14.02_Quiz_1_solutions_-_fall_2009

14.02_Quiz_1_solutions_-_fall_2009 - 1 Multiple Choice(30...

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1 Multiple Choice (30 points) Answer the following questions. You DO NOT need to justify your answer. 1. (6 Points) Consider an economy with two goods and two periods. Data are Good 1 p 1 t = 1 p 1 t +1 = 1 q 1 t = 1 q 1 t +1 = 1 : 1 Good 2 p 2 t = 1 p 2 t +1 = 1 : 4 q 2 t = 1 q 2 t +1 = 1 : 3 where q 1 t stands for the quantity of good 1 produced in period t; q 2 t stands for the quantity of good 2 produced in period t; p 1 t stands for the price of good 1 in period t and p 2 t stands for the price of good 2 in period t: The o¢ ce of national accounts wants to calculate the real GDP growth rate in this economy using the chain index and they hire you to do so. What is the correct growth rate you should report to the o¢ ce of national accounts? (a) 19.7% (b) 20.8% (c) 20.1% Remember that we can calculate growth in real GDP using the chain index with the following formula g t +1 ;t = 1 2 ° p 1 t +1 q 1 t +1 + p 2 t +1 q 2 t +1 p 1 t +1 q 1 t + p 2 t +1 q 2 t + p 1 t q 1 t +1 + p 2 t q 2 t +1 p 1 t q 1 t + p 2 t q 2 t ± ° 1 = 1 2 ° 1 : 1 + 1 : 82 1 + 1 : 4 + 1 : 1 + 1 : 3 1 + 1 ± ° 1 = 1 2 ° 2 : 92 2 : 4 + 2 : 4 2 ± ° 1 = 0 : 2083 which implies that the correct answer is b. 1

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2. (6 Points) When we characterize labor supply as an upward sloping relationship between hours worked and wages, we assume that (a) the substitution e/ect dominates the income e/ect. (b) the income e/ect dominates the substitution e/ect. (c) the income and the substitution e/ect cancel out making the relationship between hours worked and wages unambiguous. Remember that the budget constraint of an worker is wT = pc + wl where T is the total number of hours available to distribute between leisure and work, w is the hourly wage rate, p is the price of the consumption good, c id the consumption of the consumption good, and l is hours of leisure consumed by the agent. Notice that an increase in the wage, w has two e/ects: on the one hand it increases the left-hand side of the equation, which makes the agent consume more c and enjoy more leisure, hence work less. On the other hand, an increase in w makes the price of leisure more expensive, hence making leisure decrease. When we assume that hours worked increase with the wage we assume that the second e/ect is stronger than the °rst one, making a the correct answer. 3. (6 Points) According to the Solow growth model, which of the following statements is FALSE? (a) A country which experiences higher population growth than another will have a lower output per worker in steady state. (b) Steady state consumption in a country which saves more will always be higher than steady state consumption of a country with a lower savings rate. (c) Capital accumulation alone can not sustain long run growth in capital per worker. We know from the Solow model that population growth depreciates capi- tal per worker which causes countries with high population rate to have low levels of capital per worker. This makes the statement in a correct. We also know that if there is no technological growth, in the long run (in stead state) capital per worker will stop growing, which makes the statement in c correct. Finally notice that the statement in b is false. To see this, compare the steady state consumption of a country with the maximum level of savings, s = 1 : This country will have a steady state level of consumption c ° equal to c ° ( s = 1) = (1 ° s ) AF ( k ° ; 1) = 0
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