2. COMMON MISTAKES ON THE AP MACRO EXAM Compiled by: John Ostick Malvern Prep Malvern, PA 19355

3. The difference between a change in demand and the resultant movement along a demand curve vs. Shifting of the demand curve

4. P Q o $5 4 3 2 1 PQDQD $5 4 3 2 1 10 20 35 55 80 D Price of Corn Quantity of Corn CORN 10 20 30 40 50 60 70 80 What if Demand Increases? GRAPHING DEMAND

5. P Q o $5 4 3 2 1 PQDQD $5 4 3 2 1 D Price of Corn Quantity of Corn CORN 10 20 30 40 50 60 70 80 D’ Increase in Demand Increase in Quantity Demanded 10 20 35 55 80 30 40 60 80 + GRAPHING DEMAND

6. The difference between a change in supply and the resultant movement along a supply curve vs. Shifting of the supply curve

7. S P Q o $5 4 3 2 1 10 20 30 40 50 60 70 80 $5 4 3 2 1 60 50 35 20 5 PQSQS Price of Corn Quantity of Corn CORN What if Supply Increases? GRAPHING SUPPLY

8. S P Q o $5 4 3 2 1 10 20 30 40 50 60 70 80 Price of Corn Quantity of Corn $5 4 3 2 1 60 50 35 20 5 PQSQS CORN 80 70 60 45 30 S’ Increase in Supply Increase in Quantity Supplied GRAPHING SUPPLY

9. Mislabeling or NOT labeling graphs correctly

10. Price Level Real Domestic Output, GDP Q P AS AD Equilibrium in the Intermediate Range QeQe Q1Q1 Q2Q2 EQUILIBRIUM: REAL OUTPUT AND THE PRICE LEVEL P1P1 PePe

11. GROWTH IN THE AD-AS MODEL A B C D Capital Goods Consumer Goods Price Level Real GDP AS LR1 AS LR2 Q1Q1 Q2Q2

12. ECONOMIC GROWTH IN THE EXTENDED AD – AS MODEL Price Level Real GDP o P1P1 AS 2 AS LR1 AD 2 Q1Q1 AS LR2 Q2Q2 AD 1 AS 1 P2P2

13. Rate of interest, i (percent) Amount of money demanded (billions of dollars) 0 50 100 150 200 250 300 10 7.5 5 2.5 0 DmDm ieie SmSm A temporary shortage of money will require the sale of some assets to meet the need. S m1 THE MONEY MARKET

14. Net effects of Monetary Policy and/or Fiscal Policy on Interest Rate (I%)

15. FISCAL POLICY, AGGREGATE SUPPLY AND INFLATION Price level Real GDP (billions) AS AD 2 $495$515 P1P1 AD 1 Fiscal Policy And Inflation $505

16. Expansionary Fiscal Policy >> Interest Rate INCREASE Draw Money Market Increase Spending (AD)>>Increase Demand for Money>>Increase Interest Rate Higher Price Level>>Increase Demand for Money>>Increase Interest Rate

17. Expansionary Monetary Policy>> Interest Rate DECREASE

18. Real domestic output, GDP DmDm Investment Demand Real rate of interest, i 10 8 6 0 Quantity of money demanded and supplied Amount of investment, i MONETARY POLICY AND EQUILIBRIUM GDP S m1 AS AD 1 P1P1 10 8 6 0 S m2 AD 2 P2P2 Money Supply Increases Interest Rate Decreases Investment Increases AD & GDP Increases with slight inflation If the money supply increases to stimulate the economy... Price level

19. AD 3 Price level Real domestic output, GDP DmDm Investment Demand Real rate of interest, i 10 8 6 0 Quantity of money demanded and supplied Amount of investment, i MONETARY POLICY AND EQUILIBRIUM GDP S m1 AS AD 1 P1P1 10 8 6 0 S m2 AD 2 P2P2 More Money Supply Lower Interest Rates More Investment Still higher AD & GDP with significant inflation S m3 P3P3 If the money supply increases again…

20. MULTIPLIER(S) CONFUSION

21. Income (Spending) Multiplier Multiplier = 1/ 1 – MPC or 1/ MPS Initial Change in Spending X MULTIPLIER = Change in Output

22. MONEY MULTIPLIER 1 / Required Reserve Ratio Maximum Multiple $$$ Money Expansion

23. MULTIPLE DEPOSIT EXPANSION PROCESS Bank Acquired reserves and deposits Required reserves Excess reserves Amount bank can lend - New money created A B C D E F G H I J K L M N Other banks $100.00 80.00 64.00 51.20 40.96 32.77 26.22 20.98 16.78 13.42 10.74 8.59 6.87 5.50 21.97 $20.00 16.00 12.80 10.24 8.19 6.55 5.24 4.20 3.36 2.68 2.15 1.72 1.37 1.10 4.40 $80.00 64.00 51.20 40.96 32.77 26.22 20.98 16.78 13.42 10.74 8.59 6.87 5.50 4.40 17.57 $80.00 64.00 51.20 40.96 32.77 26.22 20.98 16.78 13.42 10.74 8.59 6.87 5.50 4.40 17.57 $400.00 Total amount of money created by the banking system

24. Balanced Budget Multiplier = 1 (Net Result on GDP)

25. Remembering the difference between the Amount of Money Created and the Change in the Money Supply when dealing with the Money Multiplier and Money Creation

26. New reserves $800 Excess Reserves $4000 Bank System Lending FEDERAL RESERVE PURCHASE OF BONDS Purchase of a $1000 bond from a bank... $200 Required reserves $1000 Initial Deposit Total Increase in Money Supply ($5000)

27. Confusing Comparative Advantage Calculations

28. Remembering the difference between Real and Nominal

29. Nominal: with Inflation Real: without Inflation

30. GDP Nominal GDP: GDP measured in terms of current Price Level at the time of measurement. (Unadjusted for inflation) Real GDP: GDP adjusted for inflation; GDP in a year divided by a GDP deflator (Price Index) for that year

31. INCOME NOMINAL INCOME: number of dollars received by an individual or group for its resources during some period of time REAL INCOME: amount of goods and services which can be purchased with nominal income during some period of time; nominal income adjusted for inflation

32. INTEREST RATE (I%) NOMINAL I%: interest rate expressed in terms of annual amounts currently charged for interest; not adjusted for inflation REAL I%: interest rate expressed in dollars of constant value (adjusted for Inflation) and equal to the NOMINAL I% minus the EXPECTED RATE OF INFLATION

33. Nominal Interest Rate Real Interest Rate Inflation Premium = 11% 5% 6% + ANTICIPATED INFLATION

34. WAGES NOMINAL WAGES: amount of money received by a worker per unit of time (hour, day, etc.); Money Wage REAL WAGES: amount of goods and sevices a worker can purchase with their NOMINAL WAGE; purchasing power of the nominal wage. (Real = Nominal – Inflation rate)

35. NOMINAL/REAL TIPs If nominal rates INCREASE and Price Level INCREASE, the CHANGE in Real is “indeterminable.” If nominal Wage rates do NOT change and Price Level fall. REAL WAGES increase. NOMINAL RATES “PIGGY-BACK” REAL RATES & NOT VICE VERSA.

36. Confusing calculations using MPC / MPS to determine changes necessary to correct Recessionary and Inflationary Gaps

37. FULL-EMPLOYMENT GDP Aggregate Expenditures (billions of dollars) o 45 o Real domestic product, GDP (billions of dollars) 490 510 530 AE 0 Recessionary Gap AE 1 530 510 490 Recessionary Gap = $5 Billion Full Employment

38. FULL-EMPLOYMENT GDP Aggregate Expenditures (billions of dollars) o 45 o Real domestic product, GDP (billions of dollars) 490 510 530 AE 0 Inflationary Gap AE 2 530 510 490 Inflationary Gap = $5 Billion Full Employment

39. Demand-Pull Inflation vs. Cost-Push Inflation

40. DEMAND-PULL INFLATION o P1P1 AS 1 AS LR AD 1 a Q1Q1 Price Level Real domestic output b P2P2 P3P3 AD 2 AS 2 c

41. Q2Q2 COST-PUSH INFLATION o P1P1 AS 1 AS LR AD 1 a Q1Q1 Price Level Real domestic output b P2P2 AS 2 Occurs when short-run AS shifts left

42. Q2Q2 COST-PUSH INFLATION o P1P1 AS 1 AS LR AD 1 a Q1Q1 Price Level Real domestic output b P2P2 P3P3 AD 2 AS 2 Government response with increased AD c Even higher price levels

43. COST-PUSH INFLATION o P1P1 AS 1 AS LR AD 1 a Q1Q1 Price Level Real domestic output b P2P2 AS 2 If government allows a recession to occur Q2Q2

44. Q2Q2 COST-PUSH INFLATION o P1P1 AS 1 AS LR AD 1 a Q1Q1 Price Level Real domestic output b P2P2 AS 2 If government allows a recession to occur Nominal wages fall & AS returns to its original location

45. Phillips Curve vs. Laffer Curve

46. Annual rate of inflation (percent) Unemployment rate (percent) 7654321076543210 1 2 3 4 5 6 7 As inflation declines... THE PHILLIPS CURVE CONCEPT Unemployment increases

47. 0 100 l THE LAFFER CURVE Tax revenue (dollars) Tax rate (percent)

48. 0 100 m l THE LAFFER CURVE Tax revenue (dollars) Tax rate (percent)

49. 0 100 m n l THE LAFFER CURVE Tax revenue (dollars) Tax rate (percent)

50. 0 100 m m n l THE LAFFER CURVE Tax revenue (dollars) Tax rate (percent) Maximum Tax Revenue