APM 3.1-3.2_Aggregate Demand & GDP Multipliers

What is Aggregate Demand?

• • The total quantity of a single good demanded in an economy

• • The total demand for all goods and services within an economy

• • The total supply of goods and services in a market

• • The total production capacity of a specific industry

Answer explanation

• A is incorrect because it refers to the demand for a single good, while aggregate demand encompasses all goods and services.

• B is correct, as aggregate demand includes the total demand for all goods and services in the economy.

• C is incorrect because it describes aggregate supply, not aggregate demand.

• D is incorrect because this option is about the production capacity of one industry, not the overall demand.

On the aggregate demand curve, the X-axis represents:

• • The price level (PL)

• • The inflation rate

• • Real GDP (rGDP)

• • Nominal interest rates

Answer explanation

• A is incorrect as the price level is on the Y-axis.

• B is incorrect because the inflation rate is not directly shown on the aggregate demand curve.

• C is correct because real GDP (rGDP) is represented on the X-axis.

• D is incorrect as nominal interest rates are not plotted on this curve.

The "wealth effect" suggests that as the price level rises, individuals will:

• • Feel wealthier and increase their spending

• • Feel poorer and reduce their spending

• Save more money as prices fall

• • Invest more in the stock market

Answer explanation

• A is incorrect because rising prices decrease purchasing power, not increase it.

• B is correct, as higher prices reduce the real value of wealth, leading to reduced spending.

• C is incorrect because saving more money is not directly connected to the wealth effect.

• D is incorrect since this option confuses investment behavior with the wealth effect.

Why is the aggregate demand curve downward sloping?

• • Because higher price levels increase unemployment

• • Because higher price levels decrease the quantity of real GDP demanded

• • Because lower prices cause inflation

• • Because it reflects decreasing supply levels

Answer explanation

Explanation:

• A is incorrect because unemployment is not the direct reason for the downward slope of the demand curve.

• B is correct because the demand for real GDP decreases as price levels rise, leading to a downward-sloping curve.

• C is incorrect because lower prices do not necessarily cause inflation.

• D is incorrect as it relates to supply rather than the reasons for the shape of the demand curve.

Which of the following causes movement along the aggregate demand curve but does not shift it?

• • A change in the price level

• • A change in consumer confidence

• • A change in government spending

• • A change in net exports

Answer explanation

Explanation:

• A is correct because changes in the price level cause movement along the curve but do not shift it.

• B is incorrect because a change in consumer confidence can shift the curve, not just cause movement along it.

• C is incorrect because changes in government spending shift the aggregate demand curve.

• D is incorrect because changes in net exports will shift the curve, not just move along it.

What happens when there is an increase in gross investment (Ig)?

• • Aggregate demand shifts to the left

• • Aggregate demand remains unchanged

• • Aggregate demand shifts to the right

• • Real GDP decreases

Answer explanation

Explanation:

• A is incorrect because an increase in gross investment does not reduce demand.

• B is incorrect because changes in investment cause shifts in the aggregate demand curve.

• C is correct because more investment increases aggregate demand, shifting it to the right.

• D is incorrect because real GDP would increase, not decrease, with more investment.

Which of the following will increase aggregate demand?

• • A decrease in consumer spending

• • An increase in government purchases

• • A decrease in business investment

• • An increase in interest rates

Answer explanation

Explanation:

• A is incorrect because a decrease in consumer spending reduces aggregate demand.

• B is correct because an increase in government spending shifts aggregate demand to the right.

• C is incorrect because a decrease in business investment lowers aggregate demand.

• D is incorrect because higher interest rates reduce business investment, lowering aggregate demand.

What will happen to aggregate demand if the U.S. dollar strengthens and net exports decrease?

• • Aggregate demand will increase

• • Aggregate demand will decrease

• • Aggregate demand will remain unchanged

• • Real GDP will rise significantly

Answer explanation

Explanation:

• A is incorrect because a stronger dollar makes U.S. goods more expensive abroad, reducing demand.

• B is correct because lower net exports shift aggregate demand to the left.

• C is incorrect as changes in net exports will shift the aggregate demand curve.

• D is incorrect because real GDP would decrease, not rise, with falling net exports.

A household earns $70,000 annually and spends $63,000. What is their Average Propensity to Consume (APC)?

• • 0.8

• • 0.9

• • 1.0

• • 0.75

Answer explanation

Explanation: APC = Consumption ÷ Income. $63,000 ÷ $70,000 = 0.9 (90%).

If the Marginal Propensity to Consume (MPC) is 0.75, what is the Marginal Propensity to Save (MPS)?

• • 0.25

• • 0.5

• • 0.75

• • 1.0

Answer explanation

Explanation: MPC + MPS = 1. If MPC is 0.75, then MPS must be 0.25 (1 – 0.75 = 0.25).