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AP Macro Review Session 4 (chapters 12-15)

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Fiscal Policy & Phillips Curve

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all right guys it seems that no one is officially joining me this evening I'll go ahead continue with the review session so I have something to post to my website so y'all can go ahead and review this on your how long time  would have loved to have some people with me this evening because what I'm talking this evening is actually stuff that college board really likes to ask a lot of questions about especially your ask questions the reason why it's because what we're talking about tonight puts into  quits Bose your aggregate you're a Das model in with your decisions about fiscal policy and Phillips curve to Mortal Kombat and make some resolution we should do with our society so when I start with tonight or some key terms from along the way you might be given some information about the color negative Supply shock or positive Supply shock these or thing bad or unexpected occurrences to the economy of something outside of economic activities so if you have some sort of natural disaster that that that affect production sensor way that's going to be a surprise shop how it affects the economy will determine whether or not and if an egg is supply shop or a positive supply shop if it's negative then this unexpected event is going to decrease availability of key resources that would decrease productivity for short period of time where is the positive Supply shock is just the opposite it is something that happens that causes some sort of increase and availability of resources wood for short. Time increase productivity of this particular product so often times no ask questions and give information including they're saying that this is a negative Supply shock or a positive supply shop if they do the ideas that if it's negative you know that productivity is going to decrease because something bad has happened if it's positive know that primitive is going to increase because something beneficial has happened at that point we've talked about stagflation before. Stay flation is that high inflation rate sluggish economy typically goes when you have a negative Supply shock you have that high inflation rate there's not a whole lot of growth that thing with your economy we talk about autonomous consumption which is minimize consumer spending when people have no income it's the idea that and if you are not earning money there are certain things that you're going to have to pay for for you to be able to live from day-to-day that is your autonomous consumption the fact that you are going to have to have some amount of money for you to be able to buy the goods that you need to be able to survive on daily basis  when you have disposable income this is just your after-tax income so you have all the money that you have in your household and what happened is that you taken out yours all your taxes and now  it's what you have left to spend or what what to save to go with that automatic stabilizers this is important whenever it comes to your fiscal policy because what happens with automatic stabilizers that this is a policy that was passed by our government and the reason why I passed by government because when you start to experience fluctuations in business cycle automatic stabilizers or going to act to help try to fix the problem so the fact that we have a income tax that is an automatic stabilizer if you have a two-income household and one person loses their job and no longer is earning an income then you're going to automatically Pay Less in taxes over that to your time because you no longer have the same amount of money smack we stabilize the economy in that sense other examples of automatic stabilizers would be things like unemployment compensation disability no honor of this is my first one  I have your I have your recommendation for you tomorrow so don't worry about it so what's happening with your automatic stabilizer is when we talk about changes in this policy changes in monetary policy which will talk about next Tuesday what happens with automatic stabilizers that this is something that to happen on it so you don't need to have government intervention happen because it's already alone it's been put into place that makes it happen on a regular basis turn right about fiscal policy  when we had macro we talked about the disappearing fiscal policy and monetary policy we said the monetary policy was the action taken by the Federal Reserve to change the supply of money fiscal policy what we're talking about tonight is referring to anything that the government is going to try to fix an economic problem and what the government likes to do is one of two things change taxes spends more money so they're trying to identify what they're going to do here based on is it best for us to spend money or is it best for us to change taxes fix whatever problem that we're dealing with it this time so we talked about Physical policy there to touch you have discretionary fiscal policy and you have mandatory Austin X mandatory is going to also be described as being non discretionary fiscal policy service going to go by either turn your dealing with discretionary policy this is an action that must be approved by Congress so if Congress would like to introduce a new bill and what's going to happen if we're going to change or aggregate demand by either spending more money or changing taxes this is something that needs Congressional Google as your discretionary fiscal fiscal policy monetary policy is something that's a permanent spending or permanent taxation law what happens with this is that we don't need any type of congressional everyone wants that particular laws passed it is a permit situation so the only time a laws going to be passed to go along with your man are your non discretionary fiscal policy is if they want to change it in some sort of way if we want to change our tax brackets for our stop progressive income tax that would require congressional action but the fact that we don't need to have the tax brackets approved and single year shows it's a non discretionary fiscal policy and non-discretionary actions these are things that are going to show up in the budget they are not going to need to be approved by Congress every single year okay so when we talk about discretionary fiscal policy would happen with this is this is what we're talking about when we have our aggregate demand and aggregate supply shifting trying to bring us back to long run so if you're looking at your fix you're either going to have Canary fiscal policy or contractionary fiscal policy both of them or discretionary cuz they're going to require action by Congress they are exact opposites of each other the purpose of expansionary fiscal policy is increased output the purpose of contractionary fiscal policy is reduce inflation so if I how to increase output on looking at ways that I'm going to try to find the ability to bring about an production so what can happen is that as the government I can increase my spending by increasing my spending I'm putting money out into the economy and from there  we are able to use that money for us to go to create other things so it helps to increase output if I decrease taxes what happens that I put more money in people's pockets their disposable income increases by doing that they are going out in their spending more money which would eventually cause your producers to realize this is happening and therefore they would in their productivity the workers as well if we use expansion area fiscal policy what we're trying to do is try to fix that recessionary Gap that's coming later any type of expansion your policy is going to cause an increase in employment but on the flip side it's going to levels to go up and therefore what's going to happen is that your government should be running some sort of budget deficits as you're done you spend more and more and more money it's more and more likely they're going to have to borrow money to be able to accommodate this additional spending your budget deficit grows when you have expansion fiscal policy  if we're doing contractionary fiscal policy we're doing the exact opposite we're trying to reduce price level overtime that inflationary pressure we want that to go away so to do that we're going to take some of that money out of sir the government not going to spend as much money they're going to tax you more so you cannot go out and spend more money we do this to fit to fix that inflationary Gap you want to make that inflationary Gap smaller we want to take all that inflationary pressure off I to reduce so should do that it requires the trade-off of the fact that we're going to have to decrease output we're not going to be able to be productive as we were  we're not going to be able to employ as many people because we're not going to have as much money member the government is tax so what's going to happen in this sense is that for the federal government itself one of two things can happen they can go into the positive and have a budget surplus if they were close enough to begin with or if they're nowhere near getting to that balanced budget like we are right now then what would happen is that your budget deficit would be smaller because the government is not spending as much money and they're taking in more Revenue at this point so we have our recessionary and our inflationary Gap so from our 2008 exam the appropriate fiscal policy to combat a recession would be to increase which of the following you want to get rid of a recession so what is going to bring about more money into the economy from the government perspective from this list you only have impossible answers out of the 5K  interest rates money supply government bonds are Federal Reserve actions you should be able to take all three of those out right away so that brings you down from five options to to delete or increase Nexus are you increase spending for trying to get rid of her session we want to bring more money into the economy so yet D is your right answer we want to increase government spending okay for my 2013 exam discretionary fiscal policy action to reduce inflation in the short run the trying to get rid of inflation so even though we're just rushing Airy his for trying to reduce inflation need to go forth and try to figure out which one of these is the contractionary policy the contractionary policy is that we want to increase the taxes we want to decrease government spending the transfer payment is it going to work because a transfer payment is a non discretionary action ear for a would not have been the correct answer he was the exact opposite of be so you should have been able to bring it down to both those two and pick from there the reason why D is not correct is because we're talking about changing the money supply in general Congress cannot change the money supply that's the reserve decrease taxes and interest rate interest rate that the Federal Reserve policy so once again should be a bring down to two of them just by knowing who's responsible for which one's another one from the 13 exam following a decrease in exports what fiscal policy would restore the economy to the original equilibrium so from this point I'm trying to find something real quick what you're trying to do from here is trying to figure out which one on the list is going to fit situation the best and in this case the best possible answer is going to be be okay decrease in exports  that means we're going to have less of those products available to us here so the best possible one from said that the government would do would be the increase in transfer payments  multiplier effect is where we started and to  our differences of what we needed to talk about with the multiplier effect the idea here is that changing spending that off a spinning chain magnified me company so if you recall we said that if the government decides to increase their spending by 20 you're not just going to put 20 billion dollars into the economy and will grow by 20 billion that action is going to cause a chain reaction we're going to grow by more than that when she billion the strength of the multiplier depends on the amount that consumer spending their actual income so when you have your disposal income you have two choices do I spend my income or do I state it so we have to identify what likelihood of you actually spending the money versus saving the money so we had our module propensity consume and marginal propensity to save your for pissing was the idea that how much of your income will people consume rather than fake if you have a change in in how much of that are you willing to spend rather than put aside for later  to calculate this it is you're changing can sing / your change in this post link up have increased their exact opposite of each other so what happens if I add my more consumed to my Marshall for me to save I'm going to get an answer of 1 hey there going to be decimal so if my empathy is .8 then mymps is going .2 so to figure out my Marshall propensity to save you looking at the change in Saving divided by the change in disposable in the same thing for boat we also talked about your average propensity to consume and average propensity to save we're looking at your average amount of total income households been so you're looking at consumption divided by disposable income hours for Pepsi to save your looking by savings / supposed to come this is just you got to have an idea of what you're looking at 2 the multiplier and just like we said MPC plus MPS is equal to 180 C plus APS is going to be able to watch so they're going to be exact. so they give you something and they say that this is your impea  what is my multiplier you need to use the MPC that's going to give you the benefit they're so how do we use this here you go you might see a chart where you have disposable income consumption savings and either y will have a PCA or MPC and p.m. and it's the idea here that if I have no disposable income I'm consuming 2000 -2000 saving I have no APC note 80s at this point if I have an income of 2000 in 3600 Amy's I have a savings of negative 1600 when I have my average for Pepsi consume an average for since you stay whenever I go through and do as we said here consumption / disposable income and savings / disposable income when you do your 600 / 2,000 you're going to get 1.8 -16 / 2,000 -.8 you didn't even have to do this if you know that your average propensity cuz they've is 1.8 and you know that when you add these two together you're going to get one they automatically know that the obstacle being negative so you we go ahead and we finish at 5 if you do any MPC once again these are going to add up to one on this guy so starting with my 13,000  13000 it I increased my should buy $900 I increase my income by $1,000 so this is 900 / thousand is going to give me an imp. and you don't have to do this one with the increase in savings of $100 over here to get the point one we increased by $800 increase my disposal income by a thousand for the next one so 800/1000 going to give me an MPC of .8 and an PS2 be able to if you're given some sort like this you need to be able to identify how to go about doing this why is this important this is important because you need this information be able to get to your multiplier you have multiplier formula you have your simple spending multiplier and your tax multiplier simple spending multiplier is used when there is a change in a component of GDP the formula is officially one over in PS if you're given the MPC you know it's one over one minus the MPC by doing this what do we to know NPI what is NPI where are we talking about invest we're talking about invest we don't need to worry about that you doing MPS and MPC what we're doing here is that you're looking for the change in D in GDP okay so you're looking to import no we don't need that one change in your looking at your change and that add get demand component times you're spending multiplier so if government spending increases by 20 billion dollars and my spending multiplier is let's say 8 then what I'm going to have in this case is 20 billion x 8 that means my GD he is going to change by 160 billion dollars okay so when we identify that the government has changed their spending in this case then you have to do the spending multiplier if we say that the government has changed the amount of taxes then use your tax multiplier so we're looking at lump-sum taxes with your MPC / your MPS  so we say that government changed taxes 30 billion dollars in my tax multiplier five and my change in GDP is going to be a change of 150 billion dollars fire remember has a negative sign okay look back into your workbook everything I'm doing tonight goes into you unit 5 stuff they spray to come back next week with our unit for because I wanted to get this done before we got to monetary policy so we need to do this first so your tax multiplier in this sense if we're changing Government taxes that means typically in this Den is that an going to change something along the way the government is going to earn less money going to spend more businesses or going to have to pay more in taxes to date can't spend as much so you're looking these particular types of things with your tax multiplier the value of the tax multiplier if you're MPC is .7 MPC is .7 X 1/7 and remember that it is negative in that sense so  value of a tax multiplier if you're MPC .7 lives recall that your formulas MPC over MPS I'm still your tax multiplier if its .7 you're doing .7 divided by .3 your tax multiplier would be a -2.3 value of the spending multiplier through MPC is .67 remember spending multiplier is 1 over your MPS  so NPC is .67 that means that you're doing 1 divided by .33 which would give you a spinny multiplier of 3 it's technically 3.03 but you can get go ahead with three tax multiplier if your RPS is .25 then that means spending multiplier 1 / MPS you have to account for what people are going to save  it's still one- MPC at that point it's just the yeah we're using NPS Marshall parentheses Dave because we want to know their likelihood of assumption from that point we have to take the saving portion out of it so because of that  you're going to put it over in PS so are spending multiplier here not are spending our tax multiplier here would be a tax multiplier of -3 if our MPS is .25  so practice how you would see this particular type of situation you are given an ad as model in Long Run  so you you first have to identify do you have a recessionary inflationary Gap and you should be able to answer that it is a recessionary gap you then are going oh where am I hearing to go if the government does no problem and resource prices are flexible in the long run what's going to happen is that wages will fall  as its Supply will increase in this case if have a recessionary gap  did I put this question on there no so we have a marshall for pissy to consume .5 would you mean my multiplier for number 4 what is the least amount of government spending that carpet play close the gap the least amount of government spending we have to have a change in GDP of 40 billion my MPC is .5 with me my multiplier is going to be 2K because it is 1 / MPS 1 / .5 so 40 billion in this case / the two means that the least amount of government spending that will close the gap would be a change of spending 20 $10 how much could the government cut taxes to close the gap  we go along with the taxes of 40 billion in this case  if my mp he is .8  what is the least amount of government spending that could potentially close the gap with an MPC of .8 my mom pliers 5 soda 6:40 billion dollars 40 billion divided by 5 would bring me to an 8 billion dollar change so  it's things like this that often times if they're going to ask you questions in a free response you're going to connect the in this manner that you're going to have to identify do you have a recessionary inflationary Gap they you're going to ask you what's going to happen in the I'll run to wages and aggregate supply they're going to tell you what your MPC is they'd expect you to be in a know how to calculate the multiplier and they'd expect you to be able to identify what's going to happen to the change in government spending what's going to happen to expect you to be able to know that I'm still is 40 billion Gap they want you to be able to know how to do these problems on your own so something that you could see later on  comes with fiscal policy includes things like deficit spending if your arm is increasing spending without increasing the tax to go with it then they're going to increase their annual deficit during increased the national debt which one came the chicken or the egg in this case which came first the depth of the day you have to increase your distance before you can increase your debt so the problem here with death spinning is that if your government increases are spending and they don't increase their tax if it without increasing taxes yet they need to increase the tax to go with it because they're going to run out of money you have the time lag wow I mean we all listen to the containers decide what they're going to do so they have to write the bill they have to beat the bill they have to go through a howbill be what's the law process in half the time you have to have time for implementation there's a lot of lag time between When government decides to act and when that actually goes into effect so the problem with fiscal policy it doesn't happen as quickly as you would hope for it to happen you have the problem with crowding out the way that I explain crowding out especially in my stator class identify that if we were all in the room trying to borrow money we all have a limited amount of money that were able to spin and as the interest rate changes our ability to continue to borrow money changes as well with the biggest pocket or going to be the ones that are going to have to that they're going to be able to afford the higher Banks or very similar to businesses in the step that when Bank see that consumers are very interested in borrowing money the more people that are flooding the market to borrow money over time even if you would happen to that you're going to have an increase in interest rates what was the Buster of regular everyday people that don't have the ability to just borrow money at these large interest rates aren't going to be able to borrow as watch anymore because the interest rate is higher government has the biggest pocket out there so the government has the ability to borrow money the win the interest rate is something that is too high for us consumer so what happens when the government runs that budget and their borrowing more and more and more money are banks notice these types of actions and they start to increase the interest rates therefore counting out all of that private investment for government investment in steps when people expect in happen what happened to your Advocate Supply if we expect inflation to happen what events they have that people expect that price increase therefore they begin to demand higher wages at work when that happened the cost or the business actually begins to go up remember we talked about our different types of inflation we talked about wage-price spiral and this is that a wage-price spiral weiner set prices are going to go up we work to try to get that increase wage at work and when that happens do you start to see cost of production for which event she is going to cause your aggregate supply to anything to decrease over the time they're not able to provide as much of their products which brings us to Phillips curve Phillips curve is something that college board has really worked towards asking questions about this more often  there was a time when free response questions never entered into Phillips curve  now they're bringing Phillips curve into these particular question blasting what happens to Phillips curves with these recessionary inflationary Gap and they expect you to know what's going on with this so always remember that if your drawing of her there is an 80s model that goes with it so anytime your drawings Phillips you got it first or with your ad as model you have to identify what's happening with that for you to be able to get to Phillips curve to identify what's happening there so if you recall there was any common last name of Phillips believe that there was a relationship between unemployment and inflation rate  and would happen is that you had Economist and policy makers that believe that the trade-off was consistent enough for you to be able to have this as a topic of discussion but as we saw changes in one often times we saw changes in the other so you're making that relationship between a price change or inflation and unemployment that when prices have a tendency to go up what they're saying is that unemployment a tendency to go down and when prices went down unemployment started to go up so there they are related to each other in that sense  so what were what eventually happen is that Economist determine that yes there is a trade-off between the two but it is only a short-run phenomenon this is not something that going to see as long run for the Phillips curve  and we identified that you can't have inflationary expectations that are going to shift you're so true there are two Philips groups you have short-run and long-run  what happens it says suppose that ad and intersect at full employment your long run aggregate supply your area demand curve shifts to the right the wage rate will rise because of the anticipation an increase in the price if people want to be able to maintain your real weight if there is an increase in price as you want you but you're going to be able to maintain that same ratio of inflation I'm to wage end it the increase the nominal wage rate shifts the short run aggregate supply curve to left back at the intersection of your long-run Phillips curve in the short run so let's see what happens if so  vertical axis is labeled inflation horizontal axis is labeled endpoint K so what we're saying here is that at high levels of inflation what we're saying is that we have low levels of unemployment and at low levels of inflation we have this high level of unemployment you have your long run your long rental obscure we're going to get to that in a little bit but you have this Phillips curve that her you might see one that's a straight line they don't have to be  if you have a shift in aggregate demand this where things are key whenever you're answering short short your your free response question this is what ski if they give you a question and in that question the end result is that you're going to have to shift your aggregate demand curve to the left or right just like we had movement along our supply to me you're going to have movement of long-distance first so it's going to be either up the Phillips curve or we're going to be down here okay your points closer to our unemployment guide  so this more horizontal area if you have a point closer to hear this representing something that you have with a recessionary gap on your ad as model if you have points closer to the inflation side points closer to this more vertical see what happens is that you are you're talking about things that are happening with your inflationary Gap so it depends on what they're talking about if you shift your ad you're at you're a great demand curve left or right you're going to be moving along this particular Kurt okay so if you shift your supply curve Daniel short run Phillips curve is going to shift so we have a shift to the right of our short run Phillips curve what having is we're going to have higher inflation rate higher unemployment rate if we go to the left where are us it okay so what is why we did things in this particular order you needed your ad as model we need to talk about that we need to talk about fiscal policy with a recessionary inflationary Gap and how we go about fixing those particular gas that if we change a spending level we're changing our aggregate can't that means we're moving along the short-run for first in K and it's identifying what's happening along those stickler point if you're looking at changing your supply because production has changed in some sort of way then you're then you're going to be shifting your short run Phillips curve in bed that is what she here okay there is no relation really between your inflation rate in your unemployment rate in the long run  cuz remember we had all those  ability for changes to happen  let me talk about long-run Phillips curve we're talking the same thing we did whenever we talked about long run for aggregate supply long run just means we have a period of time long enough for adjustments to be made okay so things about Lauren your Lawrence lip scrub is going to be vertical just like your long run aggregate supply curve is going to be vertical I reasoned that it is vertical as dip any unemployment rate above or below your non-accelerating inflation rate of unemployment cannot be maintained your non-accelerating inflation rate of unemployment I Define down here it is your unemployment rate where inflation does not change over time it's going to correspond with your full employment level output at your natural rate of unemployment so whatever your neck rate of unemployment is whatever you are output is that for employment point that is you're not accelerating inflation rate of unemployment okay so it is vertical because if you have any unemployment rate above or below that point stay that way  no trade off in the long run between inflation and unemployment there is no policy that's going to be able to maintain and and it rates below you're not accelerating inflation rate of unemployment in the loan right not going to be able stay there Phillips curve is only a short-run phenomenon and it only is something that you look at whenever you change your ad which means that you're moving along your Philips first or your a change your shifting your Phillips curse left right that is whiskey they're bad as the point to that you have to be able to remember which one is this going to be now  I forgot today to go back in here and put forth my questions that go along with this for the free response so whenever I come in to do this on Tuesday when we talk about monetary policy I'm going to be certain that on my last flight I give you free responses to go back and work on these particular thing if I'm not mistaken I do believe that last year's first question  was an a t a s model question that asked specifically about recessionary Andrews and inflationary Gap and then went on and asked you to draw the Phillips curve that with it it was he the last year or the year before if you're going to AP Central to look at your free response question that it was there they like to ask it and the key thing with your Phillips curve is identifying that you know whether it's going to be moving along your Phillips curve or if it's going to be shifting your soap curve left to right remember where specifically at your long-run Phillips curve identifying that there is no relationship there at that point so I'm not really shifting that one is the short run that's going to shift towards going to have the movement along that one  so I'm half drug consumption and saving function your consumption and saving function where is save that one for another day okay drawing your consumption function and whatnot most what we're talking about with this today is being able to calculate your multiplier all these particular point consumption function you're unlikely to have to draw it it would be more than likely something bad if your  going to be asked about it would be in some sort of multiple choice format where they would probably give you the begin with and ask you to go ahead and answer the question that goes with it instead I'm going to try to go ahead and find one that they've asked I have a multiple choice breakdown that I can look at it I'll go ahead and try to find one to see when's the last they asked a consumption or receiving function like I don't even think that it's in my list of topics that they ass it's not even in my topics on a rod for multiple choice breakdown for the exams from 05 or 08 10 12 13 14 so I'm going to have to really look for that one to see if they've asked that one before in the past if you don't have any other questions  I'll stop at these 13 minutes early  I'll see you in class tomorrow if you're good we can go ahead and stop I don't want to just you tonight Just the Two of Us  stop they weren't interested in studying tonight I will see you in class tomorrow if something comes up where you have a question about this overnight  no they don't ask me in class tomorrow remember this is going through with v and your workbook okay so I will see you in class tomorrow and see you later

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AP Macro Review Session 4 (chapters 12-15)

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