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Chapter 12 Solution

1. The Keynesian sticky wage model explains unemployment as arising when the fixed nominal wage turns out to be above the market-clearing wage, resulting in excess labor supply. 2. The model allows unemployment only in this scenario and has no explanation for unemployment when the wage is equal to or below market-clearing. 3. Various factors can shift the IS, LM, and aggregate demand curves in the Keynesian model, including changes in government purchases, taxes, productivity, money supply, and money demand.

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123 views

Chapter 12 Solution

1. The Keynesian sticky wage model explains unemployment as arising when the fixed nominal wage turns out to be above the market-clearing wage, resulting in excess labor supply. 2. The model allows unemployment only in this scenario and has no explanation for unemployment when the wage is equal to or below market-clearing. 3. Various factors can shift the IS, LM, and aggregate demand curves in the Keynesian model, including changes in government purchases, taxes, productivity, money supply, and money demand.

Uploaded by

hongphakdey
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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Textbook Question Solutions

Questions for Review


1. Keynesian business cycle models are still used for forecasting and policy analysis. 2. Wages are typically sticky due to institutional rigidities. Workers and firms often enter into contracts that specify a fixed nominal wage. Costs of contracting preclude such contracts from having enough contingency clauses so that the wage paid is not likely to remain equal to the market-clearing wage in the face of unforeseen disturbances. 3. Unemployment arises in the Keynesian sticky wage model when the fixed wage turns out to be above the market-clearing wage. In this circumstance, employment is determined by the demand for labor. The excess of labor supply over labor demand shows up as unemployed workers. 4. The Keynesian model allows for unemployment only when the fixed wage turns out to be too high. The Keynesian model has no explanation of unemployment when the wage is less than or equal to the market-clearing wage. The Keynesian model makes no allowance for unemployment as a means of productive job search. 5. Changes in the nominal wage and changes in current total factor productivity both shift the aggregate supply curve in the Keynesian sticky wage model. 6. Changes in current government purchases, changes in the present value of taxes, anticipated changes in future income, changes in the current capital stock, and anticipated changes in future total factor productivity all shift the IS curve. 7. Changes in the nominal money supply, changes in the current price level, and shifts in the money demand function all shift the LM curve. 8. Changes in current government purchases, changes in the present value of taxes, anticipated changes in future income, changes in the current capital stock, anticipated changes in future total factor productivity, changes in the nominal money supply, and shifts in the money demand function all shift the aggregate demand curve in the Keynesian sticky wage model. 9. An increase in the money supply increases the current price level. For a given nominal wage, the real wage declines and labor demand increases. As long as there is an excess supply of labor, the increase in labor demand increases employment and output. 10. No. Money supply shocks in the Keynesian sticky wage model counterfactually predict that the price level should be procyclical and that the real wage should be countercyclical.

11. No. Investment demand shocks in the Keynesian sticky wage model counterfactually predict that consumption should be countercyclical, that the price level should be procyclical, and that the real wage should be countercyclical. 12. In the Keynesian sticky wage model, the fixed nominal wage prevents the economy from attaining a Pareto optimum, when the fixed wage is greater than the market-clearing wage. Increases in the money supply and in government purchases allow the economy to attain a Pareto optimum at the given fixed nominal wage. 13. Either policy can be used to attain a Pareto optimum, but the results are not identical. As opposed to increasing the money supply, an increase in government purchases increases, rather than decreases the real interest rate, decreases rather than increases government spending, and provides larger increases in output and employment. 14. Prices may be sticky if there are explicit resource costs in changing nominal prices. 15. Keynesian models do not adequately explain some of the key business cycle facts. Keynesian sticky wage models typically offer no explicit account of how and why firms and workers enter into fixed-wage contracts. Keynesian sticky price models fail to explain why the costs of changing prices outweigh the costs of changing output in the face of shocks to the economy.

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