Chapter 6R, Problem 3FRQ

a)

To determine

The graph of aggregate demand and aggregate supply that shows an economy is experiencing a recession.

Explanation of Solution

The following graph of aggregate demand and aggregate supply shows that an economy is experiencing a recession:

  

This graph shows a recessionary gap between the real GDP of the economy and GDP at full employment. In this graph, PL₁ is the equilibrium price where demand and supply are equal and the equilibrium quantity is labeled by Y_1.

Economics Concept Introduction

Introduction: When there is a general fall in economic activity, then there is a recession which involves the contraction of the business cycle in the economy. Recessions typically start when consumer spending falls dramatically across the board.

b)

To determine

The discretionary policy which is most likely to help fight the recession, according to the macroeconomic consensus

Explanation of Solution

According to macroeconomic consensus, an expansionary monetary policy would be the best to eliminate the recession in the economy because this policy can increase the aggregated demand in the economy. Through this policy, the government can increase the supply of money at a fast rate which is not usually possible by decreasing the interest rate. The central bank will execute this policy by using open market operations to remove recession.

Economics Concept Introduction

Introduction: When there is a general fall in economic activity, then there is a recession which involves the contraction of the business cycle in the economy. Recessions typically start when consumer spending falls dramatically across the board.

c)

To determine

The way through which a discretionary policy can effectively eliminate recession

Explanation of Solution

When the economy is in a slump, the Fed may implement an expansionary monetary policy while a discretionary fiscal policy may reduce taxes and boost expenditure.

This policy is implemented by decreasing the Fed funds rate and quantitative easing will be used. By using this policy, spending would be increased during a recession so that the economy experiences a boost in demand. This will, in turn, cut down the recession.

Moreover, this policy lowers the interest rates which would encourage consumer spending and company

Economics Concept Introduction

Introduction: When there is a general fall in economic activity, then there is a recession which involves the contraction of the business cycle in the economy. Recessions typically start when consumer spending falls dramatically across the board.