Module 1
1.
Luxury Goods We observe the income of the consumers of diamond rings increase by 10%. We observe that the equilibrium consumption of diamond rings goes up by 5%. Assume that nothing else happens to cause a change in the equilibrium in the diamond ring market. Explain why, we can infer that diamond rings are normal goods, but why we can’t say if they are income elastic luxury goods or income inelastic. Use at most 1 paragraph and 1 graph.
2.
Energy Markets For reasons of safety, the Chinese government orders the closure of 75% of the coal mines currently operating in the PRC. Draw a graph of the effect of this on closure on the world coal market. Draw a graph of the effect of this on the world oil market. Explain your graphs in 1 paragraph or less.
3.
Equilibrium: Algebra The demand for widgets is represented as Q
D
= 100 – 8 P and the supply of widgets are given by Q S = 40 + 4P. Calculate equilibrium price and quantity. Calculate the change in equilibrium price and quantity if a shift in the demand curve gives a demand schedule of Q
D
= 124 – 8 P .
4.
Supply Shift Below are short-term and long-term demand schedules for petroleum as well as a supply schedule. Assume that the supply schedule is the same in the long-term and the short-term. Calculate the equilibrium level of price and quantity for oil in the short and the long term within the range of $10 per barrel (Hint: the answer is the same for the short-term and the long-term). .
Assume that a conflict in the Middle East permanently reduces the amount of oil that can be supplied at any price level. After the shock, only 94% of the previous level is supplied at any price level. Calculate the new supply schedules. Assuming the short-run and long-run demand curves are unchanged, calculate the new price of oil in the short-term and in the long-term (within a range of $10).
Q
D
Q
S
P Short-term Long-term
60 83,033.06
89,314.83
70 81,762.92
80 80,678.38
82,689.46
77,348.91
90 79,733.70
100 78,898.04
110 78,149.63
120 77,472.59
130 76,854.95
140 76,287.50
150 75,762.98
72,925.25
69,182.97
65,963.37
63,155.12
60,677.48
58,470.28
56,487.66
80,059.86
81,303.55
82,396.49
83,372.72
84,255.78
85,062.66
85,806.03
86,495.60
87,138.99
87,742.26

5.
Equilibrium: Tabular A market faces a demand function of the form
Q
D 
28 .2
P and a supply function of the form Q
S 
10 .2
P . Use these functions to fill out a supply and a demand schedule. Identify the equilibrium price and quantity.
P Quantity
Demanded
Quantity
Supplied
20
25
30
35
40
45
50
6.
Revenue and Elasticity Posit a simple demand curve for breakfast cereal of the form Q = 100 - 5P where Q is the quantity of breakfast cereal and P is the price per box. Calculate Q and Revenue (R) at each of the following price points. What is the price elasticity of demand as we move from price point to price point (use the mid point method)? What is the price point where revenue is largest? Explain why raising prices above that point does not increase revenues.
Price Q R evenue Elasticity
5
6
11
12
13
14
15
9
10
7
8
;

Module 2
1.
Real Hong Kong Box Office . It is 2004. You are analyzing the profitability of
Hong Kong’s movie industry. You hear that Steven Chao’s Kung Fu Hustle is the top grossing Hong Kong film of all time. You are given a list of local gross box office receipts for a number of Hong Kong movies.
1. Kung Fu Hustle
2. Shaolin Soccer
3. First Strike
4. Rumble In The Bronx
5. Infernal Affairs
6. God of Gamblers Return
7. Justice My Foot
8. All's Well, End's Well
9. Thunderbolt
10. Mr. Nice Guy
11. Fight Back to School
12. All for the Winner
13. Drunken Master II
14. God of Cookery
15. God of Gambers II
16. Flirting Scholar
17. All's Well, End's Well 1997
Box Office Revenues
HK$60,830,000
HK$60,770,000
HK$57,519,000
HK$56,911,000
HK$55,030,000
HK$52,540,000
HK$49,880,000
HK$48,990,000
HK$45,650,000
HK$45,420,000
HK$43,830,000
HK$41,330,000
HK$40,970,000
HK$40,860,000
HK$40,340,000
HK$40,170,000
HK$40,160,000
1992
1995
1997
1991
1990
1994
1997
1990
1993
1997
Year
2004
2001
1996
1995
2003
1993
1992
Year
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
CPI
63.5
70.8
77.4
84.0
90.8
98.7
104.6
110.6
113.5
109.8
106.6
104.8
101.4
99.3
99.3
(Source: www.Asianboxoffice.com)
Adjust these for inflation using the Hong Kong CPI. Convert all of these film grosses into 2004 dollars (i.e. use 2004 as the reference year) and rank the films by their grosses in 2004 dollars.
2.
Construct a CPI You are given some statistical accounts for the country of
Fruitopia which produces two goods, Apples and Oranges. The accounts contain information on the price of apples and the price of oranges for the years 1995 to
2005. You are asked to calculate a CPI, nominal GDP, real GDP and the GDP deflator using 1995 as the base year. Note that there is no investment, government spending, exports or imports in Fruitopia so GDP is equal to consumption.

1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Apples price
$1.00
$1.10
quantity
100
105
$1.21
$1.33
$1.46
$1.61
$1.77
$1.95
$2.14
$2.36
110
115
120
125
125
130
135
140
Oranges price
$2.00
$2.40
quantity
100
105
$2.88
$3.46
$4.15
$4.98
$5.97
$7.17
$8.60
$10.32
100
100
100
95
90
90
85
80
2005 $2.59
145 $12.38
75 a.
Calculate the CPI. The representative market basket for the Fruitopian consumer is 100 apples and 100 oranges. Calculate the cost of this market basket in 1995. The CPI in subsequent years is the price of this same market basket (100 apples and 100 oranges) relative to price of that basket in the base year (multiplied by 100). b.
Calculate the nominal GDP which is the sum of the market value of apples
(price × quantity) plus the market value of oranges in each period. c.
Calculate real GDP which is the sum of the market value of apples calculated using the 1995 price (1 × quantity of apples) plus the value oranges calculated using the 1995 price (2 × quantity of oranges). d.
Calculate the GDP deflator as the ratio of the nominal GDP to the real
GDP. e.
Calculate the average inflation rate over the period of 1996-2005 using both price measures. Which price index increases the most over time?
Explain. Notice that the market basket has switched toward apples whose price has not risen sharply over time.
CPI
CPI
Inflation
N/A
Nominal Real
GDP GDP
GDP GDP Deflator
Deflator Inflation
N/A

3.
Deflate Soccer Transfer Fees In European soccer leagues, teams will acquire players from other clubs by agreeing to pay a transfer fee. The below table shows the top 10 transfer fees paid by English Premier League sides along with the fee paid measured in British pounds and the year of the transfer. Use the accompanying table with the British CPI to convert all transfer fees to 2008 pounds. Who has the highest transfer fee in constant dollar terms?
1
2
3
4
5
6
7
8
9
Player
Robinho
Dimitar Berbatov
Andriy Shevchenko
Rio Ferdinand:
Juan Sebastian Veron: Lazio
Michael Essien
Didier Drogba:
Wayne Rooney
Shaun Wright-Phillips
10 Fernando Torres:
From:
Real Madrid
Tottenham
AC Milan
Leeds
Lyon
Marseille
Everton
Manchester City
Atletico Madrid
To
Manchester City
Fee Year
£32.50m 2008
Manchester United
£30.75m 2008
Chelsea £30m 2006
Manchester United
£29.1m
2002
Manchester United
£28.1m
2001
Chelsea
£24.43m 2005
Chelsea £24m 2004
Manchester United
£23m
2004
Chelsea
Liverpool
£21m
2005
£20m 2007
4.
2000
British CPI
93.7
2001 94.7
2002
2003
96.3
97.5
2004
2005
2006
2007
99.1
101.0
104.0
106.2
2008 109.5

4.
Cakeland GDP An economy called Cakeland produces three products at three separate products: cake mix, frosting, and birthday cakes. All of the cake mix and frosting are sold to the birthday cake company. The cake mix and frosting companies grow all the inputs they need to make their product; their only expense is wages. Define profits as the value of sales less wages and cost of inputs. The following charts outline the activities of each of these firms.
Cost of Inputs
Cake Mix
0
Frosting
0
Birthday Cake
$100 Cake Mix
$70 Frosting
$150
$400
Wages
Sales
$30
$100
$40
$70 a.
Solve for GDP using the expenditure method
Final Expenditure
Cake Mix
Frosting
Birthday Cakes
GDP b.
Solve for GDP using the production method
Cake Mix
Value Added
Frosting
Birthday Cakes
GDP c.
Solve for GDP using the income method
Wages
Income
Profit
GDP

Module 3
1.
Foreign Exchange Market. Diamonds are discovered in Australia. Foreigners want to buy these diamonds and need Australian dollars to do so. Assume that this discovery has no particular effect on Australian demand for foreign goods or assets. Draw two graphs of the Forex market: 1) Demonstrate the effect on the Australian dollar exchange rate if Australian monetary policy remains unchanged so the exchange rate is allowed to fluctuate; 2) Demonstrate the effect on the market if the Reserve Bank of
Australia conducts monetary policy to keep the exchange rate from changing.
2.
Stock Market Liberalization Consider an economy that operates a floating exchange rate. The government announces that next year, they will liberalize their stock market which will make investing in that economy more attractive in the future. Describe the effect of this announcement on the Forex market this year.
3.
Currency Board During much of the 1990’s, the South American country of
Argentina implemented a currency board system similar to Hong Kong with the
Argentine peso being fixed 1-to-1 with the US dollar. In January 2002, the Central Bank of Argentina abandoned the currency peg. Below are interest rates for the US dollar and money market interest rates for the Argentine Peso from 1995 to 2001.
1996
1997
1998
1999
2000
Peso US Dollar
Interest Interest
Rate Rate
6.23
5.14
6.63
6.81
6.99
8.15
5.2
4.9
4.77
6
2001 24.9
3.48
Calculate the expected exchange rate depreciation in every year (assuming that interest parity is true).

Module 4
1.
Loanable Funds Market Some economists argue that the savings behavior is not very responsive to the interest rate. Other economists argue that savings is strongly affected by the interest rate. Use the loanable funds framework for a large, closed economy. Compare the effect of expansionary fiscal policy (i.e. an increase in government deficits) on the interest rate and investment in A) an economy in which the supply of loanable funds (S) was inelastic with respect to the interest rate; with the effect in B) an economy in which the supply of loanable funds is very elastic. Draw a graph of each theory to show under which theory there is a bigger impact on investment and under which theory there is a bigger impact on the interest rate.
Module 5
1.
Using aggregate demand, short-run aggregate supply and long-run aggregate supply curves, explain the process by which each of the following economic events will move the economy from one long-run macroeconomic equilibrium to another. Illustrate with diagrams. In each case, what are the short-run and longrun effects on the aggregate price level and aggregate output? a.
There is a decrease in households’ wealth due to a decline in the stock market. b.
There is an increase in the wealth of households in the economy of a foreign trading partner.
2.
In 2005, a hurricane hit New Orleans, Louisiana, an important transportation and oil refining center in the USA, one of Hong Kong’s key for the petrochemical industry in that country. a.
Consider the impact of the recent hurricanes that devastated that city as a temporary supply shock for the USA. Discuss briefly, using one graph, the outcomes that we would have been likely to see in terms of goods markets in the USA as a result of this negative business cycle shock.
Analysts are also worried that the natural disaster might have had a negative impact on consumer confidence. Discuss briefly, using one graph, the differences in outcomes that we would observe if this demand side effect were stronger from the outcomes that we would observe if the supply side effects were dominant

Module 6
1.
The Liquidity Crisis and the Taylor Rule in Hong Kong. You are given the following Table listing the output gap, the CPI and the overnight HIBOR Rate in
Hong Kong.
Output Gap
2007Q4 xxx
2008Q1 0.049219808
CPI
2008Q2
2008Q3
2008Q4
2009Q1
0.0299929
0.013160519
-0.013435423
-0.063140353
Interest Rate Actual
Under Interest
Rate Inflation Taylor Rule
107.4 xxx
108.2 0.029795
xxx xxx
0.00781
110.1
107.7
109.6
109.5
0.00875
0.024375
0.00225
0.00375
2009Q2 -0.037229897
109.2
0.0013
2009Q3 -0.040702363
108.2
0.0013
a.
For each quarter, construct the inflation rate on an annual basis. This is obtained just by constructing the % growth rate of the price that occurs in a given quarter
P t

P t

1
P t

1 and then multiplying the result by 4. An example is constructed in the Table for the
1 st
Quarter of 2008. b.
Construct a hypothetical interest rate for HK with the Taylor rule using the CPI inflation. CPI data and an assumption of an inflation target of 2%. c.
Compare the interest rate with that observed in HK. Note that the interest rate has been below 1% in every quarter except the 2008Q3. Has the interest rate been higher or lower in HK than that suggested by the Taylor rule?

2.
Does the BOJ have a Taylor Rule? The following table shows numbers for
Japan’s inflation rate, output gap, and the uncollateralized call money interest rate for the years 1990 to 2000.
1990
1991
1992
1993
1994
1995
1996
1997
1998
Output
Gap
3.30%
4.09%
2.50%
0.51%
-0.87%
-1.20%
2.14%
2.32%
-1.48%
Actual
Inflation Interest Rate
3.02% 7.56%
3.22%
1.70%
1.26%
0.69%
7.48%
4.82%
3.18%
2.41%
-0.12%
0.13%
1.75%
0.67%
1.15%
0.48%
0.52%
0.44%
1999 -2.46% -0.33% 0.06%
2000 -2.57% -0.71% 0.12% i.
Calculate the inflation gap (i.e. the difference between inflation and target inflation) in each period if Japan had used a target inflation rate of 2% in each year. What is the average inflation gap during the period 1990-1995
(inclusive) and for 1996-2000? ii.
Calculate the interest target, i
TGT
, for every period if the Bank of Japan had used a Taylor rule as specified in class. Compare this with the actual interest rate. Does the Bank of Japan adjust the target interest rate to domestic inflation and output? iii.
Some have argued that the BOJ was not aggressive enough in cutting interest rates in the early 1990’s to get the economy out of the slump. What was the average interest rate during the period 1992-1997? What was the average interest rate suggested by a Fed-style Taylor rule. Which was larger? iv.
What difficulties did the Bank of Japan have in implementing the Taylor rule in 1999 and 2000?

Production
Level
Module 7
1.
You examine the production of an auto-parts factory which uses labor, materials and capital machinery referred to as a die press to produce goods. To start producing any goods, the factory has sunk set-up costs of $25,000 per year. Up to 300 die presses can be installed in the factory in increments of 50. The costs of owning and using a die press (including depreciation and financing costs) in a given year are $5,000 per press. Therefore, fixed costs are $25,000 plus $5000 times the number of die presses used. Die presses are varied in increments of 50. In addition, producing goods requires some variable inputs including materials, energy, and labor. Producing each good requires material and energy costs of $20 per unit. For various reasons, production can only be done in batches of 10,000 units. The following Table 1 reports the variable labor costs of producing different levels of output at different levels of die-press usage.
Table 1. Variable Labor Costs at the Auto Parts Factory
50
# of Die Presses
100 150 200 250 300
10000
20000
30000
40000
50000
60000
70000
80000
$121,904.74
$60,113.22
$501,327.80
$247,212.94
$163,477.55
$121,904.74
$1,146,431.10
$565,323.92
$373,838.72
$278,770.47
$222,023.30
$184,345.99
$2,061,688.19 $1,016,652.16
$39,751.81
$672,294.10
$3,250,269.77 $1,602,761.17 $1,059,877.64
$29,642.81
$501,327.80
$790,347.74
$4,714,646.67 $2,324,869.37 $1,537,395.02 $1,146,431.10
$23,608.65
$97,089.53
$399,276.34
$629,462.71
$913,060.90
$19,602.27
$80,613.45
$331,519.22
$522,642.99
$758,114.63
$6,456,848.58 $3,183,977.62 $2,105,508.13 $1,570,071.43 $1,250,464.01 $1,038,260.49
$8,478,600.52 $4,180,936.56 $2,764,779.45 $2,061,688.19 $1,642,006.11 $1,363,357.96
90000 $10,781,403.97 $5,316,486.60 $3,515,698.63 $2,621,646.48 $2,087,977.98 $1,733,648.48
100000 $13,366,589.17 $6,591,283.69 $4,358,699.41 $3,250,269.77 $2,588,637.25 $2,149,345.96
A.
Short-run The factory has set up 100 die presses. Fill in the Table 2 cost chart for the firm in the short term. Calculate the marginal cost for each level of production as the cost of producing one more batch (i.e. the cost of producing another 10,000).
B.
Long-run Now assume that the factory managers can vary the number of die presses. Calculate the average total cost function for each level of production for each # of die presses. For each quantity of die-pres ses, calculate the minimum average cost. For each level of production , calculate the minimum average cost and the number of die presses that would generate the lowest average total cost. Draw a diagram of those minimum points. Over what range is the firm operating according to increasing returns to scale? Over what range is the firm operating over decreasing returns to scale? What is the minimum efficient scale (i.e. what scale of production will result in the lowest overall level average total cost when we can vary energy, workers, and # of die presses)? At what number of die-presses is that minimum achieved?