Econ 402 Exam 2 || very Flawless.
How does optimal price depend on price level P and output Y? correct answers Directly related -
as output or price level grow, so too does optimal price
Procyclicality of TFP - Classical correct answers TFP drives the business cycle
Procyclicality of TFP - Keynesian correct answers Use factors of production at higher intensity
during booms (Solow residual represents intensity increase/ is TFP)
Procyclicality of Money Supply - Classical correct answers Reverse causality: Higher output Y
leads to higher money demand leads to CB supplying more money. (Rather than an increase in
money supply causing an increase in output, as money is neutral even in short run)
Procyclicality of Money Supply. - Keynesian correct answers An increase in money supply
increases AD which temporarily increases output Y. Inflation grows prices gradually in
comparison. Keynesians believe money has real effect in the short run which justifies monetary
policy as stabilization.
Procyclicality of Consumption and Investment - Classical correct answers Increase in TFP
causes increase in MPK, leading to increased investment. Increase in TFP leads to increase in
expected income leading to increase in consumption.
Procyclicality of Consumption and Investment - Keynesian correct answers Animal spirits of
investors and consumers drive the cycle, so in increase in consumption C and investment I will
increase output Y
Paradox of Thrift correct answers The paradox states that an increase in autonomous saving leads
to a decrease in aggregate demand and thus a decrease in gross output which will in turn lower
total saving.
IL-SM Curve: Introduction of inefficient regulation makes firms less willing to invest. correct
answers Leftward shift of IS. Output and interest rate fall. As firms spend less, they need less
money for transaction, so they buy bonds instead, driving down yields and interest rate.
IS Curve Shifters correct answers A, Io, G, T
LM Shifters correct answers M, expected inflation, cost push shocks
Foundations of sticky prices correct answers Monopolistic competition, small losses from non-
optimality, costs to changing prices, coordination failure, contracts
Effect of sticky prices on economy: Size of effect correct answers Small effect on firms, big
effect on economy
How does optimal price depend on price level P and output Y? correct answers Directly related -
as output or price level grow, so too does optimal price
Procyclicality of TFP - Classical correct answers TFP drives the business cycle
Procyclicality of TFP - Keynesian correct answers Use factors of production at higher intensity
during booms (Solow residual represents intensity increase/ is TFP)
Procyclicality of Money Supply - Classical correct answers Reverse causality: Higher output Y
leads to higher money demand leads to CB supplying more money. (Rather than an increase in
money supply causing an increase in output, as money is neutral even in short run)
Procyclicality of Money Supply. - Keynesian correct answers An increase in money supply
increases AD which temporarily increases output Y. Inflation grows prices gradually in
comparison. Keynesians believe money has real effect in the short run which justifies monetary
policy as stabilization.
Procyclicality of Consumption and Investment - Classical correct answers Increase in TFP
causes increase in MPK, leading to increased investment. Increase in TFP leads to increase in
expected income leading to increase in consumption.
Procyclicality of Consumption and Investment - Keynesian correct answers Animal spirits of
investors and consumers drive the cycle, so in increase in consumption C and investment I will
increase output Y
Paradox of Thrift correct answers The paradox states that an increase in autonomous saving leads
to a decrease in aggregate demand and thus a decrease in gross output which will in turn lower
total saving.
IL-SM Curve: Introduction of inefficient regulation makes firms less willing to invest. correct
answers Leftward shift of IS. Output and interest rate fall. As firms spend less, they need less
money for transaction, so they buy bonds instead, driving down yields and interest rate.
IS Curve Shifters correct answers A, Io, G, T
LM Shifters correct answers M, expected inflation, cost push shocks
Foundations of sticky prices correct answers Monopolistic competition, small losses from non-
optimality, costs to changing prices, coordination failure, contracts
Effect of sticky prices on economy: Size of effect correct answers Small effect on firms, big
effect on economy
