COMMON MISTAKES ON THE AP MACRO EXAM BY: Mr. Veit

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COMMON MISTAKES ON THE AP MACRO EXAMBY Mr. Veit
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The difference between a change in demand and the
resultant movement along a demand
curvevs.Shifting of the demand curve
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GRAPHING DEMAND
Price of Corn
What if Demand Increases?
P
5 4 3 2 1
CORN
10 20 35 55 80
5 4 3 2 1
D
o
Q
10 20 30 40 50 60 70 80
Quantity of Corn
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GRAPHING DEMAND
Price of Corn
Increase in Quantity Demanded
P
5 4 3 2 1
CORN
10 20 35 55 80
30 40 60 80
5 4 3 2 1
Increase in Demand
D
D
o
Q
10 20 30 40 50 60 70 80
Quantity of Corn
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The difference between a change in supply and the
resultant movement along a supply
curvevs.Shifting of the supply curve
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GRAPHING SUPPLY
Price of Corn
P
What if Supply Increases?
S
5 4 3 2 1
CORN
5 4 3 2 1
60 50 35 20 5
o
Q
10 20 30 40 50 60 70 80
Quantity of Corn
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GRAPHING SUPPLY
Price of Corn
P
Increase in Supply
S
S
5 4 3 2 1
CORN
80 70 60 45 30
5 4 3 2 1
60 50 35 20 5
Increase in Quantity Supplied
o
Q
10 20 30 40 50 60 70 80
Quantity of Corn
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Mislabeling or NOT labeling graphs correctly
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EQUILIBRIUM REAL OUTPUT AND THE PRICE LEVEL
P
AS
Equilibrium in the Intermediate Range
Price Level
Pe
P1
AD
Q
Qe
Q1
Q2
Real Domestic Output, GDP
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GROWTH IN THE AD-AS MODEL
ASLR1
ASLR2
C
A
Price Level
Capital Goods
Q1
Q2
B
D
Consumer Goods
Real GDP
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ECONOMIC GROWTH IN THE EXTENDED AD AS MODEL
ASLR1
ASLR2
AS2
AS1
Price Level
P2
P1
AD2
AD1
o
Q1
Q2
Real GDP
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THE MONEY MARKET
Sm1
Sm
10 7.5 5 2.5 0
A temporary shortage of money will require the
sale of some assets to meet the need.
ie
Rate of interest, i (percent)
Dm
0 50 100 150 200 250 300
Amount of money demanded (billions of dollars)
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Net effects of Monetary Policy and/or Fiscal
Policy onInterest Rate (I)
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FISCAL POLICY, AGGREGATE SUPPLY AND INFLATION
AS
Fiscal Policy And Inflation
Price level
P1
AD1
AD2
495
515
505
Real GDP (billions)
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Expansionary Fiscal Policy gtgt Interest Rate
INCREASE

• Draw Money Market
• Increase Spending (AD)gtgtIncrease Demand for
  MoneygtgtIncrease Interest Rate
• Higher Price LevelgtgtIncrease Demand for
  MoneygtgtIncrease Interest Rate

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Expansionary Monetary Policygtgt Interest Rate
DECREASE
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MONETARY POLICY AND EQUILIBRIUM GDP
Sm1
Sm2
Investment Demand
10 8 6 0
10 8 6 0
Real rate of interest, i
Dm
Quantity of money demanded and supplied
Amount of investment, i
AS
Money Supply Increases
Interest Rate Decreases
Price level
Investment Increases
P2
P1
AD GDP Increases with slight inflation
AD2
AD1
Real domestic output, GDP
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MONETARY POLICY AND EQUILIBRIUM GDP
Sm1
Sm2
Sm3
Investment Demand
10 8 6 0
10 8 6 0
Real rate of interest, i
Dm
Quantity of money demanded and supplied
Amount of investment, i
AS
More Money Supply
P3
Lower Interest Rates
Price level
More Investment
P2
P1
Still higher AD GDP with significant inflation
AD2
AD3
AD1
Real domestic output, GDP
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MULTIPLIER(S) CONFUSION
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Income (Spending) Multiplier

• Multiplier 1/ 1 MPC or 1/ MPS
• Initial Change in Spending X MULTIPLIER
  Change in Output

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MONEY MULTIPLIER

• 1 / Required Reserve Ratio
• Maximum Multiple Money Expansion

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MULTIPLE DEPOSIT EXPANSION PROCESS
400.00
Total amount of money created by the banking
system
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Balanced Budget Multiplier 1(Net Result on
GDP)
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Remembering the difference between the Amount of
Money Created and theChange in the Money
Supplywhen dealing with the Money Multiplier
andMoney Creation
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FEDERAL RESERVE PURCHASE OF BONDS
New reserves
200 Required reserves
Purchase of a 1000 bond from a bank...
800 Excess Reserves
1000 Initial Deposit
4000 Bank System Lending
Total Increase in Money Supply (5000)
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Confusing Comparative AdvanatgeCalculations
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Remembering the difference between Real
andNominal
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Nominalwith InflationRealwithout Inflation
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GDP

• Nominal GDP GDP measured in terms of current
  Price Level at the time of measurement.
  (Unadjusted for inflation)

• Real GDP GDP adjusted for inflation GDP in a
  year divided by a GDP deflator (Price Index) for
  that year

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INCOME

• NOMINAL INCOME number of dollars received by an
  individual or group for its resources during some
  period of time

• REAL INCOME amount of goods and services which
  can be purchased with nominal income during some
  period of time nominal income adjusted for
  inflation

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INTEREST RATE (I)

• NOMINAL I interest rate expressed in terms of
  annual amounts currently charged for interest
  not adjusted for inflation

• REAL I interest rate expressed in dollars of
  constant value (adjusted for Inflation) and equal
  to the NOMINAL I minus the EXPECTED RATE OF
  INFLATION

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ANTICIPATED INFLATION


Inflation Premium
Nominal Interest Rate
Real Interest Rate
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WAGES

• NOMINAL WAGES amount of money received by a
  worker per unit of time (hour, day, etc.)
• Money Wage

• REAL WAGES amount of goods and sevices a worker
  can purchase with their NOMINAL WAGE purchasing
  power of the nominal wage.
• (Real Nominal Inflation rate)

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NONIMAL/REAL TIPs

• If nominal rates INCREASE and Price Level
  INCREASE, the CHANGE in Real is
  indeterminable.
• If nominal Wage rates do NOT change and Price
  Level fall. REAL WAGES increase.
• NOMINAL RATES PIGGY-BACK REAL RATES NOT VICE
  VERSA.

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Confusing calculationsusing MPC / MPSto
determine changes necessary to correct
Recessionary andInflationary Gaps
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FULL-EMPLOYMENT GDP
Recessionary Gap
AE0
530 510 490
AE1
Recessionary Gap 5 Billion
Aggregate Expenditures (billions of dollars)
Full Employment
o
490 510 530
Real domestic product, GDP (billions of dollars)
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FULL-EMPLOYMENT GDP
Inflationary Gap
AE2
Inflationary Gap 5 Billion
AE0
530 510 490
Aggregate Expenditures (billions of dollars)
Full Employment
o
490 510 530
Real domestic product, GDP (billions of dollars)
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Demand-Pull Inflationvs.Cost-Push Inflation
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DEMAND-PULL INFLATION
ASLR
AS2
AS1
c
P3
Price Level
b
P2
a
P1
AD2
AD1
o
Q1
Real domestic output
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COST-PUSH INFLATION
Occurs when short-run AS shifts left
ASLR
AS2
AS1
Price Level
b
P2
a
P1
AD1
o
Q2
Q1
Real domestic output
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COST-PUSH INFLATION
Government response with increased AD
ASLR
AS2
AS1
Even higher price levels
c
P3
Price Level
b
P2
a
P1
AD2
AD1
o
Q2
Q1
Real domestic output
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COST-PUSH INFLATION
If government allows a recession to occur
ASLR
AS2
AS1
Price Level
b
P2
a
P1
AD1
o
Q2
Q1
Real domestic output
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COST-PUSH INFLATION
If government allows a recession to occur
ASLR
AS2
AS1
Nominal wages fall AS returns to its
original location
Price Level
b
P2
a
P1
AD1
o
Q2
Q1
Real domestic output
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Phillips Curvevs.Laffer Curve
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THE PHILLIPS CURVE CONCEPT
7 6 5 4 3 2 1 0
As inflation declines...
Unemployment increases
Annual rate of inflation (percent)
1 2 3 4 5 6 7
Unemployment rate (percent)
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THE LAFFER CURVE
100
Tax rate (percent)
l
0
Tax revenue (dollars)
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THE LAFFER CURVE
100
Tax rate (percent)
m
l
0
Tax revenue (dollars)
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THE LAFFER CURVE
100
n
Tax rate (percent)
m
l
0
Tax revenue (dollars)
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THE LAFFER CURVE
100
n
Tax rate (percent)
m
m
Maximum Tax Revenue
l
0
Tax revenue (dollars)
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LOANABLE FUNDS THEORY OF INTEREST
S
i 8
Interest Rate, (percent)
D
F0
Quantity of Loanable Funds