Question

Explain why each of the following statements is True, False, or Uncertain according to economic principles. Use diagrams where appropriate. Unsupported answers will receive no marks. It is the explanation that is important.

A6-1. An economy with a recessionary gap will never return to long run equilibrium without policy intervention.

A6-2. In a closed economy, investment will equal the sum of private saving and government saving.

A6-3. An increase in private saving for a closed economy implies lower consumption in long-run equilibrium and also leads to lower GDP growth.

A6-4. You have two Canadian dimes. One is from 1962 and contains 25 cents worth of silver; the other is from 2013 and contains no silver. You would clearly use the later coin when paying for a coffee rather than the earlier one.

Answer 1

1) false

Recessionary gap can be rectified automatically. When there is recessionary gap output is below full employment. This means labour supply is greater than labour demand, this leads to lower wage rate. Low wage rate is a reduction in production cost which increases aggregate supply in the long run. So the long run equilibrium will be reached but it will take longer time.

2) True

Investment equals total saving. Whatever is saved is invested in the country only since there is no international trade.

3) false

An increase in private saving will lead to lower consumption in the short run but over time higher saving implies higher investment which implies increase in aggregate demand and hence equilibrium income. When income increases consumption spending increases. Therefore in long run consumption and gdp growth both are higher.

4) Uncertain

The value of silver coin is 25 cents and value of other coin is unknown. Also the price of coffee is not known. So we cannot decide which coin to use.