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EC 202: FINAL EXAM
Increase in Demand |
Demand curve shifts right
|
Decrease in Demand |
Demand curve shifts left
|
Law of Demand |
When price goes up, quantity demanded goes down.
When price goes down, quantity demanded goes up.
|
Law of Supply |
When price goes up, quantity supplied goes up.
When price goes down, quantity supplied goes down.
|
Increase in Supply |
Supply curve shifts right
|
Decrease in Supply |
Supply curve shifts left
|
Consumer Surplus |
Difference between consumer's willingness to pay and price (Area below the demand curve and above the price producer pays)
|
Producer Surplus |
Difference between price and willingness to sell (or cost of production). (Area between horizontal line at price and supply curve)
|
Free Market |
Maximizes total surplus (producer and consumer surplus)
|
After the imposition of tax: |
-Equilibrium quantity decreases
-Price paid by the buyer increases
-Price received by the seller decreases
-Consumer surplus decreases; producer surplus decreases
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Externality |
The uncompensated impact of one person's actions on the well being of the by-stander
|
Negative externalities |
Social cost > private cost
Optimum quantity < market equilibrium quantity
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Positive externalities |
Social Value > private value
Optimum quantity > market equilibrium quantity
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Private goods |
Excludable, rival
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Public goods |
Non-excludable, non-rival
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Common Resources |
Non-excludable, rival
|
Club goods |
Excludable, non-rival
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Examples of public goods |
National defense, basic research, fighting poverty, etc.
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Examples of common resources |
Clean air and water, congested roads, wildlife
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GDP |
All market value final within a country
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Components of GDP |
Y = C + I + G + NX (NX = export - import)
|
Y |
GDP
|
C |
Consumption
|
I |
Investment
|
G |
Government purchases
|
NX |
Net exports
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Nominal GDP |
Valued at current year prices
|
Real GDP |
Valued at constant prices (base year prices)
|
GDP Deflator |
(Nominal GDP / Real GDP) x 100 (a measure of price level)
|
Inflation rate |
Percentage change in price level
|
IR in year 2 |
= (GDP deflator in year 2 - GDP deflator in year 1) / GDP deflator in year 1
|
Real GDP can be used to: |
Measure economic well-being
|
GDP per person: |
Is a measure of standard of living
|
If GDP per person increases: |
Then the standard of living is increasing
|
CPI |
(Cost in current year / cost in the base year) x 100
|
Another way to calculate IR in year 2 |
= (CPI in year 2 - CPI in year 1) / CPI in year 1
|
Important Equation (consider year X and year Y): |
Amount measured in year X dollars / year X price level = Amount measured in year Y dollars / year Y price level
(in most cases price level = CPI)
|
Real interest rate = |
Nominal interest rate - inflation rate
|
Lower real interest rate: |
Benefit borrowers but hurts lenders
|
Higher real interest rate: |
Benefits lenders but hurts borrowers
|
S = I |
Savings = investments
|
T |
Total tax revenue
|
(Y - T - C) |
Private saving
|
(T - G) |
Public saving
|
When T > G |
The government runs a budget surplus
|
When T < G |
The government runs a budget deficit
|
When T = G |
The government runs a balanced budget
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Loanable funds |
The flow of resources available to fund private investment
|
In the market of loanable funds: |
There is one interest rate, which is the price of a loan
|
Supply side: |
Saving is the source of the supply of loanable funds
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Demand side: |
Investment is the source of the demand for loanable funds
|
Equilibrium: |
Intersection of supply curve and demand curve
|
Saving incentives: |
A supply shifter (example: a change in the tax laws to encourage Americans to save more would increase the supply of loanable funds)
|
Investment incentives: |
A demand shifter (example: if the passage of an investment tax credit encouraged firms to invest more, the demand for loanable funds would increase)
|
Government budgets deficits and surpluses: |
A supply shifter (example: when the government spends more than it receives in tax revenue, the resulting budget deficit lowers national saving. The supply of loanable funds decreases, and the equilibrium interest rate rises)
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Crowding out |
The fall in investment because of government borrowing
|
Financial markets |
Institutions through which a person who wants to save can directly supply funds to a person who wants to borrow (i.e. the bond and stock market)
|
Financial intermediaries |
Institutions through which savers can indirectly provide funds to borrowers. They stand between savers and borrowers (i.e. banks and mutual funds)
|
Coupon payment |
The periodic interest payment on a bond
|
Interest rate |
The periodic cost of borrowing funds, usually expressed as a percentage of amount borrowed
|
Coupon payment equation: |
Interest rate x face value of a bond
|
Yield |
= coupon payment / price
|
Prices and yields move |
inversely
|
Price is a function of two important variables: |
Credit or default risk (think Greece) and inflation risk
|
Present value formula |
PV = [coupon 1 / (1 + i)] + [coupon 2 / (1 + i)^2] + [coupon 3 / (1 + i)^3] + [coupon N / (1 + i)^N] + [face value / (1 + i)^N] ( i is the discount rate)
|
Yield decreases when |
price increases
|
Per capita GDP |
= (GDP / Pop) x (LF / LF) = (GDP / LF) x (LF / Pop) = APL x LFPR
|
If we want to increase the standard of living (real GDP) |
we must increase either labor productivity (APL) or the labor force participation rate (LFPR)
|
How to increase labor productivity: |
education, investment in capital, and technological change
|
Unemployment rate (UR): |
UR = unemployed / Labor force
|
Labor force (LF): |
LF = employed + unemployed ( but seeking work actively)
|
Labor force participation rate |
= labor force / working age population
|
U-3 |
official unemployment rate
|
U-4 |
Plus "discouraged workers"
|
U-6 |
Plus the employed part-time for "economic reasons" and "others"
|
Frictional unemployment |
Results from employees leaving jobs they are unsuited for and people entering/re-entering the work force
|
Structural unemployment |
Joblessness arising from mismatches between workers skills and employers requirements or between workers' locations and employers' locations
|
Cyclical unemployment |
Results from changes in production over the business cycle
|
Natural rate of unemployment (Structural + Frictional) |
Rate consistent with the long-run, average annual rate of growth for the economy overall
|
Functions of money: |
Medium of exchange, unit of account, store of value
|
Federal reserve system: |
an example of central bank; oversees the banking system and regulates the quantity of money in the economy
|
Reserves: |
deposits that banks have received but have not loaned out
|
Total reserve |
= required reserve + excess reserve
|
Required reserve |
= deposit x required reserve ratio
|
Assets include: |
reserves and loans
|
Liabilities include: |
deposits
|
Money multiplier (1/R) |
The amount of money the banking system generates with each dollar of reserves
|
The money multiplier is the: |
reciprocal of the reserve ratio
|
The higher the reserve ratio, |
the less of each deposit banks loan out, and the smaller the money multiplier
|
In the special case of the 100% reserve banking, |
the reserve ratio is 1, and banks do not make loans or create money
|
Leverage ratio |
the ratio of the banks total assets to bank capital
|
Open - market operations |
-Buy bonds: increases money supply, decreases interest rate
-Sell bonds: decreases money supply, increases interest rate
|
Discount rate |
the interest rate at which banks borrow money from the Fed
|
Increase in discount rate: |
decrease money supply, increase in interest rate
|
Decrease in discount rate: |
increase money supply, decrease in interest rate
|
Increase in reserve requirements: |
increase in required reserve ratio, decrease money supply, and increase interest rate
|
Decrease in reserve requirements: |
decrease in required reserve ratio, increase money supply, and decrease in interest rate
|
Increase in interest rate on reserve held at Fed: |
decrease in money supply, increase in interest rate
|
Decrease in interest rate on reserve held at Fed: |
increase in money supply, decrease in interest rate
|
Nominal variables |
variables measured in monetary units
|
Real variables |
variables measured in physical units
|
Monetary neutrality |
the quantity of money does not affect the real variables (in the long run), but will affect price level (more money, higher price, inflation)
|
Quantity equation |
MV = PY
|
M |
money supply
|
V |
velocity of money
|
P |
price level
|
Y (PY) |
quantity of output (real GDP)
|
PY |
nominal GDP
|
Percentage change equation |
Percent change in M + percent change in V = Percent change in P + percent change in Y |