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Unformatted text preview: Economics 304L: Principles of Macroeconomics Spring 2010 Sadler Homework 2 Solutions The following problems refer to the “Problems and Applications” section at the end of Chapter 10 of Mankiw (pp. 221 – 223). 1. a. b. c. No. 1 Consumption increases because a refrigerator is a good purchased by a household. Investment increases because a house is an investment good. Consumption increases because a car is a good purchased by a household, but investment decreases because the car in Ford’s inventory had been counted as an investment good until it was sold. Consumption increases because pizza is a good purchased by a household. Government purchases increase because the government spent money to provide a good to the public. Consumption increases because the bottle is a good purchased by a household, but net exports decrease because the bottle was imported. Investment increases because new structures and equipment were built. d. e. f. g. 2. No. 4 a. Nominal GDP for each year is found in the following table: Year Nominal GDP 1 P1Q1 2 P2Q2 3 P3Q3 b. Real GDP for each year is found in the following table: Year Real GDP 1 P1Q1 2 P1Q2 3 P1Q3 b. The GDP deflator for each year is found in the following table (note that the Qs cancel from numerator and denominator): Year GDP deflator 1 100 2 (P2/P1)100 3 (P3/P1)100 Economics 304L: Principles of Macroeconomics Spring 2010 Sadler d. Real GDP growth from Year 2 to Year 3 equal to [(Q3 – Q2)/Q2] × 100 percent. e. The inflation rate as measured by the GDP deflator is [(P3 – P2)/P2] × 100 percent. 3. No. 5 a. Calculating nominal GDP: 2008: ($1 per qt. of milk × 100 qts. milk) + ($2 per qt. of honey × 50 qts. honey) = $200 2009: ($1 per qt. of milk × 200 qts. milk) + ($2 per qt. of honey × 100 qts. honey) = $400 2010: ($2 per qt. of milk × 200 qts. milk) + ($4 per qt. of honey × 100 qts. honey) = $800 Calculating real GDP (base year 2008): 2008: ($1 per qt. of milk × 100 qts. milk) + ($2 per qt. of honey × 50 qts. honey) = $200 2009: ($1 per qt. of milk × 200 qts. milk) + ($2 per qt. of honey × 100 qts. honey) = $400 2010: ($1 per qt. of milk × 200 qts. milk) + ($2 per qt. of honey × 100 qts. honey) = $400 Calculating the GDP deflator: 2008: ($200/$200) × 100 = 100 2009: ($400/$400) × 100 = 100 2010: ($800/$400) × 100 = 200 b. Calculating the percentage change in nominal GDP: Percentage change in nominal GDP in 2009 = [($400 − $200)/$200] × 100 = 100%. Percentage change in nominal GDP in 2010 = [($800 − $400)/$400] × 100 = 100%. Calculating the percentage change in real GDP: Percentage change in real GDP in 2009 = [($400 − $200)/$200] × 100 = 100%. Percentage change in real GDP in 2010 = [($400 − $400)/$400] × 100 = 0%. Calculating the percentage change in GDP deflator: Percentage change in the GDP deflator in 2009 = [(100 − 100)/100] × 100 = 0%. Percentage change in the GDP deflator in 2010 = [(200 − 100)/100] × 100 = 100%. Prices did not change from 2008 to 2009. Thus, the percentage change in the GDP deflator is zero. Likewise, output levels did not change from 2009 to 2010. This means that the percentage change in real GDP is zero. c. Economic well‐being rose more in 2008 than in 2009, since real GDP rose in 2009 but not in 2010. In 2009, real GDP rose but prices did not. In 2010, real GDP did not rise but prices did. Economics 304L: Principles of Macroeconomics Spring 2010 Sadler 4. No. 6 Year 2000 1999 a. The growth rate of nominal GDP is ($9,873 − $9,269)/$9,269 × 100% = 6.5%. b. The growth rate of the deflator is (118 − 113)/113 × 100% = 4.4%. c. Real GDP in 1999 (in 1996 dollars) is $9,269/(113/100) = $8,203. d. Real GDP in 2000 (in 1996 dollars) is $9,873/(118/100) = $8,367. e. The growth rate of real GDP is ($8,367 − $8,203)/$8,203 × 100% = 2.0%. f. The growth rate of nominal GDP is higher than the growth rate of real GDP because of inflation. The remaining problems are taken from the “Problems and Applications” section at the end of Chapter 11 of Mankiw (pp. 239 – 241). 5. No. 3 The percentage change in the price of tennis balls is (2 – 2)/2 × 100% = 0%. The percentage change in the price of golf balls is (6 – 4)/4 × 100% = 50%. The percentage change in the price of Gatorade is (2 – 1)/1 × 100% = 100%. The cost of the market basket in 2009 is ($2 × 100) + ($4 × 100) + ($1 × 200) = $200 + $400 + $200 = $800. The cost of the market basket in 2010 is ($2 × 100) + ($6 × 100) + ($2 × 200) = $200 + $600 + $400 = $1,200. The percentage change in the cost of the market basket from 2009 to 2010 is (1,200 – 800)/800 × 100% = 50%. This would lower the estimate of the inflation rate because the value of a bottle of Gatorade is now greater than before. The comparison should be made on a per‐ounce basis. More flavors enhance consumers’ well‐being. Thus, this would be considered a change in quality and would also lower the estimate of the inflation rate. Nominal GDP (billions) $9,873 $9,269 GDP Deflator (base year: 1996) 118 113 Economics 304L: Principles of Macroeconomics Spring 2010 Sadler 6. No. 4 The cost of the market basket in 2009 is (1 × $40) + (3 × $10) = $40 + $30 = $70. The cost of the market basket in 2010 is (1 × $60) + (3 × $12) = $60 + $36 = $96. Using 2009 as the base year, we can compute the CPI in each year: 2009: $70/$70 x 100 = 100 2010: $96/$70 x 100 = 137.14 We can use the CPI to compute the inflation rate for 2010: (137.14 − 100)/100 x 100% = 37.14% Nominal GDP for 2009 = (10 × $40) + (30 × $10) = $400 + $300 = $700. Nominal GDP for 2010 = (12 × $60) + (50 × $12) = $720 + $600 = $1,320. Real GDP for 2009 = (10 × $40) + (30 × $10) = $400 + $300 = $700. Real GDP for 2010 = (12 × $40) + (50 × $10) = $480 + $500 = $980. The GDP deflator for 2009 = (700/700) × 100 = 100. The GDP deflator for 2010 = (1,320/980) × 100 = 134.69. The rate of inflation for 2010 = (134.69 – 100)/100 × 100% = 34.69%. No, it is not the same. The rate of inflation calculated by the CPI holds the basket of goods and services constant, while the GDP deflator allows it to change. 7. No. 10 a. When inflation is higher than was expected, the real interest rate is lower than expected. For example, suppose the market equilibrium has an expected real interest rate of 3% and people expect inflation to be 4%, so the nominal interest rate is 7%. If inflation turns out to be 5%, the real interest rate is 7% minus 5% equals 2%, which is less than the 3% that was expected. b. Because the real interest rate is lower than was expected, the lender loses and the borrower gains. The borrower is repaying the loan with dollars that are worth less than was expected. Economics 304L: Principles of Macroeconomics Spring 2010 Sadler c. Homeowners in the 1970s who had fixed‐rate mortgages from the 1960s benefited from the unexpected inflation, while the banks that made the mortgage loans were harmed. ...
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