AP Macro Aggregate Models 2 — Questions and Answers
Question 1: In the AD-AS model, a negative supply shock (like a sudden rise in oil prices) will most likely cause:
- Rightward shift of SRAS, lower price level, higher output
- Leftward shift of SRAS, higher price level, lower output (Correct answer)
- Rightward shift of AD, higher price level, higher output
- Leftward shift of AD, lower price level, lower output
Correct answer: Leftward shift of SRAS, higher price level, lower output
A negative supply shock increases production costs, shifting SRAS left, which raises the price level and reduces real GDP simultaneously (stagflation).
Question 2: If the economy is operating above full employment (inflationary gap), which self-correcting mechanism will eventually restore long-run equilibrium without policy intervention?
- Firms will increase investment, shifting AD rightward
- Workers will demand higher wages, shifting SRAS leftward (Correct answer)
- Government will automatically raise taxes, shifting AD leftward
- The central bank will automatically raise the money supply
Correct answer: Workers will demand higher wages, shifting SRAS leftward
In an inflationary gap, tight labor markets cause workers to negotiate higher wages, raising input costs and shifting SRAS left until output returns to potential.
Question 3: The long-run aggregate supply (LRAS) curve is vertical because:
- Prices are fixed in the long run regardless of demand
- Real GDP is determined solely by available resources and technology, not price level (Correct answer)
- Firms cannot change output in the long run
- Wage rates are perfectly flexible in the short run
Correct answer: Real GDP is determined solely by available resources and technology, not price level
LRAS is vertical at potential GDP because long-run output depends on factor endowments and technology, not the nominal price level.
Question 4: Which of the following shifts aggregate demand to the RIGHT?
- A decrease in consumer confidence
- An increase in income taxes
- A decrease in the interest rate by the central bank (Correct answer)
- An appreciation of the domestic currency
Correct answer: A decrease in the interest rate by the central bank
Lower interest rates reduce the cost of borrowing, boosting consumer spending and business investment, which increases aggregate demand.
Question 5: In the Keynesian cross model, the economy reaches equilibrium when:
- Planned investment equals actual saving
- Actual expenditure equals planned expenditure (Correct answer)
- Government spending equals tax revenue
- Exports equal imports
Correct answer: Actual expenditure equals planned expenditure
Equilibrium in the Keynesian cross occurs where the planned expenditure line intersects the 45-degree line, meaning planned spending equals actual output.
Question 6: An increase in the marginal propensity to consume (MPC) will:
- Decrease the spending multiplier and reduce the impact of fiscal policy
- Increase the spending multiplier and amplify the impact of fiscal policy (Correct answer)
- Have no effect on the multiplier because MPS also changes
- Shift the LRAS curve to the right
Correct answer: Increase the spending multiplier and amplify the impact of fiscal policy
Since the multiplier = 1/(1-MPC), a higher MPC makes the denominator smaller, producing a larger multiplier that amplifies any initial change in spending.
Question 7: Which scenario best represents a recessionary gap in the AD-AS model?
- SRAS intersects AD to the right of LRAS, causing rising prices
- SRAS intersects AD to the left of LRAS, causing unemployment above the natural rate (Correct answer)
- AD shifts right until it intersects LRAS at a higher price level
- LRAS shifts left due to destruction of capital
Correct answer: SRAS intersects AD to the left of LRAS, causing unemployment above the natural rate
A recessionary gap exists when the short-run equilibrium output falls below potential GDP, meaning cyclical unemployment exceeds zero.
AP Macro Aggregate Models 2
In the AD-AS model, a negative supply shock (like a sudden rise in oil prices) will most likely cause: