1. [5 participation points] Sort the following shocks into real shocks or aggregate demand shocks. Remember that "shocks" include both good and bad events. A fall in the price of oil A rise in consumer optimism A hurricane that destroys factories in Florida Good weather that creates a bumper crop of California oranges A rise in sales taxes Foreigners watch fewer U.S.-made movies Fear New inventions occur at a faster pace A faster money growth rate2. [5 participation points] Consider a negative real shock. What does it do to inflation? Does it rise, fall, or remain unchanged? What does a it do to spending growth? Does it rise, fall, or remain unchanged? Draw the AS-AD model graph and explain. 3.[5 participation points] After a monetary shock hits aggregate demand, which curve will shift to bring output growth back to the Solow growth rate: the short-run aggregate supply curve or the aggregate demand curve? (Hint: Which curve is more like a microeconomic story about prices adjusting in order to bring supply and demand into balance?) 4. [5 participation points] A country with a relatively small positive aggregate demand shock (a shift outward in the AD curve) may have a substantial economic boom, but sometimes countries that have massive increases in the AD curve (e.g., hyperinflation countries like Germany before World War ) don't seem to have massive economic booms. Why does a small AD increase sometimes raise GDP much more than a giant AD increase? 5. [5 participation points]Sticky wages can be thought of as a price ceiling or price floor in the labor market. Suppose the there is a negative AD shock and to return to the long-run growth rate wages and prices need to drop. However, wages are sticky. Shall we think of the long-run equilibrium wage as above or below the "sticky wage"? Does this generate an excess supply or excess demand of labor? Draw the market for labor assuming that labor supply is constant (or perfectly inelastic). Recall: Workers supply labor, and firms demand labor. 6. [5 participation points] Provide three reasons why prices and/or wages may be sticky in the short-run. Describe how sticky prices and/or wages are related to the shape of the SRAS curve. During the 1990s, the U.S. economy experienced a relatively quick transition to the electronic age of computers and the Internet. (a) Use the aggregate demand and supply model to show the effects of widespread computer and Internet usage on the economy if spending growth remains unchanged. (b) Suppose that velocity increases due to greater consumer confidence because of your findings in part a. First, does greater consumer confidence make sense? Why? (c) Second, how will this affect inflation and GDP growth in the long run