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Classical Model
answer
Attempt to explain determinants of PL, real GDP, employment, consumption, saving, and investment
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Keynesian Model
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in the short run, AD (aggregate demand- total demand) is influenced by economic decisions
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The assumptions of the Classical Model
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1. Wages and prices are flexible (not fixed)
2. Self interest
3. Not moved by money illusion
4.
2. Self interest
3. Not moved by money illusion
4.
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Thoughts on governments role in Classical Economy?
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Government's role should be minimal
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Equilibrium Interest Rate
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(Credit Market)- Price of credit is INTEREST RATE @ equilibrium, ensures the amount of credit demanded equals amount of credit supplied. WAGE LEVEL MUST BE ABOVE EQILIBRIUM
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Says Law
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supply creates its own demand DESIRED expenditures will equal ACTUAL expenditures
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Classical economists suggest that unemployment is a short lived phenomenon because...
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wages adjust quickly to equilibrate quality of labor demanded with quantity of labor supplied
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The recessionary gap is the amount by which...
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the short-run equilibrium level of real GDP is below the full employment level of real GDP
*exists whenever equilibrium real GDP per year is LESS than full employment GDP
*exists whenever equilibrium real GDP per year is LESS than full employment GDP
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An aggregate demand curve...
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shifts to the RIGHT when a non-price level change INCREASES total planned real expenditures
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All others constant, the economy's aggregate demand curve shows that..
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the quantity of real GDP that will be purchased decreases when the PL rises
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When the value of the dollar decreases the net effect on the economy
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will be decreased in SRAS and an increase in aggregate demand
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Marginal propensity to consume is 0.8. Theres a $4000 increase in planned investment REAL GDP will increase by
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$20000
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Classical model cannot...
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explain periods of prolonged unemployment
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What causes an increase in aggregate demand?
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Decrease in taxes
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Classical is
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vertical
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Keynesian is
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horizontal
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Example of discretionary fiscal policy used to correct a recessionary gap...
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tax DECREASE passed into law by Congress
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Multiplier
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ratio of the change in equilibrium level of real GDP to the change in autonomous real expenditures
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Formula for multiplier
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Multiplier= 1/1-MPC
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What is NOT a reason for the slope of the aggregate demand curve?
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Substitution effect
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