What is AP Macroeconomics?
AP Macroeconomics is a high school course designed to teach students the fundamentals of economics at a macro level. It covers GDP, unemployment, inflation, monetary and fiscal policies, and international trade. A major component of the course includes understanding aggregate supply and demand, and tools for analyzing economic fluctuations. The course culminates in the AP exam, which features multiple-choice and free response questions, including scenarios involving aggregate supply and demand. Mastering these topics can help students earn college credit and better prepare for advanced economics courses.
Where did we get these AP Macroeconomics free response questions on aggregate supply and demand?
The AP Macroeconomics free response questions on aggregate supply and demand provided here are sourced from official College Board exams and teacher-developed practice materials. These questions are carefully selected to align with key concepts covered in the AP Macroeconomics curriculum. Each question focuses on scenarios analyzing aggregate supply, aggregate demand, or shifts in either curve due to various economic changes. By practicing with these real and high-quality examples, students can enhance their understanding, test-taking skills, and overall readiness for the AP exam.
How to use these AP Macroeconomics free response questions
Use these AP Macroeconomics free response questions on aggregate supply and demand to maximize your learning as timed practice. Start by reading the question carefully, then outline your answer with clear labels and diagrams where necessary. Focus on explaining shifts in aggregate supply or demand and the resulting impact on equilibrium output, price levels, and the economy. Review the scoring rubric to understand how points are awarded. Practicing consistently with these questions will boost your confidence and help you ace the AP exam.
What is the Financial Sector?
The financial sector encompasses institutions and markets that facilitate the flow of money and investments in an economy. It includes banks, insurance companies, stock markets, and investment firms. This sector plays a crucial role in allocating resources, managing risks, and fostering economic growth. By providing credit, liquidity, and financial services, it supports businesses, governments, and individuals, ensuring a stable and efficient economy.
You might benefit from checking out our detailed AP Macro Notes on The Financial Sector.
What is the Loanable Funds Market?
The loanable funds market is where borrowers and lenders interact to exchange funds. It determines the equilibrium interest rate based on the supply of savings and the demand for loans. Savers provide funds, while businesses and governments borrow to invest. This market is crucial for capital allocation, impacting investment, economic growth, and financial stability by balancing saving and borrowing activities within an economy.
AP Macroeconomics Free Response Questions on The Financial Sector
Question 1
Assume a country’s economy is operating below full employment.
(a) Draw a correctly labeled graph of aggregate demand, short-run aggregate supply, and long-run aggregate supply, and show each of the following. (i) The current equilibrium real output and price level, labeled as Y1 and PL1, respectively (ii) The full-employment output, labeled as YF
(b) Identify one fiscal policy action the country’s government can take to restore full employment.
(c) Assume instead that no fiscal policy action is taken. Suppose a change in investment spending causes real GDP to increase by $ 200 billion. Calculate the minimum change in investment spending that could have caused this increase in real GDP if the marginal propensity to save is 0.25. Show your work.
(d) Assume the output gap was initially $ 800 billion. On your graph in part (a), show the short-run effect of the change in investment spending identified in part (c), labeling the new equilibrium real output as Y2 and the new equilibrium price level as PL2.
(e) Given your answer to part (d), is the actual rate of unemployment greater than, less than, or equal to the natural rate of unemployment? Explain.
(f) Assume that private savings now increase. Draw a correctly labeled graph of the loanable funds market and show the effect of the increase in private savings on the real interest rate.
(g) Based solely on the change in the real interest rate shown in part (f), what will happen to each of the following? (i) Real GDP in the short run. Explain. (ii) Long-run aggregate supply. Explain.
Question 2
Assume that commercial banks must hold a minimum of 20% of their deposits as reserves. Now suppose that the central bank of the country sells $100,000 of government bonds to commercial banks.
(a) Calculate the maximum change and state the direction of change in the money supply as a result of the central bank bond sale. Show your work.
(b) Draw a correctly labeled graph of the money market and show the effect of the change in the money supply identified in part (a) on the nominal interest rate.
(c) Given the change in the money supply in part (a), if the velocity of money is constant, what will happen to the nominal gross domestic product? Explain.
(d) Based on the change in the nominal gross domestic product in part (c), what happens to the price level if the real gross domestic product is constant?
Question 3
The economy of Country Zeta is in long-run equilibrium; however, the government is concerned about the size of the national debt.
(a) Identify one specific fiscal policy action the government could take to reduce the national debt.
(b) Draw a correctly labeled graph of the loanable funds market, and show the effect of the fiscal policy action identified in part (a) on the real interest rate.
(c) Based on the change in the real interest rate identified in part (b), what will happen to each of the following? (i) Aggregate demand in the short run. Explain. (ii) Potential real output. Explain.
Question 4
Assume that households in Econland increase their savings for retirement.
(a) Using a correctly labeled graph of the loanable funds market, show how the increase in savings will affect the equilibrium real interest rate.
(b) Based solely on the real interest rate change identified in part (a), what will happen to Econland’s purchases of foreign assets? Explain.
(c) Consider the foreign exchange market for Econland’s currency. (i) Based on your answer to part (b), what will happen to the international value of Econland’s currency? (ii) Based on your answer to part c (i), would Econland’s central bank buy or sell its currency in the foreign exchange market to offset the change in the value of its currency?
Question 5
Assume the economy of Artland is currently operating above full employment.
(a) Draw a correctly labeled graph of the short-run aggregate supply, long-run aggregate supply, and aggregate demand curves, and show each of the following. (i) The current equilibrium real output and price level, labeled as Y1 and PL1, respectively (ii) The full-employment output, labeled as Yf
(b) Assume the central bank and the government do not take any policy actions to close the output gap. (i) On your graph in part (a), show how the economy automatically adjusts in the long run and label the new equilibrium price level PL2. (ii) Explain the cause of the adjustment shown in part (b)(i).
(c) Alternatively, suppose the government wants to close the output gap using fiscal policy. (i) Identify a fiscal policy action the government could implement to close the output gap. (ii) How will the fiscal policy action identified in part (c)(i) affect the following? – The unemployment rate – The natural rate of unemployment (iii) In closing the output gap, will the automatic adjustment identified in part (b)(i) produce a higher, a lower, or the same price level compared to the fiscal policy identified in part (c)(i) ?
(d) Draw a correctly labeled graph of the market for loanable funds. Show the effect of the fiscal policy action identified in part (c)(i) on the equilibrium real interest rate.
(e) Given the interest rate change identified in part (d), will the long-run aggregate supply curve shift to the right, shift to the left, or remain the same in the long run? Explain.
Question 6
Assume that an economy is in long-run equilibrium. Assume that consumers wish to hold less money because they use credit cards more frequently to purchase goods and services than cash.
(a) Draw a correctly labeled graph of the money market and show the effect of the reduced holdings of money on the equilibrium nominal interest rate in the short run.
(b) Based on the change in the interest rate in part (a), what will happen to each of the following in the short run? (i) Prices of previously issued bonds (ii) The price level and real income. Explain.
(c) With a constant money supply, based on your answer to part b(ii), will the velocity of money increase, decrease, or remain the same, or is the change indeterminate?
(d) If the central bank wishes to reverse the change in the interest rate identified in part (a), what open market operation would it use?
Question 7
A country is at full employment and produces two types of goods: consumer goods and capital goods.
(a) Draw a correctly labeled graph of the production possibilities curve, with consumer goods on the horizontal axis and capital goods on the vertical axis. Indicate a point on your graph, labeled X, that represents full employment and a possible combination in which both goods are being produced.
(b) Assume there is an increase in the country’s national savings. Draw a correctly labeled graph of the loanable funds market, showing the change in the real interest rate from the increase in savings.
(c) On the same graph from part (a), show another point, labeled Z, that represents full employment and a new combination of consumer goods and capital goods consistent with the increase in the country’s national savings.
(d) Referring to your answer to part (c), will the long-run aggregate supply curve shift to the right, shift to the left, or remain the same? Explain.
Question 8
The following is the balance sheet of First Superior Bank.
(a) What is the dollar value of new loans that First Superior Bank can make? Explain.
(b) Mr. Smith deposits $100 of cash in a demand deposit account in First Superior Bank. Calculate the maximum amount of new loans that First Superior Bank can now make.
(c) As a result of Mr. Smith’s $100 cash deposit, calculate the maximum change over time in each of the following in the banking system. (i) Loans (ii) Demand deposits
(d) As a result of Mr. Smith’s $100 cash deposit, calculate the maximum change over time in the money supply.
(e) Provide one reason why the actual change in money supply can be smaller than the maximum change you identified in part (d).
Answer Key
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Mark is an A-Level Economics tutor who has been teaching for 6 years. He holds a masters degree with distinction from the London School of Economics and an undergraduate degree from the University of Edinburgh.