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Unit notes and practice questions

Grade 12 Economics unit 2: Aggregate demand and aggregate supply analysis

Everything here is for unit 2 of the Grade 12 Economics textbook: what the chapter covers, the short notes, practice questions with their answers, and the lesson video where one exists.

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4
Cards
10
Practice questions on unit 2
26–48
The textbook pages for unit 2

What unit 2 covers

  1. 1.Aggregate Demand
  2. 2.Concept of Aggregate Demand
  3. 3.The Aggregate Demand Curve
  4. 4.Shifts in the Aggregate Demand Curve
  5. 5.Aggregate Supply
  6. 6.Concept of Aggregate Supply
  7. 7.The Upward Sloping Aggregate Supply Curve: The Short Run (SRAS)
  8. 8.The Vertical Aggregate Supply Curve: The Long Run (LRAS)
  9. 9.Equilibrium of Aggregate Demand and Aggregate Supply
  10. 10.Shocks to Aggregate Demand
  11. 11.Shocks to Aggregate Supply

Short notes for unit 2

The cards filed under this chapter on the Grade 12 Economics page. Open one at a time.

Supply HorizonCurve SlopeKey Assumption
Keynesian Aggregate SupplyHorizontalWidespread unemployment and rigid wages allow output expansion at constant prices
Short-Run Aggregate Supply (SRAS)Upward slopingSticky wages and worker misperceptions cause output to respond positively to price level
Long-Run / Classical Supply (LRAS)VerticalFully flexible prices and wages ensure the economy produces at natural real GDP (QNQ_N)

When you use it

Use when identifying the differences between Keynesian, short-run, and long-run classical aggregate supply curves.

Watch out

The vertical LRAS curve is positioned strictly at natural real GDP, meaning price level changes in the long run have zero effect on real output.

Drafted from Grade 12 Economics, pages 26-48, then checked twice before it went up

AD=C+I+G+(X−M)AD = C + I + G + (X - M)
ADAD
Aggregate demandETB\text{ETB}
CC
Consumption expenditure by householdsETB\text{ETB}
II
Private Investment spendingETB\text{ETB}
GG
Government Purchases of goods and servicesETB\text{ETB}
XX
Exports valueETB\text{ETB}
MM
Imports valueETB\text{ETB}

When you use it

Use when calculating total aggregate demand or evaluating how a change in any macroeconomic sector spending affects aggregate demand.

Watch out

Do not add imports. Net exports is exports minus imports, so an increase in imports reduces aggregate demand.

Drafted from Grade 12 Economics, pages 26-48, then checked twice before it went up

When you use it

Use when determining whether an economic event causes a movement along the AD or AS curve or shifts the entire curve.

Watch out

A change in the general price level ONLY causes a movement along the existing AD or AS curve (change in quantity demanded or supplied). Non-price factors such as taxes, input costs, and money supply shift the entire curve.

Drafted from Grade 12 Economics, pages 26-48, then checked twice before it went up

Wr=WPW_r = \frac{W}{P}
WrW_r
Real wageETB\text{ETB}
WW
Nominal wageETB\text{ETB}
PP
Price level indexdimensionless\text{dimensionless}

When you use it

Use when determining the purchasing power of wages or explaining why sticky wages make the short-run aggregate supply curve slope upward.

Watch out

When the price level falls while nominal wage is locked by contract, the real wage rises, which causes firms to hire fewer workers and reduce output.

Drafted from Grade 12 Economics, pages 26-48, then checked twice before it went up

Practice questions on unit 2

10 multiple-choice questions written against this chapter, each with its answer and the reason. Try one before you open the answer.

Question 1

What are the four major components that make up aggregate demand (AD)?

  1. A.Household consumption, private investment, government purchases, and net exports
  2. B.Household savings, business taxes, government debt, and total imports
  3. C.Wages, corporate profits, rental income, and interest payments
  4. D.Agricultural output, industrial manufacturing, service sector, and gross exports
Show the answer and why

Answer: A Household consumption, private investment, government purchases, and net exports

Why

According to the textbook, aggregate demand consists of four major components: household consumption demand (C), private investment demand (I), government purchases (G), and net export demand (X - M), so AD = C + I + G + (X - M).

Question 2

According to the textbook, what is the shape of the classical aggregate supply curve?

  1. A.Horizontal
  2. B.Vertical
  3. C.Downward sloping
  4. D.U-shaped
Show the answer and why

Answer: B Vertical

Why

The classical aggregate supply curve is vertical because classical economists assume that the labour market is always in equilibrium with full employment of the labour force.

Question 3

Which of the following causes a movement along a single aggregate demand curve rather than a shift of the curve?

  1. A.A change in consumer wealth
  2. B.A change in personal income taxes
  3. C.A change in the general price level
  4. D.A change in government military spending
Show the answer and why

Answer: C A change in the general price level

Why

A change in the general price level causes a change in the quantity demanded of real GDP, which is shown as a movement along the same aggregate demand curve. Other factors shift the entire curve.

Question 4

A worker in Addis Ababa earns a nominal wage of 30 birr per hour. If the price level index is 1.50, what is the worker's real wage?

  1. A.15 birr
  2. B.20 birr
  3. C.28.50 birr
  4. D.45 birr
Show the answer and why

Answer: B 20 birr

Why

Real wage is calculated as Nominal wage divided by Price level. Here, 30 birr / 1.50 = 20 birr.

Question 5

How does the interest rate effect explain the downward slope of the aggregate demand curve?

  1. A.A higher price level reduces money holdings, which automatically lowers the nominal exchange rate.
  2. B.A higher price level increases the demand for money, raising interest rates and reducing investment and interest-sensitive consumption.
  3. C.A lower price level increases taxes, which reduces disposable income and lowers total business borrowing.
  4. D.A lower price level makes domestic goods cheaper to foreign buyers, which increases net exports.
Show the answer and why

Answer: B A higher price level increases the demand for money, raising interest rates and reducing investment and interest-sensitive consumption.

Why

A higher price level increases the demand for money. With a fixed money supply, this drives up interest rates, which discourages investment spending and interest-sensitive consumption spending, lowering the quantity of real GDP demanded.

Question 6

Suppose the Ethiopian Birr depreciates against foreign currencies. Holding other factors constant, how does this affect Ethiopia's net exports and aggregate demand?

  1. A.Foreign goods become cheaper, imports rise, and aggregate demand shifts left.
  2. B.Ethiopian exports fall, imports increase, and aggregate demand decreases.
  3. C.Foreign goods become more expensive, exports rise, imports fall, and aggregate demand increases.
  4. D.There is no effect because exchange rates only affect microeconomic markets.
Show the answer and why

Answer: C Foreign goods become more expensive, exports rise, imports fall, and aggregate demand increases.

Why

When the Birr depreciates, foreign goods become more expensive so Ethiopians cut back on imports. At the same time, Ethiopian goods become cheaper for foreigners, so exports rise. As net exports rise, aggregate demand increases (shifts right).

Question 7

According to the sticky wage theory, why does a decrease in the general price level lead to a decline in real output supplied in the short run?

  1. A.Nominal wages fall faster than prices, causing workers to quit.
  2. B.Real wages rise because nominal wages are locked in, causing firms to cut back on hiring and production.
  3. C.Firms face higher nominal wage rates due to government labor regulations.
  4. D.Workers demand higher nominal wages whenever the general price level drops.
Show the answer and why

Answer: B Real wages rise because nominal wages are locked in, causing firms to cut back on hiring and production.

Why

Because nominal wages are locked in by contracts in the short run, a falling price level raises the real wage (Nominal wage / Price level). Higher real wages increase production costs, leading firms to reduce their labor demand and cut output.

Question 8

What will happen to the short-run aggregate supply (SRAS) curve if equilibrium wage rates across the economy rise?

  1. A.The SRAS curve will shift to the left.
  2. B.The SRAS curve will shift to the right.
  3. C.The economy will move downward along the existing SRAS curve.
  4. D.The SRAS curve will become completely horizontal.
Show the answer and why

Answer: A The SRAS curve will shift to the left.

Why

Higher wage rates increase the cost per unit for firms. At any given price level, higher costs reduce profitability, leading firms to reduce output. This causes a leftward shift of the SRAS curve.

Question 9

According to the worker misperceptions theory, why does a fall in the price level lead to a temporary decrease in aggregate supply in the short run?

  1. A.Firms mistakenly believe input costs have risen and therefore shut down.
  2. B.Workers notice their lower nominal wages but misjudge the price drop, mistakenly believing their real wage has fallen.
  3. C.Consumers misperceive lower prices as a sign of poor product quality and refuse to buy.
  4. D.The government miscalculates the inflation rate and increases income taxes.
Show the answer and why

Answer: B Workers notice their lower nominal wages but misjudge the price drop, mistakenly believing their real wage has fallen.

Why

Under worker misperceptions, workers notice the drop in their nominal wage immediately but do not realize that the price level has dropped proportionally. Thinking their real wage has fallen, they reduce the quantity of labour supplied, causing output to decline.

Question 10

In the long run, when all wages and prices have fully adjusted and worker misperceptions no longer exist, the level of real output produced by the economy is called:

  1. A.Excess real GDP
  2. B.Static real GDP
  3. C.Natural or full-employment real GDP
  4. D.Short-run equilibrium real GDP
Show the answer and why

Answer: C Natural or full-employment real GDP

Why

In the long run, sticky wages and misperceptions disappear. The economy produces the full-employment real GDP, also known as the natural real GDP (denoted as QN), represented by the vertical LRAS curve.

The app holds 12 questions on this unit, marked as you go. These are the first 10.

The textbook pages for unit 2

Unit 2 runs from page 26 to page 48 of the Ministry of Education edition.

Ministry of Education edition, English, 214 pages

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All Grade 12 Economics short notes

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