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COMMON MISTAKES ON THE AP MACRO EXAM Compiled by: John Ostick Malvern Prep

COMMON MISTAKES ON THE AP MACRO EXAM Compiled by: John Ostick Malvern Prep. The difference between a change in demand and the resultant movement along a demand curve vs. Shifting of the demand curve. P. Q D. GRAPHING DEMAND. Price of Corn. What if Demand Increases?. P. $5 4 3 2 1.

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COMMON MISTAKES ON THE AP MACRO EXAM Compiled by: John Ostick Malvern Prep

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  1. COMMON MISTAKES ON THE AP MACRO EXAMCompiled by:John OstickMalvern Prep

  2. The difference between a change in demand and the resultant movement along a demand curvevs.Shifting of the demand curve

  3. P QD GRAPHING DEMAND Price of Corn What if Demand Increases? P $5 4 3 2 1 CORN 10 20 35 55 80 $5 4 3 2 1 D o Q 10 20 30 40 50 60 70 80 Quantity of Corn

  4. P QD GRAPHING DEMAND Price of Corn Increase in Quantity Demanded P $5 4 3 2 1 CORN 30 40 60 80 + 10 20 35 55 80 $5 4 3 2 1 Increase in Demand D’ D o Q 10 20 30 40 50 60 70 80 Quantity of Corn

  5. The difference between a change in supply and the resultant movement along a supply curvevs.Shifting of the supply curve

  6. P QS GRAPHING SUPPLY Price of Corn P What if Supply Increases? S $5 4 3 2 1 CORN $5 4 3 2 1 60 50 35 20 5 o Q 10 20 30 40 50 60 70 80 Quantity of Corn

  7. P QS GRAPHING SUPPLY Price of Corn Increase in Supply P S’ S $5 4 3 2 1 CORN 80 70 60 45 30 $5 4 3 2 1 60 50 35 20 5 Increase in Quantity Supplied o Q 10 20 30 40 50 60 70 80 Quantity of Corn

  8. Mislabeling or NOT labeling graphs correctly

  9. EQUILIBRIUM: REAL OUTPUT AND THE PRICE LEVEL P AS Equilibrium in the Intermediate Range Price Level Pe P1 AD Q Q1 Qe Q2 Real Domestic Output, GDP

  10. GROWTH IN THE AD-AS MODEL ASLR1 ASLR2 C A Price Level Capital Goods Q1 Q2 B D Real GDP Consumer Goods

  11. ECONOMIC GROWTH IN THE EXTENDED AD – AS MODEL ASLR1 ASLR2 AS2 AS1 Price Level P2 P1 AD2 AD1 o Q1 Q2 Real GDP

  12. THE MONEY MARKET Sm1 Sm 10 7.5 5 2.5 0 A temporaryshortage of money will require the sale of some assets to meet the need. ie Rate of interest, i (percent) Dm 0 50 100 150 200 250 300 Amount of money demanded (billions of dollars)

  13. Net effects of Monetary Policy and/or Fiscal Policy onInterest Rate (I%)

  14. FISCAL POLICY, AGGREGATE SUPPLY AND INFLATION AS Fiscal Policy And Inflation Price level P1 AD1 AD2 $495 $505 $515 Real GDP (billions)

  15. Expansionary Fiscal Policy >> Interest Rate INCREASE • Draw Money Market • Increase Spending (AD)>>Increase Demand for Money>>Increase Interest Rate • Higher Price Level>>Increase Demand for Money>>Increase Interest Rate

  16. Expansionary Monetary Policy>> Interest Rate DECREASE

  17. If the money supply increases to stimulate the economy... MONETARY POLICY AND EQUILIBRIUM GDP Sm1 Sm2 Investment Demand 10 8 6 0 10 8 6 0 Real rate of interest, i Dm Quantity of money demanded and supplied Amount of investment, i AS Money Supply Increases Interest Rate Decreases Price level Investment Increases P2 P1 AD & GDP Increases with slight inflation AD2 AD1 Real domestic output, GDP

  18. If the money supply increases again… MONETARY POLICY AND EQUILIBRIUM GDP Sm1 Sm2 Sm3 Investment Demand 10 8 6 0 10 8 6 0 Real rate of interest, i Dm Quantity of money demanded and supplied Amount of investment, i AS More Money Supply P3 Lower Interest Rates Price level More Investment P2 P1 Still higher AD & GDP with significant inflation AD2 AD1 AD3 Real domestic output, GDP

  19. MULTIPLIER(S) CONFUSION

  20. Income (Spending) Multiplier • Multiplier = 1/ 1 – MPC or 1/ MPS • Initial Change in Spending X MULTIPLIER = Change in Output

  21. MONEY MULTIPLIER • 1 / Required Reserve Ratio • Maximum Multiple $$$ Money Expansion

  22. Amount bank can lend - New money created Acquired reserves and deposits Required reserves Excess reserves Bank $80.00 64.00 51.20 40.96 32.77 26.22 20.98 16.78 13.42 10.74 8.59 6.87 5.50 4.40 17.57 A B C D E F G H I J K L M N Other banks $100.00 80.00 64.00 51.20 40.96 32.77 26.22 20.98 16.78 13.42 10.74 8.59 6.87 5.50 21.97 $20.00 16.00 12.80 10.24 8.19 6.55 5.24 4.20 3.36 2.68 2.15 1.72 1.37 1.10 4.40 $80.00 64.00 51.20 40.96 32.77 26.22 20.98 16.78 13.42 10.74 8.59 6.87 5.50 4.40 17.57 MULTIPLE DEPOSIT EXPANSION PROCESS $400.00 Total amount of money created by the banking system

  23. Balanced Budget Multiplier= 1(Net Result on GDP)

  24. Remembering the difference between the Amount of Money Created and theChange in the Money Supplywhen dealing with the Money Multiplier andMoney Creation

  25. FEDERAL RESERVE PURCHASE OF BONDS New reserves $200 Required reserves Purchase of a $1000 bond from a bank... $800 Excess Reserves $1000 Initial Deposit $4000 Bank System Lending Total Increase in Money Supply ($5000)

  26. Confusing Comparative AdvantageCalculations

  27. Remembering the difference between Real andNominal

  28. Nominal:with InflationReal:without Inflation

  29. Nominal GDP: GDP measured in terms of current Price Level at the time of measurement. (Unadjusted for inflation) Real GDP: GDP adjusted for inflation; GDP in a year divided by a GDP deflator (Price Index) for that year GDP

  30. NOMINAL INCOME: number of dollars received by an individual or group for its resources during some period of time REAL INCOME: amount of goods and services which can be purchased with nominal income during some period of time; nominal income adjusted for inflation INCOME

  31. NOMINAL I%: interest rate expressed in terms of annual amounts currently charged for interest; not adjusted for inflation REAL I%: interest rate expressed in dollars of constant value (adjusted for Inflation) and equal to the NOMINAL I% minus the EXPECTED RATE OF INFLATION INTEREST RATE (I%)

  32. ANTICIPATED INFLATION 6% 11% 5% = + Inflation Premium Nominal Interest Rate Real Interest Rate

  33. NOMINAL WAGES: amount of money received by a worker per unit of time (hour, day, etc.); Money Wage REAL WAGES: amount of goods and sevices a worker can purchase with their NOMINAL WAGE; purchasing power of the nominal wage. (Real = Nominal – Inflation rate) WAGES

  34. NOMINAL/REAL TIPs • If nominal rates INCREASE and Price Level INCREASE, the CHANGE in Real is “indeterminable.” • If nominal Wage rates do NOT change and Price Level fall. REAL WAGES increase. • NOMINAL RATES “PIGGY-BACK” REAL RATES & NOT VICE VERSA.

  35. Confusing calculationsusing MPC / MPSto determine changes necessary to correct Recessionary andInflationary Gaps

  36. o 45 FULL-EMPLOYMENT GDP Recessionary Gap AE0 530 510 490 AE1 Recessionary Gap = $5 Billion Aggregate Expenditures (billions of dollars) Full Employment o 490 510 530 Real domestic product, GDP (billions of dollars)

  37. o 45 FULL-EMPLOYMENT GDP Inflationary Gap AE2 Inflationary Gap = $5 Billion AE0 530 510 490 Aggregate Expenditures (billions of dollars) Full Employment o 490 510 530 Real domestic product, GDP (billions of dollars)

  38. Demand-Pull Inflationvs.Cost-Push Inflation

  39. DEMAND-PULL INFLATION ASLR AS2 AS1 c P3 Price Level b P2 a P1 AD2 AD1 o Q1 Real domestic output

  40. COST-PUSH INFLATION Occurs when short-run AS shifts left ASLR AS2 AS1 Price Level b P2 a P1 AD1 o Q2 Q1 Real domestic output

  41. COST-PUSH INFLATION Government response with increased AD ASLR AS2 AS1 Even higher price levels c P3 Price Level b P2 a P1 AD2 AD1 o Q2 Q1 Real domestic output

  42. COST-PUSH INFLATION If government allows a recession to occur ASLR AS2 AS1 Price Level b P2 a P1 AD1 o Q2 Q1 Real domestic output

  43. COST-PUSH INFLATION If government allows a recession to occur ASLR AS2 AS1 Nominal wages fall & AS returns to its original location Price Level b P2 a P1 AD1 o Q2 Q1 Real domestic output

  44. Phillips Curvevs.Laffer Curve

  45. THE PHILLIPS CURVE CONCEPT 7 6 5 4 3 2 1 0 As inflation declines... Unemployment increases Annual rate of inflation (percent) 1 2 3 4 5 6 7 Unemployment rate (percent)

  46. THE LAFFER CURVE 100 Tax rate (percent) l 0 Tax revenue (dollars)

  47. THE LAFFER CURVE 100 Tax rate (percent) m l 0 Tax revenue (dollars)

  48. THE LAFFER CURVE 100 n Tax rate (percent) m l 0 Tax revenue (dollars)

  49. THE LAFFER CURVE 100 n Tax rate (percent) m m Maximum Tax Revenue l 0 Tax revenue (dollars)

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