Circular Flow & GDP
The gov't is the mediator and interacts with both businesses and households through taxation, regulation and spending.
Why do structural and frictional unemployment count in the Natural Rate of Unemployment?
Both are considered avoidable, and not caused by economic downturns and would still exist if the economy was at full employment.
Explain how GDP is calculated in the Expenditure model and the income model.
Expenditure Model: Y = C + I + G + Xm
Income Model: Y = Employee Income + Rent + Interest + Profit + Indirect Business Taxes (Sales tax and excise tax/tariffs paid by businesses + Deprecation (Cost of replacing capital goods)
Explain why real GDP is a better indicator of the economy than nominal GDP.
Real GDP takes into account inflation, nominal GDP does not.
It decreases
1. doesn't account for income inequality, 2. environmental costs, 3. non-market production, 4. QOL factors, 5. spending on "bads" counts. 5.Tech and quantity changes, 6. short term focus.
Explain why Cyclical unemployment is not counted in the Natural Rate of Unemployment.
Cyclical is temporary and caused by economic downturns. Workers will "bounce back" once the economy begins to expand again.
What is the difference between CPI and the GDP deflator?
CPI tracks a fixed basket of goods while GDP deflator covers all domestic produced goods and services.
Describe one cost of inflation
Menu costs
Shoe Leather Costs
Unit of account costs
Describe the relationship b/w unemployment and inflation.
They have an inverse relationship as seen in the Phillips Curve.
If imports rise faster than exports, what happens to GDP?
a. GDP rises b. GDP falls
c. Net Exports rise d. Gov't spending rises
e. Consumption rises
B GDP falls b/c net exports (X - M) drops
Frictional unemployment is caused by:
a. Temporary Gaps b/w jobs
b. Tech changes
c. Demand rise
d. Price increases
e. Monetary policy
a. Temporary Gaps b/w jobs
If CPI increases from 200 to 260 in one year then the inflation rate is:
a. 16.67% b. 20%
c. 25% d. 30%
e. 130%
d. 30%
In a year the nominal GDP grew by 11% while real GDP grew by 4%, inflation would be:
a. -7% b. 7%
c. 8% d. 11%
e. 15%
b 7%
When an economy is at the trough of the business cycle, which of the following is then true about the state of the economy?
a. There is a recessionary gap
b. There is an inflationary gap
c. The economy is producing at its potential output level
d. The economy is producing above its potential output level
e. The unemployment rate is lower than the natural rate of unemployment.
a
in the circular flow diagram of a market economy, which of the following supplies the factors of production?
a. The business sector
b. The Gov't
c. The household sector
d. Financial sector
e. The foreign sector
c. The household sector supplies the factors of production (labor)
Which of the following statements exemplifies the concept of structural unemployment?
a. New entrants into the labor force have trouble finding jobs.
b. Workers leave their current jobs to find better jobs.
c. Workers are laid off b/c aggregate demand declined.
d. Workers are fired b/c consumers have reduced their total expenditures.
e. Workers are fired because their skills are no longer in demand.
e. Workers are fired b/c their skills are obsolete (type setters, cassette tape fixers...etc.)
Suppose that the consumer price index rises from 100 to 200. From this information we may conclude that
a. each person's real income is cut in half
b. consumer incomes are doubled
c. the prices in an average consumer's market basket are doubled
d. all consumer goods prices are doubled
e. all prices in the economy are doubled.
c. CPI measures the average consumer market basket not all prices in the entire economy.
If nominal GDP fell while Real GDP rose, which of the following must be true?
a. Unemployment increased
b. The inflation rate was negative
c. Net exports were negative
d. The average of stock prices rose while bond prices fell
e. Nominal interest rates rose by less than the rate of inflation
b
Which of the following describes a typical business cycle in the correct sequence?
a. Peak, trough, recession, and expansion
b. Peak, trough, expansion, and recession
c. Peak, recession, trough, and expansion
d. Peak, recession, expansion, and trough
e. Peak, expansion, trough, and recession
c
One the board draw a basic diagram of the Circular Flow with the following terms: Individuals, Businesses, Resource Market, Product Market, Government, Who supplies and who demand, taxes, subsidies, transfer payments, public goods
See 2.1 slides to compare
Group Number of People
Civilian non-institutionalized population (working age) 260,000
Employed 156,000
Unemployed 9,000
Discouraged workers 95,000
a. Calculate the unemployment rate
b. Calculate the labor force participation rate
c. If the discouraged workers are able to find a job what will happen to the unemployment rate?
a. U.R. = (Unemployed/Labor Force) x100 = 5.7%
b. LFPR = ((Employed + Unemployed)/Working age population) x100 = 63.5%
c. The unemployment rate will fall b/c they join the employed category.
The following price data is from a simplified economy that only has three goods: food, clothing, and housing.
Base Year: Food: $200, Clothing: $100, Housing: $300
Current Year: Food: $240, Clothing: $120, Housing: $360.
a. Calculate the CPI for the current year using the base year as a reference point. Show your work.
b. Find the inflation rate from the base year to the current year. Show your work.
c. Explain one limitation of CPI as a measure of the cost of living.
a. Base Year Basket = 600, Current Basket = 720. (720/600) x 100 = 120
b. ((Current CPI - Base CPI)/(Base CPI)) x 100. ((120 - 100)/100) x 100 = 20%
c. Limitations: substitution bias, quality changes, delays in adding new goods.
An economy produces only one good. The table shows data for nominal GDP and the GDP deflator (base year 100) for three years:
2022: Nominal GDP: 2,000,000 GDP Deflator:100
2023: Nominal GDP: 2,200,000, GDP Deflator: 110
2024: Nominal GDP: 2,420,00, GDP Deflator: 121
a. Calculate Real GDP for 2023 and 2024. Show your work.
b. Compute real GDP growth between 2022 and 2024. Show your work.
a. Real GDP2023 = (Nominal GDP/GDP Deflator) x 100. 2,200,000/110 x 100 = 2,000,000
Real GDP 2024 = 2,420,000/121 x 100 = 2,420,000/1.21 = 2,000,000
b. Real GDP from 2022 to 2024 = 0
Year 1: GDP growth +3%, unemployment rate: 5%, Inflation 2%
Year 2: GDP growth +1%, unemployment rate: 6%, Inflation 1.5%
Year 3: GDP growth -1%, unemployment rate: 8%, Inflation 0.5%
Year 4: GDP growth +2%, unemployment rate: 7%, Inflation 1%
Year 5: GDP growth +4%, unemployment rate: 5%, Inflation 2.5%
a. Identify the phases of the business cycle in year 3 and year 5, justify your answer using data.
b. Explain the typical relationship between unemployment and real GDP during a recession.
c. Explain the typical relationship between inflation and real GDP during a time of economic Expansion.
a. Year 3 Recession, (Economic Contraction)
Year 5: Expansion (Recovery)
b. During a recession, real GDP falls b/c economic activity slows, firms reduce production and investment declines. As output declines firms need less workers and lay off employees and slow hiring. As a a result, unemployment tends to rise during recessions.
c. Inflation increases as GDP increases due to an overall increase in aggregate demand.