Download Here - Queen`s Economics Department

Queen’s University
Department of Economics
Econ 222
Midterm Examination
Spring 2001
May 29th, 2001
Marina Adshade
Please read all the questions carefully. Record your responses in the answer
booklet provided. Answers without any explanations will receive zero marks. You
are encouraged to draw diagrams to support your answers. The exam has two
parts.
Part I consists of true, false, uncertain question. Marks will be awarded based on
the logical arguments given to support your answer. Do any five of the seven
questions. Each question is worth 10 marks for a total of 50 marks.
Part II consists of long questions. Do any two of the three questions. Each
question is worth 25 marks for a total of 50 marks.
The exam is 90 minutes long. Upon completion of your exam, only hand in the
answer booklet. Keep the question paper for future reference.
Good Luck!
Part I
Answer any 5 of the following 7 questions. Please explain whether
they are true, false or uncertain. Each question is worth 10 marks for
a total of 50. One mark will be allocated for correctly stating whether
the statement is true, false or uncertain. The remained of the marks
will be given based on the explanation.
1. A government decides to cut taxes and finance their spending by
creating a budget deficit. Macroeconomists agree that by doing so
they will increase the current account deficit.
2. The Canadian government announces a decision to fund universal
daycare while keeping taxes constant. Assuming a Keynesian
consumption function this decision will increase absorption and
decrease the current account by less than the cost of financing the
program.
3. An increase in aggregate wealth will cause an increase in
consumption and savings, increasing the level of desired savings and
desired investment and decreasing the interest rate when the goods
market is in equilibrium.
4. It is possible to have an increase in both the employment rate and
the employment ratio at the same time.
5. A new productivity breakthrough in computer technology increases
the Marginal Productivity of Labour next year relative to this year.
This reduces this year’s level of employment and increases this
year’s real wage.
6. A Canadian purchases a surfboard from California for $100. The
surfboard shop in California uses the $ 100 to purchase US dollars
from a bank. The bank sells the $100 to the Bank Of Canada for US
dollars. The current account has decreased by $100 but the capital
account (in the form the of official reserve assets) has also decreased
by $100 (as the Bank reduced its foreign holdings) causing a $200
reduction in the Balance of Payments.
7. The country of Lesotho has approximately 60% of its working-age
male population employed in neighbouring South Africa’s mines. The
common practice of crossing the border to work accounts for
Lesotho’s large, negative NFP relative to its GDP.
Part II
Answer any 2 of the following 3 questions. Please attempt all parts of
each question and support you answers with graphs. Each question
is worth 25 marks.
1. An economy has full employment output of 600. Government
purchases, G, are 120. Desired consumption and investment are
given by:
Cd = 360 - 200r +0.10Y
Id = 120 - 400r
Where Y is output and r is the real interest rate. Assume for now that
there are no taxes.
(a) Derive the equation for desired national savings.
(b) Write the Goods Market Equilibrium Condition and determine the
market clearing interest rate.
(c) Now consider the introduction of a proportional tax system with a
rate of taxation (t) on income. Now derive the new equation for
desired national savings as a function of the interest rate and the tax
rate. Determine the new market clearing interest rate when t = 0.10.
Use diagrams to support your answer.
2. Consider an economy with two large open economies, call them
country Here and country There. Assume initially that there are no
taxes in either economy.
The savings and investment characteristics of Here are:
Sd = 20 +200 rw
Id = 30 – 200 rw
Output (Y) is $100 and Government Purchases (G) is $25.
The savings and investment characteristics of There are:
Sd = 40 +100 rw
Id = 75– 400 rw
Output (Y) is $150 and Government Purchases (G) are $30.
(a) Calculate the equilibrium world interest rate.
(b) Calculate the Current Account for each country. Who is the net
borrower? Who is the Net lender?
(c) The government of Here announces that it is going to finance it’s
spending by leveling a tax on corporate revenue. Using diagrams
show the flowing:
1. The effect of the new tax on the goods market equilibrium
of Here.
2. The effect of the tax on the world interest rate and on the
level of international lending.
2. Suppose a firm's daily output and labour input are given in the
following table. The level of Capital Stock is fixed.
Workers
0
1
2
3
4
5
6
Output
0
8
14
18
21
23
24
(a) What is the marginal product of labour (MPN) for each of the
entries?
(b) The firm sells its products at a price of $10/unit. If the wage rate is
$30 per day, what is the firm's profit-maximizing employment level?
(c) If there is a beneficial supply shock that causes the MPN to
increase by 2 at any given level of labour input, at the wage rate of
$30, what will be the new profit-maximizing level of employment?
(d). The country of Zaboom produces squash and potatoes.
The quantities produced are as follows, with the price of each listed in
dollar terms:
Year
Squash
Potatoes
1999
Quantity
Price
8,000
$4
6,000
$8
2000
Quantity
Price
10,000
$3
5,000
$14
Using a variable-weight index (such as the GDP deflator), with
1999 as the base year, determine the following:
1. Price index for 1999
2. Price index for 2000
3. The growth rate of Real GDP
Answers:
Part I:
1. False or uncertain. It depends whether or they believe that Ricardian
Equivalence holds. If they believe that people will perfectly forecast the future tax
increase needed to finance the deficit generated today then they will not adjust
their consumption decision today. Desired Savings and the current account
deficit will remain unchanged. If people to not foresee the future tax increase they
will increase consumption and decrease the current account, increasing the
current account deficit.
2. False. Two things happen here. Government spending increases. This alone
causes absorption to increase and the current account to decrease. However
this type of program will also increase the income level of people who are
currently paying their daycare expenses. With a Keynesian consumption function
this increase in income will generate an increase in consumption increasing
absorption more than the original increase in government spending. Therefore
the current account will decrease by more than the cost of financing the program.
3 False. Increases in wealth increase consumption decreasing savings as a
function of income. This shifts the savings curve to the left increasing the interest
rate and decreasing savings and investment.
4. True. If the participation rate increases and this is accompanied by an
increase in the number of employed people the unemployment rate would
increase, as would the employment ratio.
5. True: Increases in the expected future real wage cause the labour supply
curve to shift to the left. Because there has been no change in the MPN in this
period labour demand is unchanged decreasing the the level of employment and
increasing the real wage.
6. False: The sale of US dollars is a $100 reduction in the Balance of Payments.
The $100 import is a decrease in the Current Account. The Capital Account rises
by $100 when the official settlements account reduces (a capital inflow).
7. False. NFP are large and positive.
Part II:
1.
(a) Sd=60 + 200r
(b) r = 10% and Y = Cd + Id + G
(c) r = 19% and Sd = 60 –540t + 200 r (no marks given without diagrams)
2.
a) rW = 0.05
b) Here: CA=10 (net lender) There: CA=-10 (net borrower)
c)
1. There should be diagrams showing the increase in the tax-adjusted
user cost of capital leading to shift to the left of the investment curve in
the good market equilibrium.
2. There should be two diagrams showing that the world interest rate
drops and the level of international borrowing by There increase and
the level of international lending by here increases.
3. a)
Workers
0
1
2
3
4
5
6
b) 4
c)
1. 1.00
2. 1.25
3. 0%
MPN
0
8
6
4
3
2
1