ECON 102 Quiz 3 Questions And Answers (UPDATED SOLUTIONS).

ECON 102 Quiz 3 Questions And Answers (UPDATED SOLUTIONS). 1) Suppose that the real return on assets is 4% forever. Approximately what is it worth to have a gift from your grandparents when you are young that pays $2000 a year until you die: a. About $2,000 b. About $5,000; c. About $120,000 if you expect to live for another 60 years; d. About $20,000 e. About $8,000 f. About $50,000 Solution: The present value of the sum of all money to be received in the future on this “perpetuity” is given by $2,000 / 0.04 = $50,000 2) According to the Beveridge curve, what are possible values for x,y below? Vacancy rate 5% 7% 9% 11% Unemployment rate x% 11% 8% Y% a. x=17 and y=3 b. x=13 and y=6 c. x=16 and y=4 d. x=13 and y=4 This study source was downloaded by from CourseH on :23:43 GMT -06:00 e. x=16 and y=3 f. x=15 and y=6 g. x=12 and y=6 Solution: We have argued that there is diminishing returns to additional irons in the fire. Namely, the gains in lower unemployment rates as the vacancy rate rises from 5% to 7% to 9% to 11% must fall. Since the middle two gains are 11% and 8%, we need x>11+3=14 and y>8-3=5 ]3) Suppose that NASA finds that an asteroid is on a collision course to destroy the earth. In case A, it will hit next year and in case B, it will hit in two years. The one year interest rates will: a. …fall a lot in case A and even more in case B b. …fall a lot in case B and even more in case A c. …rise a lot in case A and even more in case B d. …rise a lot in case B and even more in case A e. …be unchanged f. …be unaffected in case A and falls in case B g. …be unaffected in case A and rises in case B Solution: Suppose the world ends next year (case A) and in two years time (case B). The one year interest rates will jump up in case B. Intuitively if there is no future, the value of postponing consumption today for consumption tomorrow (ie the value of saving) is really low, and therefore I must be very highly compensated (high interest rates) to make me willing to do so. 4) On Tuesday, European regulators unexpectedly approved Google’s profitable takeover of the online advertising company DoubleClick. Meanwhile Fed chairman Ben Bernanke suddenly pushed down interest rates by 0.5% to deal with the subprime crises. a. The Google stock price might jump up, but the Dow Jones falls; b. The Dow Jones falls, but Google stock price falls even more c. The Dow Jones rises, & Google’s stock price rises a higher %age d. The Google stock price must fall; e. The Dow Jones falls more than the Goggle stock price. Solution: The Efficient Market Hypothesis (EMH) says that ONLY unexpected news move market prices. In this example, the European This study source was downloaded by from CourseH on :23:43 GMT -06:00 commission unexpectedly approved the acquisition of DoubleClick by Google. DoubleClick enhances the advertising power of Google on the net, and therefore the Google stock price jumped up. At the same time, the chair of the Fed pushed down the interest rate, to prevent the US economy from entering a recession due to the ongoing mortgage crisis. As a result, prices of all stocks (the Dow Jones daily average) went up. On Tuesday, the Google stock price went up for two reasons: (1) the company’s specific “good news” and (2) the “easing” of monetary policy for the entire economy. 5) Suppose that the labor force participation rate rises, and the unemployment rate rises, while the adult population is constant. Then a. The number of unemployed and the labor force must rise b. The number of unemployed and the labor force might rise or fall c. The number of unemployed and the labor force must fall d. The number of unemployed might fall, but the labor force must rise e. The number of unemployed must rise, but the labor force might fall f. The number of unemployed must rise, but proportionately less than the labor force rises Solution: We are given that U/L rises and L/N rises. Multiplying, we see that U/N rises. Since N is fixed, U rises, and proportionately more than L.