ASSIGNMENT 1

GROUP # 7
Question 1:
1. Consumption= Durable goods consumption + Nondurable goods consumption + Services
Consumption
= $497 + $1301 + $2342
= $ 4140 b
Investment= Business fixed investment + Residential fixed investment + Inventory
Investment
= $566 + $224 + $7
= $ 797 b
Government Spending= Federal government purchases + State and local government
purchases
= $449 + $683
= $ 1132 b
Net Exports = Exports Imports
= $640 - $670
= -$ 30 b
Gross Domestic Product (GDP) = Consumption + Investment + Government Spending +
Net Exports
= $4140 + $797 + $1132 - $30
= $ 6039 b
2. Gross National Product (GNP) = GDP + Excess of GNP over GDP
= $6039 + $7
= $ 6046 b
Net National Product (NNP) = GNP Depreciation
= $6046 - $658
= $ 5388 b
National Income = $551 + $387 + $556 + $442 = $ 1936 b
Personal Income = $1936 - $551 - $387 - $556 - $442 + $162 + $837 + $694 = $ 1693 b
Personal Disposable Income = $1693 - $645 = $ 1048
3. Consumption Ratio= 68.55%
Investment Ratio= 13.2%
Government Purchases Ratio= 18.74%
Question 2:
Firms Total contribution to GDP = Wages + Taxes + Profit + Rent
= $3.5m + $0.5m +$0.5m + $0.5m
= $5m

Question 3:
(a) Real GDP in 1999 = (8,000 x $4) + (6,000 x $8) = $80,000
Real GDP in 2000 = (10,000 x $4) + (5,000 x $8) = $80,000
Real GDP Growth Rate = ($80,000 - $80,000) / $80,000 x 100 = 0%
(b) Nominal GDP in 2000 = (10,000 x $3) + (5,000 x $14) = $100,000
GDP Deflator = Nominal GDP / Real GDP x 100
= $100,000 / $80,000 x 100
= 125
Inflation = 125 100 = 25%
Question 4:
a. Nominal GDP in base year= Base year price*Base year quantity
= (100*100) + (100*100)
= 20000
Nominal GDP in later year= current year price*quantity
= (200*200) + (100*100)
= 50000
b. Real GDP in base year= base year price*quantity
= (100*100) + (100*100)
= 20000
Real GDP in later year= base year price*quantity in later year
= (100*200) + (100*100)
= 30000
c. GDP deflator= nominal GDP / Real GDP * 100
= (200*200) + (100*100) / (100*200) + (100*100)
= 50000 / 30000 * 100
= 166.67
d. CPI= Qty*Current year price / Qty*base year price
= (100*200) + (100*100) \ (100*100) + (100*100)
= 3/2 * 100
= 150
e. GDP deflator rises more faster than CPI

Question 5:
Many economists are of the view that CPI tends to overstate inflation. One of the reasons is
Substitution Bias, which means that as the CPI measures the changes in price of a fixed basket of
goods, it does not reflect the ability of the consumer to switch to substitute goods which have
become relatively cheaper, so it tends to overstate inflation. Secondly, sometimes the rise in price
of a good is the result of an improvement in its quality, which does not reflect an increase in the
cost of living, but the CPI fails to recognize this fact and hence the change in quality too results
in overstatement of inflation.
Question 6:
1

CPI measures the prices of those goods which are consumed by a typical consumer, e.g.
food, housing rent, clothing etc, whereas the GDP Deflator measures the prices of all
goods and services which are produced in n economy, whether they are purchased by
firms or consumers.

GDP Deflator computes the price level of those goods and services which are
domestically produced but CPI computes the price level of the goods bought by a typical
consumer whether they are domestically produced goods or imported ones.

Thirdly, CPI assigns fixed weights to the prices of goods and services whereas GDP
Deflator assigns changing weights. This means that the basket of goods used to compute
the price level remains fixed in CPI whereas the basket of goods changes in GDP
Deflator depending on the changes in the quantity produced.

Question 7:
Nominal Economic variables are measured in terms of current market values whereas Real
variables are measured in base year market values; this means that real variables are adjusted for
the effects of inflation. Economists tend to concentrate on changes in real magnitudes to
calculate the change in physical quantities without the effect of changes in prices. For example
an increase in nominal GDP could be due to an increase in prices of the goods, which does not
reflect an improvement in economic well-being.
Question 8:
If our paycheck is higher than the last year, it does not necessarily mean that our real income has
increased. This is because there may have been an increase in the price levels and we may be
spending more this year in order to maintain the same living standards as before. Therefore, in
order to determine whether the real income has increased or not, we need to have the price levels

of the base year and current year. Through this we can commute the change in price levels and
income levels and find whether the real income has increased or decreased.

Question 9
a) Unemployment = labor force employment
Unemployment=141,230,000 135,706,000= 5,524,000
Unemployment rate = Unemployment/ Labor Force
Unemployment rate = 5,524,000/141,230,000*100 = 3.91%.
b) Adult population =labor force + the number not in the labor force
Adult Population =141,230,000+ 67,986,000 = 209,216,000
Participation rate= Labor Force/Adult Population
= 141,230,000/209,216,000*100 = 67.5%.
c) Employment ratio= 135,706,000/209,216,000 = 64.9%

Question 10:
a.
b.
c.
d.

Unemployment Rate = 70/1000 x 100 = 7%

15 spells
Average spell = (12x1) + (4x3) / 15 = 1.6 months
Short spell = 20 peoples
Long spell = 50 peoples

Question 11:
Y=AK^0.5L^0.5
= 10(100)^0.5 (400)^0.5
=2000 units
Real wage rate = Marginal Product of Labor (MPL)
MPL= 10(100)^0.5 (401)^0.5 10(100)^0.5 (400)^0.5
= 2002.5 2000
= 2.5 units (Real Wage)
Real Rental Price= Marginal Product of Capital (MPK)
MPK= 10(101)^0.5 (400)^0.5 10(100)^0.5 (400)^0.5
= 2009.98 2000
= 9.98 units (Real Rental Price)
Total Income to Labor= Real Wage Rate * Quantity of Labor
= 2.5 * 400 = 1000 units
Total Income to Capital= Real Rental Price * Quantity of Capital
9.98 * 100 = 998 units
Total Income of Labor and Capital= 1000+998 = 1998 units