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QUESTION #1 1b) Both Prices & Wages are sticky in the short run which causes QTY supply to rise as inflation 1a) LRAS1 Price Level SRAS1 Examples • Price Level ↑ => nominal prices lag => QTY S ↑ • P2 ----------------- P1 ----------- E2 E1 --------Y1 Price Level ↑ => nominal wages same but Real Wages ↓ => So Qty Supplied AD2 AD1 Y* Real GDP 1c) Actual Price level at (P1) is LOWER than expected price level (which lags!) Expected price level lags actual price level in both directions (actual price level is the one you are graphing => so if AD shifts left => actual falls immediately…) 1d) Expansionary Fiscal Policy G ↑ & C ↑ => AD ↑ ↓ Taxes & ↑ Gov’t Spending Back to long run equilibrium QUESTION #1 1f) Tax cuts = less revenue for Gov’t Government Spending ↑ => more $ going out • Gov’t now running a BUDGET DEFICIT 1g) National Savings Falls Supply Curve = National Savings = Sum of Public & Private Savings • So Supply shifts left causing real interest rates to ↑ 1h) Investment would fall (I↓) as interest rates rise So AD shifts LEFT 3c) Public savings rises (becomes less negative) so National Savings ↑ QUESTION #2 3d) graph So Loanable Funds Supply Shifts Right Real Interest Rate r2 S2 -------------- E1 ------------------ E2 --------------------- R1 S1 Q1 Q2 3e) AD ↑ as I ↑ (based only on loanable funds market change) Increase in Investment ( I↑ ) today mean in the long run: 3f) D1 Qty Loanable Funds PPF: Capital Investment shifts PPF to right in long run 3a) Demand Curve = Investors (business) SRAS & LRAS: both shift right as PPF went right Investors borrow money for capital goods (I) to expand business… UNEMPLOYMENT: r-GDP rises => unemployment rate must fall 3B) Rising Business confidence Tax Credits for business investment Both shift D right QUESTION #3 LRAS1 Price Level SRAS1 LRAS2 SRAS2 P1 P2 ----------------- E1 ----------------- E2 AD1 Y1 Y2 Real GDP