BEC Lecture 5 Flashcards
(35 cards)
List and define the phases of a typical business cycle.
Business cycles are typically composed of: (1) an expansionary phase characterized by rising growth in economic activity (real GDP); (2) a peak, or high point of economic activity; (3) a contractionary phase characterized by declining growth in economic activity; (4) a trough, or low point in economic activity; and (5) a recovery phrase, during which economic activity starts to increase and return to its long-term growth trend.
How is a recession defined?
A recession is defined as a period which real GDP (national output) is failing for at least two consecutive quarters. Recessions are characterized by falling real output (negative GDP growth) and rising unemployment.
What is the definition of a business cycle?
Business cycles are defined as the rise and fall of economic activity relative to its long-term growth trend. Business cycles consist of economic fluctuations that vary in duration and severity. Some cycles are quite mild; others are characterized by large increases in unemployment and/or inflation.
What are the characteristics of a depression?
A depression is a very severe recession. A depression is characterized by a sustained period of falling real GDP and high rates of unemployment. For example, during the height of the Great Depression, real GDP fell by approximately 33% and one of every four workers was unemployed.
Differentiate the three economic indicators: leading, lagging and coincident.
- Leading indicators* usually predict economic activity and tend to change before the economy follows that trend (e.g., orders for goods).
- Lagging indicators* generally follow economic activity and change after an economic trend has already begun (e.g., prime rate charged by banks).
- Coincident indicators* change at about the same time as the economic trend (e.g., industrial production).
Economists generally agree that business cycles result from what?
Shifts in aggregate demand and aggregate supply.
List the primary factors that shift aggregate demand.
- Changes in wealth
- Changes in real interest rates
- Changes in expectations about the future economic outlook
- Changes in exchange rates
- Changes in government spending
- Changes in consumer taxes
Explain the multiplier effect and show how its impact is calculated.
The multiplier effect shows how an increase in consumer, firm, and government spending produces a multiplied increase in the level of economic activity. The size of the multiplier effect is determined as follows:
Multipler = 1 / (1 - MPC)
Where: MPC is the marginal propensity to consume
Change in real GDP = Multiplier x Change in spending
List the primary factors that shift short-run aggregate supply.
- Changes in input (resource) prices
- Supply shocks
How is GDP calculated under the expenditure approach?
[GICE]
Under the expenditure approach, GDP is calculated by summing total expenditures in the domestic economy. GDP is calculated as:
Government purchases of goods and services + Gross private domestic investment + Personal consumption expenditures + Net exports (exports minus imports)
How is GDP calculated under the income approach?
[I PIRATED]
Under the income approach, GDP is calculated by summing the value of resource costs and incomes generated during the measurement period. GDP is calculated as:
Income to proprietors + Profits of corporations + Interest (net) + Rental income + Adjustments for net foreign investment + Taxes (indirect business taxes) + Employee compensation (wages) + Depreciation (capital consumption allowance)
Discuss the types of unemployment including frictional, structural, seasonal, and cyclical unemployment.
- Frictional unemployment* is normal unemployment resulting from workers changing jobs or being temporarily laid off.
- Structural unemployment* is when available jobs do not match the skill set of the workforce or when unemployed workers do not live where the jobs are.
- Seasonal unemployment* is caused by seasonal (temporary) changes in the demand and supply of labor.
- Cyclical unemployment* results from declines in real GDP during the periods of economic contraction or recession.
What are the causes of demand-pull inflation and cost-push inflation?
Demand-pull inflation is caused by increases in aggregate demand. Thus, demand-pull inflation could be caused by factors such as increase in government spending, decreases in taxes, increases in wealth, and increases in the money supply.
Cost-push inflation is caused by reductions in short-run aggregate supply. Thus, cost-push inflation could be caused by factors such as an increase in nominal wages.
What is the Phillips curve used for?
The Phillips curse is used to graphically illustrate the inverse relationship between the rate of inflation and the unemployment rate. It shows that when inflation is high (low), unemployment tends to be low (high).
What is the difference between nominal GDP and real GDP?
Nominal GDP measures the value of all final goods and services produced within the boarders of a nation in terms of current dollars (i.e., the prices prevailing at the time of production).
Real GDP measures the value of all final goods and services produced within the boarders of a nation in terms of constant dollars (i.e., the value of goods and services adjusted for changes in the price level). Specifically:
Real GDP =
Nominal GDP x 100
GDP Deflator
where the GDP deflator is the price index used to adjust nominal GDP for changes in the overall prices of goods and services.
Define gross domestic product (GDP).
Gross domestic product is the total market value of all final goods and services produced within the boarders of a nation in a particular period. Note that GDP includes the output of foreign-owned factories in the U.S., but excludes the output of U.S.-owned factories operating abroad.
Explain the relationship between interest rates and the money supply.
Changes in the money supply directly affect interest rates through the money market. An increase in the money supply shifts the money curve to the right and causes interest rates to fall. A decrease in the money supply shifts the money supply curve to the left and causes interest rates to rise.
List the three ways that Federal Reserve could increase the money supply.
- Open market operations: Purchase (sell) government securities on the open market.
- Changes in the discount rate: Lower (raise) the discount rate
- Changes in the required reserve ratio: Lower (raise) the required reserve ratio.
What is the likely impact of a decrease in the money supply on interest rates, real GDP, and the overall price level?
A decrease in the money supply leads to an increase in interest rates. As interest rates rise, the cost of capital increases, leading to a decline in investment spending and a shift left in the aggregate demand curve. As the aggregate demand curve shifts left, real GDP and overall price level fall. Thus, a decrease in the money supply leads to: (1) an increase in interest rates, (2) a decrease in real GDP, and (3) a decrease in the overall price level.
What is the fundamental law of demand, and what factors shift demand curves?
Fundamental law of demand: The price of a product (or service) and the quantity demanded of that product (or service) have an inverse relationship.
Factors that shift the deman curves are represented by the mnemonic “WRITEN” and are changes in wealth, prices of related goods, consumer income, consumer tastes or preferences, consumer expectations, and the number of buyers in the market.
What is the fundamental law of supply, and what factors shift supply curves?
Fundamental law of supply: Price and quantity supplier are positively related. The higher the price received for a good, the more quantity sellers are willing to produce.
Factors that shift supply curves are represented by the mnemonic “ECOST” and include changes in price expectations of the supplying firm, production costs, the demand for other goods, subidies or taxes, and technology.
Changes in equilibrium cause demand and supply curves to shift, and new equilibrium price and quantity result. In general, what effects do the following shifts in demand and supply curves have?
- Shift right in the demand curve
- Shift left in the demand curve
- Shift right in the supply curve
- Shift left in the supply curve
- Shift RIGHT in the DEMAND curve*: Increase in demand, causing an increase in price and market clearing quantity.
- Shift LEFT in the DEMAND curve*: Decrease in demand, causing a decrease in price and market clearing quantity.
- Shift RIGHT in the SUPPLY curve*: Increase in supply, causing a decrease in price and an increas in market clearning quanity.
- Shift LEFT in the SUPPLY curve*: Decrease in supply, causing and increase in price and a decrease in market clearing quantity.
(Note: Market clearing quantity is the equilibrium quantity)
Define cross elasticity of demand (supply) and demonstrate how it is calculated.
Cross elasticity of demand (or supply) represents the % change in quantity demanded (or supplied) of a good due to the price change in another good.
Ce =
% change in # of units in X demanded (supplied)
% chane in the price of Y
What are the attributes and basic competitive strategies of pure (perfect) competition?
The attributes and strategies of pure (perfect) competition include:
- Zero economic profit in the long run
- A large number of suppliers and customers acting independently
- Very little product differentiation
- No barriers to entry
- Firms are price-takers
- Strategies include maintaining market share and responsiveness of sales price to market conditions
