Question 1 Answer all questions. Read the following statements and choose the best answer by writing the alphabetical letter on the answer sheets.
Question 21. The world producer price for baseballs is $24 per dozen, and almost all of them are produced outside the U.S. Suppose the U.S demand curve is Q
D=100,000-2,000P, where P is price per dozen, and Q is measured in dozens. The U. S domestic supply curve is Q
S=-10,000 + 1,000P.
(a) Before a tariff is imposed, what is the U. S equilibrium price? Domestic consumption? Domestic production? Imports?
(b)Congress has decided to help the baseball manufacturing industry for national security reasons, and it imposes a tariff of $6 per dozen. What are the new equilibrium price, domestic consumption, domestic production, and imports?
(a)Without a tariff, the domestic equilibrium price is the world price of $24. The domestic consumption equilibrium is QD(24)=100,000-2,000(24)=52,000. Domestic supply is QS(24)=-10,000+1,000(24)=14,000, so imports equal 38,000.
(b)The new equilibrium price is 24+6=$30. After the tariff, domestic demand is QD(30)= 100,000-2,000(30)=40,000, and domestic supply is QS(30)=-10,000+1,000(30) = 20,000; imports therefore fall to 20,000.
Question 31. A medium-sized city has two major industries: financial services and manufacturing of electronic equipment. Suppose that restrictions on interstate competition in the market for financial services lead to a large expansion of the financial services sector in the city.
(a)What effect do you predict that this increase in jobs would have oil wages and housing prices in the city?
(b)What effect do you think there would be on the manufacturing sector in the city? Would you expect that manufacturing employment would rise or fall?
(a)An increase in the demand for labor should increase wages in equilibrium. Higher wages will attract new workers to the city, as well as raise the incomes of all workers in the city. This, in turn, should increase the demand for housing, and thus raise the price of housing.
(b)Wages in the manufacturing sector would presumably rise due to competition for workers from other sectors. Increased housing would also raise the wages needed to attract new workers from other cities. Thus, this city's manufacturing sector faces higher costs than manufacturing in the other cities. If file electronics industry is mobile, firms are likely to transfer production to other cities. Hence, manufacturing employment will likely fall when employment in the other sectors rises.
Question 41. You are deciding whether to purchase a used car. The price of the car is $1,400 and you expect the car to last for four years. You have determined that the value of the flow of services you will receive from the car in each of the four years is $500. The interest rate is 20 percent. (Assuming that all figures are real terms.)
(a)Without discounting future cash flows and benefit streams, is the benefit of buying this car greater than the cost?
(b)When costs and benefits are appropriately valued, what is the net present value of this investment? Should you buy the car?
(a)The stream of benefits for the four years is $500+$500+$500+$500=$2,000.
The stream of costs over the four years is $1,400+$100+$100+$100=$1,700.
Therefore, the benefits outweigh the costs.
(b)The PV of the benefit stream is $500/(1+20%)+$500/(1+20%)2+$500/(1+20%)3+$500/(1+20%)4=416.67+347.22+289.35+241.13=$1,294.37.
The cost of the car is $1,400. The net present value is negative (1,294.37-1,400=-$105.63), and therefore you should not buy the car.
Question 51. Explain: "Ms Smith diminishes the national income by marrying her cook", hi what way is this true by definition of GDP? Is this one of the problems with the use of GDP as a measure of social welfare?
When Ms Smith employed her cook, the meals he produced were part of his employment contract. The transaction between the two would be a market one. The value he added to the food he prepared would form part of GDP.
Once Ms Smith realised that there was more to her cook than just his meals and she married him, presumably the employment contract would fall away. Although the cook would still add the same value to the meals he prepared, he would not charge for the service nor would he render a tax return in respect of these cooking activities. The activity would now be classified as a non-market one. The activities are now "within the family" and so are not included in the national income and to that extent the act of marriage has led to a fall in GDP.
Some would equate the creation of GDP with the attainment of social welfare. However, although GDP does provide a relatively good measure of economic or material wellbeing, it is an imperfect indicator of social welfare. Neither Ms Smith's economic nor her social wellbeing has been altered by her marriage to her cook (at least not as regards the cookery services provided by her cook/husband).
Question 61. Assume that GDP grew from $120 billion in 1994 to $160 billion in 1995 and the GDP deflator from 100 in 1994 to 130 in 1995.
a.Calculate the rate of growth of nominal GDP for 1995.
b.Calculate the rate of growth of real CDP for 1995.
c.What is the inflation rate for 1995?
(a)The growth rate of nominal GDP1995
=(nominal GDP1995-nominal GDP1994)/nominal GDP1994×100%
=($160b-$120b)/$120b×100%
=33.3%
(b)Real GDP1994=$120 b/100×100=$120 b
Real GDP1995=$160b/130×100=$123.1 b
The growth rate of real GDP1995
=(real GDP1995-real GDP1994)/real GDP1994×100%
=($123.1b-$120b)/$120b×100%
=19.3%
(c)Inflation rate for 1995=(P1995-P1994)/P1994×100%
=(130-100)/100×100%=30%
Quextion 71. Explain: "Equal increases in government spending and tax revenues of n dollars will increase the equilibrium GDP by n dollars". Does this hold true regardless of the size of the MPS?
Yes, this is true. When government spending changes, the additional income generated enters the income stream immediately from the first expenditure round. Tax changes of equal value do not have an equivalent impact on expenditure in the first round. This is because taxes impact on disposable income first and then upon expenditure.
Suppose MPS is 0.1 and let n=$100. The question suggests that government spending of$100 financed by a tax increase of $100 will increase real GDP by $100. The positive income stream coming from the increase in government spending will generate income equal to the (100+90+81+72.90+etc.)=100×1/MPS=$100×1/0.1=$10,000. The expenditure of one person becomes the income of the next. The reductions in income that result from the tax increase will be (90+81+72.9+etc.)=100×MPC×1/MPS=$900. If you take the tax stream away from the government expenditure stream you are left with $100. The tax stream is smaller because only $90 of the initial $100 levied in taxes would have been spent in the first round. If the MPS was 20%, for instance, then the "common" income amounts would start (80+64+51.20+etc.) and $100 would still remain after the streams were substracted. Therefore, the final result is in no way dependent on the size of marginal propensity to save (MPS).