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Chapter 10: Q. 11 (page 229)

Consider the diagram below when answering the questions that follow.

a. Suppose that the current price level is P2. Explain why the price level will decline toward P1.

b. Suppose that the current price level is P3. Explain why the price level will rise toward P1.

Short Answer

Expert verified

a. The buildup of unsold inventories ends up in a surplus of products and services provided within the economy brings back the value level to the equilibrium level.

b. The value level upwards restoring the equilibrium indicator of P2.

Step by step solution

01

Given Information (a)

a) Arise in price to 2which is above the equilibrium price 1 causes a movement along the mixture demand curve reducing the equilibrium real GDP, this can be caused by three distinct force:

02

Explanation (a)

(a) Real balance effect: an increase in indicant reduces the worth of the cash decreasing the wealth processed by the economy. This results in a discount within the planned spending on the purchases of the products and services within the economy.

Interest rate effect: With a rise in index, the wealth of the individuals gets reduced this makes them to demand extra money for his or her purchases increasing the interest rates. Hence these higher interest rates, results in a discount within the planned spending on the acquisition of the products and services by the economy.

Thus the buildup of unsold inventories ends up in a surplus of products and services provided within the economy brings back the value level to the equilibrium level.

03

Given Information (b)

b) When the value level reduces to P3 which is less than the equilibrium price of P2. Than the combination demand of the products and services moves down along the combination demand curve thanks to real balance effect, interest effectand therefore the open economy effect.
Real balance effect: A reduced indicant increases the wealth increasing the purchasing power thus increasingthe mixture spending.


04

Explanation (b)

Interest rates: Acheaper price level reduces the interest rates inducing the individuals, business and government spending.

Open economy: A lower cost within the economy increases the exports increasingthe mixture demand.

Thus, thanks to decrease there'll be a large increase in aggregate demand depleting the inventories and creating a shortage within the market. This pushes the value level upwards restoring the equilibrium indicator of P3.

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Most popular questions from this chapter

For each question, s褖pose that the exonorm begins at the long-run equilibrium point Ain the diagram below. Identify which of the other points on the diagram-points B,C,D, or E-could represent a new long-run equilibrium after the described events take place and move the economy away from point A.

a. Significant productivity improvements occur, and the quantity of money in circulation increases.

b. No new capital investment takes place, and a fraction of the existing capital stock depreciates and becomes unusable. At the same time, the government imposes a large tax increase on the nation's households.

c. More efficient techniques for producing goods and services are adopted throughout the economy at the same time that the government reduces its spending on goods and services.

Take a look at the panel (a) of Figure 10-6. In the absence of a change in aggregate demand, what effect does economic growth have on the price level over time, other things being equal? Why?

Suppose that the long-run aggregate supply curve is positioned at a real GDP level of $18trillion in base-year dollars, and the long-run equilibrium price level (in index number form) is 115 . What is the full-employment level of nominal GDP?

Identify the combined shifts in long-run aggregate supply and aggregate demand that could explain the following simultaneous occurrences,

a. An increase in equilibrium real GDP and an increase in the equilibrium price level

b. A decrease in equilibrium real GDP with no change in the equilibrium price level

c. An increase in equilibrium real GDP with no change in the equilibrium price level

d. A decrease in equilibrium real GDP and a decrease in the equilibrium price level

Explain whether each of the following events would cause a movement along or a shift in the position of the L.RAS curve, other things being equal. In each case, explain the direction of the movement along the curve or shift in its position.

a. Last year, businesses invested in new capital equipment, so this year the nation's capital stock is higher than it was last year.

b. There has been an 8 percent increase in the quantity of money in circulation that has shifted the ADcurve.

c. A hurricane of unprecedented strength has damaged oil rigs, factories, and ports all along the nation's coast.

d. Inflation has occurred during the roast year as a result of rightward shifts of theAD curve.
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