ECON 104 1st Edition Final Exam Study Guide Chapters 12 16 These review questions are taken from your notes and from any readings I have assigned that are not covered in class The final is not cumulative The exam will be on material starting with Investment Demand packet pages 108 through 183 from chapters 12 13 14 15 and 16 Chapter 12 packet pages 108 119 What do we mean by business investment I Investment is the change in capital stock A nation can accelerate economic growth by increasing the capital stock PPF shifts outward with investment Includes spending on office buildings factories machines delivery trucks software R D inventories etc Investment is what percent of total spending on RGDP Is it important 17 Yes because of PPF when we increase the capital stock this accelerates economic growth and increases a nation s future standard of living Profits Revenues Costs What does a firm compare when making a decision to invest or not invest Expected Real Return on I is greater than or equal to interest cost How would a change in business expectations of future profitability EFP the real interest rate r technological change and business taxes t affect new I expenditures Investment demand is a function of Expected Future Profitability EFP Positively related Real interest rate Negatively related Move along the curve NOT A SHIFT Business taxes Negatively related Technological change Positively related These notes represent a detailed interpretation of the professor s lecture GradeBuddy is best used as a supplement to your own notes not as a substitute Draw the investment I demand curve What economic variable is on the vertical axis Is the slope of this curve positive or negative Why The investment demand curve I has a negative slope because real interest rate is on the Y Axis and investment increases as interest rates decrease If firms decide to increase Investment how does this affect the economy as a whole This will shift AD to the right Define Net Exports NX NX Exports X Imports M NX is a function of Relative growth in price levels Relative growth in RGDP Relative value of the versus other currencies How do relative inflation rates U S versus the rest of the world the relative growth of real GDP U S versus trading partners and the value of the dollar versus foreign currencies of trading partners affect NX Relative Inflation Rates Negatively correlated Relative RGDP Negatively correlated Value of the Dollar Negatively correlated During recession NX tend to rise Why During Recession in the US NX usually increases because ceteris paribus US inflation ROW inflation US change RGDP ROW Change RGDP weakens Suppose the exchange rate is defined as E If E falls does the dollar strengthen or weaken Appreciate or depreciate How does this affect NX The dollar weakens The dollar depreciates NX will increase because Yen goes further now When government expenditures increase AD increase Chapter 13 packet pages 121 152 Define aggregate demand AD What are the components of AD AD C I G NX AD is the level of real GDP purchased by households C businesses I government G and foreigners NX What are the 3 reasons why AD has a negative slope when we graph it against the price level The Wealth Effect Wealth Assets Liabilities As the price level rises real value of wealth falls Consumption falls The interest Rate Effect As the Price level rises we need more money to buy goods and services Households hold more cash and borrow more The increase in demand for loans increases the real interest rate on loans C and I spending decrease The NX Effect As the price level rises faster in the US compared to the ROW NX goes down What factors would cause AD to shift See class handout replacing packet p 124 A Change In Consumption Wealth positive Taxes Negative Expected Household Income Positive Real Interest Rate negative Disposable Income positive Investment Estimated Future Production positive Technology positive Business Taxes negative Real interest rate Negative Net Exports Relative Growth in RGDP negative Value of the versus other currencies Negative Government Expenditures Positive Define long run aggregate supply LRAS Why do we say LRAS represents potential GDP or full employment output Identifies output at potential where Y Y Bar and U U bar Potential Output is determined by the Number of workers Capital stock Available technology LRAS is vertical changes in the price level and do not affect the level of real GDP in the long run Y What is the level of unemployment at full employment Answer U How would an increase in the size of the US work force an increase in the U S capital stock or an advance in technology affect the U S economy Shift rightward Define short run aggregate supply SRAS Why does the SRAS have a positive slope Suppose output prices rise by 10 while input prices remain fixed what is the profits Will a firm have an incentive to increase production SRAS shows the relationship in the Short Run between the price level and the quantity of real GDP supplied by firms SRAS has a positive slope because when prices rise in the SR firms produce more output because input prices are sticky or fixed If output prices rise by 10 then profits increase by 10 and firms will have an incentive to increase production How does an increase in AD affect the LRAS It will increase the LRAS How does a decrease in SRAS affect the LRAS It will not affect the LRAS Stagflation as price level rises the output declines Combination of inflation and recession From Homework 4 The adoption of the Internet Was the Internet a positive or negative shock to the U S economy Positive shock Was adoption of the Internet a shock to supply or demand Shock to supply How did the Internet affect worker productivity Increased productivity and potential output How was the AD LRAS SRAS model of the U S economy affected Was AD affected AD down shifts along the curve Caused the SRAS curve to shift right Caused the LRAS curve to shift right How did the internet affect U unemployment at full employment ceteris paribus U bar does not change because they have more tools but every worker is more productive Financial Crisis and Great Recession What caused the housing bubble The Housing Bubble Prior to Financial Crisis and Great Recession Low interest rates resulted in an increase in spending on housing The excess demand for housing led to an increase in home prices Some consumers bought houses to flip Buy low sell high Define is a subprime mortgage A CDO