Economics 201
Intermediate Macroeconomic Theory
Exam 1
Spring 2006
Name ______________________________________
Score ___________
YOU MUST SHOW ALL OF YOUR WORK WHERE APPROPRIATE AND ALL GRAPHS MUST BE
FULLY AND ACCURATELY LABLED.
Choose the BEST answer for each question. (10 Points)
1.
When an economy is approaching a peak, the inflation rate tends to ____________ and the
unemployment rate tends to ________________ .
a. fall; fall
b. rise; rise
c. rise; fall
d. fall; rise
2.
Percentage changes in the CPI tend to overstate inflation because:
a. people substitute away from goods whose relative price has risen.
b. the continual introduction of new goods makes consumers better off even if prices do not
fall.
c. improvements in product quality tend to be underestimated.
d. all of the above.
3.
In the national income accounts, investment is divided into three subcategories that include all of
the following EXCEPT the:
a. purchase of new plant and equipment by firms.
b. purchase of stocks and bonds.
c. purchase of new residential housing by households and landlords.
d. increase in firms’ inventories of goods.
4.
If production remains the same and all prices double, then real GDP
a. and nominal GDP are both constant.
b. is constant and nominal GDP is reduced by half.
c. is constant and nominal GDP doubles.
d. doubles and nominal GDP is constant.
5.
A competitive firm hires labor until the marginal product of labor equals the
a. real wage.
b. rental price of capital.
c. price of output.
d. capital/labor ratio.
6.
In a closed economy that is in equilibrium, investment is equal to
a. private saving.
b. public saving.
c. private saving plus public saving.
d. disposable income minus consumption.
7.
A decrease in the expected rate of inflation will
a. lower the demand for real balances because the real interest rate will rise.
b. lower demand for real balances because the nominal interest rate will rise.
c. increase the demand for real balances because the real interest rate will fall.
d. increase the demand for real balances because the nominal interest rate will rise.
8.
According to the Fisher equation, the nominal interest rate is:
a. equal to the real interest rate plus inflation.
b. equal to the real interest rate minus inflation.
c. always greater than the real interest rate.
d. constant.
9.
The quantity theory of money states that if the money supply doubles and output and velocity are
constant, prices will
a. fall by half.
b. remain the same.
c. double.
d. fall only if velocity rises.
10. Which of the following is a type of open-market operation?
a. The government sells Treasury bills to the public.
b. The government prints money and uses it to buy army uniforms.
c. The Fed sells Treasury bills to the public.
d. The Fed buys foreign currency in the exchange market.
2. (10 Points) Consider an economy described by the following equations:
Y=C+I+G
Y = 2,500
G = 150
T = 100
C = 150 + 0.80(Y – T)
I = 400 – 10r
a.
In this economy, compute private saving, public saving, and national saving.
b.
Find the equilibrium interest rate.
c.
The federal government in the U.S. has experienced increasing deficit spending. Suppose in
the economy above government spending increases to 200. Compute national savings again.
What is the new equilibrium interest rate?
d.
Show graphically and describe verbally the impact of this policy on savings, investment,
interest rates, and the future growth of the economy. Does this represent the possibility of
“crowding out”?
e.
Does the impact on the future growth of the economy depend on what the government
spending was used for? Explain.
3. (10 points) Given the profit function  = P*Y – W*L – R*K - PHH where P is the price of output, Y is
the level of output determined by the production function, Y = 60K 1/3L2/3H1/3, W is the nominal wage rate,
L is the level of labor, R is the nominal rental price of capital, K is the level of physical capital, PH is the
price of acquiring human capital and H is the stock of human capital.
a.
Does this production function exhibit constant returns, increasing returns, or decreasing returns to
scale? How do you know?
b.
Show that the marginal product of labor is equal to the real wage.
c.
Show that the marginal product of human capital is equal to the real price of human capital.
d.
Show mathematically and describe verbally how the real wage is affected by an increase in the level
of human capital.
e.
Show mathematically that the production function exhibits diminishing returns to human capital, when
labor and physical capital are constant. Based on your findings do you support a college education for
everybody? Explain
4. (10 points) From the quantity theory of money equation M*V = P*Y.
a.
Explain each of the variables and the equation.
b.
Explain the long run implications of the equation, assuming velocity is constant.
c.
Explain the difference between ex ante and ex post real interest rate. Why don't investors know the ex
post rate when they make their initial investment?
d.
Explain the Fisher Effect.
5. (10 Points) The following questions are based on both lecture and the readings from the SF Federal
Reserve Bank.
a. List and describe the tools of monetary policy.
b. If the Fed can stimulate the economy out of a recession, why doesn't it stimulate the economy all the
time?
c. If low inflation is the only thing the Fed can achieve in the long run, why isn't it the sole focus of
monetary policy?
d. How do policy-induced changes in real interest rates affect the economy?
e. How long does it take a policy action to affect the economy and inflation?