Asked Nov 25, 2019

Explain the sticky wage and sticky-price theory.

Explain the concept of the spending multiplier.

Explain why increased government spending of, for example, $15 billion, will have a different impact on aggregate demand than a $15 billion tax cut.

Explain the concept of purchasing power parity.


Expert Answer

Step 1

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Step 2

According to the classical economists, there is always full employment in the economy. As wages and prices respond quickly to the changing market conditions.

However, according to Keynesians, the economy may operate below or above its potential equilibrium. As according to them wages and prices are rigid to the changing market conditions.

Step 3

Sticky wage theory

According to the sticky wage theory wages do not adjust quickly in the labor market.

Wages are generally sticky downwards because of the following reasons-

  • Existence of labor unions resists any decline in wages. Thus, when there is low demand of labor in the economy, the wages do not fall insta...

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