MIDTERM 1 - Economics 101
MIDTERM
Name ________________________________________Student ID ______________
Instructions:
The exam consists of two parts: (1) 20 multiple choice questions; (2) two analytical questions. Please answer all questions in the space provided in this exam. Budget your time appropriately. Good Luck!
Multiple Choice [60 points total, 3 points each]
|1. |Assume that equilibrium GDP (Y) is 5,000. Consumption (C) is given by the equation C = 500 + 0.6Y. No government exists. In this|
| |case, equilibrium investment is: |
|A) |1,500. |
|B) |2,000. |
|C) |2,500. |
|D) |3,000. |
|2. |Assume that the production function is Cobb-Douglas (Y = AK(L1-( ) with parameter ( = 0.3. In the neoclassical model, if the |
| |labor force increases by 10 percent, then output: |
|A) |increases by about 10 percent. |
|B) |increases by about 7 percent. |
|C) |increases by about 3 percent. |
|D) |does not increase since the new workers are unemployed. |
|3. |An example of increasing returns to scale is when capital and labor inputs: |
|A) |both increase 10 percent and output increases 5 percent. |
|B) |both increase 10 percent and output increases 10 percent. |
|C) |both increase 5 percent and output increases 10 percent. |
|D) |do not change and output decreases 5 percent. |
|4. |When a firm sells a product out of inventory, GDP: |
|A) |increases. |
|B) |decreases. |
|C) |is not changed. |
|D) |increases or decreases, depending on the year the product was produced. |
|5. |According to the Fisher equation, the nominal interest rate is |
|A) |equal to the real interest rate plus inflation |
|B) |equal to the real interest rate minus inflation |
|C) |always greater than the real interest rate |
|D) |constant |
|6. |If nominal GDP grew by 5 percent and real GDP grew by 3 percent, then the GDP deflator grew by approximately ______ percent. |
|A) |2 |
|B) |3 |
|C) |5 |
|D) |8 |
|7. |National saving refers to: |
|A) |disposable income minus consumption. |
|B) |taxes minus government spending. |
|C) |income minus consumption minus government spending. |
|D) |income minus investment. |
|8. |If Y = AK0.5L0.5 and A, K, and L are all 100, the marginal production of capital is: |
|A) |50. |
|B) |100. |
|C) |200. |
|D) |1000. |
|9. |Consider an economy described by the following equations |
| |G = T = 1000 |
| |C = 250 + 0.75 (Y – T) |
| |I = 1000 – 50 r |
| |NX = 500 – 500 ε |
| |r = r * = 10 |
| |The equilibrium exchange rate is |
|A) |0.5. |
|B) |1. |
|C) |2. |
|D) |5. |
|10. |If net capital outflow is positive, then |
|A) |S - I is negative. |
|B) |private savings exceeds private investment. |
|C) |NX is positive. |
|D) |public saving exceeds public investment. |
|11. |In the small open economy model of Chapter 5, if a country begins in a position of balanced trade, what happens when the |
| |government increases taxes? |
|A) |Net capital outflow becomes negative. |
|B) |The interest rate rises. |
|C) |Net exports decrease. |
|D) |The balance of trade goes into surplus. |
|12. |In the small open economy model of Chapter 5, starting from balanced trade, an increase in the world interest rate from a fiscal|
| |expansion abroad leads to which of the following? |
|A) |Negative net capital outflow and a trade surplus. |
|B) |Positive net capital outflow and a trade surplus. |
|C) |Positive net capital outflow and a trade deficit. |
|D) |Negative net capital outflow and a trade deficit. |
|13. |Which of the following causes a decrease in the real exchange rate? |
|A) |An exogenous increase in foreign demand for domestic goods |
|B) |An exogenous decrease in investment |
|C) |An increase in government purchases |
|D) |A decrease in taxes |
|14. |Choose the pair of words that best complete this sentence: If government purchases increase, national saving will ________ and |
| |the equilibrium real exchange rate will _______. |
|A) |fall; fall |
|B) |fall; rise |
|C) |rise; rise |
|D) |rise; fall |
|15. |Assume that the nominal exchange rate for the euro is .75 euros per dollar. Suppose that a Volkswagen Golf costs 10,000 euros in|
| |Germany, while it costs $12,000 in the United States. What is the real exchange rate? |
|A) |0.75 |
|B) |0.9 |
|C) |1.2 |
|D) |1.1 |
|16. |Which of the following does the Solow model predict? |
|A) |Real rental price of capital and real wage stays constant |
|B) |Real rental price of capital stays constant whereas real wage grows at the rate of technology progress |
|C) |Real rental price of capital grows at the rate of technology progress whereas real wage stays constant |
|D) |Real rental price of capital and real wage grows at the rate of technology progress |
|17. |An economy described by the Solow growth model in Chapter 8 has the following production function |
| |y = k0.5 |
| |where lower case letter represents unit per effective worker. If δ = 0.04, s = 0.28, n = 0.01, g = 0.02, what is the |
| |steady-state value of y? |
|A) |1 |
|B) |4 |
|C) |10 |
|D) |40 |
|18. |A permanent change in the growth rate of total output can arise from a change in the |
|A) |rate of technological progress. |
|B) |saving rate. |
|C) |ratio of capital per worker. |
|D) |number of workers. |
|19. |In the Solow model with technological progress, an increase in the rate of technological change will |
|A) |shift the investment curve upward. |
|B) |shift the investment curve downward. |
|C) |leave the investment curve unchanged. |
|D) |lead to a lower level of consumption at the steady state. |
|20. |In the Solow growth model with population growth (n) and technological progress (g), the steady-state growth rate of output per |
| |worker is |
|A) |0. |
|B) |n. |
|C) |g. |
|D) |n + g. |
| |Analytical Questions [40 points total, 20points each] |
| | |
| |Instructions: Please answer in the space provided after each question. |
| | |
| |You are a distinguished macroeconomist in a country called McEcon, President Yagihashi summoned you to analyze the domestic |
| |economy in the past 12 years. He hands you the following table. Please answer the following questions (a)-(e) |
| | |
| | |
| |year |
| |1-6 |
|1. |year |
| |7-12 |
| |actual change |
| |closed economy |
| |small open economy |
| | |
| | |
| |G-T |
| | |
| | |
| |6.2 |
| | |
| |7.4 |
| | |
| |↑ |
| | |
| |↑ |
| | |
| |↑ |
| | |
| | |
| |S |
| | |
| | |
| |20.5 |
| | |
| |19.5 |
| | |
| |↓ |
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| |↓ |
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| |↓ |
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| |r |
| | |
| | |
| |1.2 |
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| |1.4 |
| | |
| |↑ |
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| |↑ |
| | |
| |no change |
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| |I |
| | |
| | |
| |19.3 |
| | |
| |18.1 |
| | |
| |↓ |
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| |↓ |
| | |
| |no change |
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| | |
| |NX |
| | |
| | |
| |1.3 |
| | |
| |1.4 |
| | |
| |↑ |
| | |
| |no change |
| | |
| |↓ |
| | |
| | |
| |ε |
| | |
| | |
| |131.5 |
| | |
| |116.1 |
| | |
| |↓ |
| | |
| |no change |
| | |
| |↑ |
| | |
| |(the numbers are presented as a percent of GDP. All figures are averages of the decade shown) |
| | |
| |a. Fill in the above blanks to show what each theory predicts (increase / decrease /no change) |
| | |
| |b. Are the behavior of variables consistent with what the closed economy model predicts? Are they also consistent with what the |
| |open economy model predicts? Explain in both words and diagrams |
| |Answer: |
| | |
| |Change in S, r, I are consistent with what the closed economy model predicts. |
| |Saving (S=Y-C-G) went down because of expansionary fiscal policy. |
| |Interest rate went up because in the market for loanable funds, the supply of loanable funds decreased. |
| |Investment also went down along with saving. |
| |However change in NX, ε are inconsistent with what the closed economy model predicts, since the model assumes these variables |
| |to stay constant. |
| | |
| | |
| |Change in S, NX, ε are consistent with what the open economy model predicts. |
| |Net exports increased because net capital outflow (S-I) went up |
| |Real exchange rate depreciated because the supply of international funds went up |
| |However, change in r, I are inconsistent with what the open economy model predicts, since by assumption r = r* is constant and |
| |so is I = I(r*) |
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| |c. From the magnitude of change shown in the model, which of the two models do you think best applies to this country? Justify |
| |your answer. |
| |Answer: |
| | |
| |Based on the information given, this economy best applies to the closed economy model. Saving and investment almost went down by|
| |the same magnitude while net export only increased by a small margin. |
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| |d. Using the above table and attached graphs, analyze what has been happening in this country in the last 12 years. Explain |
| |using the model you chose in part d (you may also use diagram you have learned in class) |
| |Answer: |
| | |
| |This economy has been in recession in the first half of the sample period. Consumption has been relatively low and investment |
| |kept falling. Government purchase relative to GDP was pretty high. |
| | |
| |Government tried to stimulate the economy through expansionary fiscal policy (lower T-G). The expansionary fiscal policy was |
| |mostly done through tax cut rather than higher government purchase. This caused a drop in public saving leading to a fall in |
| |national saving (period 3-8) |
| | |
| |The abovementioned expansionary fiscal policy led to a crowd out – higher interest rate and lower investment – that the |
| |classical closed economy model predicts. Saving and investment dropped almost hand-in-hand while interest rate increased. This |
| |confirms the above statement that closed economy model best applies to this country. |
| | |
| |(optional) |
| |After 8th year the investment starts to pick up and after 9th year consumption start to rise again, leading to an overall |
| |recovery of the economy. |
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[pic][pic][pic][pic]
|2. |The below table shows the accounting for Economic Growth in the United States. When calculating the source of growth, α is |
| |estimated to be 0.3. Please answer the following questions (a) – (e) |
| | |
| | |
| |Output growth |
| |∆Y / Y |
| |source of growth: capital |
| |α ∆K / K |
| |source of growth: labor |
| |(1-α) ∆L / L |
| |source of growth: risidual |
| |∆A / A |
| | |
| | |
| |1965-2005 |
| | |
| | |
| |3.2 |
| | |
| |1.1 |
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| |1.4 |
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| |0.7 |
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| |1965-1990 |
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| |3.4 |
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| |1.1 |
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| |1.8 |
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| |0.5 |
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| |1990-2005 |
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| |2.9 |
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| |1.0 |
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| |0.9 |
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| |1.0 |
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| |(numbers are average percentage increase per year) |
| | |
| |a. Compare the two subsamples 1965-1990 and 1990-2005. Explain in words / numbers what has happened to output growth in the |
| |United States, referring to the source of growth in each period. |
| |Answer: |
| | |
| |Output growth has slowed down from 3.4% to 2.9%. This is mainly explained by the slowdown in labor growth . On the other hand, |
| |the Solow residual, which potentially represents the technology progress in United States, went up from 0.5% to 1%. Its |
| |importance in the overall output growth has also increased from 0.5 / 3.4 = 14.7% to 1 / 2.9 = 34.5%. The capital growth has |
| |remained almost unchanged, but its importance in the output growth has slightly increased from 32.3% to 34.5% |
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| |b. Solow growth model predicts that output-capital ratio remains constant over time. Does this apply for whole sample 1965-2005?|
| |Explain your logic. |
| |Answer: |
| | |
| |YES. Since α ∆K / K = 1.1, ∆K / K = 1.1/ α = 1.1/0.3 = 3.67. This is within half percentage point difference from growth rate of|
| |output (=3.6%). This shows that output and capital has grown in a similar pace and output-capital ratio has remained roughly |
| |constant. |
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| |c. Compute the growth rate of living standard (=Y/L) in 1965-1990 AND 1990-2005. Compare it to the growth rate of output during |
| |the same time period. Are they qualitatively different? Give comment / possible explanation on what you found |
| |Answer: |
| | |
| |first, note that labor growth in first period is n = 1.8 / 0.7 = 2.6% and for second period n = 0.9 / 0.7 = 1.3% |
| | |
| |since y=Y/L gy=gY-gL, hence gy = 3.4-2.6 = 0.8% for the first subsample and gy = 2.9-1.3 = 1.6% for second subsample. This |
| |result shows that although the output growth slowed down from the first subsample to the second, the improvement in living |
| |standard has actually speeded up, due to the large fall in labor growth and increase in Solow residual. The fall in labor growth|
| |can be intuitively explained by the end of baby boom. Women’s labor force participation has also hit the ceiling and contributed|
| |less to the overall growth. Increase in Solow residual might be capturing the phenomenon known as “I.T revolution”, where |
| |technological progress through information technology such as computer and cell phone has boosted the productivity of individual|
| |worker as well as overall production efficiency of the economy. |
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| |d. Suppose you are asked to give advice to the President in order to further improve the living standard of the country. OTHER |
| |THAN promoting R&D (and other policies that boost technology progress), what policy would you recommend? Explain your logic both|
| |in words and in diagram. Furthermore, discuss its pros and cons. |
| | |
| |Answer: |
| | |
| |Any policy that increases saving rate, decrease labor / labor growth rate is fine. However it has to be a policy that is |
| |“feasible” (that is, for example starting a war is not acceptable). Also for “cons” you need to mention that the policy might |
| |have a positive level effect on living standard but not positive growth effect. |
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