The question examined students’ understanding of the aggregate demand–aggregate supply (AD–AS)
model in a recessionary gap and the fiscal policy action that can be pursued to restore full
employment; the effects of a change in investment spending; the natural rate of unemployment; and the
effects of a change in private savings. Part (a) required students to draw a correctly labeled graph of
aggregate demand, short-run aggregate supply, and long-run aggregate supply, and show the current
equilibrium and the full-employment output. In part (b) students were asked to identify one fiscal
policy action the country’s government can take to restore full employment. In part (c) students were
asked to assume instead that no fiscal policy action is taken and to calculate the minimum change in
investment spending that could have caused a given increase in real GDP. In part (d) students were
asked to show the short-run effect of the change in investment spending identified in part (c) on their
AD–AS graph. In part (e) students were asked to identify and explain, given their answer to part (d),
whether the actual rate of unemployment is greater than, less than, or equal to the natural rate of
unemployment. In part (f) students were asked to assume that private savings now increase and to
draw a correctly labeled graph of the loanable funds market showing the effect of the increase in
private savings on the real interest rate. Finally, in part (g) based solely on the change in the real
interest rate shown in part (f), students were asked to identify and explain what will happen to real
GDP in the short run and to long-run aggregate supply.