Final answer:
This answer provides explanations and graphical representations of the economy operating above full employment, below full employment, and at full employment while considering various scenarios such as increases in income taxes, changes in world oil prices, and decreases in income. It also explains the effects of an increase in the supply of money. The answer highlights the impact on unemployment rates and the terms used to describe different economic situations.
Step-by-step explanation:
Graphically Showing the Economy Operating Above Full Employment
When the economy is operating above full employment, it is in an inflationary gap. This means that the aggregate demand (AD) is higher than the potential GDP. On a graph, this is represented by the AD curve intersecting the short-run aggregate supply (SRAS) curve at a level of real GDP greater than the potential GDP. The equilibrium point in this situation will have a higher price level and potentially higher output, but it is unsustainable in the long run due to inflationary pressures.
Effects of an Increase in Income Taxes
In the short run, an increase in income taxes can have a negative impact on aggregate demand and the overall economy. It reduces disposable income and reduces consumption, leading to a decrease in aggregate demand. This can lead to a decrease in output and potentially an increase in unemployment. However, the extent of the impact will depend on various factors such as the size of the tax increase and the overall state of the economy.
Effects of a Spike in World Oil Prices
If there is a sudden spike in world oil prices, it can have a negative impact on the economy in the short run. Higher oil prices increase production costs for businesses, leading to a decrease in aggregate supply (AS). This can result in a decrease in output and potentially an increase in unemployment. The simultaneous increase in prices and increase in unemployment is known as stagflation.
Effects of a Decrease in Income
If there is a decrease in income, it can lead to a decrease in aggregate demand and a potential recessionary gap. A decrease in income reduces consumption, which decreases aggregate demand and can result in a decrease in output and an increase in unemployment in the short run. Whether it creates an inflationary gap or a recessionary gap will depend on the overall state of the economy and other factors.
Effects of an Increase in the Supply of Money
If there is an increase in the supply of money, it can lead to an expansionary monetary policy that aims to increase aggregate demand. This can potentially create an inflationary gap if the increase in money supply exceeds the economy's capacity to produce goods and services. The short-run effect on the unemployment rate will depend on how the increased money supply is utilized and other factors influencing the overall state of the economy.
Effects of an Increase in Income with a Fall in World Oil Prices
If there is an increase in income while there is a fall in world oil prices, it can have mixed effects on the economy. The increase in income can lead to an increase in aggregate demand and potentially an increase in output. However, the fall in oil prices can also decrease production costs, leading to an increase in aggregate supply. The overall impact on the unemployment rate will depend on the relative magnitude of these effects.