Question

1) What happens to U.S. real GDP and the price levelin the short run, when a major trading partner enters a recession (i.e. experience decrease in their real GDP)? Assume that initially the U.S. economy is at its long-run equilibrium.

a.) What happens to real GDP and the price level, if a country enters a war and experiences destruction of its human and physical capital stocks? Assume that initially the economy is at its long-run equilibrium.

b.) Suppose an economy is experiencing a recessionary gap. Explain the state of the labor market during the recessionary gap. How would wages and the short sun supply curve change following the recessionary gap?

Answer 1

1) When the major trading parter of U.S. enters into the phase of recession, then the trade of U.S. will tend to decline to a large proportion. The decline in trade will result in fall of GDP of the country as the domestic producers of products will not be able to sell their products in the foreign market.The price level in the economy will also fall as the result of decline in GDP as the aggregate demand will also fall.

a) Due to destruction in human and physical capital stock of the country, the level of goods and services produced in the economy will fall and thus will reduce the real GDP of the country. The price level on the other hand may increase as the aggregate supply in the economy will also fall at a greater proportion.

b) During the phase of recession, the wages of the labors will decline as recession is considered as the phase of economic contraction and all the economic activities in the country will tend to fall. The short run supply curve will shoft leftwards as reduction in the economic activities will also reduce the productivity in the ecconomy.