ECON 121 Discussion: Week 15

Slides available here:

All discussion slides here:

Today’s Plan

  1. Final exam information
  2. Review

End-of-Class and Final Exam Logistics

The final exam will be Tuesday, May 6th at 10:30 AM in the usual lecture hall (BSB 145)


You will have two hours to take the exam


The final exam will have the same format as the midterm exams but will have more questions than the midterms

  • The final will have ~50 questions


Bring a pencil, an eraser, and your UID number: no pens, phones, calculators, or notes


Please also fill out teaching evaluations by Sunday, May 4th!

Final Exam Material

The final exam will be cumulative. Per Dr. Pieper’s Blackboard announcement, you can expect the exam to (roughly) be:

  • 30% material pertaining to the first midterm
  • 30% material pertaining to the second midterm
  • 40% material covered since the second midterm


Remember that Dr. Pieper’s class notes (i.e., not just the textbook slides) are also materials that have been included on tests in the past


A study guide is available on Blackboard

Open floor: any questions?

Practice Problems

Note

Note: the practice problems in this week’s slides may not look exactly like the questions that will be on exam. I will see the exam for the first time at the same time you do.


Today’s review will focus on topics from the first two thirds of the course. I’ve chosen questions and topics randomly: the topics covered here and their proportions are not reflective of how the exam will look.

Practice Problem #1

Use the information below about the economy of Macronesia to answer the following questions:

  • GDP = $1 billion
  • C = $850 million
  • T = $50 million
  • G = $100 million
  • X = $100 million
  • TR = $10 million
  • IM = $125 million

What are the values of government savings and investment spending in Macronesia?

Hint

For government savings: how does a government bring in money? Spend money?

For investment spending: the given information lets you use an equation to solve for \(I\).

Practice Problem #1

Use the information below about the economy of Macronesia to answer the following questions:

  • GDP = $1 billion
  • C = $850 million
  • T = $50 million
  • G = $100 million
  • X = $100 million
  • TR = $10 million
  • IM = $125 million

What are the values of government savings and investment spending in Macronesia?

Answer

The government’s savings (or budget balance) is how much it brings in in revenue (taxes, T) minus how much it spends (government purchases, G, and transfers, TR):

$50 m - $100 m - $10 m = -$60 million

Use the GDP equation and a little bit of algebra to calculate the amount of investment in Macronesia: GDP = C + I + G + X - IM

$1 b - $850 m - $100 m + $125 m = $175 million

Practice Problem #2

What effect will a decrease in government spending have on the supply and demand for loanable funds?

  1. Increase both the supply and demand for loanable funds
  2. Decrease both the supply and demand for loanable funds
  3. Increase the supply and the quantity demanded of loanable funds
  4. Decrease the quantity supplied and the demand for loanable funds


Hint

Draw a graph. Which curve would shift?

Practice Problem #2

What effect will a decrease in government spending have on the supply and demand for loanable funds?

  1. Increase both the supply and demand for loanable funds
  2. Decrease both the supply and demand for loanable funds
  3. Increase the supply and the quantity demanded of loanable funds
  4. Decrease the quantity supplied and the demand for loanable funds


Answer

Governments often borrow in order to fund spending. A decrease in spending would shift the demand curve for loanable funds to the left, so demand would decrease and the quantity supplied would decrease.

Practice Problem #3

Which bond has the highest present value?

  1. A $1000 bond paying 10% interest in 5 years
  2. A $1000 bond paying 5% interest in 2 years
  3. A $1000 bond paying 10% interest in 2 years
  4. A $1000 bond paying 5% interest in 5 years


Hint

Think about whether future money is discounted more or discounted less with both time and interest rates.

Practice Problem #3

Which bond has the highest present value?

  1. A $1000 bond paying 10% interest in 5 years
  2. A $1000 bond paying 5% interest in 2 years
  3. A $1000 bond paying 10% interest in 2 years
  4. A $1000 bond paying 5% interest in 5 years


Answer

Future values are discounted more with both time and rates of interest. Given the options above, the bond with the lowest interest rate that “matures” soonest will have the highest present value.

If it helps, remember the basic present value formula:

\[ PV = \frac{FV}{(1 + i)^n} \]

Practice Problem #4

Jason does not currently have a job and has recently been applying to jobs, but they’re still unable to find work. How would Jason be classified by the Bureau of Labor Statistics if they were surveyed?

  1. Not in the labor force
  2. In the labor force and structurally unemployed
  3. In the labor force and underemployed
  4. In the labor force and unemployed

Practice Problem #4

Jason does not currently have a job and has recently been applying to jobs, but they’re still unable to find work. How would Jason be classified by the Bureau of Labor Statistics if they were surveyed?

  1. Not in the labor force
  2. In the labor force and structurally unemployed
  3. In the labor force and underemployed
  4. In the labor force and unemployed


Answer

A person is in the labor force if they’re either working or not working but have actively looked for work recently. The BLS does not distinguish between types of unemployment and we don’t have enough information anyway to determine what type of unemployment Jason is facing. Underemployed people are still employed, so Jason isn’t underemployed.

Practice Problem #5

An economy’s aggregate consumption function is \(C = 200 + 0.7 YD\). The government increases its spending on goods and services by $1 million. What’s the value of the 2nd “round” of spending in the multiplier process?

  1. $700,000
  2. $1 million
  3. $490,000
  4. $200 million

Hint

What’s the MPC?

Practice Problem #5

An economy’s aggregate consumption function is \(C = 200 + 0.7 YD\). The government increases its spending on goods and services by $1 million. What’s the value of the 2nd “round” of spending in the multiplier process?

  1. $700,000
  2. $1 million
  3. $490,000
  4. $200 million

Answer

The first “round” of spending is the government’s initial spending of $1 million. The government’s spending is someone else’s income, so the multiplier effect will start here.

MPC = 0.7 from the consumption function. So consumers will spend 70% of the initial round of spending in the second round.

Practice Problem #6

Let the base year be 1983. The price index in 2025 is 300. What does this mean about the purchasing power of a dollar?

  1. A dollar has 3 times more purchasing power now than in 1983
  2. A dollar has 300 times less purchasing power now than in 1983
  3. A dollar had 3 times more purchasing power in 1983 than 2025
  4. A dollar had 300 times less purchasing power in 1983 than in 2025

Practice Problem #6

Let the base year be 1983. The price index in 2025 is 300. What does this mean about the purchasing power of a dollar?

  1. A dollar has 3 times more purchasing power now than in 1983
  2. A dollar has 300 times less purchasing power now than in 1983
  3. A dollar had 3 times more purchasing power in 1983 than 2025
  4. A dollar had 300 times less purchasing power in 1983 than in 2025

Answer

A base year’s price index is always 100. The 2025 price index means that the price level tripled between 1983 and 2025, so the dollar has less purchasing power in 2025 than in 1983.

Practice Problem #7

GDP is less than planned aggregate spending in a particular period of time. What could be an explanation why?

  1. Firms underproduced and had to draw from inventories to meet demand
  2. The government increased spending on goods and services
  3. Firms spent more on planned investment this period
  4. Consumers’ MPC increased and GDP will catch up next period

Hint

Recall the relationship between GDP and aggregate spending in the income-expenditure model: there’s one other thing in between them.

Practice Problem #7

GDP is less than planned aggregate spending in a particular period of time. What could be an explanation why?

  1. Firms underproduced and had to draw from inventories to meet demand
  2. The government increased spending on goods and services
  3. Firms spent more on planned investment this period
  4. Consumers’ MPC increased and GDP will catch up next period

Answer

\[ \text{GDP} = \text{AE}_\text{Planned} + \text{I}_\text{Unplanned} \]

If GDP < AE, this must mean unplanned investment was negative. An example of negative \(\text{I}_\text{Unplanned}\) is firms having to dip into inventories to meet demand when they weren’t expecting to need to.

Practice Problem #8

Which of the below would not be counted as a part of US GDP?

  1. A Boeing plane assembled in Seattle, which is made of many imported parts and sold to an airline in China
  2. The construction of new office buildings in Detroit
  3. Iron ore that’s mined in Minnesota and sold to a steel mill in Pittsburgh
  4. A makeup company in New York stores a batch of mascara to sell next year

Practice Problem #8

Which of the below would not be counted as a part of US GDP?

  1. A Boeing plane assembled in Seattle, which is made of many imported parts and sold to an airline in China
  2. The construction of new office buildings in Detroit
  3. Iron ore that’s mined in Minnesota and sold to a steel mill in Pittsburgh
  4. A makeup company in New York stores a batch of mascara to sell next year

Answer

The iron ore is an intermediate good, so it’s not counted toward GDP.

1 is an export. 2 and 4 are investment. All of these count toward GDP.

Practice Problem #9

You recently took out a loan to buy a car. In your loan agreement, you pay 5% interest per year on the outstanding amount of the loan. The rate of inflation rises from 2% to 3% during the first year of the loan. What’s the nominal rate of interest you’re paying at the end of the first year? The real rate of interest?

  1. 3% nominal and 5% real
  2. 5% nominal and 2% real
  3. 5% nominal and 8% real
  4. 2% nominal and 7% real

Hint

Remember what positive inflation does to the value of money and rates of return.

Practice Problem #9

You recently took out a loan to buy a car. In your loan agreement, you pay 5% interest per year on the outstanding amount of the loan. The rate of inflation rises from 2% to 3% during the first year of the loan. What’s the nominal rate of interest you’re paying at the end of the first year? The real rate of interest?

  1. 3% nominal and 5% real
  2. 5% nominal and 2% real
  3. 5% nominal and 8% real
  4. 2% nominal and 7% real

Answer

Nominal interest rates don’t change with inflation: it’s the percentage you pay (or earn) in interest on paper. Real interest reflects the value of money earned as interest, net of inflation. Like with money, inflation erodes the value of interest.

Recall the relationship between nominal and real inflation rates:

\[ r = i - \pi \]

where \(r\) is the real interest rate, \(i\) is the nominal interest rate, and \(\pi\) is the inflation rate.

Practice Problem #10

The US has a trade deficit with the rest of the world, meaning the total value of goods and services we import is more than the value we export. Which of the below must be true?

  1. The US makes lower-quality goods than other countries so must import them from elsewhere
  2. More funds are coming into the US from other countries than are going from the US to the rest of the world
  3. More funds are going to the rest of the word from the US than are coming to the US from other countries
  4. The US government is running a budget deficit, which makes our exports lower than they should be

Practice Problem #10

The US has a trade deficit with the rest of the world, meaning the total value of goods and services we import is more than the value we export. Which of the below must be true?

  1. The US makes lower-quality goods than other countries so must import them from elsewhere
  2. More funds are coming into the US from other countries than are going from the US to the rest of the world
  3. More funds are going to the rest of the word from the US than are coming to the US from other countries
  4. The US government is running a budget deficit, which makes our exports lower than they should be

Answer

Remember net capital inflows/outflows:

\[ \text{NCI} = \text{IM} - \text{X} \]

Since the US imports more than it exports, that means we have a positive net capital inflow. More capital is coming to the US from the rest of the world than is leaving the US for other countries.