1.  Name two macroeconomic variables that decline when the economy goes into a recession. Name one macroeconomic variable that rises during a recession.

There are many potential answers.  Decline: consumption & investment

                                                      Increase:  unemployment

 2.  Draw a diagram with aggregate demand, short-run aggregate supply, and long-run aggregate supply. Be careful to label the axes correctly.

I will let you do that on your own.

3.  List and explain the three reasons why the aggregate-demand curve is downward sloping.

The aggregate-demand curve is downward sloping because: (1) a decrease in the price level makes consumers feel wealthier, which in turn encourages them to spend more, so there is a larger quantity of goods and services demanded; (2) a lower price level reduces the interest rate, encouraging greater spending on investment, so there is a larger quantity of goods and services demanded; (3) a fall in the U.S. price level causes U.S. interest rates to fall, so the real exchange rate depreciates, stimulating U.S. net exports, so there is a larger quantity of goods and services demanded.

 4.  Explain why the long-run aggregate-supply curve is vertical.

The long-run aggregate supply curve is vertical because in the long run, an economy's supply of goods and services depends on its supplies of capital, labor, and natural resources and on the available production technology used to turn these resources into goods and services. The price level does not affect these long-run determinants of real GDP.

 5. List and explain the three theories for why the short-run aggregate-supply curve is upward sloping.

This answer can be subdivided into a Classical point-of-view and discuss the misperceptions theory or a Keynesian view with the variety of arguments for sticky wages and prices.

 6.  For each of the following events, explain the short-run and long-run effects on output and the price level, assuming policymakers take no action.

        a. The stock market declines sharply, reducing consumers' wealth.

When the stock market declines sharply, wealth declines, so the aggregate-demand curve shifts to the left. In the short run, the economy moves declines from point A to point B, as output declines and the price level declines. In the long run, the short-run aggregate-supply curve shifts to the right to restore equilibrium at point with unchanged output and a lower price level compared to the original point.

        b. The federal government increases spending on national defense.

When the federal government increases spending on national defense, the rise in government purchases shifts the aggregate-demand curve to the right, as shown in the figure. In the short run, the economy moves from point A to point B, as output and the price level rise. In the long run, the short-run aggregate-supply curve shifts to the left to restore equilibrium at point C, with unchanged output and a higher price level compared to point A.

        c. A technological improvement raises productivity.

This is one that is potentially difficult.  Does it increase short run or both short and long run.  I will answer with the later.  When a technological improvement raises productivity, the long-run and short-run aggregate-supply curves shift to the right. The economy moves to a short run position at the intersection of AD and SRAS, with output increasingt and the price level decreasing.

        d. A recession overseas causes foreigners to buy fewer U.S. goods.

When a recession overseas causes foreigners to buy fewer U.S. goods, net exports decline, so the aggregate-demand curve shifts to the left, as shown in the figure. In the short run, the economy moves from point A to point B, as output declines and the price level declines. In the long run, the short-run aggregate-supply curve shifts to the right to restore equilibrium at point C, with unchanged output and a lower price level compared to point A.