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Define long-run equilibrium.
The point where LRAS, SRAS, and AD intersect, representing full employment output.
What is a recessionary gap?
When equilibrium output is less than full-employment output.
Define inflationary gap.
When equilibrium output is greater than full-employment output.
What is LRAS?
Long-Run Aggregate Supply; represents potential output at full employment.
Define SRAS.
Short-Run Aggregate Supply; shows the relationship between price level and quantity of output supplied in the short run.
What is Aggregate Demand (AD)?
The total demand for goods and services in an economy at a given price level.
Define full employment level of output.
The level of output an economy can produce when it is using all its resources efficiently.
What are economic shocks?
Unexpected events that shift the AD or AS curves.
Define self-correction mechanism.
The economy's natural tendency to return to long-run equilibrium through price and wage adjustments.
What is the natural rate of unemployment?
The unemployment rate that exists when the economy is producing at its potential output.
How can fiscal policy address an inflationary gap?
Contractionary fiscal policy (e.g., increased taxes, decreased government spending) can reduce aggregate demand.
How can monetary policy address a recessionary gap?
Expansionary monetary policy (e.g., lower interest rates) can increase aggregate demand.
What is the impact of government spending on aggregate demand?
An increase in government spending shifts the AD curve to the right.
What is the impact of increasing taxes on aggregate demand?
An increase in taxes shifts the AD curve to the left.
How does expansionary monetary policy affect interest rates?
It lowers interest rates.
How does contractionary monetary policy affect interest rates?
It raises interest rates.
Evaluate the effectiveness of using fiscal policy to correct a recessionary gap.
Fiscal policy can increase AD, but it may have time lags and potential crowding-out effects.
Evaluate the effectiveness of using monetary policy to correct an inflationary gap.
Monetary policy can decrease AD, but its impact can be uncertain and depend on interest rate sensitivity.
What is the effect of increased government spending on the price level during full employment?
It can lead to inflation if the economy is already at full employment, as it increases aggregate demand without a corresponding increase in aggregate supply.
How does a decrease in the money supply affect investment?
It typically leads to higher interest rates, which can decrease investment spending.
Compare and contrast recessionary and inflationary gaps.
Recessionary gaps have output below potential and high unemployment; inflationary gaps have output above potential and low unemployment.
What are the differences between SRAS and LRAS?
SRAS is upward sloping and reflects short-run production costs; LRAS is vertical and represents potential output at full employment.
Compare the short-run and long-run effects of an AD increase.
In the short run, output and price level increase; in the long run, only the price level increases as the economy returns to full employment.
Differentiate between fiscal and monetary policy.
Fiscal policy involves government spending and taxation; monetary policy involves controlling the money supply and interest rates.
Compare the effects of a supply shock vs. a demand shock.
Supply shocks directly affect SRAS/LRAS, impacting output and price level; demand shocks directly affect AD, also impacting output and price level.
Compare the self-correction mechanism in a recessionary vs. an inflationary gap.
In a recessionary gap, wages fall, shifting SRAS right. In an inflationary gap, wages rise, shifting SRAS left.
What is the difference between a temporary and a permanent supply shock?
A temporary supply shock only affects SRAS, while a permanent supply shock affects both SRAS and LRAS.
Compare the impacts of expansionary fiscal policy and expansionary monetary policy.
Both aim to increase aggregate demand, but fiscal policy does so through government spending or tax cuts, while monetary policy does so through lower interest rates and increased money supply.
Compare the effects of an increase in government spending versus an increase in consumer confidence.
Both shift the AD curve to the right, but government spending is a direct injection into the economy, while consumer confidence affects consumer spending decisions.
Compare the effects of a change in SRAS versus a change in LRAS.
A change in SRAS affects the economy in the short run, while a change in LRAS affects the economy's potential output in the long run.