Version A

I. Multiple choice [1 pt each: 16 pts total]

(1)c. (2)c. (3)c. (4)a. (5)b. (6)a. (7)d. (8)a. (9)b. (10)c. (11)a. (12)c. (13)c. (14)a. (15)b. (16)b.

II. Problems

(1) [Malthusian model: 18 pts]

1. $5000, slope of subsistence line.
2. not enough food.
3. population decreases.
4. more than enough food.
5. population increases.
6. 4 million.
7. $5000.
8. 9 million.
9. $5000.

(2) [Growth of capital stock: 2 pts] $48.9 trillion = capital stock at end of prior year + gross investment - depreciation.

(3) [Interest rate as opportunity cost: 4 pts]

1. $1159 = 1000 × (1.03)⁵.
2. $1276 = 1000 × (1.05)⁵.

(4) [Interest rate and GDP shares: 10 pts] First, find the expression for the nongovernmental share (NG/Y) = (C/Y) + (I/Y) + (X/Y). Here,
(NG/Y) = 111 - 6 r .
Set this expression equal to 100 - (G/Y) = 100 - 19 = 81 and solve for the equilibrium interest rate r.
Then substitute that value of r back into the equations for (C/Y), (I/Y), and (X/Y).

1. 5 percent.
2. 67 percent.
3. 17 percent.
4. - 3 percent.
5. 14 percent. (S = GDP-C-G, so S/Y = 100 percent - C/Y - G/Y.)

(5) [Interest rate and GDP shares: 6 pts]

1. C/Y shifts.
2. C/Y shifts left.
3. NG/Y also shifts left.
4. interest rate decreases.
5. C/Y decreases.
6. I/Y increases.
7. X/Y increases.
8. Investment (I/Y) directly affects potential GDP in the long run because new capital raises the aggregate production function.
9. growth increases.

(6) [Measuring the labor force: 4 pts]

1. unemployed.
2. employed.
3. out of the labor force.
4. employed.

(7) [Measuring the labor force: 8 pts]

1. 6.9 million = labor force - employed.
2. 4.1 percent = unemployed / labor force.
3. 59.9 percent = employed / working-age population, where working-age population = labor force + not in labor force.
4. 62.5 percent = labor force / working-age population.

(8) [Technical change: 4 pts]

1. 1.2 percent (capital's contribution computed as 3.6 percent × 1/3).
2. 1.2 percent (technology's contribution computed as 2.4 percent minus capital's contribution).

(9) [Functions of money: 4 pts]

1. medium of exchange.
2. store of value.
3. medium of exchange.
4. unit of account.

(10) [Quantity equation: 2 pts] 4.1 percent (computed as as growth rate of money supply minus growth rate of real GDP).

(11) [GDP growth around the world: 6 pts] Countries that are above and to the left of the U.S. in this graph are converging toward the U.S.

1. Bolivia - YES.
2. Brazil - NO.
3. Costa Rica - YES.
4. Mexico - NO.
5. Chile - YES.
6. Columbia - YES

III. Critical thinking [4 pts]

(1) Yes, the government can influence the fraction of GDP devoted to consumption (C/Y). According to the spending shares model, if the government changes the share of government purchases in GDP (G/Y), then the interest rate will change and the share of consumption in GDP (C/Y) will change in the opposite direction. For example, if the government increases (G/Y), the interest rate will rise and (C/Y) will decrease.

But the government can also influence (C/Y) without changing (G/Y) by taking actions that shift the (C/Y) curve in the spending shares model. For example, to shift the (C/Y) curve to the left and decrease (C/Y), it must encourage consumers to save more and spend less. There are many ways it can do this.

• The government can switch from an income tax to a consumption tax or a national sales tax. (This has been proposed in Washington.)
• The government can offer retirement accounts, which shelter savings from taxation until they are withdrawn at retirement. (In fact, U.S. tax law allows several kinds of retirement accounts, though contributions to them are limited by law.)
• The government can reduce future retirement benefits under Social Security for current workers. That would encourage current workers to consume less now and save more for retirement outside the Social Security system.
• The government can lower taxes on interest income. That would encourage people to consume less and save more, because they would enjoy a higher return on their savings.

(2) Yes, the government can influence the fraction of GDP devoted to private investment spending (I/Y). According to the spending shares model, if the government changes the share of government purchases in GDP (G/Y), then the interest rate will change and the share of investment in GDP (I/Y) will change in the opposite direction. For example, if the government increases (G/Y), the interest rate will rise and (I/Y) will decrease.

But the government can also influence (I/Y) without changing (G/Y) by taking actions that shift the (I/Y) curve in the spending shares model. For example, to shift the (I/Y) curve to the right and increase (I/Y), it must encourage business owners to spend more on new capital. For example, the government can offer tax credits or other incentives for investment spending.

Version B

I. Multiple choice [1 pt each: 16 pts total]

(1)a. (2)a. (3)b. (4)c. (5)a. (6)b. (7)b. (8)b. (9)c. (10)a. (11)c. (12)a. (13)a. (14)b. (15)c. (16)d.

II. Problems

(1) [Malthusian model: 18 pts]

1. $4000, slope of subsistence line.
2. more than enough food.
3. population increases.
4. not enough food.
5. population decreases.
6. 6 million.
7. $4000.
8. 4 million.
9. $4000.

(2) [Growth of capital stock: 2 pts] $51.0 trillion = capital stock at end of prior year + gross investment - depreciation.

(3) [Interest rate as opportunity cost: 4 pts]

1. $116 = 1000 × (1.04)⁵.
2. $133 = 1000 × (1.10)⁵.

(4) [Interest rate and GDP shares: 10 pts] First, find the expression for the nongovernmental share (NG/Y) = (C/Y) + (I/Y) + (X/Y). Here,
(NG/Y) = 111 - 6 r .
Set this expression equal to 100 - 25 = 75 and solve for the equilibrium interest rate r.
Then substitute that value of r back into the equations for (C/Y), (I/Y), and (X/Y).

1. 6 percent.
2. 66 percent.
3. 14 percent.
4. - 5 percent.
5. 9 percent. (S = GDP-C-G, so S/Y = 100 percent - C/Y - G/Y.)

(5) [Interest rate and GDP shares: 6 pts]

1. C/Y curve.
2. shifts right.
3. NG/Y shifts right.
4. interest rate increases.
5. C/Y increases.
6. I/Y decreases.
7. X/Y decreases.
8. Investment (I/Y) directly affects potential GDP in the long run because new capital raises the aggregate production function.
9. growth decreases.

(6) [Measuring the labor force: 4 pts]

1. out of the labor force.
2. employed.
3. out of the labor force.
4. unemployed.

(7) [Measuring the labor force: 8 pts]

1. 7.5 million = labor force - employed.
2. 4.4 percent = unemployed / labor force.
3. 59.7 percent = employed / working-age population, where working-age population = labor force + not in labor force.
4. 62.4 percent = labor force / working-age population.

(8) [Technical change: 4 pts]

1. 1.1 percent (capital's contribution computed as 3.3 percent × 1/3).
2. 0.7 percent (technology's contribution computed as 1.8 percent minus capital's contribution).

(9) [Functions of money: 4 pts]

1. unit of account.
2. medium of exchange.
3. unit of account.
4. store of value.

(10) [Quantity equation: 2 pts] 4.3 percent (computed as as growth rate of money supply minus growth rate of real GDP).

(11) [GDP growth around the world: 6 pts] Countries that are above and to the left of the U.S. in this graph are converging toward the U.S.

1. Bangladesh - YES.
2. India - YES.
3. Indonesia - YES.
4. Iran - NO.
5. Thailand - YES.
6. Phillipines - YES.

III. Critical thinking

Same as Version A.

[end of answer key]