Question

Refer to the table below. Suppose that aggregate demand increases such that the amount of real output demanded rises by $7 billion at each price level. Instructions: Enter your answers as a whole number. a. By what percentage will the price level increase? percent Will this inflation be demand-pull inflation, or will it be cost-push inflation? b. If potential real GDP (that is, full-employment GPP) is $510 billion, what will be the size of the positive GDP gap after the change in aggregate demand? $ bilion c. If government wants to use fiscal policy to counter the resulting inflation without changing tax rates, would it increase nawarnmant enandinn ar derreace it? b. If potential real GDP (that is, full-employment GDP) is $510 billion, what will be the size of the positive GDP gap after the change in aggregate demand? $ billion c. If government wants to use fiscal policy to counter the resulting inflation without changing tax rates, would it increase government spending or decrease it?

Answer 1

a. The price level will increase by approximately 45.83%, indicating demand-pull inflation due to increased aggregate demand.

b. The positive GDP gap after the change in aggregate demand is $3 billion.

c. To counter the resulting inflation without changing tax rates, the government would decrease government spending.

a. By what percentage will the price level increase? Will this inflation be demand-pull inflation, or will it be cost-push inflation?

To find the percentage increase in the price level due to the $7 billion increase in real output demanded at each price level, we can compare the initial and new levels of output demanded.

Initial output demanded: 506, 508, 510, 512, 514

New output demanded: 513, 512, 510, 507, 502

The initial price level for an output of 506 was 112, and for an output of 514, it was 88. Given the increase in demand, the new price level will likely rise to a range between these two values.

Let's find the percentage increase in the price level:

Initial range of price levels: 112 - 88 = 24

New range of price levels: 513 - 502 = 11

Percentage increase in price level = (Change in price level / Initial price level range) × 100

Percentage increase = (11 / 24) × 100 ≈ 45.83%

This inflation appears to be demand-pull inflation because the increase in aggregate demand has pushed the price level higher.

b. If potential real GDP is $510 billion, what will be the size of the positive GDP gap after the change in aggregate demand?

The potential real GDP or full-employment GDP is $510 billion. To find the GDP gap after the change in aggregate demand, we can compare the potential GDP with the actual GDP at the new output level:

New output level (after increase in aggregate demand) = 513 billion (from the table)

Potential real GDP = $510 billion

GDP gap = Actual GDP - Potential GDP

GDP gap = 513 billion - 510 billion = $3 billion

Therefore, the size of the positive GDP gap after the change in aggregate demand is $3 billion.

c. To counter inflation without changing tax rates, the government can use fiscal policy by adjusting government spending.

In this case, to combat demand-pull inflation caused by increased aggregate demand, the government would likely decrease government spending. Reducing government spending would decrease the overall demand in the economy, helping to mitigate inflationary pressures resulting from increased aggregate demand.

Question:

Refer to the table below.

"Real Output Demanded, Price Level "Real Output Supplied,

Billions" Billions"

506 112 513

508 106 512

510 100 510

512 94 507

514 88 502

Suppose that aggregate demand increases such that the amount of real output demanded rises by $7 billion at each price level.

Instructions: Enter your answers as a whole number.

a. By what percentage will the price level increase? percent Will this inflation be demand-pull inflation, or will it be cost-push inflation?

b. If potential real GDP (that is, full-employment GPP) is $510 billion, what will be the size of the positive GDP gap after the change in aggregate demand? $ bilion

c. If government wants to use fiscal policy to counter the resulting inflation without changing tax rates, would it increase nawarnmant enandinn ar derreace it?

Answer 2

a. Price Level Increase

The initial aggregate demand curve is given as AD0. When aggregate demand increases by $7 billion at each price level, the new aggregate demand curve shifts upwards by $7 billion to AD1.

How to explain

The intersection of the new aggregate demand curve (AD1) and the aggregate supply curve (AS) determines the new equilibrium price level (P1).

The percentage increase in the price level can be calculated as:

Percentage Change = (New Price Level - Old Price Level) / Old Price Level * 100%

In this case, the old price level is P0 and the new price level is P1. From the table, we can see that P0 = $100 and P1 = $115. Therefore, the percentage increase in the price level is:

Percentage Change = ($115 - $100) / $100 * 100% = 15%

This inflation is an example of demand-pull inflation. Demand-pull inflation occurs when there is an increase in aggregate demand without a corresponding increase in aggregate supply. In this case, the increase in aggregate demand is caused by the exogenous shift in the aggregate demand curve.

b. GDP Gap

The GDP gap is the difference between potential real GDP and actual real GDP. When the actual real GDP is above potential real GDP, there is a positive GDP gap. This indicates that the economy is producing more output than it is capable of producing sustainably in the long run.

In this case, potential real GDP is $510 billion and the new equilibrium real GDP is $570 billion (from the intersection of AD1 and AS). Therefore, the positive GDP gap is:

GDP Gap = Actual Real GDP - Potential Real GDP

GDP Gap = $570 billion - $510 billion = $60 billion

c. Fiscal Policy Response

To tackle inflation, the government should cut down its spending. This move would help lower overall demand and stabilize the economy's real GDP. When the government spends less, it decreases the amount of money circulating, easing the pressure of rising prices.

Conversely, boosting government spending would worsen inflation by pumping more money into the economy, driving up demand even higher.