Midterm Exam Economics for Managers (Macroeconomics)
1) What can you read from Figure 1 about the growth rate in the period 1875-1920 and
1920-2010? Explain. The slope of the GDP per capita in a logarithmic (ratio scale) graph indicates the growth rate. Given that the line is steeper in the period 1920-2010, we can conclude that the growth rate was on average higherin 1920-2010 than between 1875-1920.
2) Choose this question or question 3) (50 points) What will happen with the GDP per capita according to the Solow growth model if the technology grows in a constant positive rate throughout the time? Sketch a graph to explain.Note: In the Solow economy households save a constant fraction of their income at each period, It = sYt,and the production function is assumed to beYt = AtK0.5t L0.5and the capital accumulates according toKt+1 −Kt = It − dKt where d is the depreciation rate. You can consider that the number of workers L coincides with the number of inhabitants and that L is constant over time.
a) Plot of the initial So low diagram. Do not forget to label the axes and the lines drawn.
b) Plot of the So low diagram with changes experimented after the increase in technology level.
c) Explanation of the effects drawn.
d) Conclusions about the effect of an increase in technology level on total output.
e) Conclusions about the effect of an increase in technology level on output per capita.
1 If we increase the technology level, the investment line will be higher and the steady state level of capital will increase. If we repeatedly increase the technology level, capital goes on increasing (you could draw the situation for A′′ > A′ > A, and so on). In this way we generate sustained growth of output (as an increase in capital also increase output), and an increase in output per capita (given that our population is constant, increase in Y is also an increase in y = YL ).=sA’K^0.5 L^0.5A’>AsY
3) Choose this question or question 2)(50 points) High unemployment benefits are considered
one of the reasons of high unemployment rate in Europe. Set the model of labor supply and labour demand. Set the market to be initially in equilibrium. Show graphically how a decrease in the unemployment benefits might decrease the unemployment rate. Discuss the effects of this measure on output. Argue. Explain.
a) Plot of the initial diagram. Do not forget to label the axes and the lines drawn.
b) Plot of the diagram with changes experimented in the market after the decrease of the unemployment benefits is applied.
c) (12,5 points) Explanation of the effects drawn.
d) (12,5 points) Conclusions about the effects of the policy on the unemployment rate (you should define what you understand as unemployment rate).
e) (7,5 points) Conclusions about the output. Ls’ (after Unemployment benefits
decrease) L’ w’ A decrease in unemployment benefits increases the labor supply (there will be more workers available to work for a given wage, as they are not compensated so well if unemployed), labor supply curve shifts to the right. In the resulting equilibrium, L ↑ . That means that there will be probably less unemployed people, and the unemployment rate, which is u = unemployed ↓ (employed↑ + unemployed↓ ) ≡, will decrease. Higher employment will increase the output (recall the production function from the So low model for example, ↑ L Y.2
4) We used the terms investment rate and savings rate interchangeably.
a) (5 points) Define investment rate.
b) (10 points) Who is investing? Who is saving? Why can we use them interchangeably? Establish the connection. Investment rate is s = I Y (investment to GDP ratio). Firms invest. Households save (and can also invest but it is minor – we may refer to buying a house as investment). Households put their extra resources to the bank which lends them to firms to buy new capital. The connection of households with firms makes savings turn into investment, thus we can look at it as if it was the same thing.
5) The economist Oliver Blanchard argues that the difference in output per capita between the US and France is partially due to the fact that relative to those in the US, the French have used some of the increase in productivity to enjoy more free time rather than raise consumption
a) (10 points) Would you expect life satisfaction to be lower or higher in a country that has lower GDP per capita due to lower hours worked, as is the case in France relative to the US? Explain your answer.
b) (5 points) Considering your answer above, which country–France or the US–would you prefer to live in and why? Life satisfaction depends on what people like. Probably people in the US prefer higher income and less free time, people in France might be more satisfied with lower income and more free time. I would expect the life satisfaction increase with more free time, given that the level of income is sufficient to provide for all kinds of desires and consumption. France might definitely be the case.
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1) (20 points) On the following graph we can Önd the relationship between the growth rate of
real GDP, g_Y; and the change in the unemployment rate, u = ut-ut-1; both in percentage, for Slovakia in the period 1992-2014. Interpret the graph.
We see a negative relationship between the growth rate of output and the change in unemployment rate. When the growth rate increases the unemployment rate decreases, more workers will be placed in a job if the economy is performing well. The point where u = 0 is a notion of equilibrium, the unemployment rate will not áuctuate if the growth rate is about 4.3%, i.e. in order that the unemployment rate does not increases, Slovakia should grow at more than 4% (quite a big growth rate).
2) GDP of the economy of Alfa in the current year is 800 millions pounds. The experts predict the potential GDP for this year to be 850 millions pounds. You are in charge of the design of the monetary policy which could make the economy reach the potential output.
a) (2,5 points) What is the objective of your policy?
b) (2,5 points) What is the instrument of the monetary policy you are going to use (what is the variable you will change)?
c) (7,5 points) What kind of monetary policy are you going to perform? How are you going to change your instrument in order to change the economic situation? Fill up the gaps:
I am going to perform a (an) ……………………………..
monetary policy. That means that I am going to …………………………..
d) (12,5 points) What change will your policy cause to the money market? Plot a graph. Explain the graph. Do not forget to label the axes and the lines drawn.
e) (7,5 points) What change will your policy cause to the bonds market? Plot a graph. Explain the graph. Do not forget to label the axes and the lines drawn.
f) (15 points) How will your policy change the GDP? Explain the rationale (what and why) of the process.
a) We want to push the economy to the potential output, so we want to ” output.
b) In order to increase output the Central bank (CB) we will change the nominal interest rate.
c) We have to perform an expansionary monetary policy, and that will be done by decreasing the nominal interest rate.
d) In order to decrease i the CB has to increase the money supply (downward sloping demand curve, and the vertical supply curve is shifted to the right). Giving more money to the economy the CB causes excess money supply which is equilibrated in the market by a decrease in the price of money i:
e) Bonds market behaves parallel: decreasing the bonds supply – paying money for the bonds and taking the bonds away from the market (upward sloping demand curve and vertical supply curve, supply curve shifts to the left) CB decreases i:
f) GDP will increase. Supposing that the prices do not change in the short run, # i )# r (= i
) )” I )” Y (= C + I + G + NX):
3) In the economy of Beta, revenues from taxes are T = 100 millions pounds and government spending is also G = 100 millions pounds. The government plans to increase government spending to G0 = 120 millions pounds, but revenues from taxes remain 100 millions pounds.
a) (5 points) Comment on the (government) budget balance in each period.
b) (25 points) State two ways in which they can finance the difference between revenues and spending after increasing G. Explain how each of them functions and what may be the consequences of the measure.
a) Government budget is balanced at the beginning, T = G, then we have a deficit, G > T.
b) Missing resources can be financed by selling bonds or by printing money or by international help or by increasing taxes.
If they sell bonds, it may have a consequence of increased debt to GDP ratio which can be bad for later growth or bad for future generations which will have to balance the debt.
If they print money it can cause hyperinflation and general chaos in the economy.
Increased taxes will slow growth and may bring as a result a loss in the next elections.
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