Midterm_2023_sol

Macroeconomics in the Global Economy Spring 2023 Midterm Exam This is a 60-minute exam. 1. The economy of Mars experienced a 9% nominal GDP growth rate and a 1% inflation rate. What real GDP growth rate did the economy of Mars experience? Choose one. a. 8% b. 10% c. -8% d. 9% Real GDP growth = Nominal GDP growth – inflation rate = 9% - 1% = 8% 2. Which of the following statements about the quantity theory of money are correct? Choose two. Recall that π = inflation rate, ࠵? ! = growth rate of money, ࠵? " = growth rate of velocity, ࠵? # = real GDP growth rate, ࠵? $# = nominal GDP growth rate. a. π = ࠵? ! + ࠵? # b. ࠵? ࠵?࠵? = ࠵? ࠵? + ࠵? ࠵? c. ࠵? " = 0 d. π = ࠵? ࠵? + ࠵? ࠵? − ࠵? ࠵? Recall the fundamental equation of the quantity theory of money: π = ࠵? ! + ࠵? " − ࠵? # . Therefore, d. is correct. Also, recall that ࠵? $# = ࠵? # − π . Then, from the fundamental equation of the quantity theory of money, you get π = ࠵? ! + ࠵? " − ࠵? $# + π. It follows that ࠵? $# = ࠵? ! + ࠵? " and option b. is correct. 3. Suppose we live in an open economy. Then, the GDP accounting equation is Y = C + G + I + NX. Which of the following statements about savings are not correct? Choose two. a. S = I – NX b. S – I = NX c. S = I d. S = Y – C – G In an open economy, S = I + NX, therefore S – I = NX and b. is correct. Consequently, a. and c. cannot be correct and are the right answers. d. is another correct definition of savings. 4. Suppose only two goods are consumed in the economy (i.e., milk and cookies). If the consumer price index increases from 100 in period 1 to 120 in period 2 and the expenditure share in milk is 0.2 and the price of cookies increased by 12%, by how much did the price of milk increase?

a. 48% b. 20% c. 52% d. 12% The change in the price index is 120 – 100 = 20. Given that the expenditure share in milk is 0.2 and only two goods are consumed in this economy, the expenditure share in cookies is 0.8 = 1 - 0.2. Therefore, 20 = 0.2 x percent increase in the price of milk + 0.8 x percent increase in the price of cookies. Therefore, 20 = 0.2 x percent increase in the price of milk + 0.8 x 12. Solving this equation, you obtain 52%. 5. Suppose the economy is experiencing high inflation because of excess demand. The Central Bank wants to achieve its 2% target inflation rate by altering credit conditions. Which of the following operations would help the Bank achieve its goal? Choose all that apply. a. Purchase government bonds from commercial banks. b. Increase the interest rate paid on excess reserves to commercial banks. c. Sell government bonds to commercial banks. d. Increase the reserve requirements for commercial banks. The only option that will not help the Central Bank is option a. Purchasing governments bonds will increase the money supply and decrease the FFR, resulting in an expansionary monetary policy that will likely drive the Central Bank away of its target. All other options are examples of contractionary monetary policies. 6. Low and stable inflation (i.e., around 2%) is desirable because… Choose all that apply. a. Allows firms to constantly increase their profit margins, thus stimulating investments. b. Allows nominal wages to decline in periods of low labor demand, thus minimizing unemployment during recessions. c. Entails small redistributive costs. d. Avoids a major cost of deflation, i.e., people anticipating purchases because of low prices. Option a. is not correct because higher prices do not translate into a generalized increase in profit margins. As prices in the economy increase, costs will increase as well. Option b. is not correct because nominal wages hardly adjust. Real wages instead do adjust in periods of low labor demand. Option c. is correct, as low inflation implies low redistributive costs of inflation. Option d. is not correct because a major cost of deflation is people postponing purchases expecting future prices to be lower than today.

High variance in the return to capital is a strong sign of misallocation. By providing more equitable access to loans, misallocation decreases which implies a reduction in the variance in the return to capital. Similarly, because the amount of capital flowing to businesses owned by young people goes up, the marginal product of capital for those businesses should decrease (remember the marginal product of capital is decreasing as we add more capital). 11. Imagine we live in an economy where there are two types of workers: manufacturing workers and service workers, and that service workers make less money than manufacturing workers. The government institutes a new policy that helps train service workers to become manufacturing workers. What effect will this policy have on the wage differential between manufacturing and service workers? Choose one a. The wage differential will go down. b. The wage differential will go up. c. The wage differential will not change. d. The change in the wage differential is ambiguous. This would increase the supply of manufacturing workers, lowering manufacturing wages, while decreasing the supply of service workers, increasing service wages. Thus, the wage differential between manufacturing and service workers will decrease. 12. Which of the following forces might increase structural unemployment? (Select all that apply) a. Unions collaborate with employers so that wages fall during recessions. b. Very high minimum wages. c. After a worker loses their job, it takes time for them to find a new employer. d. A policy that forces employers to pay fired workers 8 months of severance payments. If unions help firms cut wages during recessions, this will decrease structural unemployment. Frictions that prevent workers and firms from immediately forming new matches contribute to frictional unemployment. 13. Imagine we live in a country with 15 million people. Of those people, 2,500,000 are retired; 1,500,000 are young children in primary school; 7,500,000 work in the private sector; 500,000 work in the public sector; 1,000,000 do not have a job and are actively looking for work; 1,500,000 stay at home and do not work for a wage; and 500,000 are in university (since tuition is free in this country, these students do not do any work except for studying). Choose all that apply. a. The employment to population ratio is 0.7. b. The employment to population ratio is 0.53. c. The unemployment rate is 0.3. d. The employment to population ratio is 0.59. e. The unemployment rate is 0.11. The employment to population ratio is the ratio between workers (7,500,000+500,000) and adult population (7,500,000+500,000+2,500,000+1,000,000+1,500,000+500,000) while the unemployment rate is the ratio between unemployed (1,000,000) and labor force (7,500,000+500,000+1,000,000).

14. In 2015, a national government began a work-subsidy program for distressed companies, where the government would pay part of the salary of existing workers (if the workers agree to work a reduced schedule) for 12 months if the company is in a crisis. What effect do you think this will have on the steady-state unemployment rate? Choose one. a. The unemployment rate will go down. b. The unemployment rate will be unchanged. c. The effect on the unemployment rate is ambiguous. d. The unemployment rate will go up. The policy will increase job retention and decrease the probability that a worker loses a job. Therefore, the unemployment rate will go down.