Sample Midterm 1 Solutions
PART A
1. A
Unemployment rate is calculated from # of ppl unemployed / # of ppl
employed. Therefore, when unemployment rate is greater than zero, more
people are unemployed than those who are employed. No information is
provided regarding other types of unemployment, and D and E do not make
sense.
2. C
A and D are unobtainable since we are not provided with the number of
worker. D is wrong in math; 1 billion = 1000 million. Therefore, C is correct.
3. D
Wage raised by 2%, and price level increased by 3%, meaning real income
decreases by 1%. Therefore, the employees’ purchasing power falls. The
employer, in this case the one “purchasing” the employees, actually gains
purchasing power.
4. A
Since the fisbess are imported good, only the firm’s profit, which is created
domestically, counts towards GDP. A different approach would be to add
$10000 to consumption in the equation, but subtract $5000 as import in the
calculation for net export.
5. B
GDP can be calculated based on either income or expenditure, and they
should yield the same result. A would give twice the GDP. D and E are
virtually self-contradictory. C descripts statistical discrepancy.
6. C
Expenditure side should include purchases. C is not a purchase. In fact, C is an
account transfer and is not included in GDP at all.
7. E
Any increase in income would usually increase expenditure by less than the
corresponding amount, because people don’t spend all their money; they also
save.
8. E
The formula for simple multiplier is 1/1-z, where z is the marginal
propensity to spend. If z is one, then multiplier is not defined. However, when
the denominator is infinitely close to zero, the value is infinitely large.
9. C
A rise in domestic prices relative to foreign prices does a number of things.
First, it increases the incentive to buy foreign products, therefore increasing
import. As net export is export minus import, net export falls. This means, on
the graph, the function shifts down. Also, more incentive to buy foreign
products means an increase in GDP results in more imports. Hence, the slope
of the function also increases, resulting in a steeper graph.
10. B
Marginal propensity to spend is the slope of AE graph, which is the sum of all
the given terms. However, IM is included as a negative. Therefore, by
subtracting 0.08 from 0.84, we get 0.76.
11. A
The headline clearly indicates that AE function should decrease. Hence, it
shifts down. It is not a downward rotate (change in slope) because the
question states “all things being equal”.
12. C
GNP includes GDP, plus its accounts for income from assets abroad and
payments to foreign assets. Since the nationality of asset is the only thing
affected by foreign takeovers, therefore GNP decreases (increased outflow to
foreign assets) and GDP remains unchanged.
13. E
A change in price level causes a change in real income and consumption,
hence shifting the AE curve. The same change causes a change in the ycoordinate on the AD graph, causing a movement along the line.
14. E
In the AS model producers do not have control over price, but rather their
quantity produced. Hence B C and D do not make sense. A is simply irrational.
E is the only reasonable choice.
15. C
In Economy B, it is clear that the aggregated supply remains the same
regardless of the GDP. This means that the aggregated demand has absolute
power over the output level. Hence, the economy will experience an
incredibly volatile fluctuation due to AD shocks.
PART B
1. The only difference between real and nominal GDP is that real GDP has taken
account into inflation. Therefore, real GDP often appears to be higher than
the corresponding nominal GDP. Based on this logic, an increase in real GDP
should also appear smaller than a corresponding growth in nominal GDP.
That being said, both should increase at the same time.
2. GDP is short of Gross Domestic Production. When you purchase a stock
option, no production is directly induced. Hence it doesn’t count.
3. Living standard can be more effectively measure with real GDP per capita.
This literally translates into how much of the GDP each person in that
country gets. If a country has lots of GDP but also lots of people, its living
standard would be lower than another country who has only slightly lower
GDP but way fewer people. Simply put, each person enjoys a larger pieces of
the cake.
4. GNP. GDP does not take into account production by people/assets owned by
but outside of the country. Hence, when we look at GDP, we do not know
about these people. If the country has lots of people working abroad, its GDP
would be dramatically different from GNP, and also very inaccurate in terms
of the people’s well-being.
5. A recession in foreign countries would reduce the demand for exports. As
demand decreases, so does the price level, as well as AD and GDP.
In the long run, long-term unemployment would force workers to accept
lower wages. This leads to a decrease in production cost and right-shifting of
the AS curve. This would result in an even lower intersection with the AD
curve, further dropping the price level.