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MGEA06H3 Study Guide - Midterm Guide: Price Level, Aggregate Supply, Aggregate Demand


Department
Economics for Management Studies
Course Code
MGEA06H3
Professor
Iris Au
Study Guide
Midterm

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MGEA06 – Chapter 12 Part 1 Review Question Answer Key
Check your understanding, 12-1, questions 1–3.
See solutions at the back of the text.
Check your understanding, 12-2, questions 1–2.
See solutions at the back of the text.
Problem #1
You are right. When a fall in the value of the Canadian dollar against other currencies makes Canadian
final goods and services cheaper to foreigners; this represents a shift of the aggregate demand curve.
Although foreigners may be demanding more Canadians goods because the price of those goods in their
own currency is lower, there is no change in the Canadian aggregate price level. From Canada
perspective, there is an increase in aggregate output demanded at any given aggregate price level.
Problem #2
The short-run aggregate supply curve slopes upward because nominal wages are sticky in the short run.
Nominal wages are fixed by either formal contracts or informal agreements in the short run. So, as the
aggregate price level falls and nominal wages remain the same, production costs will not fall by the
same proportion as the aggregate price level. This will reduce profit per unit of output, leading producers
to reduce output in the short run. Similarly, as the aggregate price level rises, production costs will not
rise by the same proportion because nominal wages will remain fixed in the short run. Profit per unit of
output will increase, leading producers to increase output in the short run. So there is a positive
relationship between the aggregate price level and the quantity of aggregate output producers are willing
to supply in the short run because nominal wages are sticky. However, in the long run, nominal wages
can and will be renegotiated. Nominal wages will change along with the aggregate price level. As the
aggregate price level rises, production costs will rise by the same proportion. When the aggregate price
level and production costs rise by the same percentage, every unit of output that had been profitable to
produce before the price rise is still profitable, and every unit of output that had been unprofitable to
produce before the price rise is still unprofitable. So aggregate output does not change. In the long run,
when nominal wages are perfectly flexible, an increase or decrease in the aggregate price level will not
change the quantity of aggregate output produced. So the long-run aggregate supply curve is vertical.
Problem#3
Part (a)
In the short run, the prices of final goods and services fall unexpectedly but nominal wages don’t
change. So firms earn a lower profit per unit and reduce output. Thus, there will be a movement along
the SRAS curve to the south-west direction.
Part (b)
When firms and workers renegotiate their wages, nominal wages will decrease, shifting the short- run
aggregate supply curve to the right.
Question 6
Part (a)
Derive the AD equation:
MGEA06 Chapter 12 Part 1 RQ Solutions Worth Publishers & Iris Au 1
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