Intermediate Macroeconomics 311 (Professor Gordon)
Final Examination Fall, 2008
Circle the TA session you were attending:
Briana Chang
9AM
3PM
YOUR NAME:________________________
Brian O'Quinn
9AM
3PM
Assaf Patir
9AM
3PM
INSTRUCTIONS
1. The exam lasts 2 hours.
2. The exam is worth 120 points in total: 30 points for the multiple choice questions, 60
points for the analytical questions, and 30 points for the essays.
3. Write your answers to Part A (the multiple choice section) in the blanks on page 1.
You won’t get credit for circled answers in the multiple choice section.
4. Place all of your answers for part B in the space provided.
5. You must show your work for part B questions.
6. Write your essays with a pen in the provided bluebooks. Write clearly!
7. Good Luck and Happy Holidays!
PART A
Choose the ONE alternative that BEST completes the statement or answers the question.
Your answers must be in the space provided below.
USE CAPITAL LETTERS.
1. ____
6. ____
11. ____
16. ____
21. ____
26.
2. ____
7. ____
12. ____
17. ____
22. ____
27.
3. ____
8. ____
13. ____
18. ____
23. ____
28.
4. ____
9. ____
14. ____
19. ____
24. ____
29.
5. ____
10. ____
15. ____
20. ____
25. ____
30.
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1. The Keynesian revolution was based on the assumption of price and wage ________
and the need for an activist ________ policy.
A) flexibility, monetary
B) flexibility, fiscal
C) stickiness, monetary
D) stickiness, fiscal
2. The monetarist idea that velocity is ________ link between money growth and
nominal GDP growth was ________ in the 1980s.
A) a stable, confirmed
B) a stable, disproved
C) an unstable, confirmed
D) an unstable, disproved
3. In the late 1950s and early 1960s, postwar U.S. economic performance led to the
formulation of and belief in a
A) vertical Phillips Curve in the short and long runs.
B) vertical Phillips Curve in the long run.
C) horizontal Phillips Curve in the short and long runs.
D) downward-sloping Phillips Curve in the short and long runs.
4. TIPS bonds protect their holders against
A) increases in core inflation
B) increases in supply-shock inflation
C) capital losses when bonds are sold before maturity
D) increases in headline inflation
5. The “effectiveness lag” is important to the debate between non-activists and activists
because
A) changing the money supply affects the economy with a lag.
B) changes in private spending must be offset by a lag caused by political debate.
C) Both A and B are correct.
D) None of the above is correct.
6. A feature of the economy between 2002 and 2007 was
A) An increase in the labor force participation rate
B) An increase in the unemployment rate
C) A reduction in the teenage labor force participation rate
D) A and C
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7. According to the doctrine of policy consistency and credibility, each of the following
statements is true EXCEPT
A) disinflation will be harder to bring about because of the time-inconsistency
problem.
B) policymakers are tempted to deviate from the preannounced policy once the
public changes its expectations.
C) feedback rules are preferred to discretionary rules.
D) disinflation will be painless if the restrictive policies announced by the
government are credible.
8. The measure of the effectiveness lag for a change in monetary policy is the length of
time necessary for ________ of the ultimate effect to be felt.
A) one-quarter
B) one-half
C) three-quarters
D) all
9. Fed policies since the 1980s have attempted to
A) overshoot natural real GDP.
B) undershoot natural real GDP.
C) Slow down the economy whenever natural real GDP is growing too fast.
D) none of the above.
10. If the inflation rate is 7 percent, real GDP growth is 2 percent, and the current budget
deficit is $100 billion, what must the current national debt be if the debt-GDP ratio is
to remain the same?
A) $1,111 billion
B) $2,000 billion
C) $1,429 billion
D) $5,000 billion
11. What is the growth rate of multifactor productivity if b = 0.20, k = 3, n = 1, and
y = 4?
A) 1.6
B) 2.1
C) 2.6
D) 3.1
12. Which of the following is not true about the past four decades?
A) A reduction of inequality across the people of the world
B) A reduction of inequality within countries
C) Failure of most poor countries to converge
D) Failure of Europe to converge to the US level of GDP per capita
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13. The course packet reading “Roots of Development” argues that
A) Geography influences institutions
B) Institutions influence geography
C) Institutions and geography are independent determinants of povety
D) Institutions and geography do not matter
14. Which of the following will cause slower growth in labor productivity?
A) decreased growth in physical capital
B) decreased growth in human capital such as education and training
C) decreased growth in government-financed infrastructure such as highways and
airports
D) all of the above
15. An extinguishing policy maintains _________ constant.
A) the inflation rate
B) the log output ratio
C) nominal GDP growth
D) real GDP growth
16. In calculating multifactor productivity growth, the elasticity of output to changes in
capital is assumed to be
A) one minus the population growth rate.
B) the depreciation rate.
C) the share of capital income in GDP.
D) one minus the share of capital income in GDP.
17. The investment required to maintain steady state growth
A) is impossible to achieve since capital for new workers requires continuous
increases in s, the per capita savings ratio.
B) must equip new workers with capital equal to that employed by existing workers.
C) must replace ʺworn outʺ capital.
D) B and C.
18. In 2002-04 the Federal Funds rate was
A) Above the prediction of the flexible Taylor rule
B) Above the prediction of the fixed Taylor rule
C) Below the prediction of the flexible Taylor rule
D) Below the prediction of the fixed Taylor rule
E) A and C
F) B and D
G) C and D
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19. Initially, the economy is at point B on Figure 1. According to the Solow growth
model, an increase in the output per capita without an increase in capital per worker is
represented by ________ and could be the result of
A) the movement B to E; new technology discoveries.
B) the movement B to H; improved health and education per worker.
C) the movement B to C; an increase in the savings rate.
D) the movement B to E; a decrease in the savings rate.
20. Initially, the economy is at point B on Figure above. According to the Solow model
of growth, in the short run, the discovery of a cold fusion process which reduces the
cost of energy by 50%, ceteris paribus, will initially shift the economy from
________.
A) B to H, increasing per capita output without increasing capital per capita
B) B to C, increasing per capita output with increasing capital per capita
C) B to C, increasing per capita output without increasing savings
D) B to I, increasing output, saving and capital per capita
21. Inflation has no effect on an economyʹs well-being if
A) it is universally and accurately anticipated.
B) relative prices are unaffected.
C) the nominal rate of interest for both savers and borrowers rises by an amount just
equal to the rate of inflation.
D) all of these
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22. Which of the following benefits home buyers
A) Taxation of nominal interest rather than real interest
B) Tax deductability of mortgage interest
C) Inflation
D) B and C
E) A, B, and C
23. If the nominal rate of interest is 13%, the growth of nominal GDP 9%, and the growth
of real GDP 2%, then
A) the rate of inflation is 11%.
B) the rate of inflation is 4%.
C) the rate of inflation cannot be determined.
D) none of the above
24. A major difference between the costs of unemployment and the costs of inflation is
that
A) the former is structural the latter frictional.
B) the government pays the latter, the population pays the former.
C) unemployment costs are concentrated among a few people, while inflation
costs are distributed more broadly across the entire population.
D) unemployment costs are distributed among everyone, while inflation costs are
distributed more narrowly.
25. A once-and-for-all increase in the price of a raw material, such as crude oil, will
A) not be inflationary, because this is, simply, ʺhigh pricesʺ.
B) have a short-run inflationary effect and reduces employment.
C) have no effect on inflation because this is the price of an intermediate good, not a
final good.
D) both A and C are correct
26. At every current AD/SAS equilibrium point to the right of the LAS curve, the price
level is ________ than that expected on average and figured into the wage contracts
in force, and thus there is pressure on the SAS curve to shift ________ with wage
renegotiations.
A) greater, upward
B) greater, downward
C) less, upward
D) less, downward
27. The tax rebate checks of spring 2008 raised ____________ much while increasing
__________ relatively little, thus increasing __________.
A) consumption; disposable income; pre-tax income
B) pre-tax income; disposable income; consumption
C) disposable income; consumption; saving
D) disposable income; saving; consumption
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28. Assuming that the recession gets worse in 2009, automatic stabilizers will raise
__________ while reducing __________.
A) the natural employment budget surplus; tax rates
B) the natural employment budget deficit; tax revenues
C) the actual budget deficit; tax revenues
D) the actual budget deficit; tax rates
29. The lecture described the 2008 freeze on the supply of credit as shifting which
textbook schedules to the left?
A) IS
B) LM
C) AD
D) SAS
E) Ms
F) A and C
G) C and E
30. If the Federal Reserve wants to control the level of interest rates
A) it must keep the supply of money constant.
B) it must let the money supply grow at a constant rate.
C) it can do so only if it also stabilizes nominal GDP.
D) it will have to give up control of the money supply.
PART B (60 points)
QUESTION 1 (25 points)
There are two countries, Poorland and Richland. Assume that Poorland’s output is
characterized by a Cobb-Douglas production function: Y = A(K)b(N)1-b , where A=3 and
b=1/4. Assume that the growth rate of labor is n = 0.05 (5%), the savings rate is s = 0.3,
and the depreciation rate of capital is d = 0.1 (10%).
a) Convert the production function to a function relating Y/N to K/N (3points)
Y/N=A(K/N)b
=3(K/N)1/4
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b) Find the steady-state capital-to-labor ratio (K/N) and the steady-state per capita
GDP (Y/N) (8 points).
Y
K
)  (n  d )
N
N
K
K
sA( ) b  (n  d )
N
N
K
K
0.3 * 3 * ( )1 / 4  (0.05  0.1) *
N
N
K
0.9 4 / 3
(
)  10.9
N
0.15
Y
K
 3 * ( )1 / 4  5.45
N
N
s (
c) Richland that has per-person output twice as high as Poorland. Given that
Richland has the same production function (ie, Y = A(K)b(N)1-b , where A=3,
b=1/4 ) as well as the same quality of labor and capital as Poorland, by what
multiple do the capital-to-labor ratios between the countries differ? That is, the
capital-to-labor ratio is how many times larger for Richland than Poorland (or
how many times larger for Poorland than Richland)? (6 points)
The capital-to-labor ratio of Richland must be 16 times larger than Poorland:
K B / N B (YB / AN B )1 / b

= (2)1/b  16
1/ b
K A / N A (YA / AN A )
d) Compute the marginal product of capital for Poorland and Richland. (6 points).
MPK= A*b*(K/N)^(b-1)
Poorland: 3  (1 / 4)(10.9) 0.251  0.125
Richland: 3  (1 / 4)  (16 *10.9) 0.251  0.0156
e) Judging from the answers you gave above, do poor countries have a higher or
lower rate of return on capital according to the Solow growth model? (2 point)
Poor countries have a higher rate of return on capital. This is one of
the unrealistic implications of Solow growth model.
QUESTION 2 (15 points)
Suppose that the amounts of real government spending, G, equals 500, real high-powered
money, H/P, equals 1500, and real government bonds, B/P, equals 3000. The inflation
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rate equals 4%, the nominal interest rate equals 7%, and the economy is in a long-run
steady state with fixed H/P and B/P.
a) What is the amount of seignorage (inflation tax)? (3 points)
Seignorage = p(H/P) = 4%* 1500 = 60
b) What is the real interest rate ( r)? (2 points)
r = i – p = 7%-4% = 3%
c) What is the amount of real interest that the government pays out on its bonds? (2
points)
Real interest on bonds = (i-p)*(B/P) = 3% * 3000 = 90
d) What is the amount of taxes that keeps the real value of bonds and high-powered
money fixed? (4 points)
G-T = p(H/P)-(i-p)*(B/P) = 60 - 90 = -30
T = 500 + 30 = 530
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e) Suppose inflation suddenly rises from p = 4% to p' = 4% + x. Further assume that
the nominal interest rate, i, adjusts according to the Fisher effect and that the all
other quantities remain as above. What must x be so that the government can now
run a balanced budget (G = T)?(4 points)
0 = (p+x)(H/P)-(i+x-p-x)*(B/P) = (.04+x)*1500-(.03)*3000
x = .02 = 2%
QUESTION 3 (20 points)
You are given the following equation for the aggregate demand (AD) and short-run
aggregate supply (SAS) curves in a closed economy:
AD: Y = 1.25 Ap' + 2.5 Ms/P
SAS: Y = 11,250 – 20W + 1,000P
where Y is real GDP, Ap' is the amound of autonomous spending that is independent of
the interest rate, Ms is the nominal money supply, P is the price level and W is the
nominal wage rate. Additionaly, natural real GDP is YN = 11,250.
a) Assume that initially Ap' = 5,000, Ms = 2,000 and W = 50. Write down the AD,
the SAS and the LAS curves. (1 point)
AD: Y = 6250 + 5000/P
SAS: Y = 10250 + 1000*P
LAS: Y = 11250
b) What is the short-run and long-run values of real GDP and price level? What is
the equilibrium real wage rate? (4 points)
Short-run and long run:
Y = 11250
Equilibrium real wage rate = 50/1 = 50.
P = 1.
c) In the next period the government decides to increase spending by 800. Find the
new values of real GDP and price level in the short-run. (5 points)
Hint: find a quadratic equation for P and recall that the solutions to the equation
aP2+bP+c = 0 are given by
P1,2 = [-b ± (b2-4*a*c)1/2]/(2a)
and choose the solution that makes economic sense.
AD: Y = 7250 + 5000/P
SAS: Y = 10250 + 1000*P
Y = 11443
P = 1.19.
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d) What are the new values of real GDP and price level in the long-run? (3 points)
AD: Y = 7250 + 5000/P
LAS: Y = 11250
Y = 11250
P = 1.25.
e) What is the new value of the real wage rate? (3 points)
real wage rate = 50/1.19 = 42
f) What would be the value of the nominal wage rate in a long-run equilibrium? (4
points)
nominal wage in a equilibrium = 50*1.25 = 62.5PART C (30 points)
WRITE YOUR NAME AND ID NUMBER ON YOUR BLUE BOOK.
YOU MUST ANSWER THE ESSAY QUESTIONS IN PEN NOT
PENCIL.
There are two 15 minute essays. In writing each, support your arguments with
concepts from the course – the textbook, lectures, and/or course packet. Do not
write vague assertions without tying them to specific concepts learned in the course.
1. (15 minutes) Consider the following quote from a Wall Street Journal op-ed article
on 11/14/08. Write an essay in which you explain whether you agree or disagree, and
why:
Government stimulus bills are based on the idea that feeding new money
into the economy will increase demand and production. But where does the
government get this money? Congress doesn’t have its own stash. Every
dollar it injects into the economy must first be taxed or borrowed out of the
economy. No new spending power is created. . . . If Congress funds new
spending with taxes, it is redistributing existing income. If the money is
borrowed from American investors, those investors will have that much less
to invest or to spend in the private economy. If the money is borrowed from
foreigners, the balance of payments must still balance. That means reducing
net exports through exchange rate adjustments, thereby leaving net spending
in the economy unchanged.
2. (15 minutes) Write an essay explaining why the recession of 2008-09 has occurred.
Which of your explanations of the recession can be tied to standard macroeconomic
concepts as explained in the textbook, and which explanations go beyond those standard
concepts?
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