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Midterm Exam 1
Economics 503
Foundations of Economic Analysis
Session 5
Multiple Choice (½ point each)
1. Which of the following is NOT included in GDP calculated using the expenditure
method?
A) government purchases of non-durable goods
B) government social welfare payments
C) residential investment
D) exports of services
________B__________
2. The law of demand states that holding everything else constant:
A) there is a positive or up sloping relationship between price and quantity.
B) there is an inverse or down sloping relationship between price and quantity.
C) buyers increase the quantities they buy when their incomes increase.
D) buyers decrease the amount of a good bought when there is more in the market.
________B__________
3. The income of the customers of an inferior good goes up. At the same time,
government regulations make the production of the good less efficient. Using the
Supply and Demand model to analyze the impact of such an event.
A) we can say equilbrium prices definitely rise
B) we can say equilibrium prices definitely fall.
C) we can say equilbrium quantities definitely rise.
D) we can say equilbrium quantities definitely fall.
___________D_______
4. The exchange rate is undervalued relative to the PPP converstion factor.
A) the real exchange rate is larger than 1 and exchange rate converted GDP is larger than
PPP converted GDP.
B) the real exchange rate is larger than 1 and exchange rate converted GDP is smaller
than PPP converted GDP.
C) the real exchange rate is smaller than 1 and exchange rate converted GDP is larger
than PPP converted GDP.
D) the real exchange rate is smaller than 1 and exchange rate converted GDP is smaller
than PPP converted GDP.
__________B________
1
Calculation
1.
(1 point) You have data on the supply and demand functions for a market. We
can say
q D  11  p
q S  10  p
Solve for equilibrium price, p*, and, quantity, q*.
2.
There is a country called Pizzaland. There are two consumer goods produced in
Pizzaland, pizza and soda. The following chart shows the market prices of each good and
the quantities that people buy.
Pizza
P
2007
2008
Soda
P
Q
100
100
100
200
Q
10
12
600
300
a. (2 points) Calculate nominal GDP, real GDP and the GDP deflator in 2007 and 2008
using 2007 as the market basket. Assume that the average market basket of the
typical consumer in 2007 is 1 pizza and 6 sodas. Calculate the inflation rate in 2008
using the GDP deflator.
2007
Nominal
GDP
16000
Real
GDP
16000
GDP
Deflator
100
Deflator
Inflation
N/A
2008
23600
23000
1.02609
2.61%
PIZZA
SODA
GDPt  Pt PIZZA  QtPIZZA  Pt SODA  QtSODA Yt  P2007
 QtPIZZA  P2007
 QtSODA
CPIt 
GDPt
Pt PIZZA 1  Pt SODA  6
Pt 
PIZZA
SODA
Yt
P2007 1  P2007  6
b. (1 point) The interest rate in 2007 was 5% (i.e. i = .05). Suppose inflation was
perfectly foreseen. Show the real interest rate in 2007.
r2007 = i2007 – π2008 2.39%
2
3.
(1 point) The following chart shows the HK CPI (Base year, 2005). The price of a
square meter in a Class E Residential Apartment on HK Island was $81,593 in 1999. The
price of the same real estate in 2008 was $140, 295. Convert both prices into 2002
dollars. Which is greater in inflation adjusted terms?
CPI
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
N t2002  N t 
63.6
70.8
77.5
84.4
91.8
100.1
106.4
112.7
115.9
111.3
107.1
105.4
102.1
99.5
99.1
100.0
102.0
104.1
108.6
CPI 2002
CPI t
1999
Price of
Real
Estate
$81,593
2008
$140,295
Price in 2002
dollars
102.1
=
111.3
74848.57
102.1
140, 295
108.6
= 131897.9696
81,593
3
4.
(1 point) Show in a diagram the effect on the demand curve, the supply curve, the
equilibrium quantity in the newspaper market of each of the following events.
Case 1: The cost of newsprint goes up.
S´
P
S
2
1
D
Q
4
Case 2: There is an election in town, which a lot of people want to read about.
S
P
2
1
D´
D
Q
5
5.
(1 point) Examine the foreign exchange market of a country whose balance of
payments is zero. Then, the government places a tax on foreign direct investment.
Case 1: Demonstrate the effect of this if the government allows the exchange rate to float.
Supply´
S
Supply
2
1
Demand
Forex
6
Case 2: Demonstrate the effect of this if the government wants to keep a fixed exchange
rate.
Supply´
S
2
Supply
1
Balance of
Payments <0
Demand
Forex
7
6. (1 point) Governments around the world decide to run large budget deficits.
Demonstrate the effect that this would have on the global loanable funds market.
SLFW
r
2
rWW
rW
1
D´LFW
DLFWP
Loanable
Funds
8