Macroeconomic Theory Exam 1

What does a graph of the U.S. unemployment rate over the twentieth century show?

Unemployment rates are always greater than zero with substantial variations from year to year.

What is a severe recession called?

A depression.

Which of the following is NOT a type of macroeconomic data?

The price of a computer.

Which of the following is NOT an important macroeconomic variable?

The marginal rate of substitution.

Compared with real GDP during a recession, how does real GDP during a depression change?

It decreases more severely.

When does deflation occur?

When prices fall.

What are endogenous variables?

Variables that are determined within the model.

In a simple model of supply and demand for pizza, what are the endogenous variables?

The price of pizza and the quantity of pizza sold.

In a simple model of supply and demand for pizza, what happens when buyers' income increases?

The price of pizza increases and the quantity purchased increases.

In a simple model of supply and demand for pizza, what happens when the price of cheese increases?

The price of pizza increases and the quantity purchased decreases.

Macroeconomic models explain how what types of variables influence what other types of variables?

Exogenous variables influence endogenous variables.

Why do macroeconomic models use different assumptions?

Different models make different assumptions to explain different aspects of the macroeconomy.

What is macroeconomics?

The study of the economy as a whole.

How are macroeconomists like scientists?

They collect data, develop hypotheses, and analyze the results.

When is the assumption of flexible prices most plausible?

In the long run.

What does the inflation rate measure?

How fast the general level of prices in the economy is rising.

Has the U.S. unemployment rate ever been zero?

No, it has never been zero in the United States.

Which price assumption is more plausible in the short run versus the long run?

Sticky prices are more plausible in the short run, while flexible prices are more plausible in the long run.

What is an example of a sticky price?

The price of a soda in a vending machine.

What is true about economic models?

Economists use different models to address different economic phenomena.

An increase in the price of goods bought by firms and the government will show up in which price index?

The GDP deflator but not the CPI.

An increase in the price of imported goods will show up in which price index?

The CPI but not the GDP deflator.

A rancher sells McDonald's meat for $1 and McDonald's sells a hamburger made from it for $2. How much does this transaction increase GDP?

$2.

A tire company sells tires for $400 and another company sells a CD player for $500 to an automobile company, which puts them in a car sold for $20,000. How much is counted in GDP?

$20,000.

If apples cost $0.50 in 2002 and oranges cost $1 in 2002, and 5 apples and 4 oranges are produced in 2009, what is real GDP in 2009 using 2002 prices?

$6.50.

GDP is all of the following except what?

The total expenditure of everyone in the economy.

What is the formula for GNP?

GNP = GDP - income earned domestically by foreigners + income that nationals earn abroad.

If GDP is $5,465 billion, consumption is $3,657 billion, investment is $741 billion, and government purchases are $1,098 billion, what are net exports?

-$31 billion.

If real GDP grows by 6% and population grows by 2%, approximately how much does real GDP per person grow?

4%.

What is NOT classified as a government purchase in the national income accounts?

Payments made to Social Security recipients.

Who makes government purchases in the national income accounts?

The federal, state, and local governments.

How are household purchases of durable goods, nondurable goods, and services classified?

Consumption.

How are CPI items weighted?

According to the quantity of the item purchased by the typical household.

What does real GDP measure prices in?

Constant prices.

How is the CPI calculated?

The price of a fixed basket of goods and services relative to the price of the same basket in a base year.

Is capital a stock or flow variable?

Capital is a stock variable.

Is investment a stock or flow variable?

Investment is a flow variable.

What is the national income accounts identity for an open economy?

Y = C + I + G + NX.

What type of goods are included in GDP to avoid double counting?

Final goods.

When a firm sells a product out of inventory, what happens to investment and consumption expenditures?

Investment decreases and consumption increases.

Which of the following is a stock variable?

Wealth.

What do an economy's factors of production and production function determine?

The economy's output of goods and services.

What happens to the real rental price of capital when the supply of capital increases?

It decreases.

If 7 million workers are unemployed and 143 million are employed, what is the unemployment rate?

Approximately 4.7%, calculated as 7 divided by 150 times 100.

If Y = AK^0.5L^0.5 and A, K, and L are all 100, what is the marginal product of capital?

50.

What is constant returns to scale?

When an equal percentage increase in all factors of production increases output by the same percentage.

What happens to the labor-force participation rate when an increasing proportion of the adult population retires?

It decreases.

If bread is produced using a constant returns to scale production function, what happens when both equipment and workers are doubled?

Output doubles.

If nominal GDP grows by 5% and real GDP grows by 3%, approximately how much does the GDP deflator grow?

2%.

If the adult population is 250 million, with 145 million employed and 5 million unemployed, what is the labor-force participation rate?

60%.

If employment increases while unemployment stays the same, what happens to the unemployment rate?

It decreases.

In the circular flow diagram, firms receive revenue from which market and use it to purchase inputs in which market?

Firms receive revenue from the goods market and purchase inputs in the factor market.

In the long run, what determines national income?

The economy's factors of production and production function.

If the supply of a factor is fixed, what does its supply curve look like?

A vertical supply curve.

What is the marginal product of labor?

The additional output produced when one additional unit of labor is added.

How is the price received by each factor of production determined?

By the demand and supply of factors.

What is the real rental price of capital measured in?

Units of output.

What is the real wage measured in?

Units of output.

What are the two most important factors of production?

Capital and labor.

What does the classical model with fixed output assume about capital and labor?

Capital and labor are fully utilized.

Which of the following is a flow variable?

Income.

What does a trade in a barter economy require?

A double coincidence of wants.

According to the Chapter 3 model, what happens to interest rates when government spending increases while taxes stay the same?

Interest rates increase.

What are the three major functions of money?

Medium of exchange, unit of account, and store of value.

What happens in a neoclassical economy when consumer confidence increases consumption at every level of disposable income?

Investment decreases and the interest rate increases.

What is crowding out?

An increase in government spending increases the interest rate and decreases investment.

What happens to the equilibrium real interest rate, saving, and investment when the government cuts spending?

The economy moves to point B in the given graph, with a lower interest rate and higher saving.

What happens to the equilibrium real interest rate, saving, and investment when the government increases spending?

The economy moves to point A in the given graph, with a higher interest rate and lower saving.

What happens when a technological innovation increases the demand for investment goods?

The economy moves to point B in the given graph, increasing the equilibrium interest rate and investment.

In the classical model with fixed income, what happens when the government budget deficit decreases?

The real interest rate decreases.

In the classical model with fixed income, what could cause the real interest rate to increase?

An increase in government spending.

If households want to save more than firms want to invest, what happens to the interest rate?

The interest rate falls.

If demand for goods and services is greater than supply in the classical model, what happens to the interest rate?

The interest rate increases.

In the classical model, if the interest rate is too high, what happens to investment and demand for output?

Investment is too low and demand for output falls short of supply.

In the neoclassical model with fixed income, what happens when taxes decrease while government spending stays the same?

Public saving decreases and private saving increases.

When do people use money as a store of value?

When they hold money to transfer purchasing power into the future.

Suppose Y = 5,000, C = 500 + 0.5(Y − T), I = 2,000 − 100r, G = 1,000, and T = 1,000. If technology changes investment to I = 3,000 − 100r, what happens?

Investment is unchanged and the real interest rate rises by 10 percentage points.

If the government raises lump-sum taxes by $100 billion, output stays unchanged, and the MPC is 0.6, what happens to private saving?

Private saving falls by $40 billion.

When a pizza maker lists a pizza price as $10, which function of money is being used?

Unit of account.

When saving increases as the interest rate increases, what happens when investment demand increases?

The interest rate increases and the quantity of investment increases.

When there is a fixed supply of loanable funds, what happens when investment demand increases?

The interest rate increases.

GDP Deflator Formula

Nominal GDP/Real GDP x 100

Inflation Rate Formula

GDP Deflator of current year - GDP Deflator of earlier year / GDP Deflator of earlier year x 100

CPI Formula

Cost of basket in that month or year / cost of basket in base year x 100

CPI 2024

CPI(25) - CPI(24) / CPI(24)

Unemployment Rate Formula

Unemployed / Labor Force x 100

Labor Force Participation Rate Formula

Labor Force / Adult Population x 100

Expenditure components of GDP

Y=C(consumption) + I(Income) + G(Government expenditure) + NX(Exports-Imports)

Factors of Production

K(capital-tools, machinery, and structures used in production) + L(labor-physical and mental efforts of workers)

Production Function

Y=F(K,L)

Real Wage Formula

W(nominal wage) / P(Price of output)

Real Rental Wage Formula

R(Nominal rental wage) / P(Price of output)

MPL(Marginal Product of Labor)

F(K+1,L) - F(K,L) / Change in K

MPK(Marginal Product of Capital)

F(K+1,L) - F(K,L) / change in K

Cobb Douglas Production Function

Y= AK^ocL^1-oc

A represents what in the Cobb Douglas Production Function

Technology

MPC(Marginal propensity to consume)

The change in C when disposable income increases by $1