Question from Past Macroeconomics Qualifying Exam (Fall, 2002 - Question three) at George Mason University[]

Suppose that a hurricane swamps a good part of Miami or an earthquake flattens much of Los Angeles. These would constitute significant supply-side shocks. With reference to the main macro frameworks in play at the present time,

  • (1) sketch the resulting aggregative consequences and
  • (2) explore the scope for a simulative policy response by the federal government. Be sure to use the appropriate simple models in developing your response.



A Sudden Change: Earthquake / Hurricane

A Solow style production function and the Keynesian short-run are show to correspond here. The decrease in labor (a specific type of capital) causes a decrease in output. Also the whole production function decreases because of a fall in the relevent infrastructure (some technology component of "alpha"). This happens at the same time that aggregate supply is falling. This is a movement allong the aggregate demand curve to a short-run equilibrium of higher prices and lower output.

As infrastructure returns an investment in capital rebuilding will be advantageous, since returns to investmnent here are better than in non-disaster areas. The economy begins to return to normal.

With the government rebuilding relative prices are ignored, there is no way to determine the highest neccesity of rebuilding. The infrastructure improvement could be facilitated (because thye are crowded out by public contracts) but the investment side will be created through some cueing, favoritisem, or dumb luck. This will result in lower returns and a longer period of recovery.

This macro-stub needs improving.

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