Chapter 18 Determination of Output and Price

Economics Inquiry for HKDSE Macroeconomics 1 Chapter 18 Determination of Output and Price
Multiple Choice Questions |!|EM44001|!|

Price level SRAS
P1 P0
AD1 AD0 0 Y0 Y1 Quantity of output (real GDP)
Which of the following best explains the situation shown in the above diagram? A. B. C. D. The price of private residential housing falls. Net exports decreases. The prices of factors of production rise. Interest rate drops.
## D When interest rate drops, consumption and investment expenditures will increase. Aggregate demand will increase. Option A is incorrect. When the price of private residential housing falls, the value of wealth people own will fall and they will tend to spend less. Aggregate demand will decrease. Option B is incorrect. When the net exports decreases, aggregate demand will decrease. Option C is incorrect. This will raise the cost of production. Short-run aggregate supply will decrease. Aggregate demand will remain unchanged. ##
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|!|EM44002|!|
Price level SRAS0 SRAS1
P0 P1
AD 0
Y0
Y1
Quantity of output (real GDP)
Which of the following best explain the situation shown in the above diagram? A. B. C. D. an increase in government spending on medical services a fall in oil prices an increase in the price of raw materials a decrease in the total working hours of the economy
## B When there is a fall in oil prices, the cost of production will decrease. The short-run aggregate supply will increase. Option A is incorrect. An increase in government spending on medical services will lead to an increase in aggregate demand. The short-run aggregate supply will not be affected. Option C is incorrect. An increase in the price of raw materials will lead to a decrease in the short-run aggregate supply of the economy. Option D is incorrect. A decrease in the total working hours of the economy will lead to a decrease in the factor endowments. The short-run aggregate supply will decrease. ##
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|!|EM44003|!| Which of the following diagrams shows the effect of a depreciation of the domestic currency on an economy in the short run? A.
Price level SRAS
B.
Price level SRAS
P1 P0
P0 P1
AD1 AD0 0 Y0 Y1 Quantity of output (real GDP) 0 Y1 Y0
AD0 AD1 Quantity of output (real GDP)
C.
D.
P0 P1
P1 P0
AD 0 0
AD
Y0
Y1
Y1
Y0
## A When there is a depreciation of the domestic currency, the relative prices of domestic goods and services will decrease and the relative prices of imports will increase. This will increase exports and reduce imports. Net exports will increase and aggregate demand will increase. ##
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|!|EM44004|!|
P0 P1
AD 0
Y0
Y1
Which of the following will most likely cause the change shown in the diagram in the short run? A. B. C. D. Governments tax revenue increases. Households income increases. The government provides subsidies to producers. Firms are pessimistic about their business prospects.
## C If the government provides subsidies to producers, producers will find it more profitable to produce the goods. The short-run aggregate supply will increase, leading to a rightward shift of the SRAS curve. Option A is incorrect. An increase in governments tax revenue will not lead to an increase in the shortrun aggregate supply. Option B is incorrect. An increase in households income will lead to an increase in aggregate demand. There will be no change in the short-run aggregate supply. Option D is incorrect. When firms are pessimistic about their business prospects, they will spend less on new plants and equipment. The investment expenditure will decrease. Aggregate demand will decrease. The short-run aggregate supply will not be affected. ##
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|!|EM44005|!| What would be the effect of an increase in the investment in biotechnology on an economy? A. B. C. D. The short-run aggregate supply will increase. The long-run aggregate supply will increase. Both the short-run aggregate supply and long-run aggregate supply will increase. All the aggregate demand, short-run aggregate supply and long-run aggregate supply will increase.
## D An increase in the investment in biotechnology will lead to an increase in aggregate demand. Developing biotechnology increases the productivity of the economy. The productive capacity will increase and the long-run aggregate supply will increase. As any factors causing the long-run aggregate supply to increase will also cause the short-run aggregate supply to increase, the short-run aggregate supply will also increase. ##
|!|EM44006|!| In economics, macroeconomic equilibrium refers to the situation in which A. B. the quantity of output demanded of an economy is equal to its quantity of output supplied. the quantity of producer goods demanded of an economy is equal to its quantity of producer goods supplied. C. the quantity of consumer goods demanded of an economy is equal to its quantity of consumer goods supplied. D. the quantity of output demanded of an economy is higher than, lower than or equal to its quantity of output supplied.
## A ##
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|!|EM44007|!| Which of the following diagrams can best illustrate the effect of an increase in the supply of steel? A.
Price level SRAS
B.
Price level SRAS
P1 P0
P0 P1
C.
D.
P0 P1
P1 P0
AD 0 0
AD
Y0
Y1
Y1
Y0
## C An increase in the supply of steel will lead to an increase in the factor endowments of an economy. The short-run aggregate supply will increase and the SRAS curve will shift to the right from SRAS0 to SRAS1. ##
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|!|EM44008|!| Which of the following diagrams can best illustrate the effect of an increase in interest rate? A.
B.
P0
P0
C.
D.
P0
P1
P1
P0 AD0 AD1
AD1 AD0 0 Y0 Quantity of output (real GDP)
Y0
## B An increase in the interest rate will lead to a decrease in private consumption and investment expenditures. Aggregate demand will decrease and the AD curve will shift to the left. At the same time, an increase in the interest rate will raise firms cost of production. The short-run aggregate supply will decrease and the SRAS curve will shift to the left. ##
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|!|EM44009|!| The interaction between aggregate demand and aggregate supply determines (1) the equilibrium real GDP. (2) the equilibrium exchange rate. (3) the equilibrium price level.
A. B. C. D.
(3) only (1) and (2) only (1) and (3) only (2) and (3) only
## C ##
|!|EM44010|!| In the long run, the quantity of output demanded is equal to the full-employment output level because (1) the government intervenes prices. (2) prices and wages are fully flexible. (3) the perceptions of people about the price level have fully adjusted.
A. B. C. D.
(1) only (1) and (2) only (2) and (3) only (1), (2) and (3)
## C In the long run, since prices and wages are fully flexible and the perceptions of people about the price level have fully adjusted, the economy operates at the full-employment output level when it reaches the long-run equilibrium. ##
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|!|EM44011|!|
Price level
LRAS
SRAS
E1 E2 E3
AD
The short-run macroeconomic equilibrium of the economy is attained at point A. B. C. D. E1. E2. E3. E1, E2 and E3.
## B At point E2, the short-run macroeconomic equilibrium is attained where the AD curve intersects the SRAS curve. ##
|!|EM44012|!| In the long run, A. B. C. D. the equilibrium output level is higher than the short-run equilibrium output level. the equilibrium output level is lower than the short-run equilibrium output level. the equilibrium output level is equal to the full-employment output level. the equilibrium output level can be higher than, lower than or equal to the full-employment output level.
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## C In the long run, since prices and wages are fully flexible and the perceptions of people are fully adjusted, the economy operates at the full-employment output level when it reaches the long-run equilibrium. ##
|!|EM44013|!| If an economy experiences a rising price level and lower output in the short run, it is possibly due to A. B. C. D. a rightward shift of the SRAS curve. a leftward shift of the SRAS curve. a leftward shift of the AD curve. a rightward shift of the AD curve.
## B When the short-run aggregate supply decreases, the SRAS curve shifts to the left. The price level will increase and the output level will decrease. ##
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|!|EM44014|!|
Price level LRAS SRAS
AD 0 Quantity of output (real GDP)
Which of the following descriptions about the diagram is/are CORRECT? (1) The price level of the economy is the lowest. (2) The short-run equilibrium is equal to the long-run equilibrium. (3) Neither an inflationary gap nor a deflationary gap exists.
A. B. C. D.
## C Both (2) and (3) are correct. In the diagram, the SRAS curve intersects the LRAS curve and the AD curve at point E. The short-run equilibrium coincides with the long-run equilibrium. There is neither an inflationary gap nor a deflation gap. (1) is incorrect. The price level may not be the lowest. ##
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|!|EM44015|!| If the short-run equilibrium deviates from the long-run equilibrium, A. B. C. D. an inflationary gap and a deflationary gap may occur at the same time. the long-run equilibrium will change until it coincides with the short-run equilibrium. government intervention is required to help the economy restore the long-run equilibrium. the short-run equilibrium will change until it coincides with the long-run equilibrium.
## D If the short-run equilibrium deviates from the long-run equilibrium, an inflationary gap or a deflationary gap results. If an inflationary (deflationary) gap exists, there is an excess demand for (supply of) resources. The cost of production will increase (decrease) and the SRAS curve will shift to the position until the gap is closed, i.e. the short-run equilibrium coincides with the long-run equilibrium. ##
|!|EM44016|!|
Price level LRAS SRAS1 SRAS0
P2 P1 P0 E2
E1 E3 E4
Suppose the short-run aggregate supply changes from SRAS0 to SRAS1, while the aggregate demand changes from AD0 to AD1. According to the above diagram, the new long-run macroeconomic equilibrium is at point A. B. C. D. E1. E2. E3. E4.
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## A The new SRAS curve intersects the LRAS curve and the AD curve at point E1, i.e. the new long-run equilibrium is attained. ##
|!|EM44017|!| The short-run equilibrium output level ____________________ the long-run equilibrium output level. A. B. C. D. is always higher than is always lower than is always equal to can be higher than, equal to or lower than
## D The economy can produce at a level higher or lower than the full-employment output level as prices and wages are not fully flexible and the perceptions of people have not fully adjusted in the short run. ##
|!|EM44018|!| A deflationary gap is the amount by which A. B. C. D. the short-run equilibrium price level is in excess of the long-run equilibrium price level. the short-run equilibrium price level falls below the long-run equilibrium price level. the short-run equilibrium output level is in excess of the long-run equilibrium output level. the short-run equilibrium output level falls below the long-run equilibrium output level.
## D ##
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|!|EM44019|!| Suppose an economy is initially operating at the long-run equilibrium. Which of the following will result in an inflationary gap? (1) People are optimistic about their job prospects. (2) Many listed companies decide to pay out dividends. (3) Many trading partners of the economy are suffering from recession.
A. B. C. D.
(3) only (1) and (2) only (1) and (3) only (2) and (3) only
## B (1) is correct. When people are optimistic about their job prospects, they will tend to increase consumption. Aggregate demand will increase. The short-run equilibrium output will be higher than the full-employment output level, resulting in an inflationary gap. (2) is correct. When the listed companies pay out dividends, peoples income and wealth increase and they tend to spend more. Aggregate demand will increase. The short-run equilibrium output will be higher than the full-employment output level, resulting in an inflationary gap. (3) is incorrect. If many trading partners are suffering from recession, exports of goods and services will decrease. Aggregate demand will decrease. The short-run equilibrium output will be lower than the full-employment output level, resulting in a deflationary gap. ##
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|!|EM44020|!| An inflationary gap (1) is an above-full employment equilibrium. (2) results in a short-run equilibrium price level higher than the long-run equilibrium price level. (3) may be caused by an increase in aggregate demand.
A. B. C. D.
(1) only (3) only (1) and (2) only (1) and (3) only
## B (3) is correct. Suppose the economy is initially at the long-run equilibrium. When there is an increase in aggregate demand, the equilibrium level of output is higher than the full-employment output level and an inflationary gap is resulted. (1) is incorrect. An inflationary gap is the amount by which the equilibrium level of output is in excess of the full-employment output. Above-full employment equilibrium is the short-run equilibrium where the short-run equilibrium output level is higher than the full-employment output level. (2) is incorrect. An inflationary gap can result in a short-run equilibrium price level higher than, lower than or equal to the long-run equilibrium price level. ##
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|!|EM44021|!| The diagram below shows the fluctuations in output over a period of time. The full-employment level of output (Yf) is assumed to be constant over time.
Output
D B
Yf
A C E
Time
Which of the following descriptions about the diagram is CORRECT? A. From point A to point B, the equilibrium output level in the short run decreases. B. C. D. There is an inflationary gap at point C. From point A to point E, the economy reaches the long-run equilibrium four times. There is a negative supply shock from point C to point D.
## C The economy achieves the long-run equilibrium when the current output level is equal to the fullemployment output level (Yf). From point A to point E, the current output level intersects with the fullemployment output level for four times. Option A is incorrect. From point A to point B, the short-run equilibrium output level increases. Option B is incorrect. The economy experiences a deflationary gap at point C where the output level is lower than the full-employment output level. Option D is incorrect. A negative supply shock adversely affects the short-run aggregate supply of an economy. When the short-run aggregate supply decreases, the equilibrium output level will decrease. However, the output level increases from point C to point D. ##
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|!|EM44022|!| Suppose an economy is experiencing a deflationary gap. In the long run, ________________ will shift to the ________________ to restore the full-employment output level without causing an increase in the price level. A. B. C. D. the aggregate demand curve right the aggregate demand curve left the short-run aggregate supply curve right the long-run aggregate supply curve left
## C In order not to cause the price level to increase in the long run, the only option available to restore the full-employment output level is for the short-run aggregate supply curve to shift to the right until the AD curve intersects the new SRAS and the LRAS curves. ##
|!|EM44023|!|
Price level LRAS SRAS1 SRAS0 E2 E4 E0 E1 E3 AD1 AD2 0 AD0 Quantity of output (real GDP) SRAS2
Suppose the economy is initially operating at the long-run equilibrium (E0). The government increases its expenditure on education. The new short-run equilibrium is ______. A. B. C. D. E1 E2 E3 E4
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## D An increase in government expenditure will lead to an increase in aggregate demand. The AD curve will shift to the right from AD0 to AD1. There is no change in aggregate supply in the short run. Therefore, the new short-run equilibrium is E4. ##
|!|EM44024|!| If both consumers and firms are pessimistic about the prospect of the economy, the short-run equilibrium output level _______________. A. B. C. D. increases decreases remains unchanged is lower than the long-run equilibrium output level
## B If both consumers and firms are pessimistic about the prospects of the economy, both private consumption expenditure and investment expenditure of the economy will fall. The aggregate demand will decrease, leading to a lower short-run equilibrium output level. ##
|!|EM44025|!| The yields of agricultural products fall as a result of bad weather. This is an example of a/an A. B. C. D. favourable demand shock. unfavourable demand shock. favourable supply shock. unfavourable supply shock.
181
## D Unfavourable supply shocks are events that lead to a decrease in the short-run aggregate supply for a period of time. Bad weather that reduces the yields of agricultural products will lead to a decrease in the short-run aggregate supply, so it is an unfavourable supply shock. ##
|!|EM44026|!| Which of the following will cause the short-run equilibrium price level to increase? (1) Investors are optimistic about their business prospects. (2) Households prefer to save more. (3) Scientists have successfully invented new oil-refining technology.
A. B. C. D.
(1) only (3) only (1) and (2) only (2) and (3) only
## A (1) is correct. If investors are optimistic about their business prospects, investment expenditure increases. Aggregate demand will increase. The equilibrium price level and output level will increase. (2) is incorrect. If households prefer to save more, private consumption expenditure decreases. Aggregate demand will decrease. The equilibrium price level and output level will decrease. (3) is incorrect. The invention of new oil-refining technology will lower the production cost and raise the productivity of the economy. Hence, both the short-run aggregate supply and long-run aggregate supply will increase. The equilibrium price level will decrease and the output level will increase. ##
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|!|EM44027|!| If the government increases her military spending, the output level ____________ and the price level ____________ in the short run. A. B. C. D. increases increases decreases increases increases decreases decreases decreases
## A If the government increases her military spending, government expenditure increases. Aggregate demand increases. Both the output level and the price level increase. ##
|!|EM44028|!| Suppose an economy is initially operating at the long-run equilibrium. Which of the following will result in a deflationary gap? A. B. C. D. a decrease in the salaries tax rate a fall in the price of oil an increase in the governments subsidy to the film industry a drastic drop in property prices
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## D If property prices drop drastically, households wealth decreases, leading to a decrease in private consumption expenditure. Aggregate demand will decrease. The short-run output level will decrease to a level lower than the full-employment output level. A deflationary gap results. Option A is incorrect. If there is a decrease in the salaries tax rate, peoples disposable income increases. Aggregate demand will increase. The short-run output level will increase to a level higher than the full-employment output level. Option B is incorrect. A fall in the price of oil will lead to a decrease in production costs. The short-run aggregate supply will increase. The short-run output level will increase to a level higher than the fullemployment output level. Option C is incorrect. An increase in the governments subsidy to the film industry raises the profits of producers. The short-run aggregate supply will increase. The short-run output level will increase to a level higher than the full-employment output level. ##
|!|EM44029|!| Suppose an economy initially operates at the long-run equilibrium. Which of the following will cause the price level to decrease in the short run? A. B. The government encourages investment by lowering the profits tax rate. The government invests in the construction of the Guangzhou-Shenzhen-Hong Kong Express Rail Link. C. D. The government increases the salaries tax rate after a fiscal deficit is recorded. The government recruits more teaching assistants to support the teaching of Liberal Studies for two years.
184
## C Increasing the salaries tax rate will lead to a reduction of the disposable income of households. Aggregate demand will decrease. Both the price and output levels will decrease in the short run. Option A is incorrect. Lowering the profits tax rate will encourage investment. Aggregate demand will increase. Both the price and output levels will increase in the short run. Option B is incorrect. Governments investment in the construction of the Guangzhou-Shenzhen-Hong Kong Express Rail Link will increase government expenditure. Aggregate demand will increase. Both the price and output levels will increase in the short run. Option D is incorrect. Recruiting more teaching assistants will increase government expenditure on education in the short run. Aggregate demand will increase. Both the price and output levels will increase in the short run. ##
|!|EM44030|!| Suppose an economy initially operates at the long-run equilibrium. When ______________________, the economy will experience an inflationary gap. A. B. C. D. the long-run aggregate supply increases the short-run aggregate supply decreases aggregate demand increases aggregate demand decreases
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## C When aggregate demand increases, the equilibrium price level will increase and the output level will increase to a level higher than the full-employment output level. The economy will experience an inflationary gap. Option A is incorrect. When the long-run aggregate supply increases, the full-employment output level will increase. Option B is incorrect. When the short-run aggregate supply decreases, the equilibrium price level will increase while the equilibrium output level will decrease to a level lower than the full-employment output level. The economy will experience a deflationary gap. Option D is incorrect. When aggregate demand decreases, the equilibrium price level will decrease and the output level will decrease to a level lower than the full-employment output level. The economy will experience a deflationary gap. ##
|!|EM44031|!| Suppose China and Japan are close trading partners. If the Renminbi appreciates against the Japanese Yen, the price level of China will __________ and the output level will __________ in the short run. A. B. C. D. increase increase increase decrease decrease increase decrease decrease
## D If the Renminbi appreciates against the Japanese Yen, the relative price of goods of China will increase and the relative price of goods of Japan will decrease. This will reduce the exports of China and increase the imports from Japan. Therefore, net exports will decrease and the aggregate demand will decrease. Both the price level and the output level of China will decrease in the short run. ##
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|!|EM44032|!|
Price level SRAS
P0 P1
Which of the following can be illustrated by the above diagram? (1) The government spends more resources on the implementation of curriculum reforms. (2) Stock prices fall drastically. (3) The price of gold is in a rising trend.
A. B. C. D.
## A A fall in stock prices decreases households wealth. Aggregate demand will decrease. (1) is incorrect. An increase in government spending on the implementation of curriculum reforms will lead to an increase in aggregate demand. (3) is incorrect. A rise in the price of gold increases households wealth. Aggregate demand will increase. ##
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|!|EM44033|!|
Price level LRAS SRAS1 SRAS0 E2 E4 E0 E1 E3 AD1 AD2 0 AD0 Quantity of output (real GDP) SRAS2
Suppose the economy is initially at the long-run equilibrium (E0). If there is an increase in consumption of imported Japanese goods, the new short-run equilibrium will be at ________. A. B. C. D. E1 E2 E3 E4
## A When people increase consumption of imported Japanese goods, net exports will decrease. Aggregate demand will decrease. The AD curve will shift to the left from AD0 to AD2, while there is no change in aggregate supply. The new short-run equilibrium will be at E1. ##
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|!|EM44034|!| Suppose the average wage rate of workers increases. In the ________________, the price level will ____________. A. B. C. D. short-run increase short-run decrease long-run increase long-run decrease
## A When the average wage rate of workers increases, the cost of production will increase and the short-run aggregate supply will decrease. In the short run, the price level will increase. ##
|!|EM44035|!| Which of the following is an example of a positive supply shock? A. B. C. D. The government provides a subsidy for Internet access to needy students. The government increases the tariff imposed on imported cigarettes. The government increases its expenditure on research and development. The government lowers the sales tax rate for one year.
## D Positive supply shocks are events that lead to an increase in the short-run aggregate supply for a period of time. If the government lowers the sales tax rate for one year, producers will find it more profitable to produce the goods, and the short-run aggregate supply will increase. ##
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|!|EM44036|!| In an economy, it is observed that the price level is increasing while the output level is falling. The unemployment is increasing at the same time. This economy is experiencing A. B. C. D. an inflationary gap. a deflationary gap. stagflation. stagnation.
## C Stagflation refers to the situation that the economy faces both stagnation (falling output and increasing unemployment) and inflation (rising prices). ##
|!|EM44037|!| When an economy experiences stagflation, (1) the output level is falling. (2) the price level is rising. (3) the unemployment rate is falling.
A. B. C. D.
(1) and (2) only (1) and (3) only (2) and (3) only (1), (2) and (3)
## A Stagflation refers to the situation that the economy faces both stagnation (falling output and increasing unemployment) and inflation (rising prices). ##
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|!|EM44038|!| Suppose an earthquake destroys most of the infrastructure in an economy. Which of the following are CORRECT in the short run? (1) The short-run aggregate supply decreases. (2) The price level increases. (3) The output level decreases.
A. B. C. D.
## D When most of the infrastructure is destroyed, the factor endowments of the economy decrease. The short-run aggregate supply will decrease. In the short run, the price level will increase, while the output level will decrease. ##
|!|EM44039|!| Suppose an earthquake destroys most of the infrastructure in an economy. In the long run, (1) the full-employment output level decreases. (2) there is an inflationary gap. (3) the price level increases.
A. B. C. D.
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## B (1) and (3) are correct. As most of the infrastructure is destroyed, the economys productive capacity decreases. The long-run aggregate supply will therefore decrease. The full-employment output level will decrease while the price level will increase. (2) is incorrect. In the long run, the output level is always at the full-employment output level. ##
|!|EM44040|!| Suppose an economy is initially at the long-run equilibrium. If there is a negative supply shock, which of the following is/are CORRECT? (1) In the short run, the price level falls. (2) In the short run, the output level falls. (3) In the long run, the price level and output level remain unchanged.
A. B. C. D.
## C If there is a negative supply shock, the short-run aggregate supply will decrease. In the short run, the price level will rise, while the output level will fall. Since the employment level is lower than the fullemployment level, there is a downward pressure on wages. Production costs decrease and the short-run aggregate supply increases. In the long run, the price level and output level will remain unchanged. ##
192
|!|EM44041|!| When an economy faces stagflation, (1) there is a downward pressure on workers wages. (2) the bargaining power of workers falls. (3) the full-employment output level falls.
A. B. C. D.
(1) only (2) only (1) and (2) only (1), (2) and (3)
## C When an economy faces a stagflation, the lower output level and higher unemployment level exerts a downward pressure on workers wages. Workers lose their bargaining power because of the increased level of unemployment. Option C is incorrect. When an economy faces stagflation, the output level will decrease in the short run. However, the full-employment output level will remain unchanged. ##
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|!|EM44042|!|
Price level LRAS SRAS1 SRAS0 E2 E1 E0 E3 AD1 AD2 0 AD0 Quantity of output (real GDP) E4 SRAS2
Suppose an economy initially operates at the long-run equilibrium (E0). When the government raises the sales tax which is imposed on consumers, the new short-run equilibrium will be at __________. A. B. C. D. E1 E2 E3 E4
## C When the government increases the sales tax which is imposed on consumers, the aggregate demand will decrease. The AD curve will shift to the left from AD0 to AD1. The new short-run equilibrium will be at E3. ##
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|!|EM44043|!| When the government increases the profits tax rate, (1) in the short run, the price level will decrease. (2) in the short run, the output level will decrease. (3) in the short run, the change in the price and output levels will be uncertain.
A. B. C. D.
## A (1) and (2) are correct. When the government increases the profits tax rate, the incentive for firms to invest will decrease and firms will cut their investment expenditure. The aggregate demand will decrease. In the short run, the price level and the output level will decrease. ##
|!|EM44044|!| A natural gas supplier gets a franchise from the government to provide electricity to the public. Due to the severe competition, other electric companies have to lower their prices. Which of the following is CORRECT? A. B. C. D. The aggregate demand and the price level will decrease. The nominal wages of workers will decrease. The government will receive higher tax revenue. The short-run aggregate supply will increase and the price level will decrease.
## D With lower electricity price, the cost of production will decrease and the short-run aggregate supply will increase. The price level will decrease. ##
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|!|EM44045|!| With the introduction of a new logistic system, an economy has shortened the time of handling goods in container terminals. Which of the following are CORRECT? (1) In the long run, the output level will increase. (2) In the short run, the output level will remain unchanged. (3) The productive capacity of the economy will increase.
A. B. C. D.
## B The shortening of time for handling goods in container terminals implies that the productive capacity of the economy increases. The long-run aggregate supply will increase. In the long-run, the output level will increase while the price level will decrease. Any factor causing the LRAS curve to shift will also cause the SRAS curve to shift. Therefore, the short-run aggregate supply will also increase. In the short run, the output level will increase. ##
|!|EM44046|!| In 2010, the Gulf of Mexico oil spill led to serious damage to the natural resources of the United States. Assume the economy of the United States was initially at the long-run equilibrium. Which of the following concerning the effect of the oil spill on the economy of the United States is CORRECT? A. B. C. D. There would be a deflationary gap in the short run. The aggregate demand would increase. The price level in the long run would decrease. The potential output level would decrease.
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## D The oil spill event would lead to a decrease in the natural resources of the United States. The long-run aggregate supply would decrease. The potential output level would fall. Option A is incorrect. There would be an inflationary gap in the short run. Option B is incorrect. The aggregate demand would not increase. Option C is incorrect. As the long-run aggregate supply decreased, the price level in the long run would increase. ##
|!|EM44047|!| With the Quality Migrant Admission Scheme, highly skilled and talented persons are allowed to settle in Hong Kong. What will be the effect of the scheme to Hong Kongs economy? A. B. C. D. The price level will increase. The nominal GDP will increase. The real GDP will increase. Both the nominal GDP and the real GDP will increase.
## C With the scheme, both the quality and quantity of labour resources will increase. The productive capacity of Hong Kong will increase and the long-run aggregate supply will increase. The output level will increase. Option A is incorrect. The price level will decrease as the long-run aggregate supply increases. Options B and D are incorrect. With a higher output level but a lower price level, the change in nominal GDP is uncertain. ##
|!|EM44048|!| Which of the following will lead to an increase in the price level? A. B. C. D. A drop in crop yields due to a persistent rain lasting for nearly a month. The economy operates at the short-run equilibrium. The government decreases its military expenses. Banks raise the interest rate on loans.
197
## A If there is a drop in crop yields due to the bad weather, the short-run aggregate supply will decrease. The price level will increase. Option B is incorrect. When the economy operates at the short-run equilibrium, the price level may be higher than, lower than or equal to the level at the long-run equilibrium. Therefore, we do not know how the price level will change. Option C is incorrect. When the government decreases its military expenses, the aggregate demand will decrease. The price level will decrease. Option D is incorrect. When banks raise the interest rate on loans, private consumption expenditure and investment expenditure will decrease, leading to a decrease in the aggregate demand. The price level will decrease. At the same time, a rise in the interest rate on loans will raise firms cost of production. The short-run aggregate supply will decrease. The price level will increase. Therefore, the change in the price level is uncertain, depending on the extent of the changes in aggregate demand and the shortrun aggregate supply. ##
|!|EM44049|!| Which of the following will lead to a decrease in the output level? A. B. C. D. Investors are optimistic about economic prospects. People expect their income to increase in the future. There is an increase in the education level of the general public. Many infrastructures are destroyed by flooding.
198
## D When many infrastructures are destroyed by flooding, the aggregate supply will decrease. The output level will decrease. Option A is incorrect. When investors are optimistic about economic prospects, investment expenditure will increase and the aggregate demand will increase. The output level will increase. Option B is incorrect. When people expect their income to increase in the future, they will increase their consumption expenditure and the aggregate demand will increase. The output level will increase. Option C is incorrect. An increase in the education level of the general public will raise the productivity of the economy. The long-run aggregate supply will increase. The output level will increase. ##
|!|EM44050|!| Suppose the Hong Kong Government decides to build more universities. In the long run, this will lead to shifts of the ________________ curves and the price level will ________________. A. B. C. D. SRAS and LRAS decrease SRAS and LRAS be undetermined AD, SRAS and LRAS increase AD, SRAS and LRAS be undetermined
## D If the Hong Kong Government decides to build more universities, government expenditure will increase. Aggregate demand will increase and the AD curve will shift to the right, leading to an increase in the price level. On the other hand, the productive capacity of Hong Kong will increase. Both the short-run and long-run aggregate supply will increase. The SRAS and LRAS curves will shift to the right, leading to a decrease in the price level. Therefore, the change in the price level will be uncertain, depending on the extent of changes in aggregate demand and aggregate supply. ##
199
Short Questions |!|ES44001|!| (a) What is the macroeconomic equilibrium? (2 marks)
(b) The intersection point of the aggregate demand curve and the aggregate supply curve determines the equilibrium price of a particular good. Do you agree with this statement? Explain your answer. (3 marks)
## (a) Macroeconomic equilibrium refers to the situation in which the quantity of output demanded of an economy is equal to its quantity of output supplied. (b) No. (2 marks) (1 mark)
The intersection point of the aggregate demand curve and the aggregate supply curve determines the general price level, but not the equilibrium price of a particular good. The equilibrium price of an individual good is determined by its market demand and supply. ## (2 marks)
|!|ES44002|!| (a) What is the short-run macroeconomic equilibrium? (2 marks)
(b) In the short run, the equilibrium output level is always at the full-employment output level. Do you agree? Explain your answer. (3 marks)
## (a) Short-run macroeconomic equilibrium refers to the situation in which the quantity of output demanded of an economy is equal to its quantity of output supplied in the short run. (b) No. (2 marks) (1 mark)
Short-run equilibrium is achieved as long as the quantity of output demanded is equal to the quantity of output supplied in the short run. The equilibrium output level may be greater than, equal to or smaller than the full-employment output level. ## (2 marks)
|!|ES44003|!| With the aid of a diagram, explain what a deflationary gap is. (4 marks)
200
## At point E1, the short-run equilibrium output level (Y*) is lower than the full-employment output level (Yf). This is a below-full employment equilibrium. The amount by which the equilibrium level of output falls below the full-employment output level, i.e. (Yf Y*), is called the deflationary gap. (2 marks)
E1
AD 0 Y* Yf Quantity of output (real GDP)
Deflationary gap
(2 marks) ##
|!|ES44004|!| (a) Define the long-run macroeconomic equilibrium. (2 marks)
(b) With the aid of a diagram, explain under what conditions an economy will attain the long-run macroeconomic equilibrium. (3 marks)
## (a) Long-run macroeconomic equilibrium refers to the situation in which the quantity of output demanded of an economy is equal to its quantity of output supplied in the long run. In other words, in the long run, the quantity of output demanded is equal to the full-employment or potential output level. (2 marks)
201
(b) An economy will attain the long-run macroeconomic equilibrium when the SRAS curve intersects the LRAS curve and the AD curve.
(1 mark)
AD 0 Quantity of output (real GDP)
(2 marks) ##
|!|ES44005|!| (a) What is an inflationary gap? (2 marks)
(b) Suppose an economy is facing an inflationary gap that is caused by an increase in the aggregate demand. (i) Explain how the short-run aggregate supply will be adjusted to restore the full-employment output level. (ii) (3 marks)
With the aid of a diagram, explain how the price level and output level will be affected in the long run. (6 marks)
## (a) An inflationary gap is the amount by which the short-run equilibrium level of output is in excess of the full-employment output level. (b) (i) (2 marks)
As the output level is higher than the full-employment level, there is an upward pressure on wages. Production costs will increase and the short-run aggregate supply will decrease to restore the full-employment output level. (3 marks)
202
(ii) In the long run, the SRAS curve will continue to shift leftwards until it intersects the AD curve and the LRAS curve. (2 marks)
At the new long-run equilibrium, the price level increases and the output level returns to the full-employment level.
Price level LRAS SRAS1 SRAS0 E2 P2 P1 P0 E0 E1
(2 marks)
(2 marks) ##
|!|ES44006|!| (a) What is aggregate demand? (2 marks)
(b) Suppose an economy is operating at the short-run equilibrium. With the aid of a diagram, illustrate the effects of an increase in households disposable income on the price level and output level in the short run. (6 marks)
## (a) Aggregate demand refers to the total demand for all goods and services in an economy at given price levels in a given period of time. (2 marks)
203
(b) With higher disposable income, consumers can spend more. As a result, private consumption expenditure will increase and the aggregate demand will increase. The AD curve will shift to the right from AD0 to AD1. (2 marks)
The price level will increase from P0 to P1 and the output level will increase from Y0 to Y1. (2 marks)
Price level SRAS
E1 P1 P0 E0
(2 marks) ##
|!|ES44007|!| Assume an economy is initially at the long-run equilibrium. What will be the effects of an increase in the interest rate on the price level and output level in the short run? Explain with the aid of a diagram. (8 marks)
204
## An increase in the interest rate will lead to a decrease in private consumption and investment expenditures. The aggregate demand will decrease. The AD curve will shift to the left from AD0 to AD1. (2 marks)
At the same time, a rise in the interest rate will raise the firms cost of production. The short-run aggregate supply will decrease. The SRAS curve will shift to the left from SRAS0 to SRAS1. (2 marks) The output level will decrease from Y0 to Y1. However, the change in the price level will be uncertain, depending on the extent of changes in aggregate demand and the short-run aggregate supply. (2 marks)
P0
E1
E0
(2 marks) ##
|!|ES44008|!| Suppose the United States and Japan are close trading partners. When the US dollar appreciates against the Japanese Yen, how will the price level and output level of Japan be affected in the short run? (4 marks)
## Other things being constant, when there is an appreciation of the US dollar against the Japanese Yen, the relative prices of domestic goods and services in Japan will decrease and the relative prices of imports from the United States will increase. This will increase exports and reduce imports. As a result, Japans net exports will increase and aggregate demand will increase. In the short run, both the price level and the output level will increase. ## (2 marks) (2 marks)
205
|!|ES44009|!| Assume an economy is initially at the long-run equilibrium. If the government increases the subsidies granted to the recycling industry, what will be the effects on the price level and the output level in the short run? Explain your answer with the aid of a diagram. (6 marks)
## If the government increases the subsidies to the recycling industry, the producers in the recycling industry will find it more profitable to provide the services. The short-run aggregate supply will increase and the SRAS curve will shift to the right from SRAS0 to SRAS1. The price level will decrease and the output level will increase.
(2 marks) (2 marks)
E0 P0 P1 E1
AD 0
Y0
Y1
(2 marks) ##
|!|ES44010|!| If the government raises the standard rate of the salaries tax and lowers the profits tax rate at the same time, the real GDP must increase. Do you agree? Explain with the aid of a diagram. (9 marks)
206
## No. (1 mark)
An increase in the standard rate of the salaries tax will lower the disposable income of the high-income group. Private consumption expenditure will decrease and aggregate demand will decrease. The output level will decrease. (2 marks)
A decrease in the profits tax rate will increase the incentive for firms to invest. Investment expenditure will increase and aggregate demand will increase. The output level will increase. (2 marks)
The final change in the output level (real GDP) is uncertain, depending on the relative strength of the two effects on aggregate demand.
Price level SRAS
(1 mark)
P2 P0 P1
AD1 0 Y1 Y0 Y2
AD2 AD0
(3 marks) ##
|!|ES44011|!| (a) What is stagflation? (2 marks)
(b) Under the AS-AD model, under what condition will stagflation occur? Explain with the aid of a diagram. (4 marks)
## (a) Stagflation is the situation in which an economy faces both stagnation (falling output and increasing unemployment) and inflation (rising prices). (2 marks)
207
(b) Stagflation will occur when there is a decrease in the short-run aggregate supply of an economy. The SRAS curve will shift to the left. The price level will increase and the output level will decrease.
Price level LRAS SRAS1
(2 marks)
SRAS0
P1 P0
E1 E0
AD 0 Y1 Y0 Quantity of output (real GDP)
(2 marks) ##
208
|!|ES44012|!| Suppose an economy has already reached the full-employment output level. With the aid of a diagram, explain how a decrease in oil prices affects the price level and the output level in both the short run and the long run? (11 marks)
## A decrease in oil prices leads to a decrease in the cost of production. The short-run aggregate supply will increase. The SRAS curve will shift to the right from SRAS0 to SRAS1. (2 marks)
In the short run, the price level will decrease from P0 to P1 while the output level will increase from Y0 to Y1. (2 marks)
A decrease in production costs due to a decrease in oil prices will not affect the productive capacity of the economy, so the long-run aggregate supply will remain unchanged. (2 marks)
In the long run, due to adjustment of price expectations, the SRAS curve will shift leftwards until the AD curve intersects the SRAS curve and the LRAS curve again at point E0. The price level will return to P0 and the output will return to the full-employment level (Y0).
Price level LRAS SRAS0 SRAS1 E0 P0 P1 E1
(2 marks)
AD 0
Y0
Y1
(3 marks) ##
|!|ES44013|!| Suppose an economy is initially at the long-run equilibrium. Discuss the effects of a favourable supply shock on the price level and the output level in both the short run and the long run. (8 marks)
209
## When there is a favourable supply shock, the short-run aggregate supply increases. (2 marks)
In the short run, the price level decreases while the output level increases to a level higher than the fullemployment level. (2 marks)
Since the output level is higher than the full-employment level, there is an upward pressure on wages. The cost of production increases and the short-run aggregate supply decreases. (2 marks)
In the long run, the price level returns to the level before the supply shock and the output level returns to the full-employment level. ## (2 marks)
|!|ES44014|!| Assume the economy is initially operating at the long-run equilibrium. If people become more eager to save money, how will the price level and output level be affected in the short run and the long run? Explain with the aid of a diagram. (11 marks)
210
## If people become more eager to save money, private consumption expenditure will decrease. The aggregate demand will decrease and the AD curve will shift from AD0 to AD1. (2 marks)
In the short run, the price level will decrease from P0 to P1 and the output level will decrease from Y0 to Y1. (2 marks)
Since the output level is lower than the full-employment level, there is a downward pressure on wages. The cost of production decreases and the SRAS curve shifts to the right until it intersects with the AD curve and the LRAS curve. (2 marks)
In the long run, the price level decreases to P2 and the output level returns to the full-employment output level (Y0). (2 marks)
Price level
LRAS
SRAS0 SRAS1
E0 P0 P1 P2 E1 E2
(3 marks) ##
|!|ES44015|!| Assume Hong Kong is initially at the long-run equilibrium. How will the introduction of the Admission Scheme for Mainland Talents and Professionals affect the price level and potential GDP of Hong Kong in the long run? Explain your answer with the aid of a diagram. (6 marks)
211
## The scheme will attract immigrants who have special talents to Hong Kong. The quantity and quality of labour resources will rise, which will increase the productive capacity of Hong Kong. The long-run aggregate supply will increase. The LRAS curve will shift to the right from LRAS0 to LRAS1. (2 marks) The price level will decrease from P0 to P1. The potential output level will increase from Y0 to Y1. (2 marks)
Price level LRAS0 LRAS1
SRAS
E0 P0 P1 E1
AD
Y0
Y1
(2 marks) ##
|!|ES44016|!| An economy has already reached the full-employment level. Suppose some of its infrastructure was destroyed due to internal wars. With the aid of separate AS-AD diagrams, explain the changes in the price level and the output level in both the short run and the long run. (12 marks)
212
## In the short run, the factor endowments of the economy will decrease. The short-run aggregate supply will decrease. The SRAS curve will shift to the left from SRAS0 to SRAS1. The price level will increase from P0 to P1 and the output level will decrease from Y0 to Y1.
(2 marks) (2 marks)
P1 P0
E1 E0
AD 0
Y1
Y0
(2 marks) In the long run, the capital of the economy will decrease. The productive capacity of the economy will decrease. The long-run aggregate supply will decrease. The LRAS curve will shift to the left from LRAS1 to LRAS1. The price level will increase to P2 and the output level will decrease to Y2.
Price level LRAS1 LRAS0 SRAS0
(2 marks) (2 marks)
P2 P0
E2 E0
AD 0
Y2
Y0
(2 marks) ##
213
Long Questions |!|EL44001|!| Suppose an economy is initially at the long-run equilibrium. (a) With the aid of an AS-AD diagram, explain the effects of a labour strike on the economy in both the short run and the long run. (b) According to your answer in (a), explain why stagnation is a short-run phenomenon. (11 marks) (3 marks)
## (a) When there is a negative supply shock (e.g. a labour strike), the short-run aggregate supply will decrease. The SRAS curve will shift to the left from SRAS0 to SRAS1. (2 marks)
In the short run, the price level will increase from P0 to P1. The output level will decrease from Y0 to Y1, which is lower than the full-employment output level. (2 marks)
Since the output level is lower than the full-employment output level, there is a downward pressure on wages. The cost of production decreases and the SRAS curve eventually shifts back to SRAS0. (2 marks)
In the long run, the economy is back to E0. The price level will return to P0 and the output will return to the full-employment level (Y0).
Price level LRAS SRAS1
(2 marks)
SRAS0
P1 P0
E1 E0
AD 0 Y1 Y0 Quantity of output (real GDP)
(3 marks) (b) Stagflation refers to the situation that the economy faces both stagnation (falling output and increasing unemployment) and inflation (rising prices). (1 mark)
A negative supply shock will lead to stagnation in the short run. However, in the long run, the fullemployment output level (Y0) will be restored and stagnation will eventually disappear. Therefore, stagnation is a short-run phenomenon. ## (2 marks)
214
|!|EL44002|!| Suppose there is an inflationary gap in an economy. (a) With the aid of a diagram, explain what an inflationary gap is. (4 marks)
(b) Assume the government aims to attain the full-employment output level without raising the price level. (i) Suggest ONE policy that can be used by the government to restore the full-employment output level. (2 marks)
(ii) With the aid of a diagram, explain how the full-employment output level can be restored by the policy suggested in (b)(i). (6 marks)
## (a) At point E1, the short-run equilibrium output level (Y*) is higher than the full-employment output level (Yf). This is an above-full employment equilibrium. The amount by which the equilibrium level of output is in excess of the full-employment output level, i.e. (Y* Y f), is called the inflationary gap.
(2 marks)
E1
AD 0 Yf Y* Quantity of output (real GDP)
Inflationary gap
(2 marks) (b) (i) Any policy that leads to a decrease in aggregate demand: - increase the profits tax rate - decrease in government expenditure - Any reasonable answer (Mark the FIRST point only, 2 marks)
215
(ii) When the aggregate demand decreases, the AD curve will shift to the left from AD1 to AD2. (2 marks) The price level will decrease from P1 to P2. The output will return to the full-employment output level (Yf).
(2 marks)
E1 P1 P2 E2
AD1 0 AD2 Yf Y* Quantity of output (real GDP)
(2 marks) ##
|!|EL44003|!| Suppose an economy is initially operating at the long-run equilibrium. If the stock market is booming, with the aid of AS-AD diagrams, explain what will be the effect on the following: (a) the price level and the output level in the short run (6 marks) (7 marks)
(b) the price level and the output level in the long run
216
## (a) When the stock market is booming, people can enjoy capital gains from investment and they tend to spend more. Private consumption expenditure will increase and aggregate demand will increase. The AD curve will shift to the right from AD0 to AD1. (2 marks)
The price level will increase from P0 to P1 and the output level will increase from Y0 to Y1. (2 marks)
Price level SRAS
E1 P1 P0 E0
(2 marks) (b) The booming stock market will not affect the productive capacity of the economy, so the long-run aggregate supply will remain unchanged. (2 marks)
In the long run, the price level will increase from P0 to P2 and the output level will return to the full-employment level (Y0).
Price level LRAS
(2 marks)
SRAS0 E2 P2 P1 P0 E0 E1
(3 marks) ##
217
|!|EL44004|!| The Greek debt crisis of 2010 is threatening the recovery of the world economy. Greeces fiscal deficit was 12.9% of the GDP in 2009, which was much higher than the EUs cap of 3%. The Greek government is going to lower the proportion of its deficit to the GDP by 2010 through various measures. These measures include increasing the sales tax on fuel imposed on suppliers and raising the incomes tax rate as well as cutting income allowances for civil servants. (a) How will the price level and the real GDP of Greece be affected by the above measures in the short run? Explain with the aid of an AS-AD diagram. (8 marks)
(b) After the exposure of the Greek debt crisis, the potential debt problems of other European countries have been a great concern, especially for the PIIGS (an acronym representing five European countries: Portugal, Italy, Ireland, Greece and Spain). This exerted a downward pressure on the value of the Euro. Suppose Hong Kong and the European countries are close trading partners. With the aid of an AS-AD diagram, explain the effects on the price level and the real GDP of Hong Kong in the long run. (9 marks)
218
## (a) Increasing the income tax rate will lower the disposable income of people, and the private consumption expenditure will decrease. Cutting income allowances of civil servants will lead to a decrease in government expenditure. Both measures will lead to a decrease in aggregate demand. The aggregate demand curve will shift to the left. (2 marks)
Increasing the sales tax on fuel imposed on suppliers will raise the production cost. The short-run aggregate supply will decrease. The SRAS curve will shift to the left. (2 marks)
As a result, in the short run, the output level (real GDP) will decrease. The final change in the price level is uncertain, depending on the relative strength of the decreases in aggregate demand and the short-run aggregate supply.
(2 marks)
P0
E0
(2 marks)
219
(b) Other things being constant, when there is a depreciation of the Euro, the relative prices of Hong Kongs domestic goods and services will increase and the relative prices of imports from European countries will decrease. This will reduce exports and increase imports. As a result, net exports will decrease and aggregate demand will decrease. The AD curve will shift to the left. (2 marks) The short-run equilibrium is now at E1. Since the employment level is lower than the fullemployment level, there is a downward pressure on wages. Production costs decrease. This results in a rightward shift of the SRAS curve. (2 marks)
In the long run, the price level will decrease to P2 and the output level will return to the fullemployment level (Y0).
(2 marks)
E0 P0 P1 P2 E1 E2
(3 marks) ##
220

Chapter 18 Determination of Output and Price

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Chapter 18 Determination of Output and Price

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Economics Inquiry for HKDSE Macroeconomics 1 Chapter 18 Determination of Output and Price

Multiple Choice Questions |!|EM44001|!|

AD1 AD0 0 Y0 Y1 Quantity of output (real GDP)

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Quantity of output (real GDP)

Aristo Educational Press Ltd.

AD1 AD0 0 Y0 Y1 Quantity of output (real GDP) 0 Y1 Y0

AD0 AD1 Quantity of output (real GDP)

Quantity of output (real GDP)

Quantity of output (real GDP)

Aristo Educational Press Ltd.

Quantity of output (real GDP)

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

AD1 AD0 0 Y0 Y1 Quantity of output (real GDP) 0 Y1 Y0

AD0 AD1 Quantity of output (real GDP)

Quantity of output (real GDP)

Quantity of output (real GDP)

Aristo Educational Press Ltd.

AD1 AD0 0 Y0 Y1 Quantity of output (real GDP) 0 Y1 Y0

AD0 AD1 Quantity of output (real GDP)

AD1 AD0 0 Y0 Quantity of output (real GDP)

Quantity of output (real GDP)

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

Quantity of output (real GDP)

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AD 0 Quantity of output (real GDP)

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AD1 AD0 0 Y0 Y1 Quantity of output (real GDP)

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

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Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

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Aristo Educational Press Ltd.

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Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

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AD0 AD1 0 Y1 Y0 Quantity of output (real GDP)

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

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Aristo Educational Press Ltd.

Aristo Educational Press Ltd.

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Short Questions |!|ES44001|!| (a) What is the macroeconomic equilibrium? (2 marks)

|!|ES44002|!| (a) What is the short-run macroeconomic equilibrium? (2 marks)

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AD 0 Y* Yf Quantity of output (real GDP)

|!|ES44004|!| (a) Define the long-run macroeconomic equilibrium. (2 marks)

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