Home

Syllabus

Grades

Basics

Reserved

Down- load

Home- work

Reserved

Reserved

Reserved

Links

Principles of Macroeconomics-Homework

Fourth Problem Set- Due May 3, 2001

I have dropped problems 2,5 and 6. I will give extra weight to the remaining ones. The due date is not Monday May 7, 2001 (at the final exam).

These problems cover lectures 13-18

See the general ground rules for the first problem set. They apply here as well. All of my problems count 10%

Problem 1

1. South Freestone, an idyllic Caribbean island, has a recently developed and thriving tourism industry. About half the tourists come from the United States, while the other half come from Germany. While the native tongue is English, the German influx is so pronounced that signs "Wir Spreche Deutsch" can be found throughout the island. Freestone's currency is the Peach (P). The nation has a flexible exchange rate, so that the rate between the Peach and the Dollar and the Deutsche Mark (DM) fluctuates daily. Right now the Peach is going at 1P = $1, though that rate may change tomorrow. Professor Emeritus of Economics Nathan Reingold, who retired to the island a few years ago has noticed that whenever the DM appreciates against the dollar, the Peach tends to appreciate, and whenever the DM depreciates against the dollar, the Peach tends to depreciate.

There are proposals from time to time to establish a currency board for Freestone and peg the peach to the dollar at 1P = $1. To help the island's minister of finance evaluate the proposal, please analyze the following scenarios. As you read these scenarios, you may think that your analysis is complicated by the European Monetary Union. You are probably right, but, for the purposes of this exam, you need not worry about it.

· Suppose that Freestone continues on a flexible exchange rate and that, the next winter is a brutal one for the United States. There is an increase in the demand for vacation trips from the US to Freestone. You may assume no change in European weather conditions and that the Freestone Central Bank (which controls their money supply) makes no change in the supply of Peaches. Under those conditions, what would happen to the Peach-Dollar Exchange rate? The domestic price level in Freestone? The number of German tourists? Describe carefully the mechanism by which these changes would come about.

· Suppose that Freestone switches to a currency board. The supply of Peaches is backed by dollars at 1:1. The next winter is a brutal one for the US, and there is an increase in the demand for vacation trips from the US to Freestone. You may assume no change in European weather conditions. Under those conditions, what would happen to the Peach-Dollar Exchange rate? The domestic price level in Freestone? The number of German Tourists? Describe carefully the mechanism by which these changes would come about.

Problem 2

· Suppose Hungary wants to set up a currency board. Should it peg to the dollar or the Euro? (Note: there is not an open or shut answer to this question.)

· Hungary has not been invited to join the EMU. Show how Hungary can become an uninvited member.

Problem 3

You have just been selected as the minister of economic planning for West Endwell, which has a currency board maintaining an exchange rate of $1 = 15 Umlauts. You have no authority over the currency board. West Endwell is currently in a recession, with unemployment above the natural rate. You want to cut taxes to stimulate the economy. You have checked and West Endwellians do not have a bequest motive. Assuming that all of West Endwell's GDP is in traded goods, what do you think will happen when you cut taxes?

Problem 4

Should states tax sales made on the internet? Give an argument why economic efficiency dictates why they should be allowed to. Give an argument why they should not be able to. (And, to make the obvious point, give good arguments).

Problem 5

· I understand that the deficit on current account is financing new investment in this country. But that borrowing will ultimately have to be paid back by average citizens, so future generations will be worse off. Explain whether you agree or disagree

· Gold sells for $300 an ounce (US). A good loaf of French bread sells for $3. In West Endwell, a craftsman will sell you a gold necklace with 2 ounces of gold in it for 12,000 Umlats. It takes the craftsman 5 hours to make the necklace, and he expects to earn enough during that period to purchase five loaves of French bread, which currently sells for 600 Umulats a loaf. What is the exchange rate between Dollars and Umlauts?

Problem 6

Joe Petrovich is a butcher. He started last year off with $5,000 in his checking account, and with a $100,000 bank loan, on which he pays 8% interest. Last year Joe grossed $250,000 from butchering. He put $10,000 in a mutual fund, and received at $12,000 bequest from his beloved Aunt Sally. His expenses were as follows:

Purchases of Meat for Resale $160,000

Food $10,000

Clothing $5,000

Donation to KSU $5,000

Rent $32,000

Purchase of New Equipment for the Butcher Shop $25,000

At the end of the year, he had $8,000 in his bank account. He paid off none of the loan. If Joe is a nation unto himself, compute his balance on current account.

Problems 7 through 10

These problems are for you to write.  They must be based on the material in lectures 13-19 and in the accompanying material in Stockman.  Your problems must also contain the answers.  See the material in the first homework for grading and format instructions.

Third Problem Set – Due April 10, 2001

These problems cover Lectures 8-12

See the general ground rules for the first problem set.  They apply here as well. All of my problems count 10%

Problem 1

Explain whether you agree or disagree with the following statements:

· Inflation does cost us all. The rise in nominal values means extra tax revenue to the government.

· Inflation does cost us all. Look at how much more things cost than they did 20 years ago.

· Reserve requirements have changed very little in the past 20 years. In short, they are an ineffective policy, and the fact that they are never changed is proof that they are now meaningless. Were the Federal Reserve to abandon all reserve requirements tomorrow, we would never know the difference.

· The only difference between the quantity theory and the quantity equation is that one can be expressed in words, while the other requires mathematics

Problem 2

This problem asks for some monetary calculations.

· The M₁ multiplier is 5. M₁ is $100 Billion. The Price level went up, thanks to money being printed by 10%. By how much did the monetary base increase?

· If velocity rises from 5 to 6, and real GDP and M are unchanged, how much (in percent) will the price level change?

· If the M₁ multiplier is 5, M₁ is $1000, the price level is 5.0, real GDP is $1000, and M₂ velocity is 4, what is the M₂ multiplier?

· If the M2 is growing at 10% a year, and real GDP is growing at 6%, then what does the quantity theory of money tell us about the inflation rate.

· The kingdom of Bratwurst expects that factor productivity will grow by 6% next year. Population, the labor force and the capital stock will grow by 1%. Velocity will increase by 2% thanks to a more efficient banking system. The monetary base will grow from $100 million to $112 million, but the money multipliers should be constant. Assuming all of this comes to pass, by how much will prices increase?

Problem 3

In answering this problem, assume it is January 1, 2002.

East, Central, and West Bonzar have been marked by stable prices, with the money supply growing at the rate of GNP. The following table gives the price level in each country for the past few years (1996 = 100).

Year	Price Level in East Bonzar (as a percent of 1996 price level)	Price Level in Central Bonzar(as a percent of 1996 price level)	Price Level in West Bonzar (as a percent of 1996 price level)
1997	100%	100%	100%
1998	100%	100%	100%
1999	100%	100%	100%
2000	100%	100%	100%
2001	100%	100%	100%
2002
2003
2004

In all three countries, new monetary authorities announced, as of January 1, 2001, the monetary policy the will follow for the next three years. The changes are as described below. For each country, fill in the table to show the price level for 2002-2004. Hint: Put away any suspicions of what the Monetary Authorities say. Take their statements at their word. (While this may not be a good strategy in real life, it simplifies the answers to this question).

· The Finance Minister of East Bonzar announces that he has just doubled the money supply, but thereafter there will be no special increases in money. It will continue to grow at the rate of real output.

· The Finance Minister of Central Bonzar announces that he will begin allowing the money supply to grow at the rate of real growth of output plus 10% per year.

· The Finance Minister of West Bonzar announces no change in monetary policy.

Problem 4

For these problems, you should assume an aggregate demand curve AD and a long run aggregate supply curve AS^LR and a short run aggregate supply curve AS^SR ..In answering this question, be sure to draw the graph for each question, and make sure that it is properly labeled. Also make sure that, as you answer each question, you label the new graph properly and explain your answer. Points will be deducted for poor graphs and poor explanations.

· Show the price level and the level of output.

· Suppose that workers expect a huge round of technological improvement that presages wage increases in the near future. Show, using a well labeled and well explained graph, what happens initially to output. Note that this is before any increase in technology takes place

· Suppose that investors get discouraged in the future. Show, using a well labeled and well explained graph, what happens initially to output. Hint. Do not tell me the capital stock will be down. It may be eventually, but the initial effect will occur before any change in the capital stock.

Problem 5

The following table comes from the notes. For each of the cases, explain why the predicted effect comes about. (A sentence or two on each one will be sufficient; do not feel obliged to write a tome).

Table 10-2 Increase in Factors and Their Effect on Aggregate Demand
Factor	Effect on Aggregate Demand
Y = C + I + G + ( X – M )
Consumption Increases	AD Increases
Investment Increases	AD Increases
Government Purchases Increase	AD Increases
eXports Increase	AD Increases
iMports Increase	AD Decreases
M^s V = P y
Money Supply Increases	AD Increases
Velocity Increases	AD Increases
Price Level Increases	Movement Along AD Curve
Selected Other Factors
Value of Dollar Increases	AD Decreases
Taxes Increase	AD Decreases

Problem 6

Using the Aggregate Demand-Aggregate Supply Curve, show the initial and long run effects on the price level and output of each of the following:

· An exogenously generated increase in export demand

· A fall in the US dollar relative to the Euro.

· An increase in consumer confidence. Consumers feel better about the future.

· The public becomes concerned that they will not be able to withdraw their deposits on demand from their banks

· Banks become more concerned that they are not keeping enough reserves to meet their depositor's demands

· Foreigners become concerned about the solvency of their banking systems, and begin to hold more dollars themselves.

Problems 7 through 10

These problems are for you to write.  They must be based on the material in lectures 8-12 and in the accompanying material in Stockman.  You problems must also contain the answers.  See the material in the first homework for grading and format instructions.

Second Problem Set – due March 13, 2001

These problems cover Lectures 5-7

See the general ground rules for the first problem set.  They apply here as well.  All of my problems count 10%

Problem 1

Consider our basic model, represented by Figure 6-1.  Suppose that investors, not consumers, suddenly become pessimistic about the future.  Show what effects this will have this year on our basic economy.

Problem 2

Consider our basic model, represented by Figure 6-1.  At the 87^th annual convention of Wizards and Inventors, an exciting new technology is unveiled that will effectively shift the production function out next year.  At the same time, it becomes clear that the effect will be to shift the demand for labor next year to the right.  Show what effects this will have this year on our basic economy.

Problem 3

Consider our basic model, represented by Figure 6-1.  The government suddenly and unexpectedly issues a new type of money, called “bluebacks”, notably distinguished by being printed on blue and not green paper.  Bluebacks are exchanged one for one for greenbacks.  Instead of containing pictures of political heroes,  (Washington, Jefferson, Lincoln, etc.) the new bills contain pictures of rock stars.  (Elvis is on the one, John Denver on the five, etc.).  Some people are approving, while others are disgusted.  However, the net effect is that individuals hold on to their currency twice as long as they did before.  Show what effects this will have this year on our basic economy.

Problem 4

Revised 3/12/01. Old works are in strikethrough. New works are in red.

Consider our basic model, represented by Figure 6-1.  East and West Balderdash are countries of similar size, climate, natural resources, etc.  East Balderdash has a relatively high per capita GDP, comparable to that of the United States or Western Europe.  West Balderdash has suffered for years from a hopelessly corrupt government that has effectively suppressed economic development.  Thus, its per capita GDP is more like that of India.  Suddenly a new government comes to power in West Balderdash, pledging civil and economic liberty.  To prove it, they repeal the entire set of laws and government regulations in East West Balderdash, replacing them with the laws of West East Balderdash.  Your task is to figure out the impact of this change on the East West Balderdashian economy.

· One immediate question that should come to mind is whether this change will stick or whether the regime will soon slip back into the old habits of East West Balderdash.  Technically, this is known as a credibility issue.  Explain why this is an important issue.

· Assume here and for the rest of this question that it is not an issue.  The changes are credible and are expected to stick. What sort of economic growth do you expect in East West Balderdash over the next several years?  Why?  What sort of capital accumulation would you expect to occur?  Why?

· East West Balderdashian politicians claim that their new policies will allow them to eventually overtake West East Balderdash, basically because of the new revolutionary spirit of their people.  Comment.  Do you expect them to overtake?  Why or why not?

· Central Balderdash, is also initially like East West Balderdash.  It keeps its ancient system of laws.  However, it does engage in a massive program of capital investment, doubling the percentage of GDP going to investment.  Amazingly, the investment project is not marked by corruption.  Compare and contrast the initial impact of this strategy with that followed by East West Balderdash.  Which strategy is best?

Problem 5

Consider our basic model, represented by Figure 6-1.  The government is considering investing in a whole range of new economic projects.  For each one, decide whether it can help promote economic growth.  Explain and defend your answer.

Do not worry about whether this is a good program in general, but simply whether it will promote economic growth.  If you think the answer is ambiguous, explain why.

Military spending on advertising for new recruits

Military spending for new laser technology

Funding for computer infrastructure like a nationwide network

Funding for a national opera company

Extra funding for educational programs

Problem 6

Consider our basic model, represented by Figure 6-1.  We know that the level of output is given by 

Real GDP = AK^1/3L^2/3,

We can show that

Rate of Growth of GDP = Rate of Growth of A +
(1/3) (Rate of Growth of K) + (2/3) (Rate of Growth of L)

While a proof is available on request, you may take my word for it.  Assume that L is growing at x percent per year and that A is growing at “a” percent per year.  You may also assume that the capital stock will grow at the rate of output.  (I can also show that to be true under certain conditions).  Comment on the following statements:

· Raising the rate of population growth is a good thing for the economy.

· Raising the rate of growth for technology is a good thing for the economy.

Problems 7 through 10

These problems are for you to write.  They must be based on the material in lectures 5-7 and in the accompanying material in Stockman.  You problems must also contain the answers.  See the material in the first homework for grading and format instructions.

First Problem Set- due February 13, 2001

These problems cover Lectures 1-4

Some general ground rules.  Not all questions in this problem set get equal weighting.  In total, my problems will count sixty percent of the problem set grade.  Your problems will count forty percent of the grade. 

· Your answers must be submitted on 8.5 x 11 inch paper.  Use only one side.  Paper clips, please, no staples.

· Please start your questions on a new page.

· Put your name on each page.

· I plan to reproduce your problems and distribute them in class for discussion. 

You are free – and encouraged – to work with others on my problems.  However your problems must be your own work.

Problem 1  (10 points)

The Monty Python Book of international economic data report the following data on Westphalia for 2000.

Item	Amount
Bushels of Corn Raised	80,000
Price of Corn	$6 per bushel
Number of hogs raised	15,000
Price of Hogs	$40
Corn consumed by each hog	4 bushels

No other goods and services were produced in Westphalia

(a) What was Westphalia’s GDP? Explain your answer.

 (b) Monty Python also reports the following data for 1999

Item	Amount
Bushels of Corn Raised	90,000
Price of Corn	$7 per bushel
Price of Hogs	$35
Corn consumed by each hog	4 bushels
Total Amount earned by Farmers	$600,000
Total Amount earned by Landowners	$142,000

How much did the price level increase from 1999 to 2000? Explain your answer.

Problem 2  (24 percent)

Explain whether you agree or disagree with the following statements:

· Unemployment is not a good thing.  Having people out of work is a sign of economic failure

· The higher a nation’s per capita GDP, the higher its well-being

· Positive economics is better than normative economics, which can be negative.

· If Consumption, Investment, Government Spending and Net Exports go up, but hours of work do not, we will see a rise in GDP but not in National Income.

· If interest rates rise, the investment demand curve will shift to the left.

· The higher the level of unemployment compensation, the higher the natural rate of unemployment

· If we want to discourage unemployment, we can do so by raising the minimum wage, and thus make working more attractive.

· The short run labor supply curve is upward sloping because workers don't expect periods of high wages or low wages to last long.

Problem 3 (12 percent)

For each of these cases, tell me whether the individual is along his or her long run or short run labor supply curve and tell me why.

· Fred, currently employed at $10 an hour, loses his job.  He starts the process of looking for a new, comparable job, but it will take some time.  In the meantime, the best he can find is a job flipping burgers at McDonalds at $6 an hour.

· Barney is in his second year of college.  Right now, the best job he can find is a job at McDonalds at $6 an hour.

· Barney's twin brother is not going to college.  He, too, learns that the best job he can find is at McDonald's at $6 an hour.

· Betty is majoring in Fashion Design. One of her designs has fascinated an elite designer in New York City.  The designer has offered her the chance to come to Manhattan and work at $50 an hour completing the design and helping design a whole line around the design.

· Wilma is currently making $6 an hour.  She is offered $15 an hour to work for the next two days doing the store's annual inventory.  Thereafter, she will return to her old job.

· Wilma is currently making $6 an hour.  She is offered $15 an hour to help set up a new store.  The task will last two years.  Thereafter, she will return to her old job.

Problem 4 (7 percent)

Assume labor demand and labor supply are as given by Figure 1-4.  Show what would happen to the number of people working and the wage rates, both in the short run and the long run.  Give two explanations.  The first should be an explanation suitable for me.  The second should be suitable for your favorite (or least favorite: your choice) high school English teacher.  That is, grammar and intuition count and points are deducted for both jargon and appeals to graphs.

Problem 5 (7 percent)

Most of us value money.  We would all stoop to pick a pile of $100 bills off the floor.  Suppose a chest stuffed with £5 notes had washed ashore on Crusoe’s island.  Would they have any particular value to Crusoe, other than perhaps as toilet paper?  Why or why not? 

Problems 6 through 9

These problems are for you to write.  They must be based on the material in lectures 1-4 and in the accompanying material in Stockman.  You problems must also contain the answers.  The format should be of the following form:

Hypothetical Problem 7

If John walks at a pace of three miles per hour and it is 6 miles to town, how long will it take him to get to town?

Answer

Two hours.  We can see that by dividing his speed, three miles per hour into distance

Some general directions on these problems.  Each problem will be graded on a double scale:  Is your answer correct?  And is this an interesting and challenging problem?  That depends on whether it is a new problem, and whether I think students would benefit from working it.  On each criterion, your problems will be grades on a score of 0 to 3, with 3 being the highest.  The final point score on the exercise will depend on both scores.  This table shows how many points you get, depending on your score:

		Correctness of Answer
		0	1	2	3
Quality of Question	0	0	0	0	0
	1	0	2	4	6
	2	0	4	6	8
	3	0	6	8	10

As you will note, this is set up so that if your question is “How much is 2 + 2 and you answer 4, you will get a “3” on correctness of answer, but the quality of question score will be “0”, resulting in the zero points such a question richly deserves.  (And to answer the obvious, the hypothetical problem seven would earn a grade of zero; the answer is impeccable, but the quality of the question is miserable for an economics class).

Home

Syllabus

Grades

Basics

Reserved

Down- load

Home- work

Reserved

Reserved

Reserved

Links

Created by Charles W. Upton, who may be contacted at cupton@kent.edu