Principles of Economics (12th Edition)
12th Edition
ISBN: 9780134078779
Author: Karl E. Case, Ray C. Fair, Sharon E. Oster
Publisher: PEARSON
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Chapter 26, Problem 5.5P
To determine
The reason for the
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Students have asked these similar questions
In the Keynesian framework, which of the following events might cause a reaction ?
a) A large increase in the price of the homes people own
b) Rapid growth in the economy of a major trading partner
c) The development of a major new technology offers profitable opportunities for business
d) The interest rate rises
e) The good imported from a major trading partner becomes much less expensive
Select the answer that best describes Keynesian and Classical economic theories.
Classical theory is useful for describing the long-run movement between economic equilibria while Keynesian theory is helpful to describe short-run movements in the price level.
Classical theory suggests that the economy will quickly move between equilibria, eliminating the need for government intervention. Keynesian theory suggests that fiscal and/or monetary policy can be useful in counteracting changes in equilibria resulting from sticky prices and sticky wages.
Keynesian theory suggests that tax cuts or direct government expenditure are ways to stimulate the economy while Classical theory suggests that only tax cuts provide useful stimulus.
Classical and Keynesian theories both advocate for direct government intervention during recessions.
Consider the impact of thriftiness in the Keynesian Cross Model. Suppose the consumption function is
C=C¯+c(Y−T¯)
where C¯ is called autonomous consumption and cc is the marginal propensity to consume.
a) What happens to equilibrium income when society becomes more thrifty (i.e., a decline in C¯)
b) Your answer to (a) is called the Paradox of Thrift. Explain why consuming less (and saving more) is not a good thing in this model. (Hint: a decrease in consumption wouldn’t be so bad in our classical model of Chapter 3 because we assumed national savings equaled investment in the long run.)
Chapter 26 Solutions
Principles of Economics (12th Edition)
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- Complete the following table by matching the macroeconomic assumptions about aggregate supply to the appropriate school of thought. Assumption Classical Keynesian Only an increase in aggregate demand can move an economy out of a recession and back to potential real GDP quickly. Product prices and wages tend to be inflexible. The following graph shows the aggregate demand (ADAD) and aggregate supply (ASAS) curves for a hypothetical economy that is currently operating below its full-employment output level. That is, the economy is currently in a recession. The aggregate supply curve (ASAS) in this diagram is consistent with the view of aggregate supply. According to this viewpoint, the government should spending in response to the recession. Shift the appropriate curve on the graph to illustrate the impact of this change in government spending. ADASPRICE LEVELREAL GDP (Trillions of dollars)AD AS The prescribed…arrow_forwardA recessionary gap exists when the macro economy is in equilibrium at less than the potential output of the the economy because aggregate demand is insufficient to fully employ all of society' s resources. In other words, the equilibrium (AD = AS) occurs to the left of the vertical long-run supply curve. At this point, potential output is reached ( full employment) and if any unemployment occurs, then it is due to structural or frictional; that is, the economy is at its natural rate of employment. True Falsearrow_forwardPRICE LEVEL Complete the following table by matching the macroeconomic assumptions about aggregate supply to the appropriate school of thought. Assumption Keynesian Classical Product prices and production costs are flexible. Only an increase in aggregate demand can move an economy out of a recession and back to potential real GDP quickly. The following graph shows the aggregate demand (AD) and aggregate supply (AS) curves for a hypothetical economy that is currently operating below its full-employment output level. That is, the economy is currently in a recession. The aggregate supply curve (AS) in this diagram is consistent with the government should spending in response to the recession. view of aggregate supply. According to this viewpoint, the Shift the appropriate curve on the graph to illustrate the impact of this change in government spending. REAL GDP (Trillions of dollars) AD AD AS AS ?arrow_forward
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