Economics

1.            Assume that the U.S. economy is in long-run equilibrium.

(a)          Draw a diagram to illustrate the state of the economy.  Be sure to show aggregate demand, short-run aggregate supply, and long-run aggregate supply.

(b)         Now suppose that due to firms’ expectations of a stronger economy, firms’ investment increases significantly.   Use your diagram to show what happens to output and the price level in the short run.  So what happens to the cyclical unemployment rate and the Natural Rate of Unemployment (NAIRU)?       

(c)          Assume the government and central bank do not change their policies.  Explain what will happen to output and the price level in the long run..

2.            Explain whether each of the following events will increase, decrease, or have no effect on  Germany’s long-run aggregate supply.

(a)             An influx of young refugees.

(b)             A decrease in the nation’s minimum wage.

(c)              Volkswagen and BMW team up to produce emission-free diesel engines that use one one gallon of diesel fuel per 100 miles travelled.

(d)             Global warning destroys (permanently) Germany’s agricultural industry.

(e)          The government enacts a labor-market reform law that strictly limits the collection of unemployment benefits beyond six months.

3.            (Text Question 48, Chapter 11; revised)  If households decide to save a larger portion of their income, what effect would this have on the output, employment, and price level in the short run?  What about the long run, assuming the government does not employ any stabilization policy? 

Note: 

Begin your analysis by drawing an AS, AD, LRAS graph that shows the market in long-run equilibrium.  In a second graph, show and explain the short-run effect of the change on P and Y.  And in a third graph, show and explain the long-run effect on P and Y.

4.            Suppose Germany’s economy is at full employment.  And that the populist right anti-Europe, anti-Euro, anti-NATO Front National party loses the French presidential elections later this year, which produces a positive demand shock in Germany and in all of Europe.  

(a)          Show the effect of these events on Germany’s aggregate demand in the short run?   (Make sure you draw the appropriate diagram.)

(b)         If the Germany government does nothing else, show (and explain) in a diagram how output (GDP = income) will return to its long-run potential level of GDP, Y*. 

(c)          Given your answer to (a), what might a Keynesian sympathizer recommend be done?

(d)          Given your answer to (a), what might a Neoclassical sympathizer recommend be done, if anything?

(e)          Given your answers to (c) and (d), which of the two makes the most sense to you?  Why?