remain
unchanged in the long run in Australia.
1. Aggregate supply
2. Aggregate demand
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A. Assume that businesses are granted a tax credit on spending for machinery. USing a correctly
labeled graph of the loanable funds market, show the effect of the business sector's response
on the real interest rate.
B. Now assume instead that the tax rate on interest income from household savings is lowered
and there Is no change in government budget deficit Using a second correctly labeled graph
of the loanable fund s market. show the effect of the households' response on the real interest
rate.
C. Given your answer to part (8). explain what will happen to the country's production
possibilities curve in the long run .
I. Assume that the real interest rate in both the United States and the European Union equals 4.5
percent
A. Assume that the real interest rate in the United States falls to 3.75 percent
1. How will the flow of financial capital between the United States and the European Union
be affected? Expla in.
2. Using a correctly labeled graph of the foreign exchange market for the euro, show how the
value of the euro would change relative to the United States dollar in a flexible exchange
rate system.
B, Explain how the change in the value of the euro in part [A)(2) would affect the European
Union's net exports.
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l. Assume that the United States economy is cu.-.-endy ope.-ating at an equilib.-ium below full
employment
A. Drawa correctly labeled g.-aph of aggregate demand and agg.-egate supply, and show each of
the following.
1. Long·.-un aggregate s upp ly
2. Current equilibrium output and price level
B. Now assume a Significant increase in the world price of oil, a major production input fo.- the
United States. Show on your graph in part (A) how the increase in the oil price affects each of
the following in the short run.
1. Short·run aggregate supply
2. Real output and price level
C. Given your answer in pan (B). explain what will happen to unemployment in the United States
in the short run.
D. Ass ume that the United States trades with Japan. Draw a correctly labeled graph of the foreign
exchange market fo.- the United States dollar. Based on your indicated change in real output in
part (8). show and explain how the supply of the United States dollar will be affected in the
foreign exchange market
E. Given you.- answe.- in part (D), indicate what will happen to the value of the United States
dollar relative to the Japanese yen.
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A. Using a correctly labeled graph of the money ma.-ket, show how an increase in the income
level will affect the nominal inte.-est rate in the short run.
B. Using a correctly labeled graph of the loanable funds market, show how a decision by
household s to increase saving for retirement will affect the real market interest rate in the
short run.
e. Suppose that the nominal interest rate has been 6 percent with no expected Inflation. If
inflation is now expected to be 2 percent, determine the value of each of the following.
1. The new nominal interest rate
2. The new real interest rate
I. The unemployment rate is an important indicator of the health of the United States economy.
A. Assume that with the economy at full employment, the government implements an
expansionary fiscal policy. How does the actual unemployment rate at the new short·run
equilibrium compare with the natural rate of unemployment?
B. Assume that a Significant number of workers are involuntarily changed from full¥time to part·
time employment Explain how this will affect the number of people who are offiCially
classified as une mployed.
C. Assume that the government reduces the level of unemployment compensation.
1. Explain how this affects the natural rate of unemployment
2. Using a correctly labeled graph, show how this affects the long·run Phillips curve.
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I. Assume that a country's economy is operating at less than full employment
A. Drawa correctly labeled graph of aggregate demand and aggregate supply, and show each of
the following.
1. Long-run aggregate supply curve
2. Current output and price level
B. Assume that policy makers take no policy action and that pri ces and wages arc flexible.
Explain what will happen to each of the following.
1. Short·run aggregate supply
2. Employment
C. Now assume that instead of taking no policy action, the government implements a special tax
incentive to encourage individuals to increase saving for retirement Draw a correctly labeled
graph ofthe loanable funds market Show how the real interest rate is affected.
D. Given your answer in part (C), explain how aggregate supply is affected in the long run.
A. Assume that a bank receives a cash deposit of$9,000 from a Customer. What is the immediate
impact of this transaction on the mon ey supply? Explain.
B. Suppose that the reserve requirement is 10 percent and banks voluntarily keep an additional
10 percent in reserves. Calculate each of the follOwing.
1. The maximum amount by which this bank will increase its loans from the transaction in
part CA)
2. The maximum increase in the money supply that will be generated from the transaction in
part CA)
C. Assume that the government increases spending by $9,000, which is financed by a sale of
bonds to the central bank.
1. Indicate what will happen to the money supply.
2. Explain what will happen to the money demand.
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I. Assume that South Korea and Canada are trading partners. The
equilibrium exchange rate between the Canadian dollar and the
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South Korean currency, th e won, is shown in the graph of the
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foreign exchange market, above.
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A. Explain how each of the follOwing will affect the demand for
the Canadian dollar.
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1. The inflation rate in Canada is higher than the inflation
rate in South Korea.
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2. Real interest rates in Canada fall relative to real interest
rates in South Korea.
B. Given your answer to part (A)(2), indicate how the value of the Canadian dollar is affected.
C. As a result of the currency change in part (B). what will happen to Canadian exports to South
Korea? Explain.
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Assume that the United States economy is currently in equilibrium at the full-employment level of
real gross domestic product
A. Drawa correctly labeled graph of aggregate demand and aggregate supply showing each of
the following in the United States.
1. Output level
2. Price level
B. Japan is a major importer of United States products, Assume that the Japanese economy goes
I Pt .
2. Show these effects on your graph in part (Al.
Assume that the Federal Reserve takes action to curb the effects of the Japanese recession on
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1. Explain the impact of the Japanese recession on the United States equilibrium output and
price levels.
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the United States economy.
1. What open-market operation would the Federal Reserve undertake?
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8. [ndicate how the real interest rate change you identified in part
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CA) will affect investment in plant and equipment-'
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C. Explain how the real interest rate change you identified in part
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(A) will affect long-tenn economic growth.
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D. Explain how the real interest rate change you identified in part (A) will affect each of the
following in the foreign exchange market1. The demand forthe country's currency
2. The value of the coun try's currency
1.
Assume that the table below shows the unemployment and inflation data in Country X as a result
ofa ..... ...
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Period
Unemployment Rate
Inflation Rate
Last Year
2%
8%
This Year
5%
4%
A Draw a correctly labeled graph of a short-run Phill1ps curve for Country X, showing the actual
unemployment and innation rates for both years. Label the Phillips curve as SRPC.
B. Now assume that the short-run aggregate supply curve has shifted to the left.
1. Identify one factor that could cause the aggregate supply curve to shift to the left2. On the graph, show how this shift would affect the short-run Phillips curve.
C. Assume that the narural rate of unemployment in Country X is 5 percent Draw a correctly
labeled graph of the long-run Phillips curve and label it as LRPC.
O. What is the relationship beLWeen the unemployment rate and the inflation rate in the long
run?
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2. Use a co rrectly labeled graph of the money market to show how the Federal Reserve
policy action will affect the nominal interest rate.
3. Explain how the change in the nominal interest rate in part (C) (2) will affect aggregate
demand, pri ce level, and real output in the United States.
D. Define the real interest rate.
.
E. Indicate the effect of the open-market operation you identified in part (C) (1) On the real
interest rate in the United States.
I. The graph above shows the loanable funds market for a country.
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I. Assume that a country's economy is currently at equilibrium along an upward-sloping short-run
aggregate supply curve. Suppose that the country's central bank conducts an open-market sale of
government bonds.
A Using a correctly labeled graph of the money market, show how the open-market sale of
bonds will affect each of the following.
1. Money supply
2. Interest rate
B. Indicate whether the interest rate you ide ntified in (A) (2) is a real or a nominal rate.
C. Under what condition will the nominal interest rate differ from the real interest rate1
D. Using a correctly labeled graph of aggregate dem and and aggregate supply, show the short·
run effect of the open-market operation on each of the following.
1. Real output
2. Price level
E. On a correctly labeled graph of the Phillips curve, show how the open-market operation will
affect the following in the short run. Use an arrow to show the direction of change.
L Unemployment rate
2. Inflation rate
F. Identify a fiscal policy action that would offset the impact on real output and price level that
you identified in (D).
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I. Labor productivity is output per unit of labor. An increase in labor productivity is a source of
economic growth.
A. Identify two sources of increase in labor productivity.
B. Assume that a country's economy is at full employment Productivity has been rising. Using a
correctly labeled graph of aggregate demand and aggregate supply, show the long· run effect of
the growth in productivity on each of the follOwing.
1. Real output
2. Price level
C. (C) Assume that the economy produces only two goods, good X and good Y. Using a correctly
labeled production possibility diagram, show the effect of the increase in labor productivity.
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I. Assume that an increase in government spending increases the budget defiCit in Country A.
A. Using a correctly labeled graph of the loanable funds market, show the effect of the increase in
Country A's budget deficit on the real interest rate.
B, Given your answe r in (A), what is the effect on business investment in Country A1
C. The exchange rate between Country A's dollar and Country B's peso is determined in a flexible
exchange market Using a correctly labeled graph of the foreign exchange market for Country
A's dollar, show how the interest rate change you identified in CA) aJTects the international
value of Country A's dollar.
D. (0) Given your answer to (C), explain how the competitiveness of Country A's goods changes
relative to Country B' s goods.
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I. Assume that the United States economy is operating at less than full employment
A. Using a correctly labeled aggregate demand and aggregate supply graph, show the following.
1, Full~employmentoutput
2. Current output
3. Current price level
8. Identify an open-market operation that could restore full employment in the short run.
C. Using a correctly labeled graph of the money market, show how the open~market operation
you identified in part (B) affects the interest rate in the short run.
D. Explain how the change in the interest rate you identified in part (C) will affect aggregate
demand.
E. Show on the graph in part (A) how the change in the interest rate you identified in part (e)
will affect output and price level.
F. Instead of the open-market operation in part (B), suppose that no policy actions are taken to
address the unemployment problem. With flexible prices and wages, explain how each of the
following will eventually change.
1. Short-run aggregate supply
2. Output and price level
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A. Assume that national saving in the United States increases. Explain the effect of this increase
on the real interest rate in the United States.
B. Suppose that real interest rates in the rest of the world remain unchanged.
1. Explain the effect of the real interest rate change in the United States that you identified in
part fA) on the demand for the United States dollar in the foreign eXChange market
2. As a result of the effect you identified in (1), what will happen to the international value of
the United States dollar?
C. Given your answer in part (8), indicate how each of the follOwing will change.
1. United States imports
2. United States exports
I. The Federal Reserve buys $5,000 in bonds from Clark Consulting Services, which then deposits
the money in a checking account at First Generation Bank
A. As a result of the Federal Reserve's action, what is the change in the money supply if the
required reserve ratio is 100 percent?
B. Jf the required reserve ratio is reduced to 10 percent, calculate the following.
1. The maximum amount this bank could lend from this deposit
2. The maximum increase in the total money supply from the Federal Reserve's purchase of
bonds
C. If banks keep some of the deposit as excess reserves, how will this influence the change in the
money supply that was determined in part (B)(2)? Explain.
D. If the public decides to hold some money in the form of currency rather than in demand
deposits, how will this influence the change in the money ~upply that was determined in part
(8)(2)1 Explain.
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I. Assume that a country's economy is in equilibrium.
A. Using a correctly labeled aggregate demand and aggregate supply graph, show how an
increase in the price of oil. an important natural resource, Will affect the following in the short
run.
1. Real output
2. Price level
B. Using a correctly labeled graph, show how the increase in the price of oil affects the short·r,un
Phillips curve.
C. Assume that the central bank of the country responds to the higher price of oil by increasing
the money su pply.
1. Explain the process by which the increase in the money supply will affect the aggregate
demand in the short run.
2. Indicate how the increase in the money supply will affect real output a nd the price level.
D. Now asSume that instead of using monetary policy in response to the oil price increase, the
government reduces business taxes, which results in lower production costs. Using a new
correctly labeled graph, show the effectofthe reduction in business taxes on the following.
1. Real output
2. Price level
J. Due to an international financial crisis, Canada experiences a significant inflow of funds from
other countries. Explain the effect that this inflow of funds will have on the following.
A. The international value of the Canadian dollar
B. Canadian net exports
C. The real interest rate in Canada
D. The level of investment in Canada
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OUTPUT PER WORKER PER DAY
Country
Units of
Units of
Cloth
Food
Newland
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Beeland
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I. The table above gives the prod uction alternatives of two nations that are producing cloth and
food, using equal amounts of resources.
A.
1. Calculate the opportunity cost of producing a u.nit of cloth in Newland.
2. Calc ulate the opportunity cost of producing a unit of food in Beeland.
1. Which nation has the comparative advantage in cloth production?
2. Which nation has the comparative advantage in food production?
C. Now assume that the productivity of Beeland' s workers triples for each good.
1. Which country has a comparative advantage in food production?
2. Explain how you determined your answer.
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I. Assume that the United States economy is in a severe recession with no inflation.
A. Using a correctly labeled aggregate demand and aggregate supply graph, show each of the
following for the economy.
1. Full-employment output
2. Current output level
3. Current price level
B. The federal government announces a major decrease in spending. Using your graph in part
(A), show how the decrease in spending will affect each of the following.
1. level of output
2. Price level
C. Explain the mechanism by which the decrease in government spending will affect the
unemployment rate
O. The Federal ReselVe purchases bonds through its open-market operations.
1. Using a correctly labeled graph, show the effect of this purchase on the interest rate.
2. Explain how the change in the interest rate will affect output and the price level.
E. Explain how the change in the interest rate you identified in part (D) will affect each of the
rollowing.
1. International value of the dollar relative to other currencies
2. United States exports
3, Un,i ted States imports
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A, Explain the effect of this innation on each of the following.
1. A family with savings in a fixed-interest-rate time deposit account
2. A business repaying a long-term, flXed-interest-rate loan
B. Identify one fiscal policy action that could be implemented to reduce inflation.
C. Identify an open-market operation that could be implemented to reduce inflation.
D. Suppose that Country V continues to experience high inflation in the long run. Indicate the
effect of this innation on the nominal interest rate in Country V.
E. If Country V's inflation is high relative to that of other countries, explain the effect of this
innation On the international value of Country V's currency.
I. Assume that two countrfes, Atlantis and Xanadu, have equal
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amounts of reSOurces. Atlantis can produce 30 cars or 10
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tractors or any combination, as shown by the line MN in the
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A. 40 tractors Or any combination, as shown by the line PQ
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your answer.
C. Which country has a comparative advantage in the production of cars? USing the concept of
opportunity cost, explain how you determined your answer.
D. If the two countries specialize and trade with each other, which country will import cars?
Explain why.
E. (D) If the terms of trade are such that one car can be exchanged for one tractor, explain how
Atlantis will benefit from such trade.
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I. Assume that a country's economy is operating below full employment and has a balanced trade,
and that the government is running a budget deficit
A. Draw a correctly labeled aggregate demand and aggregate supply graph and show the
economy's current output and price level.
B. Suppose that the country's government increases spending to achieve full-employment
output On your graph in part (A), show the short-run effect that the increased deficit
spending would have on each of the following,
1. Aggregate demand
2. Output
3. Price level
C. Using a correctly labeled loanable-funds market graph, show the effect of the increase in
deficit spending on the real interest rate.
D. Given your answer In part (C), explain how the international value of the country's currency
will be affected.
E. Based on your answer in part (D), respond to each of the following.
1. Explain the effects on the country's exports and imports.
2. Identify the effect on the country's trade balance,
F. Given the results in the loanable-funds market discussed in part (C), explain how this
government deficit spending would influence long-run growth.
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machines described by their production possibilities curves
Ashna
above,
A. Which country has an absolute advantage in the
Luna
production of machines? Explain.
B. Which country has an absolute advantage in the
production of food? Explain,
40 MA CBlNES
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C. Which country has a comparative advantage in the
production of machines? Explain.
D. With trade between these two countries, which country will import food? Explain.
E. Give an example of tenns of trade acceptable to both countries.
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A. Draw a correctly labeled graph showing the short-run and long-run Phillips curves for
CountryX.
8 . Identify how each of the following affects inflation, unemployment, and the short-run Phillips
curve.
1. An increase in government spending
2. A drop in inflationary expectations
C. Identify the effect of increased unemployment-insurance benefits on the long-run Phillips
curve,
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I. The United States is experiencing a high rate ofunemployment
A. Identify One fiscal policy action that Congress might initiate to decrease the unemployment
rate.
B. Assume that the policy you identified in part (A) reduced unemployment, but the economy is
still operating below full employmen t Us ing a correctly labeled aggregate demand-aggregate
supply graph, show and explain how the action you identified would affect each of the
following.
1. Output
2. Price level
C. Explain how the policy you identified in part (A) would affect short-term interest rates.
D. Given that the economy is still below full e mployment, identify the open market policy the
Federal Reserve could implement to increase the money supply.
E. Using correctly labeled graphs, show and explain how the increase in money supply will affect
each of the following in the short run.
1. Short-term interest rates
2_ Output
3. Price level
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I. Explain how each of the following will affect long-run aggrega te supply (potential real gross
domestic product).
A. A decrease in the labor force participation rate
B. An increase in the government deficit following a reduction in personal income taxes
C. A decrease in the quantity of inputs required to produce a unit of output
D. An increase in the quantity and quality of education
E. An increase In the rate of savings
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I. Initially, the real interest rates in the United States and Japan are equal to 7 percent. The real
interest rate in the United States increases to 8 percent while the real interest rate in Japan
decreases to 6 percent.
A. How and why will capital flows be affected by this change in real interest rates?
B. Using a correctly labeled graph for the yen market, show and expla in how the value of the yen
will change relative to the value of the dollar.
C. Explain how the change in the value of the yen will affect each of the following in the United
Sta tes.
1. Imports from Japan
2. Exports to Japan
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A. Using a correctly labeled aggregate supply and aggregate demand graph, show the impact of a
sudden, large decrease in private investment spending on each of the following.
B.
C.
D.
E.
2. Price level
Us ing the res ults in part (A), explain how employment is affected.
Identify one specific fiscal policy that might be implemented to offset the effects of the
dec rease in investment, and explain how the policy would affect each of the following in the
s hort run,
1. Aggregate demand
2. Output and the price level
3. Real interest rates
Identify an open-market operation that the central bank mig~t implement to offset the effects
of the decrease in investme nt, and explain how the policy would affect each of the following in
the, short run.
t. Real interest ra tes
2. Aggregate demand
3. Output and the price level
If the central bank continues the open-market operation described in (0). explain the long-run
effects on each of the following.
1. Inflation
2. Value of the domestic currency in foreign exchange markets
I. The government replaces the income tax with a national sales tax that generates the same
revenue. Assume throughout the question that the economy stays at full employment.
A. What is the effect of the change in tax policy on each of the following?
1. Consumption
2. National saving
B. Using a correctly labeled graph of the loanable-funds market, explain how the change in tax
policy will affect each of the following.
1. Real interest rate
2. Investment
C. Explain how this change in policy will affect long-run economic growth.
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I. Country X has a flexible exchange rate and intern ational capi tal mobility. PoliticaJ turmoil outside
of Country X generates capital flow into Country X.
A. Using a correctly labeled foreign-exchange market graph. explain the impact of the capital
inflow on the international value of the currency of Country X.
B. For Country X, explain the effect of the change in the International value of lts currency on
each of the following.
1. Exports
2. Imports
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I. Assume that the economy is operating below the full-employment level of output and that the
government's budget is balanced.
A. Using a correctly labeled aggregate demand and aggregate supply graph, show how an
increase in government spending will affect each of the following in the short run .
1. Real output
2. Price level
B. Explain how this increase in government spending will affect each of the following in the short
run,
1. Real interest rates
2. Investment
Now assume that instead of increasing government spending, the government decreases
corporate-profits taxes.
C. Using a correctly labeled aggregate demand and aggregate supply graph, show and explain
how this decrease in corporate-profits taxes will affect each of the following.
1. Aggregate demand
2. Long-run aggregate supply
3. Real output
4. Price level
D. Assume that this country produces two goods, Xand Y. Draw a correctly labeled production
possibilities curve for this economy. Now show on the graph how this decrease in corporateprofits taxes will affect this economy's production possibilities curve.
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I. janet Smith deposits $1,000 of her cash holdings in her checking account at First Federal Bank.
The reserve requirement is 20 percent and the bank has no excess reserves.
A. What is the immediate effect of her deposit on the money supply? Explain why.
S, What is the maximum amount of money First Federal can initially loan out? Explain how you
determined this amount
C. What is the maximum amount of money the entire banking system can create? Explain how
you detennined this amount
D, Give one reason why the money supply may not increase by the amount you identified in ee).
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real interest rates in member countries, but not in the United States. Explain how this increase
real interest rates will affect each of the following.
Purchases of United States financial assets by foreigners
The international value of the United States dollar
C. United States exports
D. United States imports
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I. A movement toward a unified monetary policy within the European Union has Jed to an increase
in
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1. Suppose that the United States economy is in a deep recession.
A. Using a correctly labeled aggregate demand and aggregate supply graph, show the
equilibrium price level and real gross domestic product
B. There is a debate in Congress as to whether to decrease personal income taxes by a given
amount or to increase government purchases by this amount Which of these two fiscal
policies will have a larger impacton real gross domestic product? Explain.
C. Explain how a decrease in personaJ income taxes will affect each of the following in the short
run.
1. Consumption
2. Real gross domestic product and the price level
3. Imports
4. Exports
D. Explain the mechanism by which an increase in net investment will cause each of the
following to change.
1. Aggregate demand
2. Long-run aggregate supply
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I. Assume that the United States and France are the only two
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countries in the world and that exchange rates between the
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two countries are flexible.
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2. The international value of the dollar
B. Assume that there is an increase in real interest rates in
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the United States, but not in France. Explain how this
increase in interest rates will affect each of the foHowing.
1. The international value of the dollar in the foreign exchange market
2. The quantity of dollars supplied in the foreign exchange market
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I. Assume an economy with no international sector.
A. Using a correctly labeled money-market graph, show how a decrease in the money supply will
affect interest rates.
B. Explain how the change in the interest rate you identified in part (Al will directly affect each
of the three components of aggregate demand for this closed economy.
C. Using a correctly labeled aggregate demand and aggregate supply graph, show how the
change in the interest rate you identified in part (A) will affect each of the following in the
short run.
1. Output
2. Price level
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I. Following a n increase in the demand for money, an open economy is experiencing a significant
increase in real interest rates relative to the rest of the world.
A. Explain how this in crease in inte rest rates will affect each of the following for the country.
1. Investment
2. The international value of its curren cy
3. Exports
B. Using a correctly labeled aggregate demand and aggregate supp ly diagram. show how the
change in investment you identified in part (A) will affect each of the following in the short
run.
1. Output
2. The price level
C. Identify one fiscal policy action that could counter the effects identified in part (8). Explain
how this po licy will affect each of the follow ing.
1. Output
2. The price level
3. Nominal interest rates
4. The price of bonds
D. Ide ntify one monetary policy action that could counter the effects identified in part (8). Using
a cor rectly labeled money market graph, show how this policy will affect nomin al interest
rates.
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B. Explain why the two methods you ide ntified in part (A) must yield the same value of gross
domestic product.
C. Identify one shortcom ing of using gross domestic product as an indicator of the acrualleve l of
national output
D. If nominal gross domestic product increased by 4 percent in 1996, identify two additional
pieces of information you need before you can conclude that the living standa rd of the typical
person increased by 4 percent during that year.
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A. Explain how an increase in net investment will affect each
of the following.
1. Aggregate demand
2. Capital stock
3. Long-run aggregate s upply
4. Output
B. Explain how the increase in net investment will affect the
country's production possibilities curve shown below.
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I. Assume an open economy with a public sector.
I. Assume that an economy is a t full employment
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Suppose the reseTVe requirement is 10 percent and the National Bank of Austin hold s no excess
reserves. Then Alexandra deposits $1,000 in her checking account at the National Bank of Austin.
A. Incorporate the following three terms into a general explanation of how a bank can create
money: deposits, required reserves, excess reserves.
B. After Alexandra's $1,000 deposit and prior to any other deposits or withdrawals, what is the
largest amount that the National Bank of Austin can lend out?
C. Determine the money multiplier in this economy. Show your work.
D. What is the maximum value of additional deposits that can be created as the result of
Alexandra's $1,000 deposit
E. What policy change by the Federal Reserve wouJd double the size of the money multiplier?
I. Assume the economy is operating in long·run equilibrium at the full-employment level of output
A. Drawa co rrectly labeled aggregate demand a nd aggregate supply graph that represents this
scenario.
B. Suppose the economy experiences a change in consumer spen ding due to a sharp increase in
s tock market indices and that this has increased the wealth of the nation.
1_ Amend the graph you drew for part to show the results of this change.
2. Show the new equilibrium output and price level on your graph.
3. What type of gap exists in this economy?
4. Explain the effect of this change On the unemployment ra te.
C. Reco mmend a fiscal policy action that couJd move the economy back to fuJI -e mployment
output
D_ Explain the effect of the recommended fiscal policy action on
1. Aggregate demand
2. The price level
3, Real GDP
E. Explain how the following will influence the effect of the fiscal policy you recommended.
1, Crowding out
2. Changes in net exports
I. Suppose that Cyber Sara, the Bill Gates of the new millennium, takes tech nology to new heights
with robots that provide Widespread cost savings in the production of goods and services.
A. Use a correctly labeled aggregate demand and aggregate supply diagram to explain the direct
effect of this increase in
B. productivity on output and the price level in the U.S.
C. If Cyber Sara's technology is only available in the U.S., use a new, correctly labeled aggregate
demand and aggregate su pply diagram to illustrate the effect of the robots On exports.
D. Explain how the change in exports identified in part (b) will affect the value of the dollar
relative to foreign currencies.
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I. The U.S. economy is experiencing a severe recesSion and the budget is currently balanced .
A. One policy analyst advocates expansionary tax cuts, while another advocates expansionary
government spending. Which of these policies will have the greatest impact on real domestic
output? Explain how you know.
B. If you can choose only one of the proposed policies in part CAl, explain how this policy impacts
the federal budget and each of the following :
1. Interest rates.
2. Invesnnent.
C. Given that the economy has still not recovered from the recession, identify One tool of the
Federal Reserve that might stimulate the economy.
D. Using correctly labeled graphs, show how the Fed policy identified in part (C) would affect
each of the follOwing:
1. Interest rates.
2. Real GDP
3. The price level.
E. Explain one factor that might lessen the effectiveness of the Fed's monetary policy.
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I. Assume that the European Union (EU) has experienced lower interest rates while interest rates in
the United States have remained relatively high. Explain how these lower real interest rates will
affect each of the following:
A. The purchase of EU assets by American investors.
B. The international value of the EU currency, the euro.
C. EU exports to the United States.
D. EU imports from the United States.
I. The competitive world price of steel is lower the equilibrium price of steel in the United (A) In a
correctly labeled graph, show the market for steel, being careful to clearly each of the following:
A. The domestic price of steel absence of imported steel.
1. The world price of steel.
2. The amount of steel currently imported into the domes tic market.
B. American producers of steel are threatened by imported steel and successfully Congress to
impose a quota on foreign that reduces, but does not completely the amount of steel imported
into U.S. market. In your graph, show the of the quota on each of th'e following:
1. The price of s teel paid by domestic consumers.
2. The amount of steel now being imported into the domestic market.
C. Suppose now that instead of a Congress approves a tariff to limit, but eliminate, the amount of
steel imported the United States. Explain the difference between the impacts of a tariff from
those ofa quota.
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