Unit 14: Unemployment and Fiscal Policy

Question 1

Aggregate consumption

Answer 1

Autonomous consumption + income-dependent consumption (C = c0 + c1Y)

Question 2

Marginal propensity to consume (MPC)

Answer 2

change in consumption when disposable income changes by 1 unit. also, slope of
aggregate consumption line

Question 3

Aggregate spending

Answer 3

Consumption + Investment (C = c0 + c1 + I)

Question 4

Precautionary saving

Answer 4

increase in saving in order to restore wealth to target level

Question 5

Target wealth

Answer 5

Level of wealth that households aim to maintain

Question 6

Aggregate Investment increases with a decrease in the interest rate (T/F)

Answer 6

True. If the return on buying a financial asset is lower than the profits a firm could make by investing in more capital, the firm is more likely to invest

Question 7

Lower interest rate reduces investment spending, shifting the AD curve down (T/F)

Answer 7

False. Higher interest rate reduces investment spending, shifting down the AD curve. If there is a greater return on investment, firms won’t want to buy new capital since profits won’t be as high. Therefore since less money is being spent, fewer goods are being demanded. Decrease in AD.

Question 8

Change in total imports associated with a change in total income

Answer 8

Marginal propensity to import (m)

Question 9

Something that creates a moral hazard, eg: well-insured driver driving recklessly

Answer 9

Hidden actions

Question 10

Due to asymmetric information, eg: only the most sick people take out insurance policies, healthy people are less likely to

Answer 10

Hidden attributes

Question 11

Budget balance

Answer 11

G = T

Question 12

Budget deficit

Answer 12

G > T

Question 13

Budget surplus

Answer 13

G < T

Question 14

Government austerity policy

Answer 14

Policy used to reduce government’s budget deficit eg increased taxes, reduced government spending

Question 15

Sovereign debt crisis

Answer 15

Occurs when government bonds become so risky that they aren’t able to borrow anymore (sell more bonds). ie: government can’t spend more than the tax revenue it receives. Must ‘live within its means’

Question 16

Financial crises and war reduce government debt (T/F)

Answer 16

False, increases. In order to fund the wars or boost private spending via consumption, gov must increase spending (G) or reduce taxes (t). This creates/worsens budget deficits.