MACRO1 _________________________ Assignment: Monetary System

MACRO1
________________________
This assignment covers the following topics:
· Monetary system (Chapter 10)
· Inflation: its causes and costs (Chapter 11)
· Aggregated demand and supply (Chapter 14)
READ THE FOLLOWING FIRST (Very Important)
1. The font size has to be at least 12.
2. Explain your answers, but be succinct.
3. Label each axis and explain the diagram that you use
carefully (if any).
4. Show all of your working in order to get partial credits.
Page 1 of 8

Short Answer Questions (answer in the space provided below):
1. Review the chapter on inflation and answer the following questions.
a)Why do some economists claim that we should not worry too much about inflation?
(2 marks)
Some economists argue that we should not worry much about inflation because a
little inflation is good for the economy. As such, it helps in stimulating economic
activities; bring growth in the economy by adjusting wages and relative pries.
b)Other economists think that there are significant costs associated with inflation
above 2-3%. What are they? Briefly discuss (2 marks)
Inflation above 2-3 percent may be harmful for the economy as it reduces the value of
money. As a result, the price of goods and services increases, the purchasing power
decreases (Woodhill). Therefore causes an increase in the level of spending unlike before
the inflation arose (Dorfman).
1. According to new legislation, all workers can earn the same wage specified
in the annual contract which they sign on 1st January no matter what
happens to prices of final goods and services during that year. This year,
the prices of final goods and services fall unexpectedly after the contract has
been written on 1 January. In this exercise you must illustrate what
happens in the economy in the following AD-AS figure in the short-run. We
assume that the economy starts at potential output, depicted in point A
below.
Page 2 of 8

a)(3 marks) Start from Point A, demonstrate how the quantity of aggregate
output supplied responds to the fall in prices of final goods and services
using the figure below? Explain your answer.
b)(3 marks) Start from Point A, demonstrate what happens when firms and
workers are permitted to renegotiate their wage contracts? Explain
your answer.
a.
Page 3 of 8
SRAS0
P
Y
Y0
P0
LRAS0
AD0
A