Principles of Macroeconomics
Problem Set #2
Posted: Wednesday, February
Due Date: Wednesday,
February 28, 2001
Please put your TA name and
section time on the top of your problem set.
I: True/False Questions (Briefly explain your answer.) Note that all of the points in this section are for
the explanations, not for just stating “true” or “false.” (26 points)
- (9 points) The following increase productivity:
increase in the wage rate
labor force participation rate
and give a brief reason for each section separately.]
- (4 points) The following increase growth:
investment share of GDP
high school enrollment
[Answer T/F and give a brief reason for each section
- (4 points) The United States’ GDP in 1998 was 16 times
higher than its GDP in 1960. Further,
in spite of the Great Depression, the US output was higher in 1940 than in
- (4 points) Okun’s Law states that the reduction of 1% in
unemployment requires an increase of 0.5% in inflation.
- (5 points) It is possible that France, Germany and Japan
all experience growth rates higher than the US, yet the most important
technical advances be made in the US.
Part II: National
points – 4 points each)
Suppose you are measuring annual US GDP by adding up the final
value of all goods and services produced in the economy. Determine the effect of each of the
following transactions on GDP:
- You buy $100 worth of
fish from a fisherman, which you cook and eat at home.
- A seafood restaurant
buys $100 worth of fish from a fisherman.
- Delta Airlines buys a
new jet from Boeing for $200 million.
- The Greek national
airline buys a new jet from Boeing for $200 million.
- Delta Airlines sells
one of its jets to John Travolta for $100 million.
Part III: Growth Theory (See chapter 10-3 in
Blanchard; 26 points)
the following production function:
Y = Output, K = Capital, and N = Number of workers.
- (8 points) What does it mean if
the production function demonstrates constant returns to scale? Can it, at the same time, demonstrate decreasing
returns to capital?
- (5 points) Assume that the above
production function has constant returns to scale. Derive output per worker as function of
capital per worker.
- (5 points) Draw a graph of the
above relationship, with output per worker on the vertical axis. What is a reasonable assumption should
you make regarding the return to factors?
- (8 points) How would the above
curve shift in response to
improvement in technology
increase in education
increase in immigration?
Part IV: The Saving
Consider the following model of closed economy (from last PS#1):
50 + 0.6(Y-T)
10 + 0.1Y - i
- (4 points) Write down private saving and government saving
in this economy.
- (6 points) Show how we can
re-write the equilibrium condition for GNP (used in problem set 1) as a
relationship between investment and total saving, and give a brief
explanation of what it means.
- (6 points) Solve the above equilibrium condition for
output, assuming i=10. What is the marginal
propensity to save (MPS)?
- (12 points) What happens to the equilibrium level of
output, private saving and government saving if the MPS increases to 0.5?
How would you reconcile your results with the common wisdom that a higher
savings rate increases output?