1. II. Fiscal Policy Related Formulas:
A. Average Propensity to Consume:
= Consumption divided by DI
B. Average Propensity to Save:
= Savings divided by DI
C. Marginal Propensity to Consume:
= Change in Consumption divided by change in DI
D. Marginal Propensity to Save:
= Change in Savings divided by change in DI
E. Spending Multipliers = There are three types:
1. Government Spending or Investment Multiplier
= 1/(1-MPC) or 1/MPS
2. Tax Multiplier
= -MPC/(1-MPC)
3. Balanced Budget Multiplier.
Always equals one.
From a pure math standpoint, this is because it involves the
combination of the Government Spending or Investment Multiplier
with the Tax Multiplier. What really causes this is that G or I spending is part of AD and goes directly into circular flow while taxes have a slight delay, which accounts for the formula.
F. Interest Rate on Bonds:
Interest paid divided by price of the bond.
*** Note that there is an inverse relationship between bond prices and the interest rate on bonds.

2. AD/AS Model
Full Employment equilibrium exists where AD intersects SRAS & LRAS at the same point.
LRAS
SRAS PL P AD YF
GDPR
** Please note that I prefer to use the upward sloping SRAS curve. However, you
can use a straight line (it is also easier to do on MS Power Point).

3. Recessionary Gap
A recessionary gap exists when equilibrium occurs below full employment output.
SRAS
LRAS PL P AD Y YF
GDPR

4. Inflationary Gap
An inflationary gap exists when equilibrium occurs beyond full employment output.
LRAS
SRAS PL P AD YF Y
GDPR

5. C↑, IG↑, G↑ and/or XN↑ .: AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
Increase in AD
SRAS
LRAS PL  P1  P
AD1 AD  Y YF
GDPR
C↑, IG↑, G↑ and/or XN↑ .: AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑

6. C↓, IG↓, G↓ and/or XN↓ .: AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
Decrease in AD
LRAS PL
SRAS  P  P1 AD
AD1  YF Y
GDPR
C↓, IG↓, G↓ and/or XN↓ .: AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓

7. Increase in SRAS Input Prices↓, Productivity↑, and/or Deregulation
LRAS PL
SRAS1  P  P1 AD  Y YF
GDPR
Input Prices↓, Productivity↑, and/or Deregulation
.: SRAS  .: GDPR↑ & PL↓ .: u%↓ & π%↓

8. Decrease in SRAS Input Prices↑, Productivity↓, and/or Regulation
LRAS PL
SRAS  P1  P AD  Y1 YF
GDPR
Input Prices↑, Productivity↓, and/or Regulation
.: SRAS  .: GDPR↓ & PL↑ .: u%↑ & π%↑

9. AS / AD Summary KNOW IT!!! ΔC, ΔIG, ΔG, and/or ΔXN = Δ AD
AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
Δ Input Prices, Δ Productivity,
and/or Δ Regulation = Δ SRAS
SRAS  .: GDPR↑ & PL↓ .: u%↓ & π%↓
SRAS  .: GDPR↓ & PL ↑ .: u%↑ & π%↑
The AS/AD Model is the most important graph in AP Macroeconomics.
KNOW IT!!!

10. The Investment Demand Curve
Changes in r% cause changes in IG. Factors other than r% may shift the entire ID curve r% 5%  3% ID  IG
$2 trillion
$3 trillion

11. Shifts in Investment Demand (ID)
- Cost of Production
-Lower costs shift ID 
- Higher costs shift ID 
- Business Taxes
- Lower business taxes shift ID 
- Higher business taxes shift ID 
Technological Change
- New technology shifts ID 
- Lack of technological change shifts ID 
Stock of Capital
- If an economy is low on capital, then ID 
- If an economy has much capital, then ID 
Expectations
- Positive expectations shift ID 
- Negative expectations shift ID 

12. Shifts in Investment Demand
When investment demand shifts, different levels of gross private investment occur even while r% remains constant r%  4%
ID1 ID IG
$2.5 trillion
$3.25 trillion

13. Loanable Funds Market
The Loanable Funds Market graph’s primary use is for
Fiscal Policy, especially when the government uses
deficit spending to fight recession. It might also be
used when the government buys back bonds from the
public to reduce the national debt.

14. Thoughts on Loanable Funds
Loanable funds market determines the real interest rate (r%).
Loanable funds market relates saving and borrowing.
Changes in saving and borrowing create changes in loanable funds and therefore the r% changes.
When government does fiscal policy it will affect the loanable funds market.
Changes in the real interest rate (r%) will affect Gross Private Investment

15. Changes in Exchange Rates
Exchange rates (e) are a function of the supply and demand for currency.
An increase in the supply of a currency will decrease the exchange rate of a currency
A decrease in supply of a currency will increase the exchange rate of a currency
An increase in demand for a currency will increase the exchange rate of a currency
A decrease in demand for a currency will decrease the exchange rate of a currency

16. Appreciation and Depreciation
Appreciation of a currency occurs when the exchange rate of that currency increases (e↑)
Depreciation of a currency occurs when the exchange rate of that currency decreases (e↓)
Ex. If German tourists flock to America to go shopping, then the supply of Euros will increase and the demand for Dollars will increase. This will cause the Euro to depreciate and the dollar to appreciate.

17. of Yen relative to the Euro .: ¥ appreciates relative to €
Decrease in the Supply
of Yen relative to the Euro
€/¥
S¥1 S¥ e1 e D¥ Q¥ q1 q
S¥  .: e ↑ & Q¥ ↓
.: ¥ appreciates relative to €

18. for the British Pound relative to the U.S. Dollar
Increase in the Demand
for the British Pound relative to the U.S. Dollar
$/£ S£ e1 e
D£ 1 D£ Q£ q q1
D£  .: e ↑ & Q£ ↑
.: £ appreciates relative to the $

19. for Yen relative to the British Pound
Decrease in the Demand
for Yen relative to the British Pound
£/¥ S¥ e e1 D¥
D¥ 1 Q¥ q1 q
D¥  .: e ↓ & Q¥ ↓
.: ¥ depreciates relative to the £

20. of U.S. Dollars relative to the Euro .: $ depreciates relative to €
Increase in the Supply
of U.S. Dollars relative to the Euro
€ / $ S$
S$ 1 e e1 D$ Q$ q q1
S$  .: e (ex. rate) ↓ & Q$ ↑
.: $ depreciates relative to €

21. Exchange Rate Determinants
Consumer Tastes
Ex. a preference for Japanese goods creates an increase in the supply of dollars in the currency exchange market which leads to depreciation of the Dollar and an appreciation of Yen
Relative Income
Ex. If Mexico’s economy is strong and the U.S. economy is in recession, then Mexicans will buy more American goods, increasing the demand for the Dollar, causing the Dollar to appreciate and the Peso to depreciate

22. Exchange Rate Determinants (continued)
Relative Price Level
Ex. If the price level is higher in Canada than in the United
States, then American goods are relatively cheaper than
Canadian goods, thus Canadians will import more
American goods causing the U.S. Dollar to appreciate
and the Canadian Dollar to depreciate.
Speculation
Ex. If U.S. investors expect that Swiss interest rates will climb in the future, then Americans will demand Swiss Francs in order to earn the higher rates of return in Switzerland. This will cause the Dollar to depreciate and the Swiss Franc to appreciate