Sample questions: (where necessary please use diagrams with clear labeling)

a) Discuss the components of planned aggregate expenditure function. [Hint: consumption,

Investment, Government expenditure, Net export)
b) Develop an algebraic expression (the general expression) for planned aggregate
expenditure.
c) Find autonomous expenditure and induced expenditure.
d) Find the equation for equilibrium output/income.
e) Find expressions for the government expenditure, autonomous investment, and
autonomous tax multipliers.

2. An economy is described by the following equation,

C = 3000 + 0.5 (Y-T)

I = 1500

G = 2500

NX = 200

T = 2000

Potential output = Y* = 12000

a) Find a numerical equation Linking planned aggregate expenditure to output

b) Find autonomous expenditure and Induced expenditure
c) Find the multiplier
d) Find the Short run equilibrium output
e) Find the output gap
f) By how much would the autonomous expenditure have to change to eliminate the output
gap?
g) Find the autonomous tax multiplier
h) Find the balanced budget multiplier.

3. Suppose that net taxes are not fixed but depend on income.

a) Find an algebraic expression for the planned aggregate expenditure function.

b) Find the expression for the multiplier.
4. Develop the algebraic expression for planned aggregate expenditure. Show that an open
economy may suffer less from a recession.

5. The demand for and the supply of Canadian dollars in the foreign exchange market is

Demand = 30,000 – 8000e

Supply = 25,000 + 12,000e,

Where the nominal exchange rate, e, is expressed as euro per Canadian dollar.

a) What is the value of e under a flexible exchange rate system?

b) The dollar is fixed at 0.3 euro. Is dollar overvalued, undervalued, or neither?
c) What happens to Canada’s Current account balance?
d) What can be done to prevent Canada’s current account balance from changing?
e) What happens to Canada’s official settlement account?

6. The demand for and the supply of Canadian dollars in the foreign exchange market is

Demand = 25,000 – 5000e + 50,000 (rC – rE)

Supply 18,500 + 8,000e - 50,000 (rC – rE)

Where the nominal exchange rate, e, is expressed as euro per Canadian dollar.

rC and rE are the real interest rates prevailing in Canada and in Europe.

a) Explain why it makes economic sense for the two real interest rates to appear in the
demand and supply equations the way they do.
b) Initially, rC = rE = 0.10, or 10%. Find the value of e under a flexible exchange rate
system.
c) The European Central Bank grows concerned about inflation and increases rE to 12%.
d) Is there a shortage or a surplus of Canadian dollar in the foreign exchange market?
e) What happens to the value of Canadian dollar in the foreign exchange market?
f) Is the action of the European Central Bank likely to increase or reduce aggregate
demand in Canada? Discuss.
g) What will the Canadian Central Bank do to keep its exchange rate at the value you
found in part b? What effect will this action have on Canadian economy? [Hint: there
are two options available. One affects the supply and the other affects the demand]
h) In the context of this example, discuss the effect of fixed exchange rates on the ability
of a country to run an independent monetary policy.
7. 1When the equilibrium real GDP is below potential GDP, how does the unemployment rate
compare with the natural rate? What is the result of this state of affairs that restores the long-run
equilibrium?

8. Explain why the SAS curve slopes upward and the LAS curve is vertical

9. Explain how an increase in the money wage rate influences the SAS curve. Why does a
change in money wage rate influences only the SAS curve and not the LAS curve?

10. What is a recessionary gap? How does the economy adjust to eliminate a recessionary gap?

11. The Multiplier for an increase in autonomous expenditure in the AD/AS model is smaller
than the Multiplier for an increase in autonomous expenditure in the Keynesian model. Explain
using diagrams.

12. In the long run, the multiplier in the AD/AS model is positive if there is a recessionary gap.
But the long run multiplier in the AD/AS model equals zero if the economy is operating at
potential output. Explain using diagrams.

13. Country A and country B are in long-run equilibrium at the same level of output and prices.
An oil cartel effectively increases the world price of oil by 100 percent. The central bank of
Country A takes no stabilizing-policy actions. The central bank of Country B adopts a monetary
policy to return the economy to full employment.

a) Describe the short run impact of the change in oil price on prices, output and employment
in each country. Illustrate.
b) Compare the long run impacts in each country. Illustrate.

14. Explain how tax cuts can affect both aggregate demand and aggregate supply

15. Assume that an economy is initially operating at the natural level of output. The budget is
balanced. Use the model of aggregate demand and aggregate supply to explain the short-run and
long-run effects on price, output, and employment of a Fiscal policy that produces a budget
surplus. Illustrate.