Consider an economy in which the consumption function takes the following simple algebraic form: C = 300 + 0.75DI and in which investment (I) is always $900 and net exports are always –$100. Government purchases are fixed at $1,300 and taxes are fixed at $1,200. Find the equilibrium level of GDP, and then compare your answer to Table 1 and Figure 2. (Hint: Remember that disposable income is GDP minus taxes: DI = Y – T = Y – 1,200.)
> What is the real interest rate paid on a credit card loan bearing 12 percent nominal interest per year, if the rate of inflation is a. zero? b. 4 percent? c. 8 percent? d. 15 percent?
> Below you will find the yearly average values of the Dow Jones Industrial Average, the most popular index of stock market prices, for five different years. The Consumer Price Index for each year (on a base of 1982–1984 = 100) can be fou
> If output rises by 35 percent while hours of work increase by 40 percent, has productivity increased or decreased? By how much?
> Use an aggregate supply-and-demand diagram to study what would happen to an economy in which the aggregate supply curve never moved while the aggregate demand curve shifted outward year after year.
> Which of the following problems are likely to be studied by a microeconomist and which by a macroeconomist? a. The rapid growth of Twitter b. Why unemployment in the United States fell from 2010 to 2018 c. Why Japan’s economy grew faster than the U.S. ec
> Which of the following items are likely to be normal goods for a typical consumer? Which are likely to be inferior goods? a. Expensive perfume b. Paper plates c. Secondhand clothing d. Overseas trips
> Consider two alternatives for Stromboli is 2018. In one case (a) its inhabitants eat 60 million pizzas and build 6,000 pizza ovens. In case (b), the population eats 15million pizzas but builds 18,000 ovens. Which case will lead to a more generous product
> Jasmine’s Snack Shop sells two brands of potato chips. She produces them by buying them from a wholesale supplier. Brand X costs Jasmine $1 per bag, and Brand Y costs her $1.40. Draw Jasmine’s production possibilities frontier if she has $280 budgeted to
> Suppose the supply and demand schedules for bicycles are as they appear in the following table. a. Graph these curves and show the equilibrium price and quantity. b. Now suppose that it becomes unfashionable to ride a bicycle, so that the quantity demand
> Graphically show the production possibilities frontier for the nation of Stromboli, using the data given in the following table. Does the principle of increasing cost hold in Stromboli?
> A person rents a house for $24,000 per year. The house can be purchased for $200,000, and the tenant has this much money in a bank account that pays 4 percent interest per year. Is buying the house a good deal for the tenant? Where does opportunity cost
> Suppose consumption and investment are described by the following: C = 150 + 0.75DI I = 300 + 0.2Y – 50r Here DI is disposable income, Y is GDP, and r, the interest rate, is measured in percentage points. (For example, a 5 percent interest rate is r = 5.
> Referring to Test Yourself Question 1, do the same for an economy in which investment is $250, net exports are zero, government purchases and taxes are both $400, and the consumption function is as follows: C = 250 + 0.5DI
> Explain why X – IM = (S – I) – (G – T). Now multiply both sides of this equation by –1 to get IM – X = (I – S) + (G – T) and remember that the trade deficit, IM – X, is the amount we have to borrow from foreigners to get Borrowing from foreigners = (I –
> Use an aggregate supply-demand diagram to analyze the effects of a currency appreciation.
> We learned in this chapter that successful speculators buy a currency when demand is weak and sell it when demand is strong. Use supply and demand diagrams for two different periods (one with weak demand, the other with strong demand) to show why this ac
> Use supply and demand diagrams to analyze the effect of the following actions on the exchange rate between the dollar and the yen: a. Japan opens its domestic markets to more foreign competition. b. Investors come to believe that values on the Tokyo stoc
> Suppose that the United States and Mexico are the only two countries in the world and that labor is the only productive input. In the United States, a worker can produce 12 bushels of wheat or 2 barrels of oil in a day. In Mexico, a worker can produce 2
> The following table describes the number of yards of cloth and barrels of wine that can be produced with a week’s worth of labor in England and Portugal. Assume that no other inputs are needed. a. If there is no trade, what is the price
> Long-term government bonds now pay approximately 3 percent nominal interest. Would you prefer to trade yours in for an indexed bond that paid a 1 percent real rate of interest? What if the real interest rate offered were zeroed? What if it were negative
> If the Federal Reserve lowers interest rates, what will happen to the government budget deficit? (Hint: What will happen to tax receipts and interest expenses?) If the government wants to offset the effects of the Fed’s actions on aggregate demand, what
> Explain in words why the structural budget might show a surplus while the actual budget is in deficit. Illustrate your answer with a diagram like Figure 6.
> Explain the difference between the budget deficit and the national debt. If the deficit gets turned into a surplus, what happens to the debt?
> Find the equilibrium level of GDP demanded in an economy in which investment is always $300, net exports are always –$50, the government budget is balanced with purchases and taxes both equal to $400, and the consumption function is described by the foll
> The money supply (M) is the sum of bank deposits (D) plus currency in the hands of the public (call that C). Suppose the required reserve ratio is 20 percent and the Fed provides $50 billion in bank reserves (R = $50 billion). a. First assume that people
> Which of the following events would strengthen the argument for the use of discretionary policy, and which would strengthen the argument for rules? a. Structural changes make the economy’s self-correcting mechanism work more quickly and reliably than bef
> During the financial crisis and recovery, stock market prices first fell by about 55 percent and then rose by about 65 percent. Did investors therefore come out ahead? Explain why not.
> Create your own numerical example to illustrate how leverage magnifies returns both on the upside and on the downside.
> If the expected default rate on a particular mortgage-backed security is 4 percent per year, and the corresponding Treasury security carries a 3 percent annual interest rate, what should be the interest rate on the mortgage-backed security? What happens
> Consider an economy in which government purchases, taxes, and net exports are all zero. The consumption function is C = 300 + 0.75Y and investment spending (I) depends on the rate of interest (r) in the following way: I = 1,000 – 100r Find the equilibriu
> Explain how your answers to Test Yourself Question 5 would differ if each of the assumptions changed. Specifically, what sorts of changes in the assumptions would weaken the effects of monetary policy?
> Explain what a $5 billion increase in bank reserves will do to real GDP under the following assumptions: a. Each $1 billion increase in bank reserves reduces the rate of interest by 0.5 percentage point. b. Each 1 percentage point decline in interest rat
> Treasury bills have a fixed face value (say, $1,000) and pay interest by selling at a discount. For example, if a one-year bill with a $1,000 face value sells today for $950, it will pay $1,000 – $950 = $50 in interest over its life. The interest rate on
> Suppose the Fed purchases $5 billion worth of government bonds from Bill Gates, who banks at the Bank of America in San Francisco. Show the effects on the balance sheets of the Fed, the Bank of America, and Gates. (Hint: Where will the Fed get the $5 bil
> Fredonia has the following consumption function: C = 100 + 0.8DI Firms in Fredonia always invest $700 and net exports are zero, initially. The government budget is balanced with spending and taxes both equal to $500. a. Find the equilibrium level of GDP.
> Which of the following is considered a fixed tax and which a variable tax? a. The gasoline tax b. The corporate income tax c. The estate tax d. The payroll tax
> Suppose there is $120 billion of cash and that half of this cash is held in bank vaults as reserves, all of which are required (that is, banks hold no excess reserves). How large will the money supply be if the required reserve ratio is 10 percent? 121⁄2
> For each of the transactions listed in Test Yourself Question 3, what will be the ultimate effect on the money supply if the required reserve ratio is one-eighth (12.5 percent)? Assume that the oversimplified money multiplier formula applies. Question 3
> Now put yourself in charge of the economy in Test Yourself Question 2, and suppose that full employment comes at a GDP of $1,840. How can you push income up to that level?
> Suppose you are put in charge of fiscal policy for the economy described in Test Yourself Question 1. There is an inflationary gap, and you want to reduce income by $120. What specific actions can you take to achieve this goal?
> Return to the hypothetical economy in Test Yourself Question 1, and now suppose that both taxes and government purchases are increased by $120. Find the new equilibrium under the assumption that consumer spending continues to be exactly three-quarters of
> Consider an economy similar to that in the preceding question in which investment is also $200, government purchases are also $500, net exports are also $30, and the price level is also fixed. But taxes now vary with income, and as a result, the consumpt
> Use an aggregate supply-and-demand diagram to show that multiplier effects are smaller when the aggregate supply curve is steeper. Which case gives rise to more inflation—the steep aggregate supply curve or the flat one? What happens to the multiplier if
> Add the following aggregate supply-and-demand schedules to the example in Test Yourself Question 1 of Chapter 9 to see how inflation affects the multiplier. a. Draw these schedules on a piece of graph paper. b. Notice that the difference between columns
> Suppose a worker receives a wage of $20 per hour. Compute the real wage (money wage deflated by the price index) corresponding to each of the following possible price levels: 85, 95, 100, 110, 120. What do you notice about the relationship between the re
> Use both numerical and graphical methods to find the multiplier effect of the following shift in the consumption function in an economy in which investment is always $220, government purchases are always $100, and net exports are always -$40. (Hint: What
> Imagine an economy in which consumer expenditure is represented by the following equation: C = 50 + 0.75DI Imagine also that investors want to spend $500 at every level of income (I = $500), net exports are zero (X – IM = 0), government purchases are $30
> An economy has the following consumption function: C = 200 + 0.8DI The government budget is balanced, with government purchases and taxes both fixed at $1,000. Net exports are $100. Investment is $600. Find equilibrium GDP. What is the multiplier for thi
> Keep everything the same as in Test Yourself Question 4 except change investment to I = $1,100. Use the equilibrium condition Y = C + I + G + (X – IM) to find the equilibrium level of GDP on the demand side. (In working out the answer, assume the price l
> From the following data, construct an expenditure schedule on a piece of graph paper. Then use the income-expenditure (45° line) diagram to determine the equilibrium level of GDP. Compare your answer with your answer to the previous question.
> From the following data, construct an expenditure schedule on a piece of graph paper. Then use the income-expenditure (45° line) diagram to determine the equilibrium level of GDP. Now suppose investment spending rises to $260, and the price le
> Which of the following acts constitute investment according to the economist’s definition of that term? a. Pfizer builds a new factory in the United States to manufacture pharmaceuticals. b. You buy 100 shares of Pfizer stock. c. A small drugmaker goes b
> Show on a graph how capital formation shifts the production function. Use this graph to show that capital formation increases labor productivity. Explain in words why labor is more productive when the capital stock is larger.
> Which of the following prices would you expect to rise rapidly over long periods of time? Why? a. Cable television rates b. Football tickets c. Internet access d. Household cleaning services e. Driving lessons
> Imagine that new inventions in the computer industry affect the growth rate of productivity as follows: Would such a pattern help explain U.S. productivity performance since the mid-1970s? Why?
> The following table shows real GDP per hour of work in four imaginary countries in the years 2008 and 2018. By what percentage did labor productivity grow in each country? Is it true that productivity growth was highest where the initial level of product
> Below you will find nominal GDP and the GDP deflator (based on 2012 = 100) for the years 1996, 2006, and 2016. a. Compute real GDP for each year. b. Compute the percentage change in nominal and real GDP from 1996 to 2006, and from 2006 to 2016. c. Comput
> Country A and Country B have identical population growth rates of 1 percent per annum, and everyone in each country always works 40 hours per week. Labor productivity grows at a rate of 2 percent in Country A and a rate of 2.5 percent in Country B. What
> Most economists believe that from 2010 to 2017, actual GDP in the United States grew slightly faster than potential GDP. What, then, should have happened to the unemployment rate over those three years? Before that, from 2006 to 2010, actual GDP grew slo
> Two countries start with equal GDPs. The economy of Country A grows at an annual rate of 3 percent, whereas the economy of Country B grows at an annual rate of 4 percent. After 25 years, how much larger is Country B’s economy than Country A’s economy? Wh
> Which of the following transactions are included in gross domestic product, and by how much does each raise GDP? a. Smith pays a carpenter $50,000 to build a garage. b. Smith purchases $10,000 worth of materials and builds himself a garage, which is wort
> The following table summarizes information about the market for principles of economics textbooks: a. What is the market equilibrium price and quantity of textbooks? b. To quell outrage over tuition increases, the college places a $55 limit on the price
> The following are the assumed supply and demand schedules for hamburgers in Collegetown: a. Plot the supply and demand curves and indicate the equilibrium price and quantity. b. What effect would a decrease in the price of beef (a hamburger input) have o
> The demand and supply curves for T-shirts in Touristtown, U.S.A., are given by the following equations: Q = 24,000 − 500P Q = 6,000 + 1,000P where P is measured in dollars and Q is the number of T-shirts sold per year. a. Find the equilibrium price and q
> Consider the market for beef discussed in this chapter (Tables 1 through 3 and Figures 1 and 8). Suppose that the government decides to fight cholesterol by levying a tax of 50 cents per pound on sales of beef. Follow these steps to analyze the effects o
> The two accompanying diagrams show supply and demand curves for two substitute commodities: regular cell phones and smartphones. a. On the right-hand diagram, show what happens when rising raw material prices make it costlier to produce regular cell phon
> What shapes would you expect for the following demand curves? a. A medicine that means life or death for a patient b. French fries in a food court with kiosks offering many types of food
> Now complicate Trivialand in the following ways and answer the same questions. In addition, calculate national income and disposable income. a. The government bought 50 cars, leaving only 150 cars for export. In addition, the government spent $800,000 o
> How are the following demand curves likely to shift in response to the indicated changes? a. The effect of a drought on the demand curve for umbrellas b. The effect of higher popcorn prices on the demand curve for movie tickets c. The effect on the deman
> Comment on the following: “Sharp changes in the volume of investment in the United States help explain both the productivity slowdown in 1973 and the productivity speed-up in 1995.”
> Explain why economic growth might be higher in a country with well-established property rights and a stable political system compared with a country where property rights are uncertain and the government is unstable.
> The United States is one of the world’s wealthiest countries. Think of a recent case in which the decisions of the U.S. government were severely constrained by scarcity. Describe the trade-offs that were involved. What were the opportunity costs of the d
> Roughly speaking, what fraction of U.S. labor works in factories? In service businesses? In government?
> If an earthquake destroys some of the factories in Poorland, what happens to Poorland’s potential GDP? What happens to Poorland’s potential GDP if it acquires some new advanced technology from Richland and starts using it?
> A bottle of wine you bought 15 years ago for $20 now has a market value of $1,500. Would you sell your bottle at that price or keep it for an important occasion? Would you purchase another bottle of such old wine at that high price?
> Which is the biggest national economy on earth? Why has it remained bigger than other countries with much larger labor forces or those with higher per capita incomes?
> Explain why national income and gross domestic product would be essentially equal if there were no depreciation.
> When the income-tax rate declines, as it did in the United States in the early 2000s, does the multiplier go up or down? Explain why.
> The following outline provides a complete description of all economic activity in Trivialand for 2018. Draw up versions of Tables 3 and 4 for Trivialand showing GDP computed in two different ways. There are thousands of farmers but only two big business
> You are probably covered by your parents’ health insurance policy. Where do they get health insurance?
> How much student debt do you expect to have on graduation day? Could you have attended your college without incurring this debt?
> Do you think it is “fair” that gig workers have no minimum wage, no health insurance, and no pension? Is it efficient?
> What platform markets do you participate in? Do network effects there seem important to you? Why or why not? If you pay to participate in a platform, would you still participate if the price was doubled?
> One member of the Federal Open Market Committee says, “With the unemployment rate below 4 percent, inflation is bound to rise.” A second member objects: “There is very little reason to believe that.” Comment on their dispute.
> You probably bank online, rather than go to the bank. When your parents went to college, hardly anyone did that. What jobs did online banking destroy? What jobs did it create? How might artificial intelligence change the banking business?
> In 2017, Congress passed the series of tax cuts that President Trump advocated. What effect did this policy likely have on the U.S. trade deficit? Why?
> Explain why a currency depreciation leads to an improvement in a country’s trade balance.
> If inflation is lower in Germany than in Italy, and the exchange rate between the two countries is fixed (as it is, because of the monetary union), what is likely to happen to the balance of trade between the two countries?
> Suppose you want to reserve a hotel room in London for the coming summer but are worried that the value of the pound may rise between now and then, making the room too expensive for your budget. Explain how a speculator could relieve you of this worry. (
> The example in the appendix showed that the Student Price Index (SPI) rose by 42 percent from 1987 to 2017. You can understand the meaning of this better if you do the following: a. Use Table 5 to compute the fraction of total spending accounted for by e
> Under the old gold standard, what do you think happened to world prices when a huge gold strike occurred in California in 1849? What do you think happened when the world went without any important new gold strikes for 20 years or so?
> During the first half of the 1980s, inflation in (West) Germany was consistently lower than that in the United States. What, then, does the purchasing-power parity theory predict should have happened to the exchange rate between the mark and the dollar b
> Country A has a cold climate with a short growing season, but a highly skilled labor force (think of Finland). What sorts of products do you think it is likely to produce? What are the characteristics of the countries with which you would expect it to tr
> Given the current state of the economy, what sort of fiscal-monetary policy mix seems most appropriate to you now?
> Newspaper reports frequently suggest that the administration (regardless of who is president) wants the Fed to lower interest rates. In view of your answer to Test Yourself Question 3, why do you think that might be the case?
> In December 2008, the Fed reduced the federal funds rate to approximately zero. What should it have done then? Why? What did it actually do?
> Given the behavior of velocity shown in Figure 1, would it make more sense for the Federal Reserve to formulate targets for M1 or M2?
> What factors do you think bankers normally use to distinguish “prime” borrowers from “subprime” borrowers?
> Since 2017, the federal government’s budget deficit has been rising because of tax cuts and increased spending. If the Federal Reserve wanted to maintain the same level of aggregate demand in the face of large increases in the budget deficit, what should
> What are some reasons behind the worldwide trend toward greater central bank independence? Are there arguments on the other side?
