Economics 102
NOTE THAT I HAVE NOT LABELED
THE POINTS ON MY GRAPHS (BECAUSE IT’S HARD TO DO WITH THIS PROGRAM) BUT ALL
POINTS ON THE GRAPH SHOULD BE LABELED.
1. The graph below shows the economy in long-run equilibrium. Suppose that the government increases spending to finance a war. Show on the graph and explain (in words or symbols) the short- and long-run effects on the economy. (10 points)
In the short run: Y increases, P
increases
In the long run: Y > YF
so wages and prices rise, and thus S falls (shifts left). Y = YF, and the price level rises
further.
2. The graph below shows the economy in long-run equilibrium. Suppose that oil prices suddenly decrease significantly. Show on the graph and explain (in words or symbols) the short- and long-run effects on the economy. (10 points)
In the short run: Y increases, P
falls.
In the long run: Y > YF so wages and prices rise, and thus S
falls (shifts left). Y = YF,
and the price level rises further.
3. How does the stickiness of prices affect the severity of business cycles? (That is, if prices are very slow to adjust, will recessions and booms be relatively larger or smaller?) (5 points)
Recessions and booms will be
relatively larger (and longer-lasting).
You can see this graphically by drawing a flat versus steep S
curves.