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ECNS 251 Spring 2013 Homework 7 Answer Key 1. a. b. c. Consumption increases because a refrigerator is a good purchased by a household. Investment increases because a house is an investment good. Consumption increases because a car is a good purchased by a household, but investment decreases because the car in Ford’s inventory had been counted as an investment good until it was sold. d. Consumption increases because pizza is a good purchased by a household. e. Government purchases increase because the government spent money to provide a good to the public. f. Consumption increases because the bottle is a good purchased by a household, but net exports decrease because the bottle was imported. g. Investment increases because new structures and equipment were built. 2. a. Calculating nominal GDP: 2010: ($1 per qt. of milk 100 qts. milk) + ($2 per qt. of honey 50 qts. honey) = $200 2011: ($1 per qt. of milk 200 qts. milk) + ($2 per qt. of honey 100 qts. honey) = $400 2012: ($2 per qt. of milk 200 qts. milk) + ($4 per qt. of honey 100 qts. honey) = $800 Calculating real GDP (base year 2010): 2010: ($1 per qt. of milk 100 qts. milk) + ($2 per qt. of honey 50 qts. honey) = $200 2011: ($1 per qt. of milk 200 qts. milk) + ($2 per qt. of honey 100 qts. honey) = $400 2012: ($1 per qt. of milk 200 qts. milk) + ($2 per qt. of honey 100 qts. honey) = $400 Calculating the GDP deflator: 2010: ($200/$200) 100 = 100 2011: ($400/$400) 100 = 100 2012: ($800/$400) 100 = 200 b. Calculating the percentage change in nominal GDP: Percentage change in nominal GDP in 2011 = [($400 – $200)/$200] 100% = 100%. Percentage change in nominal GDP in 2012 = [($800 – $400)/$400] 100% = 100%. Calculating the percentage change in real GDP: Percentage change in real GDP in 2011 = [($400 – $200)/$200] 100% = 100%. Percentage change in real GDP in 2012 = [($400 – $400)/$400] 100% = 0%. Calculating the percentage change in GDP deflator: Percentage change in the GDP deflator in 2011 = [(100 – 100)/100] 100% = 0%. Percentage change in the GDP deflator in 2012 = [(200 – 100)/100] 100% = 100%. Prices did not change from 2010 to 2011. Thus, the percentage change in the GDP deflator is zero. Likewise, output levels did not change from 2011 to 2012. This means that the percentage change in real GDP is zero. ECNS 251 Spring 2013 c. Economic well-being rose more in 2010 than in 2011, since real GDP rose in 2011 but not in 2012. In 2011, real GDP rose but prices did not. In 2012, real GDP did not rise but prices did. 3. Year 2009 1999 4. Nominal GDP (billions) $14,256 $9,353 GDP Deflator (base year: 2005) 109.8 86.8 a. The growth rate of nominal GDP = 100% [($14,256/$9,353)0.10 – 1] = 4.3% b. The growth rate of the deflator = 100% [(109.886.8)0.10 – 1] = 2.4% c. Real GDP in 1999 (in 2005 dollars) is $9,353/(86.8/100) = $10,775.35. d. Real GDP in 2009 (in 2005 dollars) is $14,256/(109.8/100) = $12,983.61. e. The growth rate of real GDP = 100% [($12,983.61/$10,775.35)0.10 – 1] = 1.9% f. The growth rate of nominal GDP is higher than the growth rate of real GDP because of inflation. a. The increased labor-force participation of women has increased GDP in the United States, because it means more people are working and production has increased. b. If our measure of well-being included time spent working in the home and taking leisure, it would not rise as much as GDP, because the rise in women's labor-force participation has reduced time spent working in the home and taking leisure. c. Other aspects of well-being that are associated with the rise in women's increased labor-force participation include increased self-esteem and prestige for women in the workforce, especially at managerial levels, but decreased quality time spent with children, whose parents have less time to spend with them. Such aspects would be quite difficult to measure. 5. a. Find the price of each good in each year: Year 2010 2011 Cauliflowe r $2 $3 Broccoli Carrots $1.50 $1.50 $0.10 $0.20 b. If 2010 is the base year, the market basket used to compute the CPI is 100 heads of cauliflower, 50 bunches of broccoli, and 500 carrots. We must now calculate the cost of the market basket in each year: 2010: (100 × $2) + (50 × $1.50) + (500 × $.10) = $325 2011: (100 × $3) + (50 × $1.50) + (500 × $.20) = $475 Then, using 2010 as the base year, we can compute the CPI in each year: 2010: $325/$325 × 100 = 100 ECNS 251 Spring 2013 2011: $475/$325 × 100 = 146 6. 7. c. We can use the CPI to compute the inflation rate for 2011: (146 – 100)/100 × 100% = 46% a. introduction of new goods; b. unmeasured quality change; c. substitution bias; d. unmeasured quality change; e. substitution bias a. ($2.00 – $0.15)/$0.15 × 100% = 1,233%. b. ($20.42 – $3.23)/$3.23 × 100% = 532%. c. In 1970: $0.15/($3.23/60) = 2.8 minutes. In 2009: $2.00/($20.42/60) = 5.9 minutes. d. 8. Workers' purchasing power fell in terms of newspapers. a. If the elderly consume the same market basket as other people, Social Security would provide the elderly with an improvement in their standard of living each year because the CPI overstates inflation and Social Security payments are tied to the CPI. b. Because the elderly consume more health care than younger people do, and because health care costs have risen faster than overall inflation, it is possible that the elderly are worse off. To investigate this, you would need to put together a market basket for the elderly, which would have a higher weight on health care. You would then compare the rise in the cost of the "elderly" basket with that of the general basket for CPI.