Answer all the problems:
1. What components of GDP (if any) would each of the following transactions
affect? Explain.
a. Uncle Henry buys a new refrigerator from a domestic manufacturer.
b. Aunt Jane buys a new house from a local builder.
c. You pay a hairdresser for a haircut.
d. Ford sells a Mustang from its inventory to the Martinez family.
e. Ford manufactures a Focus and sells it to Avis, the car rental company.
f. California hires workers to repave Highway 101.
g. The federal government sends your grandmother a Social Security check.
h. Honda expands its factory in Ohio
2. Below are some data from the land of milk and honey.
Year Price of Milk Quantity of Price of Quantity of
Milk Honey Honey
2016 $1 100 quarts $2 50 quarts
2017 1 100 2 100
2018 2 200 4 100
a. Compute nominal GDP, real GDP, and the GDP deflator for each year,
using 2016 as the base year.
b. Compute the percentage change in nominal GDP, real GDP, and the GDP
deflator in 2017 and 2018. from the preceding year. For each year, identify
the variable that does not change. Explain why your answer makes sense.
c. Did economic well-being increase more in 2017 or 2018? Explain.
3. A small nation of ten people idolizes the TV show The Voice. All they
produce and consume are karaoke machines and CDs, in the following
amounts.
Year Karaoke Machines CDs
Quantity Price Quantity Price
2017 10 $40 30 $10
2018 12 60 50 12
a. Using a method similar to the CPI, compute the percentage change in the
overall price level. Use 2017 as the base year and fix the basket at 1 karaoke
machine and 3 CDs.
b. Using a method similar to the GDP deflator, compute the percentage
change in the overall price level. Also use 2017 as the base year.
c. Is the inflation rate in 2018 the same using the two methods? Explain why
or why not.
4. Explain whether each of the following events increases, decreases, or has
no effect on the unemployment rate and the labor-force participation rate.
a. After a long search, Jon finds a job.
b. Tyrion, a full-time college student, graduates and is immediately
employed.
c. After an unsuccessful job search, Arya gives up looking and retires.
d. Daenerys quits her job to become a stay-at-home mom.
e. Sansa has a birthday, becomes an adult, but has no interest in working.
f. Jaime has a birthday, becomes an adult, and starts looking for a job.
g. Cersei dies while enjoying retirement.
h. Jorah dies working long hours at the office.
5. Explain whether each of the following events increases or decreases the
money supply.
a. The Bangladesh Bank buys bonds in open-market operations.
b. The Bangladesh Bank reduces the reserve requirement.
c. The Bangladesh Bank increases the interest rate it pays on reserves.
d. Citibank repays a loan it had previously taken from the Bangladesh Bank.
e. After a rash of pickpocketing, people decide to hold less currency.
f. Fearful of bank runs, bankers decide to hold more excess reserves.
g. The FOMC increases its target for the federal funds rate.
6. Suppose that this year’s money supply is $500 billion, nominal GDP is $10
trillion, and real GDP is $5 trillion.
a. What is the price level? What is the velocity of money?
b. Suppose that velocity is constant and the economy’s output of goods and
services rises by 5 percent each year. What will happen to nominal GDP and
the price level next year if the Fed keeps the money supply constant?
c. What money supply should the Fed set next year if it wants to keep the
price level stable?
d. What money supply should the Fed set next year if it wants inflation of 10
percent?
7. For each of the following events, explain the short-run and long-run effects
on output and the price level, assuming policymakers take no action.
a. The stock market declines sharply, reducing consumers’ wealth.
b. The federal government increases spending on national defense.
c. A technological improvement raises productivity.
d. A recession overseas causes foreigners to buy fewer U.S. goods.
