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Solutions to Problems
Chapter 21
1.
Mary's initial capital stock is 5 copiers, depreciation is 1 copier per year, gross investment is 3 copiers, net investment is 2
copiers, and the final capital stock is 7 copiers.
Final capital stock equals initial capital stock plus net investment. Net investment equals gross investment minus depreciation.
3a. Ecoland's GDP is $1,100b.
Expenditure approach:
GDP = C + I + G + X  M
= $600+ $250+ $200 + $300 $250
= $1,100b.
Income approach:
GDP = wages + gross operating surplus (profits) + taxes  subsidies
= $700+ $200+ $250  $50
= $1,100b.
3b. Either approach can be used.
3c. Injections equal leakages.
Injections = I + G + X
= $250 + $200 + $300
= $750b.
Leakages = S + T + M
= $300 + $200 + $250
= $750b.
5a. Aggregate expenditure is $60 million.
In the figure, B is consumption expenditure, D is investment, C is government expenditures, and E is net exports
AE = C + I + G + X  M
= $30 + $15 + $12 + $3
= $60m.
5b. Aggregate income is $60 million.
Aggregate income equals aggregate expenditure, which from 5a is $60 million.
5c. GDP is $60 million.
GDP equals aggregate expenditure, which from 5a is $60 million.
5d. Government budget deficit is $2 million.
C is government expenditures, and A is taxes. So the government budget deficit equals
Government budget deficit = G  T.
=$12  $10
= $2m.
5e. Household saving is $20 million.
In the figure, B is consumption expenditure and A is taxes.
S=YCT
= $60  $30  $10
= $20m
5f. Government saving is minus $2 million.
In the figure, A is taxes and C is government expenditures.
Government saving = T  G
= $10  $12
= $2m
5g. Foreign borrowing is $3 million.
In the figure, E is net exports
Foreign borrowing = X  M
= $3m
Lotus Island is in surplus, so foreigners are in deficit and they must borrow from Lotus Island to pay for their deficit. Foreign
borrowing equals $3 million.
5h. National saving is $18 million.
National saving equals the sum of household saving and government saving. Household saving is $20 million (see answer 5e).
Government saving is minus $2 million (see answer 5f).
National saving = S + (T  G)
= $20 + $2
= $18m
7.
Value added is the value of Big Biscuit's output less the cost of intermediate products bought from other firms. In this case:
Value of sales or output ($1.50 x 200)
Cost of materials:
Eggs
$100
Flour
50
Milk 45
Utilities
10
Total
Value added
$300
205
95
So, value added is ($95÷200), or 47.5 cents per biscuit.
9
The basket used in the CPI is 10 bottles of juice, 15 bananas and 5 lengths of cloth.
The basket used in the CPI is the typical basket consumed in the base year. In the base year, the typical family spends $40 on
juice @ $4 a bottle, so the family buys 10 bottles of juice; $45 on bananas @ $3 a kilogram, so the family buys 15 kilograms of
bananas; and $25 on cloth @ $5 a metre, so the family buys 5 metres of cloth (see table 1).
Table 1  Problem 9
Sandy Island
apple juice
Year
base
current
bananas
cloth
Quantity
Price
Expenditure
Quantity
Price
Expenditure
Quantity
Price
Expenditure
CPI
10
10
$4
$3
$40
$30
15
15
$3
$4
$45
$60
5
5
$5
$7
$25
$35
100
114
The CPI in the current year is 114.
Expenditure on the CPI basket in the current year is $(30 + 60 + 35) = $125.
Expenditure on the CPI basket in the base year is $(40 + 45 + 25) = $110
The CPI = (125 ÷ 110) x 100 = 114
The inflation rate in the current year is 14 percent.
11
From the table we can calculate the GDP deflator, which equals (Nominal GDP ÷ Real GDP) x 100 (see table 3).
Table 3  Problem 11
Year
Real GDP
Nominal GDP
(billions of dollars)
(billions of dollars)
2000
1,000
1,000
100.00
2001
1,050
1,200
114.28
2002
1,200
1,500
125.00
11a. In 2001, GDPdeflator = 114.28.
11b. In 2002, GDPdeflator = 125.00.
11c. Inflation between 2001 and 2002 was 9.38 per cent.
125.00  114.28 100
x
114.28
1
 9.38 percent
11d. And the inflation rate between 2000 and 2002 was 25 per cent.
125  100 100
Inflation 
x
100
1
 25 percent
Inflation 
GDPdef