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Macro Skills

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Skills Check Keynesian 1. Equilibrium output will occur when production creates enough total spending to purchase all the output that firms produce. Since GDP is the amount of goods produced and C + I is the amount of goods purchased at equilibrium GDP = (C +I). 2. If level of output exceeds demand, firms react by cutting back on production, levels of output falls until the economy reaches Y* 3. The slope of the consumption function is called the "Marginal Propensity to Consume". It is assumed to be between zero and one, which means that each one more dollar of disposable income will increase one's consumption by less than one dollar. 4. An increase in autonomous consumption will shift the consumption function up. 5. C+I=Y in this case 100+0.8Y+50=Y rearranging terms, 150=0.2Y solving for Y=$750 6. If the MPC is ‘0.7’, the marginal propensity to save must be 0.3 7. If the MPC is ‘0.4’, what is the government-spending multiplier?

Answer: 1/(1-0.4) = 1/ 0.6= 1.66

8. Using taxes and spending to control the level of GDP in the short run is known as the Keynesian fiscal policy. 9. An increase in government purchases of $10 billion will shift the ‘C+I+G’ line by $10 billion and increase GDP by this amount times the multiplier. 10. If the MPC is ‘0.8’ and taxes are increased by $10 billion, GDP will decrease by 0.8*$10= $8 billion. 11. In a rapid growing economy demand-pull inflation is likely when there is full employment of resources and aggregate demand is increasing at a time when short run aggregate supply is inelastic. In this situation, fiscal policies to cool down the economy (soft landing) should be: increasing direct, indirect taxes (which will lead to reduction in disposable income) or decreasing government spending. 12. While a one-dollar change in permanent income is generally thought to

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