2005 AP Macroeconomics

1. 2005 AP Macroeconomics Question 1

2. Assume that the United States economy is currently in equilibrium at the full-employment level of real gross domestic product. (i) Output Level (ii) Price Level E1

3. Japan is a major importer of United States • products. Assume that the Japanese economy • goes into a recession. • Explain the impact of the Japanese recession • on the U.S. equilibrium output and price • level. Exports to Japan Decrease: NX ↓ => AD ↓ => R-GDP ↓ E1 AD2

4. (c ) Assume that the Federal Reserve takes action to curb the effects of the Japanese recession on the U.S. economy. • What open-market operation would the • Federal Reserve undertake? Buy Gov’t Bonds Money Market MS1 MS2 Nominal Interest Rate i1 i2 MD Q1 Q2 Qty $

5. Explain how the change in the nominal interest • rate in part (c ) (ii) will affect aggregate demand • price level, and real output in the U.S. When nominal interest rates drop => Investment ↑ (I) & Consumption ↑ (C) => Therefore AD ↑

6. (d) Define the real interest rate. real rate = nominal rate – expected inflation

7. Indicate the effect of the open-market operation • you identified in part (c ) (i) on the real interest • rate in the United States. When the nominal rate is going down and the inflation rate is going up (AD shift), then the real rate must go down. Formula: real rate = nominal – expected inflation