ECON 102 Midterm 2012W2

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Ratna K. Shrestha Ratna K. Shrestha Full marks: 50 Full marks: 50 Time: 50 min Time: 50 min February 29, 2012 February 29, 2012 Student’s Name Student’s Name_{: ________________, __________________}_{: ________________, __________________} (Last) (First) (Last) (First) Student # Student # ________________________________________________ ---There are 3 long-answer questions and 10 MC questions. Once you have marked your There are 3 long-answer questions and 10 MC questions. Once you have marked your answers for all 10 MC questions, copy them to th

answers for all 10 MC questions, copy them to th e right of the corresponding questione right of the corresponding question number provided below.

number provided below.

1. 2. 3. 4. 5. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 6. 7. 8. 9. 10. ---Marking: Marking: MC Questions: 2 MC Questions: 2 x …..x ….. = ……= …… LA LA Questions: Questions: 1.1. …….……. 2. 2. ……...……... 3. 3. ……..…….. ________________________ ________________________________ Total Marks: Total Marks:

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A. Multiple Choice Questions (20 marks): A. Multiple Choice Questions (20 marks): 1. If A

1. If A and B are substitute goods (in consumption) and the price of A and B are substitute goods (in consumption) and the price of A increases,increases, we will observe________

we will observe________ (a)

(a) an increase in the price an increase in the price but a decrease in the equilibrium quantity of B.but a decrease in the equilibrium quantity of B. (b)

(b)an increase in the price an increase in the price and the equilibrium quantity of B. (Demand curveand the equilibrium quantity of B. (Demand curve of B shifts to the right and as a result both P and Q of B increase)

of B shifts to the right and as a result both P and Q of B increase) (c)

(c) a decrease in the price a decrease in the price and the equilibrium quantity of B.and the equilibrium quantity of B. (d)

(d) a decrease in price but a decrease in price but an increase in the equilibrium quantity of B.an increase in the equilibrium quantity of B. 2. A medical clinic has

2. A medical clinic has 10 workers. Each worker can 10 workers. Each worker can produce a maximum ofproduce a maximum of either 2 units of medical services or 5

either 2 units of medical services or 5 units of secretarial services a day. One day,units of secretarial services a day. One day, the firm decides it would like to produce 10

the firm decides it would like to produce 10 units of medical services and 15units of medical services and 15 units of secretarial services. This output level is

units of secretarial services. This output level is (a)

(a) production efficieproduction efficient because it nt because it is on the production pois on the production possibility boundary.ssibility boundary. (b)

(b) efficient if firms reduce the efficient if firms reduce the number of workers.number of workers. (c)

(c) outside the boundary and so is unattainable.outside the boundary and so is unattainable. (d)

(d)inside the boundary and so is attainable but inside the boundary and so is attainable but inefficient. (if the firminefficient. (if the firm produces 10 med services it can

produces 10 med services it can produce 25 secretarial services).produce 25 secretarial services). 3. Suppose Canadian economy's MPC = 0.8, t = 0.25, and m = 0.1. If 3. Suppose Canadian economy's MPC = 0.8, t = 0.25, and m = 0.1. If thethe government wants to raise real GDP by $100

government wants to raise real GDP by $100 million, it should raise governmentmillion, it should raise government expenditures G by

expenditures G by (a)

(a) 100 m.100 m. (b)

(b)50 m. (Multiplie50 m. (Multiplier = 1/(1 - 0.5) = r = 1/(1 - 0.5) = 2. 2. So dG requiSo dG required = 50)red = 50) (c)

(c) 10 m.10 m. (d)

(d) 20 m.20 m.

4. Given the information in the following table, 4. Given the information in the following table,

Government expenditures on goods and Government expenditures on goods and

services $400

Personal

Personal income income taxes taxes net net of of subsidy subsidy $200$200 Capital

Capital consumption consumption $400$400 Gross

Gross investment investment $300$300 Personal

Personal consumption consumption $2,000$2,000 Net

Net exports exports $ $ -50-50 Indirect

Indirect taxes taxes $150$150

this economy's (private) savings is equal to this economy's (private) savings is equal to

(a)

(a) $ 500.$ 500. (b)

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(c)

(c) $ 2650.$ 2650. (d)

(d) $ 450. $ 450. (Y = C+I+G+NX (Y = C+I+G+NX = 2650; S = Y - = 2650; S = Y - C - T (persC - T (personal tax) = 450)onal tax) = 450)..

Note: I briefly discussed about this in the class in relation to a similar Note: I briefly discussed about this in the class in relation to a similar practice Quiz question (and so included in the midterm). However since practice Quiz question (and so included in the midterm). However since this question is covered in only Chap 26 of the text, I will give marks for this question is covered in only Chap 26 of the text, I will give marks for this question to all).

this question to all).

5. Which of the following statements regarding global "Oil Shock" is true? 5. Which of the following statements regarding global "Oil Shock" is true?

(a)

(a) It shifts Japan's (a country which doesn't produce oil) AS curve It shifts Japan's (a country which doesn't produce oil) AS curve to the left.to the left. (Global oil shock means shift in the AS curve of

(Global oil shock means shift in the AS curve of the global economy whichthe global economy which increases global P for crude oil. Higher price of oil

increases global P for crude oil. Higher price of oil will make productionwill make production in oil importing countries more expensive)

in oil importing countries more expensive) (b)

(b) It shifts Saudi Arabia's (a major oil It shifts Saudi Arabia's (a major oil exporter) AD curve to the left.exporter) AD curve to the left. (c)

(c) It shifts Saudi Arabia's AS curve to It shifts Saudi Arabia's AS curve to the left.the left. (d)

(d) Both (a) and (b).Both (a) and (b). 6.

6. The following table gives the AD schedule and the AS schedule of anThe following table gives the AD schedule and the AS schedule of an

imaginary econom

imaginary economy with potential GDP y with potential GDP equal to $7 trillion. equal to $7 trillion. If the prices of rawIf the prices of raw

materials increase and as a result the AS curve shifts by $ 2 trillion at each price

level, then the price level (GDP deflator) at the

level, then the price level (GDP deflator) at the new short run equilibrium is $new short run equilibrium is $

________ and real GDP is $ ______trillion.

GDP

GDP Deflator Deflator ($) ($) AD AD ($ ($ trillion) trillion) AS AS ($ ($ trillion)trillion)

90 90 10 10 44(2)(2) 100 100 8 8 6 6 (4)(4) 110 110 6 6 8 8 (6)(6) 120 120 4 4 10 10 (8)(8) (a) (a) 110; 6110; 6 (b) (b) 100; 6100; 6 (c) (c) 110; 8110; 8 (d) (d) 120; 4120; 4

7. An island economy produces only bananas and coconuts. The table

7. An island economy produces only bananas and coconuts. The table belowbelow gives the quantities produced and prices in 2002 and 2003. The base year is 2002. gives the quantities produced and prices in 2002 and 2003. The base year is 2002.

Data

Data for for 2002 2002 Data Data for for 20032003 Items

Items Quantity Quantity Price Price Quantity Quantity PricePrice Bananas

Bananas 50 50 10 10 60 60 1212 Coconuts

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Using the traditional method (base year 2002 prices), the

Using the traditional method (base year 2002 prices), the GDP deflator in 2003 GDP deflator in 2003 isis approximately equal to ________. approximately equal to ________. (a) (a) 74.74. (b) (b) 110.110. (c)

(c) 135. (Nominal GDP = 60*12+40*9=1080. Real GDP = 60*10+40*5 = 800.135. (Nominal GDP = 60*12+40*9=1080. Real GDP = 60*10+40*5 = 800. GDP deflator = (1080/800)*100 = 135)

GDP deflator = (1080/800)*100 = 135) (d)

(d) 124.124.

8. Due to automatic (fiscal) stabilizers, when income rises 8. Due to automatic (fiscal) stabilizers, when income rises

(a)

(a) government outlays rise and tax rgovernment outlays rise and tax revenues fall.evenues fall. (b)

(b) government outlays fall and tax rgovernment outlays fall and tax revenues rise.evenues rise. (c)

(c) the economy will automatically return to the economy will automatically return to the original income level.the original income level. (d)

(d) government outlays equal tax government outlays equal tax revenues.revenues. 9.

9. The following figure shows a nation's consumption function. If disposableThe following figure shows a nation's consumption function. If disposable

income is $3 trillion, savings are $______ trillion and MPC is _______.

(a) (a) 3; 0.663; 0.66 (b) (b) 3; 0.503; 0.50 (c) (c) 3; 0.003; 0.00 (d) (d) 0; 0.66 (At Yd = 300, C = 300. So S = 0. MPC = 2/3)0; 0.66 (At Yd = 300, C = 300. So S = 0. MPC = 2/3)

10. Which of the following may increase real GDP in the

10. Which of the following may increase real GDP in the short run but mayshort run but may actually decrease the long-run growth rate of GDP?

actually decrease the long-run growth rate of GDP? (a)

(a) increase in factor-utilization rates.increase in factor-utilization rates. (b)

(b) increase in factor supplies.increase in factor supplies. (c)

(c) decrease in factor productivity.decrease in factor productivity. (d)

(d)decrease in households' desired savings. (more consumption can increasedecrease in households' desired savings. (more consumption can increase short-run Y but it also means less savings and investment and hence lower short-run Y but it also means less savings and investment and hence lower economic growth rate)

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B. Answer all of the following 3 questions as shortly and as precisely as B. Answer all of the following 3 questions as shortly and as precisely as possible

possible (avoiding (avoiding unnecessary unnecessary explanation). explanation). (30 (30 marks)marks) Question

Question 1 1 (10 (10 marks):marks):

In an economy, consumption C = 500 +

In an economy, consumption C = 500 + 0.8Y0.8YDD , I = 150, G = 150, X = 200 and IM = , I = 150, G = 150, X = 200 and IM =

0.1Y.

0.1Y. The margiThe marginal tax rate nal tax rate t = 15%.t = 15%. (a)

(a) Calculate Calculate the the equilibrium equilibrium real real GDP, GDP, Y, Y, of of this this economy. economy. (5 (5 marks)marks) (b)

(b) By how much should the government increase G if it wants to boost theBy how much should the government increase G if it wants to boost the equilibrium

equilibrium Y Y by by 400. 400. (7 (7 marks)marks) Case 1: C = 500 + 0.8Y

Case 1: C = 500 + 0.8YDD =500 +0.8 (Y - 0.15Y) =500 +0.8 (Y - 0.15Y)

a) AE = C+I+G+NX= 1000 + [0.8(1 - 0.15) - 0

a) AE = C+I+G+NX= 1000 + [0.8(1 - 0.15) - 0.1]Y = 1000 +0.58Y.1]Y = 1000 +0.58Y At equilibrium, Y = AE At equilibrium, Y = AE Y = 1000 + 0.58 Y Y = 1000 + 0.58 Y Y = 1000/0.42 = 2380.95 Y = 1000/0.42 = 2380.95 b) Multiplier = 1 /( 1 - 0.58) =2.38. b) Multiplier = 1 /( 1 - 0.58) =2.38. Multiplier =

Multiplier = ∆∆_Y/_Y/∆∆_{A and so}_{A and so} ∆∆_{A = 400/2.38 = 168.}_{A = 400/2.38 = 168.}

Case 2: C = 500 + 0.08 (Y - 0.15Y) Case 2: C = 500 + 0.08 (Y - 0.15Y) a) AE =

a) AE = 1000 - 0.032 Y 1000 - 0.032 Y and equilibriuand equilibrium Y= 968.99m Y= 968.99

b) Multiplier = 1 /( 1 - ( - 0.032)) = 0.9689 (note: multiplier < 1). b) Multiplier = 1 /( 1 - ( - 0.032)) = 0.9689 (note: multiplier < 1).

∆

∆_{A = 400/0.9689 = 412.8}_{A = 400/0.9689 = 412.8}

Case 3:

Case 3: C = 500 + 0.08YC = 500 + 0.08Y

a) In this case C is a function of Y (not Y

a) In this case C is a function of Y (not YDD) or the effect of tax is ) or the effect of tax is already includedalready included

in 0.08Y.

in 0.08Y. So the tax ratSo the tax rate t = 15% is e t = 15% is irrelevant.irrelevant. AE = 1000 - 0.02Y AE = 1000 - 0.02Y At equilibrium Y = AE At equilibrium Y = AE Y Y = 1000/1.02 = 1000/1.02 = = 980.4980.4 b) Multiplier = 1 /( 1 - ( - 0.02)) = 0.98. b) Multiplier = 1 /( 1 - ( - 0.02)) = 0.98. ∆ ∆_{A = 400/0.98 = 408.16.}_{A = 400/0.98 = 408.16.}

(You will get full marks for either one of the above answers depending on which C

function you used)

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Question 2 (10 marks): Question 2 (10 marks):

Brazilian economy is in a long-run equilibrium. What is the short-run effect of a Brazilian economy is in a long-run equilibrium. What is the short-run effect of a sharp decline in the global demand for Brazilian

sharp decline in the global demand for Brazilian cocoa on the Brazilian economycocoa on the Brazilian economy (price and real GDP)? Draw a sel

(price and real GDP)? Draw a self-explanatory graph to shf-explanatory graph to show this effect ow this effect (no(no explanation is necessary).

explanation is necessary). Also show the economyAlso show the economy's long-run natural tende's long-run natural tendencyncy in

in your your graph. graph. (6+4 (6+4 marks)marks)

Real GDP, Y Real GDP, Y GDP Deflator GDP Deflator AS AS AD AD Potential GDP Y* Potential GDP Y* Y Y₁₁ Y Y22 P P₁₁ AD' (

AD' (due to fall in Xdue to fall in X ) )

P P₂₂ AS' AS' ((decrease indecrease in factor prices factor prices)) Natural tendency Natural tendency P P₃₃ Y Y₃₃

Note that self explanatory means everything must be

Note that self explanatory means everything must be clearly shown in yourclearly shown in your

graph: a) all labels, b)

graph: a) all labels, b) directions of changes in Y and P, directions of changes in Y and P, and c) reasons behind theand c) reasons behind the

shifts of curves, i

shifts of curves, if any. f any. For example, why AD anFor example, why AD and/or AS shift mud/or AS shift must be clearlyst be clearly

shown in the diagram (or you must write a

shown in the diagram (or you must write a sentence or two explaining thesentence or two explaining the

reasons.)

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Question 3. Question 3.

The following diag

The following diagrams show the rams show the AD and AS curves of two different economieAD and AS curves of two different economies.s. (a) Complete the diagrams showing the multiplying effects of

(a) Complete the diagrams showing the multiplying effects of an increase inan increase in autonomous

autonomous expenditure. expenditure. (4 (4 marks)marks)

AD AD Y Y AS AS AD AD AS AS p p pp Economy

Economy A A EconomyEconomy B B AD' AD' Y Y₁₁ YY_A_A YY₁₁ YY_B_B AD' AD' P P₀₀ PP₀₀ P P11

Note that both graphs must be fully labeled to receive

Note that both graphs must be fully labeled to receive full marks!full marks!

(b) Which economy has a smaller multiplying effect? Explain in less than 100 (b) Which economy has a smaller multiplying effect? Explain in less than 100 words. (Note that the answer must be precise a

words. (Note that the answer must be precise and short to receive full marks; anynd short to receive full marks; any unrelated

unrelated or or wrong/exwrong/extra tra explanation explanation will will cost cost you you marks). marks). (4 (4 marks)marks) Economy B has a lower multiplying effect (than in Economy A) as in this

Economy B has a lower multiplying effect (than in Economy A) as in this economy the u

economy the upward sloping AS curve lepward sloping AS curve leads to an increase in price, P. ads to an increase in price, P. TheThe increase in P crowds out (or slows down) the effect of

increase in P crowds out (or slows down) the effect of increase in autonomousincrease in autonomous expenditure. The higher P can decrease C, I, G

expenditure. The higher P can decrease C, I, G and NX and hence slow and NX and hence slow down thedown the effect of initial increase in