Question 1

Suppose in 2020, nominal GDP is $$25,000 and real GDP (using 2020 as the base year) is also 25$$,000. In 2021, nominal GDP rises to $$40,000 and real GDP (using 2020 as the base year) is 31$$,000. What is the GDP deflator in 2021, using 2020 as the base year?

Accepted Answer

$$\frac{40,000}{31,000} = 1.29$$

Question 2

If real GDP grows by 2% per year, labor productivity grows by 1% per year, and the labor force grows by 1.5% per year, what is the likely effect on the unemployment rate?

Accepted Answer

The unemployment rate will likely rise, because real GDP growth is less than the sum of labor productivity and labor force growth.

Question 3

In an economy that produces only apples and applesauce, all apples are used to make applesauce, which is the only final good sold to consumers. If the value of applesauce sales is $$2,200 and the value of apples sales is 1$$,000, what is the GDP using the value-added approach?

Accepted Answer

$$1,000 + (2,200 - 1,000) = 2$$,200$

Question 4

Suppose the nominal wage in 1992 is $$20/hour and the CPI is 1. In 2002, the nominal wage is 30/$$hour and the CPI is 1.45. What is the real wage in 2002 (in 1992 dollars)?

Accepted Answer

$$\frac{30}{1.45} = 20.69$$

Question 5

A U.S. resident buys $1,000 worth of stock from another U.S. resident. What is the effect on U.S. GDP?

Accepted Answer

There is no effect on GDP, because this is an exchange of assets and nothing is produced.

Question 6

A car worth $30,000 is produced by a U.S. firm in 2019 but not sold until 2020. How does this affect GDP in 2019 and 2020?

Accepted Answer

In 2019, GDP increases by $$30,000 due to inventory investment; in 2020, consumption increases by 30$$,000 and inventories decrease by $30,000, so the net effect on 2020 GDP is zero.

Question 7

Suppose the nominal interest rate is 4% and the inflation rate is 2%. What is the exact real interest rate?

Accepted Answer

$$\frac{1.04}{1.02} - 1 = 0.0196 = 1.96\%$$

Question 8

If the expected present discounted value (EPDV) of an investment's expected profits is $$38,462 and the cost is 100$$,000, with a discount rate of 5%, should the investment be undertaken?

Accepted Answer

Yes, because the EPDV of expected profits is positive relative to the cost.

Question 9

Suppose economic news leads bond traders to believe that short-term nominal interest rates will be permanently higher starting 10 years from now. What happens to the yield curve?

Accepted Answer

The yield curve becomes steeper for maturities of 10 years or more, as yields increase more for longer maturities.

Question 10

If the real interest rate declines, holding expected dividends constant, what happens to the real stock price and the expected real return on equity investment?

Accepted Answer

The real stock price increases and the expected real return on equity declines.

Question 11

Suppose expected real dividends per period are constant at $$D$$ forever, the real interest rate is $$r$$, and the equity premium is $$\pi_e. $$What is the formula for the real stock price?

Accepted Answer

$$\frac{D}{r + \pi_e}$$

Question 12

If a firm’s previous earnings are revealed to have been much higher than previously believed, but there is no change in expected future dividends, what happens to the real stock price?

Accepted Answer

There is no effect on the real stock price, because only expected future dividends matter.

Question 13

Suppose the nominal wage increases by 50% over 10 years, and the CPI increases by 45% over the same period. What is the approximate percentage change in the real wage?

Accepted Answer

$$\frac{1.5}{1.45} - 1 \approx 3\%$$

Question 14

Why does subtracting the price inflation rate from the wage inflation rate not exactly equal the percentage change in the real wage over a period of time?

Accepted Answer

Because the growth rate of a ratio is only approximately equal to the difference in growth rates over an interval; the exact relationship holds only instantaneously.

Question 15

If the government increases its purchases of final goods, what is the effect on GDP?

Accepted Answer

GDP increases by the value of government purchases, because G is a component of GDP.

Question 16

Suppose a consumer expects to earn $$20,000 when young and 70$$,000 in the middle period of life (expected value), with a discount rate of zero. What is the expected present discounted value (EPDV) of lifetime earnings?

Accepted Answer

$$20,000 + 70$$,000 = $$90,000$$

Question 17

If financial liberalization allows consumers to borrow when young, what is a likely effect on total wealth accumulation in the economy?

Accepted Answer

Total wealth accumulation may decrease, because consumers can spend more than their incomes when young.

Question 18

Suppose the two-year interest rate is determined by the following exact formula: $$r_{2t} = (1 + r_{1t})(1 + r_{1t+1}^e) - 1. If$$ $$r_{1t} = 0.02$$ and $$r_{1t+1}^e = 0.03$$, what is the exact two-year rate?

Accepted Answer

$$(1 + 0.02)(1 + 0.03) - 1 = 1.02 	imes 1.03 - 1 = 1.0506 - 1 = 0.0506 = 5.06\%$$

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