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ADAS Practice
A country’s economy is in a short-run equilibrium with an output level
less than the full-employment output level. Assume an upwardsloping aggregate supply curve.
• (a) Using a correctly labeled aggregate demand and aggregate
supply graph, show the following.
•
(i) Full-employment output, labeled as YF
•
(ii) Equilibrium real output and price level, labeled as YE and
PLE, respectively
• (b) Assume that the country’s government increases domestic
military expenditures. On the graph from part (a), show how the
increased military expenditures affect the following in the short run.
(i) Aggregate demand
(ii) Equilibrium real output and price level, labeled as Y2 and
PL2, respectively
• (c) Assume that the increased military spending is financed through
government borrowing. What will happen to the real interest rate?
Explain.
• (d) Assume that the economy produces only two goods: military
goods and civilian goods. Using a correctly labeled production
possibilities curve, show the effect of the increase in military
expenditures from part (b), labeling the initial point as C and the
new point as D.
Answer
PL
LRAS
SRAS
• (c) Increase government
spending -> increase D
for Loanable funds ->
Increase real interest
rates
PLE
AD
YE
YF
AD2
GDPR
Military Goods
PL2
D
C
Y2
Civilian Goods
• How does each of the following changes affect
the real gross domestic product and price level
of an open economy in the short run? Explain
each.
• (a) An increase in the price of crude oil, an
important natural resource
• (b) A technological change that increases the
productivity of labor
• (c) An increase in spending by consumers
• (d) The depreciation of the country’s currency in
the foreign exchange market
Answer
• (a) Increase price of oil -> decrease SRAS->
Increase PL and Decrease GDP
• (b) Productivity increases -> increase SRAS > decrease PL and Increase GDP
• (c) increase C -> increase AD -> increase PL
and increase GDP
• (d) depreciation -> exports seem cheaper ->
increase X -> increase AD -> increase PL
and GDP
Assume that declining stock market prices in the United States cause
many US financial investors to sell their stocks and increase their
money holdings.
A. Due to the decline in wealth caused by the change in stock
prices, the general price level in the US falls relative to the PL in
Japan, a trading partner. Use a correctly labeled graph of the
foreign exchange market for the US dollar to show the impact of
the of the change in relative PL on each of the following
1. Demand for the dollar
2. Price of the dollar
B. How will the change in the price of the dollar you indicated in
part a, affect net exports of the US? Explain
C. Using a correctly labeled graph of the ADAS graph, show how
the change in net exports in part B will affect each of the
following in the short run
1. Aggregate Demand
2. Output and Price Level
D. Given your answer in part C, what will happen to unemployment
in the short run? explain
Answer
PL
LRAS
¥/$
SRAS
S$
P
PL
P
D$2
PL2
AD
D$
Q
Q
Q$
• Appreciation, goods seem
more expensive, decrease
exports, decrease net
exports
Y2
YF
AD2
GDPR
• Output goes down,
unemployment goes up
Assume the economy of Andersonland is in a long-run equilibrium
with full employment. In the short run, nominal wages are fixed.
• (a) Draw a correctly labeled graph of SRAS, LRAS, and AD.
Show each of the following.
– (i) Equilibrium output, labeled Y1 and
– (ii) Equilibrium price level, labeled PL1
• (b) Assume that there is an increase in exports from
Andersonland. On your graph, show the effect of higher exports
on the equilibrium in the short run, labeling the new equilibrium
output and price level Y2 and PL2 ,
• (c) Based on your answer in part (b), what is the impact of
higher exports on real wages in the short run? Explain.
• (d) As a result of the increase in exports, export-oriented
industries in Andersonland increase expenditures on new
container ships and equipment.
– (i) What component of aggregate demand will change?
– (ii) What is the impact on the long-run aggregate supply? Explain
Answer
PL
LRAS
SRAS
PL2
PL
AD2
AD
Y1
Y2 GDPR
• If nominal wages are fixed
and there is inflation, then
real wages will decrease
• If business buy more
container ships, then I
increase.
• Long run will shift to the
right because capital stock
has increased
• Assume the US economy is currently operating at an equilibrium
below full employment.
• (a) Draw a correctly labeled graph of AD and AS, and show each of
the following
– Long Run Aggregate Supply
– Current equilibrium output and price level
• (b) Now assume a significant increase in the world price of oil, a
major production input for the US. Show on your graph how this
effects
– SRAS and Real Output and Price level
• (c) Given your answer in part (b), explain what will happen to
unemployment in the US.
• (d) Assume that the United States trades with Japan. Draw a
correctly labeled graph of the FOREX market for the US dollar.
Based on your indicated change in real output in part (b), show and
explain how the supply of the US dollar will be affected in the FOREX
• (e) Given your answer in part (d), indicate what will happen to the
value of the US dollar relative to the Japanese yen.
¥/$
S$2
PL
LRAS
S$
P2
SRAS2
SRAS
P
D$
PL2
Q2
PL1
AD
Y2
Y1
YF
GDPR
• Unemployment in the US
will increase because
output has decreased
Q
Q$
• If output decreases, then
income decreases. If income
goes down then people in US
won’t be able to purchase as
many foreign made goods.
Decreasing the Supply for the
dollar
• Appreciate