Econ 203 Final Questions

The natural rate of unemployment refers to the amount of unemployment that the economy typically experiences. It is the level of unemployment that exists when the labor market is in equilibrium, with no cyclical fluctuations. This rate is considered to be the "normal" or "steady-state" level of unemployment in an economy, and it is determined by structural factors such as demographics, skills, and labor market institutions. It is important to distinguish the natural rate of unemployment from temporary fluctuations in unemployment due to business cycles.

In a small open economy with perfect capital mobility and fixed exchange rates, the AD (aggregate demand) can be increased by increasing government expenditure and decreasing tax rates. Increasing government expenditure stimulates economic activity by increasing public spending, while decreasing tax rates puts more money in the hands of consumers and businesses, encouraging them to spend and invest. Both of these measures can boost aggregate demand and stimulate economic growth in an open economy with fixed exchange rates.

According to the sticky price theory of the SRAS curve, when prices fall unexpectedly, some firms will have higher than desired prices. This means that these firms are unable to adjust their prices immediately in response to the decrease in overall prices. As a result, their prices remain higher than what they desire, leading to a decrease in sales. This is because consumers are more likely to choose cheaper alternatives when prices are high, causing a decrease in demand for the products or services offered by these firms.

In a closed economy, where there is no international trade, all of the statements mentioned are true. Unemployment rises as the economy moves from point A to B because there is a decrease in aggregate demand. Both fiscal and monetary policy can be used to move the economy from point B to A, as fiscal policy involves government spending and taxation, while monetary policy involves controlling the money supply and interest rates. If the economy is left alone and moves from point B to the long-run equilibrium, the price level would fall even further due to a decrease in aggregate demand. Therefore, all of the above statements are true in a closed economy.

An increase in the money supply growth rate in a closed economy starting at point C and 1 will move the economy to point B and 2 in the short run. This is because an increase in the money supply growth rate will lead to an increase in aggregate demand, causing an increase in output (real GDP) and a higher price level. As a result, the economy moves from point C to point B on the aggregate demand curve, and the level of output increases from 1 to 2.

The sacrifice ratio measures the percentage decrease in output for each percentage decrease in inflation. In this scenario, a 2% decrease in inflation leads to a 12% decrease in output. Therefore, the sacrifice ratio is calculated by dividing the percentage decrease in output (12%) by the percentage decrease in inflation (2%), which equals 6.

When the Bank of Canada sells $40 million of bonds to the public, the reserves of banks decrease by $40 million. This is because the banks are required to hold a reserve ratio of 20%, meaning they must keep 20% of their deposits as reserves. As a result, the decrease in reserves leads to a decrease in the money supply (Ms) by a multiple of the reserve ratio. In this case, the decrease in reserves by $40 million eventually leads to a decrease in the money supply by $200 million (5 times the initial decrease in reserves).

Raising the bank rate and making open market sales are actions that decrease the money supply (MS). When the bank rate is raised, it becomes more expensive for banks to borrow from the central bank, leading to a decrease in the amount of money available for lending and spending. Similarly, when open market sales are made, the central bank sells government securities, which reduces the amount of money in circulation. Therefore, both of these actions contribute to a decrease in the money supply.

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