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Conceptual

Q1. What would happen to GDP if the government hired unemployed


workers, who had been receiving amount $ TR in unemployment benefits, as
government employees and now paid them $ TR to do nothing? Explain.
Answer: Government transfer payments do not arise out of any production
activity and thus are not counted in the value of GDP.If the people currently
receiving transfer payments were hired by the government, their wages
would be counted as part of government purchases, G, which cannot be
counted in GDP as they are assumed to be non-productive in
nature.Therefore there will be no change in the GDP of the country.

Q2. In the national income accounts, what is the difference between


a. A firm’s buying an auto for an executive and the firm’s paying the
executive additional income to buy the automobile herself?
b. You are hiring your spouse (who takes care of the house) rather than
having him or her do the work without pay?
c. Your deciding to buy an American car rather than a German car?
Answer:
a. The firm is buying an auto for the executive is same as the executive
buying the car himself and it will be in included under GDP under
consumption.
b. That is, in fact, one of the points of what GDP fails to measure.
c. If you decide to buy the American car then it will be calculated in the
national income of the country but if you buy the German car the price will
be calculated in the national income of the Germany.
Q3. What is the difference between GDP and GNP? Is one a better measure
of income/output than the other? Why?
Answer:
Gross Domestic Product(GDP) and Gross National Product (GNP) both try to
measure the market valueof all goods and services produced for final sale in
an economy.
GDP refers to and measures the domestic levels of production in a country.
It represents the monetary value of all goods and services produced within a
nation's geographic borders over a specified period of time. GNP measures
the levels of production of all the citizens or corporations from a particular
country working or producing in any country. GNP is less commonly referred
to than GDP, but is best described as the measure of national output.
GNP is better measure of income/output because it considers the total
valuation of a country’s people are doing to increase the output of a country.
Q4. What is NDP? Is it a better or worse measure of output than GDP?
Explain.
Answer:
GDP and NDP are terms associated in economics. “GDP” stands for “gross
domestic product” while “NDP” stands for “net domestic product.” These
terms are both measures of the economic health of a particular country. NDP
is the worst to measure the output of a country as it deducts the
depreciation of the valued asset of a country.
Q5. Increases in real GDP are often interpreted as increases in welfare. What
are some problems with this interpretation? Which do you think is the
biggest problem with it, and why?
Answer:
Real GDP is just the GDP minus the inflation. Real GDP is may have increased
the welfare but not for all the people like the increase in Real GDP could have
been at the expense of the quality of life of people; more pollution, longer
working hours with less time for the family. This does not increase the
welfare of the people and mostly the real GDP can be increased by the
developed country by shifting the labour to a new, big city it is true that they
are now getting more money than they earned in the farm and sending more
money to the family in the villages to improve their life ,here, sure the
welfare is increasing but are the lousy sanitary conditions, health risks in
sweat shops, lowered life expectancy really compensated by the extra
money? NO.
Q8. If you woke up in the morning and found that nominal GDP had doubled
overnight, what statistic would you need to check before you began to
celebrate? Why?
Answer:
If I wake up and the nominal GDP has doubled overnight, I would check if the
real GDP has increased or not because nominal GDP can be increased with
the help of inflation and if the real GDP has increased then true development
has happened.
Q9. Suppose you make a loan of $100 that will be repaid to you in 1 year. If
the loan is denominated in terms of a nominal interest rate, are you happy or
sad if inflation is higher than expected during the year? What if the loan
instead had been denominated in terms of a real return?
Answer:
If I made a loan of $100 and it is denominated in terms of a nominal interest
rate and the inflation is expected to increase, then I will be sad because the
nominal interest rate and the inflation are directly proportional.
If the loan was denominated on basis on the terms of the real return then I
would not worry if the inflation is expected to increase or not as the real
return adjusts the inflation.

TEHNICAL
Q1. In the text, we calculated the change in real GDP in the hypothetical
economy of Table 2-3, using the prices of 2005. Calculate the change in real
GDP between 2005 and 2010 using the same data but the prices of 2010.
Your answer should demonstrate that the prices that are used to calculate
real GDP do affect the calculated growth rate, but typically not by very much.
Answer:
2005 NOMINAL GDP 2010 NOMINAL GDP 2010 REAL GDP
Beer 1 at $1.00 $1.00 2 at $2.00 $4.00 2 at $1.00 $2.00
Skittles 1 at $0.50 0.50 3 at $0.75 $ 2.25 3 at $0.50 1.50
$1.50 $6.25 $3.50
As given above in the table the real GDP is measured on the basis of the
prices of 2005. If the basis price is to be considered on 2010 price, then the
real GDP and nominal GDP will be the same so 2005 GDP will be on base on
price of 2010. So Beer will be on the price of $2.00 and Skittles will at $0.75,
Therefore the nominal GDP of 2005 on basis of 2010 is ($2.00 + $0.75) that is
$2.75. The real GDP of 2005 is $6.25 - $2.75 = $3.50.

Q2. Show from national income accounting that a. A n increase in taxes


(while transfers remain constant) must imply a change in net exports,
government purchases, or the saving-investment balance.
b. A n increase in disposable personal income must imply an increase in
consumption or an increase in saving.
c. A n increase in both consumption and saving must imply an increase in
disposable income.
[ F or both ( b) and ( c) assume there are no interest payments by
households or transfer payments to foreigners.]
Answer:
а. We determine taxes from the identity for the economy with the state and
foreign trade
S - I = (G + TR - TA) + NX
TA = G + TR + NX + I - S
If the tax increases, the other side of the equation should change.
Thus, with a constant transition, the change must be а higher G, higher NX,
higher I or lower S. 

b. Starting from the conditions of equation YD = S + C, when the disposable


income is increased, the change could be saved or consumed.

c. Increase in consumption and savings should mean an increase in


disposable income, which is consistent with the above equation.

Q3. The following is information from the national income accounts for a
hypothetical country:
GDP $6,000 Gross investment 800 Net investment 200 Consumption 4,000
Government purchases of goods and services 1,100 Government budget
surplus 30
What is a. NDP? d. Disposable personal income? b. Net exports? e.
Personal saving? c. Government taxes minus transfers?
Answer:
National income can be calculated by adding up all public and private
expenditures made on final goods and services during a year. It is obtained
by:
- Personal consumption expenditure of goods and services.
- Gross domestic private investment.
- Government purchase of goods and services.
- Net Foreign investment.
So we can measure national income using the following equation:
GDP = C + I + G + NE
So, we can find Net Exports as
NE = GDP - C - I - G
NE = 6000 - 4000 - 800-1100 = 100
NDP can be calculated:
NDP = GDP- Depreciation
Depreciation = Gross investment - Net investment = 800-200 = 600 NDP =
6000-600 = 5400 The next step is to calculate the government taxes minus
transfers Government budget surplus = Government taxes minus transfers -
Government purchase of goods and services
30 = Government taxes minus transfers -1100 Government taxes minus
transfers = 30+1100 = 1130 Disposable personal income can be calculated:
Disposable Personal Income = National Income + Government Transfers to
Individuals − Personal Tax - Depreciation= National Income -(Personal
Tax - Government Transfers to Individuals) - Depreciation = 6000 -1130 - 600
= 4270 The next step is to calculate Personal saving:
Personal saving = Disposable Personal Income - Consumption = 270 .

Q4. Assume that GDP is $6,000, personal disposable income is $5,100, and
the government budget deficit is $200. Consumption is $3,800, and the trade
deficit is $100.
a. How large is saving (S)?
b. How large is investment (I)?
c. How large is government spending (G)?
Answer:
Y = Rs. 6000, Yd = Rs. 5100, BD = 200, C = Rs. 3800, NX = -1000. 
Saving S = Yd - C = 5100 - 3800 = Rs. 1300, 
Y = C + I + G + NX,
Government spending G = T + BD, T = Y - Yd = 6000 - 5100 = 900, so G = 900 +
200 = Rs. 1100.
Investment I = Y - C - G - NX = 6000 - 3800 - 1100 + 1000 = Rs. 2100.

Q5. If a country’s labour is paid a total of $6 billion, its capital is paid a total
of $2 billion, and profits are zero, what is the level of output? (Hint: See
equation 2.)
Answer:
Output=$8billion
This is because Output=cost of labour +cost of capital +profits. Hence since
cost of labour and capital is $8billion collectively (cost of labour=$6billion
and cost of capital=$2billion) and profits is nil therefore we can conclude that
the output of the economy is $8billion
Q6. Consider an economy that consists only of those who bake bread and
those who produce its ingredients. Suppose that this economy’s production
is as follows: 1 million loaves of bread (sold at $2 each); 1.2 million pounds of
flour (sold at $1 per pound); and 100,000 pounds each of yeast, sugar, and
salt (all sold at $1 per pound). The flour, yeast, sugar, and salt are sold only to
bakers, who use them exclusively for the purpose of making bread. a. What
is the value of output in this economy (i.e., nominal GDP)?
Answer:
Here, the output of the economy is $1 million multiplied by the value of each
bread sold that is $2 so, total output is $2 million.
Now,the flour, yeast, sugar, and salt are sold solely to bakers, here it now
becomes Intermediary Consumption (IC).
Therefore, the value of output in this economy is $2 million – ($1.2 million +
$0.3 million) = $0.5 million.

Q7.Suppose a country’s CPI increased from 2.1 to 2.3 in the course of 1 year.
Use this fact to compute the rate of inflation for that year. Why might the CPI
overstate the rate of inflation?
Answer:
Initial CPI = 2.1
Final CPI = 2.3
Rate of inflation = (final – initial divided by initial)*100
= 9.52%
CPI might overstate inflation because consumer buys the less good on which
price has increased.

Q8. Suppose you buy a $100 government bond that is due next year. How
much nominal interest will you receive if inflation is 4 percent over the year
and the bond promises a real return of 3 percent?
Answer:
As nominal rate includes the inflation and real return adjusts the inflation so,
Nominal interest is inflation plus real return that is 7 percent.
Therefore, interest received on $100 bond is $100*7% = $7