SOUTH CAMPUS / MISSIONVALE CAMPUS / GEORGE CAMPUS

EC102 / ECS102 / PFEE 222 / INTRODUCTION TO MACROECONOMICS

SEMESTER TEST 1

6 SEPTEMBER 2013

TIME: 1 HOUR MARKS: 60

SPECIAL INSTRUCTIONS

1. Answer all questions.

2. Non-programmable calculators may be used.

3. Answer Section A on the multiple choice answer sheet provided by using a dark HB pencil to colour-in
the correct alternative.

4. Answer Section B in the exam book provided.

5. All graphs / diagrams must be fully labelled. Marks will be deducted for missing labels.
SECTION A: MULTIPLE CHOICE QUESTIONS [20 x 2 = 40 marks]

1. In The General Theory of Employment, Interest, and Money, John Maynard Keynes argued that
to eliminate a depression, governments should spend

A) more to offset insufficient private spending.

B) less to offset insufficient private spending.
C) more to offset excessive private spending.
D) less to offset excessive private spending.

2. Potential GDP is

A) the level of GDP achieved during periods when 100 percent of the labour force is
employed.
B) a goal that can never be achieved by the economy.
C) the maximum GDP that an economy actually achieves throughout its entire history.
D) the value of production when all the nation's resources are fully employed.

3. Using a production possibility frontier, economic growth is represented by an

A) outward shift in the production possibility frontier so that more of each good can be
produced.
B) inward shift in the production possibility frontier so that less of each good can be produced.
C) outward shift in the production possibility frontier so that less of each good can be
produced.
D) inward shift in the production possibility frontier so that more of each good can be
produced.

4. Business cycles are

A) unpredictable, but always have two phases and two turning points.
B) unpredictable, and don't always have two phases and two turning points.
C) predictable, with a recession following a trough.
D) irregular, with some having two recessions and no expansion.

5. Gross domestic product is the total ________ produced within a country in a given time period.

A) market value of all final goods and services

B) amount of final and intermediate goods and services
C) market value of all final and intermediate goods and services
D) market value of all goods and services

6. The government's budget deficit is the excess of government

A) purchases of goods and services over its interest payments on the government debt.
B) net taxes over its purchases of goods and services.
C) interest payments on the government debt over its net taxes.
D) purchases of goods and services over its net taxes.
7. When imports into the United States exceed exports from the United States, the United States

A) lends to the rest of the world or sells foreign assets.

B) lends to the rest of the world or buys foreign assets.
C) borrows from the rest of the world or sells foreign assets.
D) borrows from the rest of the world or buys foreign assets.

8. Depreciation is subtracted from gross domestic product to determine directly

A) net domestic product.

B) consumption expenditures plus investment expenditures plus government expenditure plus
net exports.
C) national income.
D) disposable income.

9. The country of Erdf has net exports of $5 million. Government expenditure on goods and
services are $15 million and the government has a budget surplus of $5 million. Investment is $5
million. Private saving in Erdf is ________.

A) $15 million B) $10 million C) $5 million D) zero

10. Real GDP measures the

A) total profits earned by all businesses valued using prices from a single year.
B) general upward drift in prices.
C) changes in the prices of output measured in dollars.
D) value of total production linked to prices of a single year.

11. The old, traditional base-year method of calculating real GDP compared

A) prices at different points in time using a sample of goods that is representative of goods
purchased by households.
B) quantities produced in different years with the prices that prevailed during the year in which
the output was produced.
C) quantities produced in different years using prices from a year chosen as a reference
period.
D) the quantities of goods produced in consecutive years using prices in both years and
averaging the percentage changes in the value of output.

12. Suppose that nominal GDP per person is $17,000 in 2007, the 1998 GDP deflator is 100, and
the 2007 GDP deflator is 90. The approximate real GDP per person in 2007 is

A) $15,300. B) $17,000. C) $32,300. D) $18,889.

13. Based on the following data for the country of Tiny Town, the unemployment rate equals:
Population = 100
Labour force = 80
Number of employed persons = 70
Number of discouraged workers = 5

A) 15/80 × 100. B) 10/100 × 100. C) 5/70 × 100. D) 10/80 × 100.

14. Suppose the country of Tiny Town experienced frictional unemployment. This frictional
unemployment would

A) be considered a natural occurrence in a growing economy.

B) signal that the number of discouraged workers is growing.
C) signal that there are more job leavers than job losers.
D) definitely signal that the country is in a recession.

15. When the economy is at full employment the

A) natural unemployment rate equals the unemployment rate.

B) unemployment rate is equal to 0 percent.
C) natural unemployment rate is equal to 0 percent.
D) natural unemployment rate is equal to 10 percent.

16. The consumer price index (CPI)

A) is the ratio of the average price of a typical basket of goods to the cost of producing those
goods.
B) measures the increase in the prices of the goods included in GDP.
C) compares the cost in the current period to the cost in a reference base period of a basket of
goods typically consumed in the base period.
D) compares the cost of the typical basket of goods consumed in period 1 to the cost of a
basket of goods typically consumed in period 2.

17. The biases in the CPI include the

A) substitution, new goods, and old goods biases.

B) new goods, quality change, and substitution biases.
C) old goods, unemployment, and inflation biases.
D) old goods, new goods, and quality change biases.

18. If we want to compare why real GDP is vastly different between two nations, the classical
dichotomy means that we have to examine

A) only the differences in the real parts of the two nations.

B) both the real parts and the nominal variables of the two nations.
C) only the differences in the price levels and inflation rates of the two nations.
D) None of the above answers is correct.

19. Because the leisure-real GDP production possibilities frontier is bowed outward, then

A) the marginal product of labour increases as real GDP increases.

B) each additional unit of real GDP costs a decreasing amount of forgone leisure.
C) as more real GDP is produced, increasingly more productive labour is being used.
D) the slope of the economy's production function decreases as real GDP increases.
20. The country of Kemper is on its production function at point W in the above figure. The
government of Kemper passes a law that makes 4 years of college mandatory for all citizens.
After all citizens have their education, the economy will

A) move to point such as X. B) move to point such as Y.

C) move to point such as Z. D) remain at point W
SECTION B: LONG QUESTIONS [20 marks]

QUESTION 1

Item Billions
of dollars
Consumption expenditure 6,258
Subsidies 100
Investment spending 1,623
Exports of goods and services 998
Depreciation 120
Government expenditure on goods and services 1,630
Imports of goods and services 1,252

The table above gives the values of different expenditures in the United States during 1999. Answer
the following questions about the United States.

a) What was the value of net exports of goods and services in 1999? (2)
b) What was (nominal) GDP equal to in 1999? (2)
c) What was the (nominal) value of total production equal to in 1999? (1)
[5]

QUESTION 2

A typical household in Orangeland consumes only orange juice and shorts. Last year, which was the
base year, the household spent R400 on juice and R120 on shorts. In the base year, juice was R2 a
bottle and shorts were R10 a pair. This year, juice is R3 a bottle, shorts are R12 a pair, and a typical
household has bought 180 bottles of juice and 14 pairs of shorts. [HINT: Compile a table first to
assist you with answering this question].

a) Calculate what the CPI basket is comprised of. (1)

b) Calculate the CPI in the current year. (1)
c) Calculate the inflation rate in the current year. (1)
d) Is the inflation rate that you've calculated likely to be biased? Why or why not? (2)
[5]

QUESTION 3

Data for 2006 Data for 2007

Item Quantity Price Item Quantity Price
Hot dogs 4 R1.50 Hot dogs 6 R1.75
Pepsi 2 R1.00 Pepsi 6 R1.25

The tables above give data on the production and prices in a small economy (2006 = 100).

a) What does nominal GDP equal in 2006? (1)

b) What does real GDP equal in 2006? (1)
c) What does nominal GDP equal in 2007? (1)
d) What does real GDP equal in 2007? (2)
[5]

QUESTION 4

Discuss how an efficiency wage leads to an increase in the natural unemployment rate. Draw a
demand and supply diagram for the labour market and relate your discussion to the figure. (5)

GRAND TOTAL [60]

 MEMORANDUM: SEMESTER TEST 1 – 6 SEPTEMBER 2013

SECTION A: MULTIPLE CHOICE

Question Answer

1 A
2 D
3 A
4 A
5 A
6 D
7 C
8 A
9 C
10 D
11 C
12 D
13 D
14 A
15 A
16 C
17 B
18 A
19 D
20 C
SECTION B: LONG QUESTIONS

QUESTION 1

Item Billions
of dollars
Consumption expenditure 6,258
Subsidies 100
Investment spending 1,623
Exports of goods and services 998
Depreciation 120
Government expenditure on goods and services 1,630
Imports of goods and services 1,252

The table above gives the values of different expenditures in the United States during 1999. Answer
the following questions about the United States.

a) What was the value of net exports of goods and services in 1999? (2)
b) What was (nominal) GDP equal to in 1999? (2)
c) What was the (nominal) value of total production equal to in 1999? (1)

Answer:

a) Net exports of goods and services equals the value of exports of goods and services, $998
billion, minus the value of imports of goods and services, $1,252 billion, or -$254 billion. √√
b) GDP equals the sum of consumption expenditure, $6,258, plus investment, $1,623, plus
government expenditure on goods and services, $1,630, plus net exports, -$254, or $9,257
billion. √√
c) The value of total production equals the value of GDP, so total production was $9,257 billion
in 1999. √ [5]

QUESTION 2

A typical household in Orangeland consumes only orange juice and shorts. Last year, which was the
base year, the household spent R400 on juice and R120 on shorts. In the base year, juice was R2 a
bottle and shorts were R10 a pair. This year, juice is R3 a bottle, shorts are R12 a pair, and a typical
household has bought 180 bottles of juice and 14 pairs of shorts. [HINT: Compile a table first to
assist you with answering this question].

a) Calculate what the CPI basket is comprised of. (1)

b) Calculate the CPI in the current year. (1)
c) Calculate the inflation rate in the current year. (1)
d) Is the inflation rate that you've calculated likely to be biased? Why or why not? (2)
[5]

Answer:

a) The CPI basket is the quantities bought in the base year. In the base year, a typical
household spent R400 on juice at R2 a bottle, so the quantity of juice bought was R400/R2 =
200 bottles. The household spent R120 on shorts at R10 a pair, so the quantity of shorts
bought was R120/R10 = 12. Therefore the CPI basket is comprised of 200 bottles of
juice and 12 pairs of shorts. √
 b) The cost of the CPI basket last year was R400 + R120 = R520. The cost of the CPI basket in
the current year is R3 x 200 + R12 x 12 = R744. So the CPI is (R744 / R520) x 100 = 143.1.
√

c) The inflation rate is the percentage change in the CPI. Because the last year was also the
base year, the CPI last year was 100. So the inflation rate for the current year is [(143.1 –
100)/100] x 100, which is 43.1 percent. √

d) Yes. √ The calculated CPI is likely to overstate inflation because of the commodity
substitution bias. The relative price of shorts has fallen from 5 to 4 bottles of juice. This fall
led consumers to buy more shorts and less juice. As a result, the actual consumer basket in
the current year is less expensive than the CPI basket. The CPI ignores this commodity
substitution, and so overstates the inflation rate. √

QUESTION 3

Data for 2006

Item Quantity Price
Hot dogs 4 R1.50
Pepsi 2 R1.00

Data for 2007

Item Quantity Price
Hot dogs 6 R1.75
Pepsi 6 R1.25

The tables above give data on the production and prices in a small economy (2006 = 100).

a) What does nominal GDP equal in 2006? (1)

b) What does real GDP equal in 2006? (1)
c) What does nominal GDP equal in 2007? (1)
d) What does real GDP equal in 2007? (2)

Answer:

a) Nominal GDP in 2006 equals R8.00. √ Nominal GDP equals the sum of the market
value of hot dogs (R6.00) plus the market value of Pepsi (R2.00).
b) Real GDP in 2006 equals R8.00. √ Real GDP equals nominal GDP in the base
period.
c) Nominal GDP in 2007 equals R14.25 R18.00. √ Nominal GDP equals the sum of the
market value of hot dogs (6 x R1.75 = R10.50) plus the market value of Pepsi (6 x
R1.25 = R7.50).
 d) Real GDP in 2007 equals R15.00. √√

[5]

QUESTION 4

Discuss how an efficiency wage leads to an increase in the natural unemployment rate. Draw a
demand and supply diagram for the labour market and relate your discussion to the figure. (5)

Answer: √√ for properly-labelled diagram

 An efficiency wage rate is a wage that is set by a firm above the equilibrium wage rate in
order to motivate the firm's workers to work hard. √
 The idea is that workers will work hard in order to keep their jobs because they know that if
they are fired, the (equilibrium) wage rate they are likely to get at a new job will be less than
the efficiency wage. √
 But, because the efficiency wage rate exceeds the equilibrium wage rate, there is a surplus
of labour because the quantity of labour demanded decreases and the quantity supplied
increases. The surplus is unemployment. √
 In the figure above, the equilibrium real wage rate is W and the efficiency wage is Weff. At
the equilibrium wage rate, there is no unemployment because the quantity of labour
demanded equals the quantity supplied. √
 But, with the efficiency wage, the figure shows that there is a surplus of labour. This surplus,
which is the amount of unemployment, equals the quantity of labour supplied, Ls, minus the
quantity of labour demanded, Ld. √

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