Practice Problems for AD/AS, Fiscal Policy, and Monetary Policy

Mr. Leader

AP ECON

Practice Problems for AD/AS, Fiscal Policy, and Monetary Policy

1. For each of the following events, determine whether the aggregate demand curve or the short run aggregate supply curve will shift. Show the shift on a graph and explain what happens to equilibrium price level and equilibrium RGDP because of the shift.

A.) A stock market boom makes people wealthier.

B.) A recession overseas causes foreigners to buy fewer US goods.

C.) Oil prices rise.

D.) The government implements several new programs thereby increasing its spending.

E.) A technological improvement raises productivity.

F.) The government puts into law a new tax plan that increases corporate income taxes

G.) The Fed decreases the discount rate and interest rates fall.

H.) The government passes a law increasing tax deductions for the average American.

I.) The government increases defense spending and approves a stimulus package to aid businesses.

J.) The government dramatically increases taxes and crowds out the ability of many consumers and producers to spend,

2. Consider your answers in number 2. For each scenario in which AD shifted, tell if the shift occurred because of changes in C, I, G, (X-M).

(Text Pages 190-196)

3. Assume that the US economy is in recession. Using an AD/AS graph explain the situation the US economy is facing (i.e., a recession) (hint would you more likely have a deflationary or an inflationary gap in a recession?) and then explain how fiscal policy can fix the problem. Be sure to show the result of the fiscal policy graphically. (Hint: You won’t have any actual numbers here. Show where the economy is currently operating and where we (policymakers and citizens of the US) would like for it to be operating and then show where we should end up if the stimulus package (fiscal policy) works correctly.)

4. Using an AD/AS graph, depict an inflationary gap. What are the two fiscal policy options that the government has to correct an inflationary gap? What are the policy options for fixing the inflationary gap with monetary policy? Of the three monetary policy options, which of the 3 is most likely to be used? Are these fiscal and monetary policies expansionary or contractionary policies? Show the where we would end up if the monetary of fiscal tools work.