Download Economics 104B, Section 41 Instructor: Tara Sinclair

Economics 104B, Section 41
Instructor: Tara Sinclair
ANSWERS TO QUIZ NO. 1
Please review the answers to this quiz even if you got full points for a question. There
may be a similar question on the midterm and the comments in this answer key may help
you.
1.
According to the neoclassical synthesis, Keynesian analysis should be used to
study: the short run.
2.
(modified from question 2, page 121 of textbook) The country of Freedonia
uses the same method to calculate the unemployment rate as the U.S. Bureau
of Labor Statistics uses. From the data below, compute Freedonia’s
a. unemployment rate
b. labor force participation rate
Population
Under 16
Over 16
In military Service
In hospitals
In prison
Worked one hour or more in previous week
Searched for work during the previous four weeks
10,000,000
3,000,000
500,000
200,000
100,000
4,000,000
1,000,000
Please show your work here:
Unemployment rate = Unemployed/Labor Force = Unemployed/ (Unemployed +
Employed) = 1,000,000/(1,000,000 + 4,000,000) = 1/5 = 20%
Labor force participation rate = Unemployed + Employed / Over 16 not military or
institutionalized (called the civilian noninstitutional population) =
5,000,000/6,200,000 = 81%
(Over 16 not military or institutionalized = total population – under 16 – military – in
hospitals –in prison = 10,000,000 = 3,000,000 – 500,000 – 200,000 – 100,000 =
6,200,000)
3.
Which of the following activities are reflected in GDP? How much does each
activity change GDP? Give a brief (few word) explanation.
a. Smith pays a carpenter $8,000 to build a garage.
GDP rises by $8,000 because the garage is a final good.
b. Smith purchases $2,000 worth of materials and builds a garage herself, which
adds $8,000 to the value of her house.
GDP rises by only $2,000, the value of the goods bought in the market. The value of
the labor does not count towards GDP because it does not go through the market.
c. Smith goes to the woods, cuts down trees, and builds a garage from logs that is
worth $8,000.
None of these activities go through the market, so Smith’s work for herself does not
affect GDP.
d. The Jones family sells its old house to the Reynolds family for $125,000. The
Joneses then buy a newly constructed home for $180,000.
GDP rises by the value of the newly constructed home $180,000. The sale of the
existing Jones home is the exchange of a previously produced asset and therefore has
no effect on GDP.
e. Your grandmother wins $10,000 in the state lottery.
Lottery winnings do not represent the sale or production of final goods and services.
Therefore, they are not included in GDP.
f. Your grandmother uses her $10,000 winnings to finance a trip around the US.
The expenditure on a vacation represents the consumption of final goods and
services. GDP rises by $10,000 regardless of the source of the money.
4.
Which of the following people is considered unemployed by the Bureau of
Labor Statistics?
a. A housewife or househusband.
A housewife or househusband is probably not actively engaging in searching for a
job, so they would not be counted as part of the labor force and would not be
counted as unemployed.
b. An inmate in the state prison.
Because an inmate is not actively looking for a job, he or she is not counted as
unemployed.
c. A college student who is not looking for work.
This college student in not unemployed because he or she is not looking for a job.
d. A college student who has just graduated and is looking for a job.
A recent graduate who is looking for a job but has not found one will be counted as
unemployed.
e. A person who was fired 3 months ago and has been looking for a job ever
since.
A person who was fired and is looking for a job would be counted as unemployed.
f. A person who was fired 3 months ago and unsuccessfully looked for a job
for 1 month, but has not looked for a job recently.
If jobless people stop actively seeking work they will not be counted as
unemployed—even if they once held a job and would like to have one again.
5.
Suppose you agree to lend money to your friend on the day you both enter
college, at a zero real rate of interest (r = 0). Payment is to be made at
graduation, with interest at a fixed nominal rate i. If inflation (π) proves to be
lower during your four years in college than what you both had expected, who
will gain and who will lose? Explain.
You will gain and your friend will lose. Because you set the real interest rate on
your loan (r) equal to 0, you must have set the nominal interest rate (i) equal to the
inflation rate (π). If inflation turns out to be lower that what you expected, the actual
real interest rate (r) will be positive over the term of the loan. When your friend
repays the loan, the total amount repaid will buy more "stuff" than what you could
have bought with the amount of money you lent at the time you made the loan.
(formula r = i - π)
6.
In terms of the business cycle, when in the cycle do we call it a recession?
Officially, a recession is from the peak to the trough of the business cycle. You
might also have talked about negative GDP growth for two quarters or when
NBER calls it a recession. All of these answers got you full credit.
7.
In 1974, the yield (interest rate) on 10-year U.S. Treasury securities averaged
7.56 percent. The inflation rate (measured by the GDP deflator) was 8.7
percent. What was the real interest rate on these securities? Do you think the
level of inflation in 1974 was fully anticipated by individuals who bought
these Treasury bonds at the time of their purchase? Why or why not?
The real interest rate was the nominal rate (7.56 percent) less the inflation rate (8.7
percent) or negative 1.14 percent. Because the real interest rate is negative, we can
deduce that the individuals who bought these bonds did not expect inflation to be so high.
They probably would not have chosen to lend money to the government at an interest rate
that did not even compensate them for the loss in purchasing power due to inflation.
8.
Year
Suppose that a mythical economy produces just one kind of output that is
called "stuff." The table below gives the economy's output of stuff and the
corresponding prices for 1997, 1998, and 1999. Use these data to answer the
questions below. For parts (b) and (c), express your answers in percentage
terms to two decimal places.
Price of
Stuff
$20
Nominal GDP
GDP Deflator
Real GDP
1997
Units of
Stuff Produced
500
$10,000
(500*20)/(500*21)
=95.24
500*21=10,500
(or 10,000/95.24*100)
1998
520
$21
$10,920
100 (base year)
10,920 (base year)
1999
560
$24
$13,440
(560*24/(560*21)
=114.29
560*21=11,760
(or 13,440/114.29*100)
a) Calculate nominal GDP for each year. Because the structure of this economy is so
simple, it is easy to calculate the GDP deflator. Calculate the price deflator for each year
using 1998 as the base year, with a value of 100. Then, calculate real GDP for each year.
(Show your work below and fill in your final answers in the chart above.)
b) What is the growth rate in nominal GDP between 1998 and 1999? (show your work
below)
Growth rate = (GDP1999-GDP1998)/GDP1998 = ($13,440 - $10,920)/$10,920 =
23.08%
c) What is the inflation rate between 1997 and 1998? (show your work below)
Inflation Rate = (Deflator1998 – Deflator1997)/Deflator1997 = (100 – 95.24)/95.24 =
5.00%
9.
List three of society’s resources.
Labor, Capital, and Land
10.
The supply of Sumatra coffee is given by the function QS = 2P. The demand
for Sumatra coffee is given by QD = 120 – P. What is the equilibrium quantity
of Sumatra coffee transacted?
Equilibrium means where supply = demand so set QS = QD or 2P = 120 – P.
Solving for P we have:
3P = 120 or P = 40. This implies that the equilibrium Q = 80.
11.
Assume you are lending money to a friend for a year and want to earn real
interest of 5 percent on the loan. If you believe the inflation rate for the next
year will be 3 percent, what nominal interest rate should you charge?
i = r + expected inflation so nominal interest rate = 5% + 3% = 8%
12. Assume that the U.S. population is 260 million. If 100 million individuals are legally
classified as unable to work (or are less than 16 years of age), 60 million are classified
as unwilling to work, and 7 million are unemployed,
a.
What is the unemployment rate?
Labor force = population – unable – unwilling = 260 – 100 – 60 = 100 million
Unemployment rate = unemployed/labor force = 7/100 = 7%
b.
What is the labor force participation rate?
Labor force participation rate = labor force/(population – unable) = 100/(260-100)
= 100/160 = 62.50%