Econ 104 Exam 2 Dave Brown – Questions
with Answers
What is the great moderation - -The "Great Moderation" is the decrease in fluctuations in
real GDP after 1950. This could be explained by the increasing importance of services
(which less affected by recession), the establishment of unemployment insurance (which
can keep consumption going with lower incomes), active government stabilization policies,
and increased stability of the financial system.
-According to our growth model, we predicted convergence. What does this mean? - -t
means that developing countries will "catch up" to industrialized countries. Countries with
lower real GDP per capita will have higher growth rates than countries with higher real
GDP per capita
-Given the equations for C, I, G, and NX below, what is the equilibrium level of GDP?C =
2,000 + 0.9YI = 2,500G = 3,000NX = 400 - -Hint: In equilibrium, Y = AE, where AE = C + I +
G + NX. One equation, solve for Y.𝑌 = 𝐶 + 𝐼 + 𝐺 + 𝑁𝑋𝑌 = 2,000 + 0.9𝑌 + 2,500 + 3,000 +
4000.1𝑌 = 7,900𝑌 = 79,000The coefficient on Y is the MPC. In this case, MPC = 0.9. That
would mean the multiplier here is 10
-Explain the broken window fallacy. - -This is the belief that destruction can stimulate the
economy since damages must be repaired, forcing spending to occur. This spending
multiplies through the economy. The problem is that there is a hidden opportunity cost.
Instead of paying for damages, the people may have bought other goods such as cars and
clothing, which would have still stimulated the economy. However, now they can't buy the
clothes or car.This is sometimes related to government spending - politicians often claim
spending is good and that it creates jobs. But we must look at the productive benefits of
spending,rather than spending just for the sake of trying to boost the economy -
government spending is paid for by taxes, which means consumers will foot the bill and
have less disposable income to spend.
-Equations for C, I, G, and NX are given below. If the equilibrium level of GDP is $32,000,
what will the new equilibrium level of GDP be if government spending increases to 2,500?C
= 5,000 + (MPC)YI = 1,500G = 2,000NX = -500 - -Hint: You have to first find the MPC using
the original equilibrium level of GDP.32,000 = 5,000 + (𝑀𝑃𝐶) × 32,000 + 1,500 + 2,000 −
50024,000 = (𝑀𝑃𝐶) × 32,000𝑀𝑃𝐶 = 0.75With MPC = 0.75, plug in new G = 2,500 to get
new equilibrium Y = AE.𝑌 = 5,000 + 0.75𝑌 + 1,500 + 2,500 − 5000.25𝑌 = 8,500𝑌 = 34,000
-examine the Solow Growth model below, which shows production functions
What do the axes labels mean?2. What does this model mean for capital investment in
countries that currently have a small or largeexisting stock of capital? In other words, how
does this graph show diminishing returns?3. What does a movement from A to C mean on
this graph?4. What does a movement from B to C or from C to D mean on this graph? - -. On
the horizontal axis, K/L means capital per hour worked, or capital per worker.Remember
, that K (capital) is physical capital, such as equipment or machinery. The vertical axis, Y/L,
means Real GDP per hour worked, or Real GDP per worker. This can also be called output
per worker.2. The production functions are upward-sloping. More capital investment leads
to higher Real GDP per worker. However, the functions are nonlinear - they get shallower
moving left to right. This means that if there is currently a small stock of capital, an increase
in capital investment will greatly increase output per worker. If there is already a large
stock of capital, the same amount of investment in capital will lead to a smaller increase in
output per worker. This is diminishing returns -continually increasing investment in
capital will result in smaller increases in productivity. For a country that already has a large
stock of capital, an increase in technology will likely lead to a larger increase in output per
worker compared to further capital investment.3. Moving from A to C means there is an
increase in capital per worker, but the level of technology stayed the same.4. Moving from
B to C or from C to D means there is an increase in technology, or sometimes referred to as
a technological advancement
-1. What is the difference in private and public saving? 2. With public saving, when do we
see a budget surplus or deficit? 3. How does the government fund a budget deficit? - -1.
Saving occurs when more money is brought in than spent. (In other words, it occurs when
we don't spend all our income). Private savings is savings by households, and public
savings is savings by the government SPrivate is equal to all household income that is not
spent; household incomes derive from the payments for factors of production (Y) and
transfer payments (TR); households spend money on consumption (C) and taxes (T).
SPrivate = Y + TR - C - T The government saves whatever it brings in but does not spend
(this may be negative, known as dissaving). Government "income" is taxes. Government
spends on expenditures and transfer payments. SPublic = T - G - TR 2. When SPublic is zero,
the government spends as much as it brings in; this is known as a balanced budget. When
SPublic is positive, we have a budget surplus When SPublic is negative, we have a budget
deficit Usually, we have a budget deficit 3. The government funds a deficit by selling
treasury bonds to individuals and financial institutions. The buyer of the bond gets paid
interest.
-What is "crowding out"? - -When the government runs a deficit, it must sell treasury
bonds to fund the deficit. When households buy treasury bonds, it decreases the amount of
money available to be supplied in the market for loanable funds. The lower supply results
in a smaller equilibrium quantity of funds loaned in the market. This would reduce the
amount of private spending (private investment by firms). This is the crowding out - lower
private investment spending as the result of an increase in government purchases.
-1. Technological advances generally result in - -increased life expectancy
-2. A good measure of the standard of living is - -real GDP per capita.
-5. Countries with high rates of economic growth tend to have - -A. a labor force that is
more productive.
with Answers
What is the great moderation - -The "Great Moderation" is the decrease in fluctuations in
real GDP after 1950. This could be explained by the increasing importance of services
(which less affected by recession), the establishment of unemployment insurance (which
can keep consumption going with lower incomes), active government stabilization policies,
and increased stability of the financial system.
-According to our growth model, we predicted convergence. What does this mean? - -t
means that developing countries will "catch up" to industrialized countries. Countries with
lower real GDP per capita will have higher growth rates than countries with higher real
GDP per capita
-Given the equations for C, I, G, and NX below, what is the equilibrium level of GDP?C =
2,000 + 0.9YI = 2,500G = 3,000NX = 400 - -Hint: In equilibrium, Y = AE, where AE = C + I +
G + NX. One equation, solve for Y.𝑌 = 𝐶 + 𝐼 + 𝐺 + 𝑁𝑋𝑌 = 2,000 + 0.9𝑌 + 2,500 + 3,000 +
4000.1𝑌 = 7,900𝑌 = 79,000The coefficient on Y is the MPC. In this case, MPC = 0.9. That
would mean the multiplier here is 10
-Explain the broken window fallacy. - -This is the belief that destruction can stimulate the
economy since damages must be repaired, forcing spending to occur. This spending
multiplies through the economy. The problem is that there is a hidden opportunity cost.
Instead of paying for damages, the people may have bought other goods such as cars and
clothing, which would have still stimulated the economy. However, now they can't buy the
clothes or car.This is sometimes related to government spending - politicians often claim
spending is good and that it creates jobs. But we must look at the productive benefits of
spending,rather than spending just for the sake of trying to boost the economy -
government spending is paid for by taxes, which means consumers will foot the bill and
have less disposable income to spend.
-Equations for C, I, G, and NX are given below. If the equilibrium level of GDP is $32,000,
what will the new equilibrium level of GDP be if government spending increases to 2,500?C
= 5,000 + (MPC)YI = 1,500G = 2,000NX = -500 - -Hint: You have to first find the MPC using
the original equilibrium level of GDP.32,000 = 5,000 + (𝑀𝑃𝐶) × 32,000 + 1,500 + 2,000 −
50024,000 = (𝑀𝑃𝐶) × 32,000𝑀𝑃𝐶 = 0.75With MPC = 0.75, plug in new G = 2,500 to get
new equilibrium Y = AE.𝑌 = 5,000 + 0.75𝑌 + 1,500 + 2,500 − 5000.25𝑌 = 8,500𝑌 = 34,000
-examine the Solow Growth model below, which shows production functions
What do the axes labels mean?2. What does this model mean for capital investment in
countries that currently have a small or largeexisting stock of capital? In other words, how
does this graph show diminishing returns?3. What does a movement from A to C mean on
this graph?4. What does a movement from B to C or from C to D mean on this graph? - -. On
the horizontal axis, K/L means capital per hour worked, or capital per worker.Remember
, that K (capital) is physical capital, such as equipment or machinery. The vertical axis, Y/L,
means Real GDP per hour worked, or Real GDP per worker. This can also be called output
per worker.2. The production functions are upward-sloping. More capital investment leads
to higher Real GDP per worker. However, the functions are nonlinear - they get shallower
moving left to right. This means that if there is currently a small stock of capital, an increase
in capital investment will greatly increase output per worker. If there is already a large
stock of capital, the same amount of investment in capital will lead to a smaller increase in
output per worker. This is diminishing returns -continually increasing investment in
capital will result in smaller increases in productivity. For a country that already has a large
stock of capital, an increase in technology will likely lead to a larger increase in output per
worker compared to further capital investment.3. Moving from A to C means there is an
increase in capital per worker, but the level of technology stayed the same.4. Moving from
B to C or from C to D means there is an increase in technology, or sometimes referred to as
a technological advancement
-1. What is the difference in private and public saving? 2. With public saving, when do we
see a budget surplus or deficit? 3. How does the government fund a budget deficit? - -1.
Saving occurs when more money is brought in than spent. (In other words, it occurs when
we don't spend all our income). Private savings is savings by households, and public
savings is savings by the government SPrivate is equal to all household income that is not
spent; household incomes derive from the payments for factors of production (Y) and
transfer payments (TR); households spend money on consumption (C) and taxes (T).
SPrivate = Y + TR - C - T The government saves whatever it brings in but does not spend
(this may be negative, known as dissaving). Government "income" is taxes. Government
spends on expenditures and transfer payments. SPublic = T - G - TR 2. When SPublic is zero,
the government spends as much as it brings in; this is known as a balanced budget. When
SPublic is positive, we have a budget surplus When SPublic is negative, we have a budget
deficit Usually, we have a budget deficit 3. The government funds a deficit by selling
treasury bonds to individuals and financial institutions. The buyer of the bond gets paid
interest.
-What is "crowding out"? - -When the government runs a deficit, it must sell treasury
bonds to fund the deficit. When households buy treasury bonds, it decreases the amount of
money available to be supplied in the market for loanable funds. The lower supply results
in a smaller equilibrium quantity of funds loaned in the market. This would reduce the
amount of private spending (private investment by firms). This is the crowding out - lower
private investment spending as the result of an increase in government purchases.
-1. Technological advances generally result in - -increased life expectancy
-2. A good measure of the standard of living is - -real GDP per capita.
-5. Countries with high rates of economic growth tend to have - -A. a labor force that is
more productive.
