BUSI 223Exercise 6 Instructions1. How much life insurance do y.docx

BUSI 223
Exercise 6 Instructions
1. How much life insurance do you need? Using the Life
Insurance Calculator, enter the information and post your
results in the textbox section of the assignment link. You do
NOT need to get actual quotes, just see how much you need.
2. Decide which health care plan you would choose. Looking at
eHealth Insurance, enter your information (or you can make up
information), and then pick 3 companies to compare. Again, you
do not need to input personal information. You must only fill in
the gender, birth date, tobacco use, college student, and zip
code information. Copy and paste the results of the 3 companies
that you compared into a Microsoft Word document and attach
it in the Module/Week 6 assignment link. Choose the 1 plan that
you would suggest and explain why you chose that particular
plan.
Submit this assignment by 11:59 p.m. (ET) on Monday of
Module/Week 6.
Lecture 2
Chapter 7
Measuring Domestic Output and National Income
Assessing the Economy’s Performance
National income accounting measures economy’s overall
performance
Bureau of Economic Analysis compiles National Income and
Product Accounts
Assess health of economy
Track long-run course
Formulate policy

National income accounting does for the economy what private
accounting would do for an individual household or business.
The Bureau of Economic Analysis, an agency of the Department
of Commerce, compiles the data and reports it in National
Income and Product Accounts. This information is used by
economists and policymakers in formulating decisions for the
best interest of the nation.
Gross Domestic Product(GDP)
GDP is the dollar value of all final goods and services produced
within the borders of a country during a specific period of time.
Measure of aggregate output
Monetary measure
Avoid multiple counting
One way to avoid multiple counting is to include market value
of final goods and ignore intermediate goods
Another approach is to count value added
The primary measure of the economy’s performance as a whole
is its aggregate output. This is most commonly calculated as
Gross Domestic Product, or GDP. GDP is a monetary measure
in that everything is valued in dollars. All goods and services
produced must be converted into dollar values for GDP to work.
To avoid multiple counting of goods, GDP includes only the
market value of final goods and ignores intermediate goods,
which are goods either purchased for resale or for further
processing into final goods. GDP could also avoid multiple
counting by counting only the value added at each stage. Value
added is the market value of a firm’s output less the value of the
inputs that the firm purchased from others.
Intermediate goods are products that are purchased for resale or
further processing or manufacturing. Final goods are products
that are purchased by their end users.e.g Lettuce, carrots and

vinegar in restaurant salads are intermediate goods, restaurant
salads are final goods.
Monetary Measure
LO1
GDP is a monetary measure because we would not otherwise be
able to determine if total output has changed from year to year
if the mix of goods and services changes.
4
Gross Domestic Product Continued
(1)
Stage of Production
(2)
Sales Value
of Materials
or Product
$ 0
Firm A, sheep ranch
120
Firm B, wool processor
180
Firm C, coat manufacturer
220
Firm D, clothing wholesaler
270
Firm E, retail clothier
350
Total Sales Value
$1140
Value Added (total income)

(3)
Value
Added
]--------$120 (= $120 - $ 0)
]-------- 60 (= 180 - 120)
]-------- 40 (= 220 - 180)
]-------- 50 (= 270 - 220)
]-------- 80 (= 350 - 270)
$350
LO1
This table illustrates the value-added in a five-stage production
process. The value added is the market value of a firm’s output
less the value of the inputs the firm has bought from others.
Using this method will avoid multiple counting.
Gross Domestic Product Concluded
Exclude financial transactions
Public transfer payments e.g social security payments, welfare
payments etc
Private transfer payments e.g money that parents give to
children
Stock market transactions
Exclude second hand sales
Sell used car to a friend
LO1
Nonproduction transactions must be excluded from GDP since
they have nothing to do with the production of final goods.
There are two types: purely financial transactions and
secondhand sales. Purely financial transactions include such
items as public transfer payments like Social Security, private

transfer payments (Christmas gifts), and stock market
transactions. Secondhand sales contribute nothing to current
production so they are ignored in calculating GDP.
Two Approaches to GDP
Income approach
Count income derived from production
Wages, rental income, interest income, profit
Expenditure approach
Count sum of money spent buying the final goods
Who buys the goods?
LO1
GDP can be viewed from two different perspectives. The
income approach looks at GDP in terms of the income derived,
or created, from producing goods and services. The
expenditures approach measures GDP as the sum of all of the
money spent in buying the output. In theory, either method
should yield equal results. The expenditures and income
approaches are two different ways to look at the same thing.
You could look at a quarter from the heads side or the tails side,
but it is still worth the same amount. This is the same as the
expenditures and income approaches for calculating GDP.
Two Approaches to GDP Cont’d
G
D
P
=
=
+
Consumption by
Households

Investment by
Businesses
Government
Purchases
Expenditures
By Foreigners
+
+
+
+
+
Wages
Rents
Interest
Profits
Statistical
Adjustments
+
Expenditures or Output Approach
Income or
Allocations Approach
LO1
Here the two different approaches to measuring GDP are
illustrated. On the left, the expenditures approach measures
GDP as the sum of four items: (1) consumption by households,
(2) investment by businesses, (3) government purchases, and (4)
expenditures by foreigners. On the right, the income approach
uses different inputs: (1) wages, (2) rents, (3) interest, (4)
profits, and (5) statistical adjustments. Each of these items will
be further discussed next.
Expenditures Approach
Personal consumption expenditures (C)
Durable goods

Nondurable goods
Consumer expenditures for services
LO2
Personal consumption expenditures, indicated by a “C”
notation, covers all expenditures by households on final goods
and services during a year. In any given year, approximately
10% of those expenditures are for durable consumer goods,
which are defined as having a life of three years or more.
Another 30% go to nondurable goods such as food, clothing,
and gasoline. The other 60% are for services leading to the U.S.
economy frequently being referred to as a service economy.
Expenditures Approach Continued
Gross private domestic investment (Ig)
Machinery, equipment, and tools
All construction
Positive and negative changes in inventories
Expenditures on R&D as well as money spent to develop new
works of writing,art,music and software
Noninvestment transactions excluded
LO2
The second component of the expenditures approach is gross
private investment, which includes all final purchases of
machinery, equipment, and tools by businesses, all construction,
and changes in inventories. All of these items represent ways
businesses invest in themselves. Construction also includes
residential construction because homes could be rented to
produce income.
Expenditures Approach: Investment
January 1

Year’s GDP
December 31
Consumption,
government
expenditures,
and net exports
Depreciation
Net
Investment
Gross
Investment
Stock of
Capital
Stock
of
Capital
Gross Investment
Depreciation
Net Investment
-
=
LO2
When gross investment exceeds depreciation during a year, net
investment occurs. This net investment expands the stock of
private capital from the beginning of the year to the end of the
year, allowing the economy’s production capacity to expand, all
other things equal.
Expenditures Approach Concluded
Government purchases (G)
Expenditures for goods and services

Expenditures for publicly owned capital
Excludes transfer payments
Net exports (Xn)
Add exported goods
Subtract imported goods
Xn= exports (X) - imports (M)
GDP = C + Ig + G + Xn
LO2
The last two components of the expenditures approach are
government purchases and net exports. Government purchases
are officially labeled “government consumption expenditures
and gross investment.” It includes expenditures for goods and
services that the government uses in providing public services
and expenditures for publicly owned capital such as for schools
or roads. It excludes government transfer payments such as
Social Security because they simply transfer government
receipts to certain households and does not generate any sort of
production.
Net exports are calculated by subtracting the value of imported
goods from the value of exported goods.
Adding up all four components provides a measure of GDP, a
measure of the market value of a specific year’s total output.
Accounting Statement for
the U.S. Economy, 2015
LO2
This table calculates GDP for 2015 in the United States by both
the expenditures approach and the income approach. Note that
both methods come to the same total of GDP for the year.

Comparative GDP
LO2
In this table comparing GDPs for selected nations for 2014, the
United States, China, and Japan have the world’s highest GDP.
Note that all data have been converted to U.S. dollars via
international exchange rates.
GDP VS GNP
Government National Product(GNP) GNP measures the levels of
production of all the citizens or corporations from a particular
country working or producing in any country. For example, the
United States' GNP measures and includes the production levels
of any American or American-owned entity, regardless of where
in the world the actual production process is taking place, and
defines the economy in terms of the private or corporate
citizens' output
Government Domestic Product(GDP) refers to and measures
the domestic levels of production in a country. It represents the
monetary value of all goods and services produced within a
nation's geographic borders over a specified period of time
For example, the output of a Toyota plant in Kentucky isn't
included in America’s GNP, although it's counted in America’.s
GDP
15
Discussion Question # 12
Which of the following are included or excluded in this year’s
GDP? Explain your answer in each case.

a. Social Security payments received by a retired factory
worker.
b. Unpaid services of a family member in painting the family
home.
c. Income of a dentist from the dental services provided.
d. A monthly allowance a college student receives from home.
e. Money received by Josh when he resells his nearly brand-new
Honda automobile to Kim.
f. The publication and sale of a new college textbook.
g. An increase in leisure resulting from a 2-hour decrease in the
length of the workweek, with no reduction in pay.
h. A $2 billion increase in business inventories.
i. The purchase of 100 shares of Google common stock.
a. Excluded. A transfer payment from taxpayers for which no
service is rendered (in this year).
b. Excluded. Nonmarket production.
c. Included. Payment for a final service. You cannot pass on
a tooth extraction!
d. Excluded. A private transfer payment; simply a transfer of
income from one private individual to another for which no
transaction in the market occurs.
e. Excluded. The production of the car had already been
counted at the time of the initial sale.
f. Included. It is a new good produced for final
consumption.
g. Excluded. The effect of the decline will be counted, but
the change in the workweek itself is not the production of a
final good or service or a payment for work done.
h. Included. The increase in inventories could only occur as
a result of increased production.
i. Excluded. Merely the transfer of ownership of existing
financial assets
16

Problem # 3
If in some country personal consumption expenditures in a
specific year are $50 billion, purchases of stocks and bonds are
$30 billion, net exports are -$10 billion, government purchases
are $20 billion, sales of second-hand items are $8 billion, and
gross investment is $25 billion, what is the country’s GDP for
the year?
Answer: $85 billion
Nominal GDP vs. Real GDP
GDP is a dollar measure of production
Using dollar values creates problems
Nominal GDP
Based on prices that prevailed when output was produced
Real GDP
Reflect changes in the price level
Use base year price
LO5
GDP measures production at current dollar values which creates
problems because the value of a dollar changes over time. One
hundred years ago, the purchasing power of one dollar was
much different than it is today. To get around that problem,
there are two different GDPs. Nominal GDP is based upon the
prices that were in effect when the output was produced. A GDP
that has been deflated or inflated to reflect changes in price
levels is referred to as real GDP. In order to calculate real GDP,
a base year must be selected and then the current year’s prices
adjusted accordingly.
GDP Price Index
Use price index to determine real GDP
Price

Index
In Given
Year
=
×
100
Price of Market Basket
in Specific Year
Price of Same Basket
in Base Year
Real GDP in given year
=
Nominal GDP in given year
This is the formula used to calculate real GDP. We use a price
index that is equal to the price of a collection of goods and
services in the specific year divided by the price for the same
goods and services in a base year multiplied by 100. Nominal
GDP is then divided by the price index (in hundredths) to
determine real GDP.
GDP Growth rate
GDP Growth rate= x 100%
The GDP growth rate measures how fast the economy is
growing.
GDP Price Index Continued
Calculating Real GDP (Base Year = Year 1)Year(1)
Units of
Output(2)
Price of

Pizza
Per Unit(3)
Price Index
(Year 1 = 100)(4) Unadjusted, or Nominal, GDP
(1) × (2)(5)
Adjusted, or Real, GDP15$10100$ 50$502720200
140703825250 2008041030---------51128---------
LO5
In this table, nominal GDP and real GDP are calculated based
upon the formula. Years 1 to 3 have been calculated. Complete
the table for years 4 and 5.
Extra Credit 2: Nominal GDP for Year 4=10x30=300 ; Price
index for year 4=(30/10)x100=300; Real GDP for year
4=300/(300/100)=100
Question
Consider the production of fries and burger in an economy:
Where Q represents quantity and P represents prices; 2013 is
the base year.
Find the nominal GDP for each year
Find the real GDP for each year
What is the nominal growth rate?
What is the real growth rate?
Note: Real GDP is calculated using base year’s prices.
Year20132008.55001.520141909.05001.6
Answer:
Nominal GDP for 2013=(200x8.5)+(500x1.5)=2450; Nominal

GDP for 2014=(190x9)+(500x1.6)=2510
Real GDP for 2013= (200x8.5)+(500x1.5)=2450 * For base
year, Nominal GDP=Real GDP; Real GDP for 2014=
(190x8.5)+(500x1.5)=2365
Nominal growth rate= x 100%=
Real growth rate= x 100%=
Real World Considerations
This table shows some of the relationships between nominal
GDP, real GDP and the GDP price index over the past decade.
Here the base year is 2009 (note that is the year where the index
is 100). To test your understanding of the relationships,
determine the value of the price index for 1995 and real GDP
for 2005 and 2009.
GDP price index for 1995= (7664/10167.3)x100=75.4
23
Shortcomings of GDP
Nonmarket activities
Leisure
Improved product quality
The underground economy
GDP and the environment
Composition and distribution of output
Noneconomic sources of well-being
LO6
While GDP is a reasonably accurate and highly useful measure
of how the economy is performing, it does have several
shortcomings. Certain productive activities occur outside of any

market and therefore are not measured in the traditional way.
The value of leisure time, weekends, holidays, etc., is also not
included, but they certainly add value due to the added
satisfaction they provide to workers.
GDP fails to capture the full value of improvements in product
quality. Let’s face it, a $200 cell phone purchased today is of
very different quality than a cell phone that cost $200 just a
decade ago. There is also a huge underground economy, mainly
comprised of illegal activities, that produces income that is not
measured through traditional GDP methods. Included in this
underground economy are legal activities that provide income
that the recipients refuse to report to the I.R.S. and pay taxes
on. Environmental issues and noneconomic sources of well-
being are also problematic in that GDP does not really have a
way to accurately value and report the issues.
Underground Economy
LO6
This table shows the underground economy as a percentage of
GDP in several nations.
Chapter 7 cont.
Nominal GDP Growth= Real GDP growth + Inflation
Lecture 3
Chapter 9
Business Cycles, Unemployment and Inflation

The Business Cycle
Alternating increases and decreases in economic activity over
time
Phases of the business cycle
Peak
Recession
Trough
Expansion
LO1
3
Business cycles are alternating increases and decreases in
economic activity over time. Each business cycle consists of
four phases. A peak is when business activity reaches a
temporary maximum with full employment and near-capacity
output. A recession is a decline in total output, income,
employment, and trade lasting six months or more; this is
sometimes referred to as an economic contraction. The trough is
the bottom of the recession period and the expansion is when
output and employment are recovering and expanding toward
the full employment level.
Level of real output
Time
Peak

Peak
Peak
Recession
Recession
Expansion
Expansion
Trough
Trough
Growth
Trend
The Business Cycle Continued
LO1
4
This figure shows the business cycle. Economists distinguish
four phases of the business cycle; the duration and strength of
each phase may vary. Additionally, individual cycles vary in
duration and intensity. You can see that the long run trend is
economic growth.
U.S. Recessions since 1950PeriodDuration,
MonthsDepth
(Decline in Real Output)1953-5410 -2.6%1957-588-3.71960-
6110-1.11969-7011-0.21973-7516-3.219806-2.21981-8216-
2.91990-918-1.420018-0.42007-0918-4.3
Source: National Bureau of Economic Research, www.nber.org,
and Minneapolis Federal Reserve Bank,
www.minneapolisfed.gov. Output data are in 2000 dollars
The Business Cycle: Recessions
LO1
5
The NBER is a nonprofit economic research organization.

Within the NBER is the Business Cycle Dating Committee
whose job it is to declare the start and the end of recessions in
the U.S. They declared that the 2007 recession began in
December 2007 and ended in June 2009.
The Business Cycle Concluded
Business cycle fluctuations
Economic shocks
Prices are “sticky” downwards
Economic response entails decreases in output and employment
LO1
6
The United States’ long run economic growth has been
interrupted by periods of instability. Uneven growth has been
the pattern, with inflation often accompanying rapid growth,
and declines in employment and output during periods of
recession and depression. Economic shocks are unexpected
events that individuals and firms may have trouble adjusting to.
Prices can be inflexible downwards which means that if total
spending unexpectedly decreases and firms cannot lower prices,
the firms will end up selling fewer units of output. The “sticky”
prices result in slower sales which will cause firms to cut back
on production; this causes GDP to fall. Then employment will
fall because of the reduced demand for output and an economic
contraction will occur. Inflexible prices are thought to be a
major factor in preventing the economy from quickly adjusting
to economic shocks. These shocks are outlined on the next
slide.
Causation: A First Glance
Causes of shocks
Irregular innovation
Productivity changes
Monetary factors

Political events
Financial instability
Recession of 2007
LO1
7
The following are economic shocks that can cause business
cycles. Major innovations may trigger new investment and/or
consumption spending. But these occur irregularly and
unexpectedly and may contribute to the variability of economic
activity. Examples include the computer and the internet.
Changes in productivity may be a related cause. Unexpected
changes in resource availability or unexpected changes in the
rate of technological advances can affect productivity.
As the monetary authorities print more money, an inflationary
boom can occur. Printing less money than what people were
expecting can trigger an output decline.
As the economy adjusts to political events like peace treaties or
war, economic strains can occur. Rapid asset price increases or
decreases can spill over to the general economy and cause
booms and busts. The recession of 2007 was led by excessive
money, overvalued real estate, and unsustainable mortgage debt.
Cyclical Impact
Durable goods affected most
Capital goods
Consumer durables
Nondurable consumer goods affected less
Services
Food and clothing
LO1
8

Most agree that the level of aggregate spending is important,
especially the changes in spending on capital goods and
consumer durables. Recall that the definition of durable goods
is a good with an expected life of 3 or more years. Spending on
durable goods output is more volatile than nondurables and
services because spending on nondurables or services often
cannot be postponed. Also, durable goods items such as a new
automobile or a new washer and dryer are generally more
expensive for households to purchase, making durable goods
more vulnerable in times of declining income and uncertainty
for households.
Unemployment
Under 16
and/or Institutionalized (69.5 million)
Not in
labor
force
(94.1 million)
Employed
(149.9 million)
Unemployed
(7.9 million)
Total population (321.4 million)
Labor force (157.8 million)
Unemployment rate =
7,900,000
157,800,000
× 100 = 5.0%

Unemployment rate =
# of unemployed
labor force
× 100
LO2
9
The BLS is the Bureau of Labor Statistics, an agency within the
Department of Labor. The unemployment rate is calculated by
taking a random survey of 60,000 households nationwide.
(Note: Households are in the survey for four months, out for
eight, back in for four, and then out for good. Interviewers use
the phone or home visits using laptops.)
The population is divided into three groups:
Group 1 consists of those under age 16 or institutionalized. In
this country, if you are under 16 you are expected to be in
school. If you are in an institution such as a nursing home or
prison you obviously cannot present yourself to the labor
market.
Group 2 consists of those “not in labor force”. Examples of
individuals who are not in the labor force are full-time college
students who are not working, stay at home parents, and
retirees.
Group 3 consists of those age 16 and over who are willing and
able to work, and actively seeking work (individuals who have
demonstrated job search activity within the last four weeks).
So, Group 3 is the labor force. The labor force is simply
described as those who are either employed or unemployed. To
be counted as unemployed you must be a part of the labor force.
Figure 29.2 shows the labor force, employment, and
unemployment in 2015. The labor force consists of persons 16
years of age or older who are not in institutions and who are
employed, or unemployed but seeking employment. The
unemployment rate is defined as the percentage of the labor
force that is not employed and is found by taking the number of

those unemployed and dividing that number by the labor force.
Remember to multiply the result by 100 so you can express this
as a percentage. The BLS rounds the number to one decimal
point.
Unemployment
Labor-force participation rate: the percentage of the working-
age population actually in the labor force.
Labor Force/Working-age population
Employment/ population ratio= this is a statistical ratio that
measures the proportion of the country’s working age
population that is employed
Unemployment Concluded
Frictional unemployment
Individuals searching for jobs or waiting to take jobs soon
Structural unemployment
Occurs due to changes in the structure of the demand for labor
Cyclical unemployment
Caused by the recession phase of the business cycle
LO2
11
Frictional unemployment is regarded as somewhat desirable,
because it indicates that there is mobility as people change or
seek jobs. Frictional unemployment is usually a short term type
of unemployment. Structural unemployment occurs when certain
skills become obsolete or geographic distribution of jobs
changes. This can be a long-term type of unemployment.
Cyclical unemployment is caused by the recession phase of the
business cycle. As firms respond to insufficient demand for
their goods and services, output and employment are reduced.

Extreme unemployment during the Great Depression (25 percent
in 1933) is an example of cyclical unemployment.
It is sometimes not clear which type describes a person’s
unemployment circumstances.
Unemployment Continued
Criticisms of unemployment
Involuntary part-time workers counted as full-time
Discouraged workers are not counted as unemployed
LO2
12
Two factors cause the official unemployment rate to understate
actual unemployment. Part-time workers are counted as
“employed” even if they really want full-time work.
“Discouraged workers” who want a job, but are not actively
seeking one, are not counted as being in the labor force, so they
are not part of the unemployment statistic. If they are not
seeking work, they are officially in group 2 as described on the
preceding slide. In 2015, 664,000 people fell into this category,
compared to 396,000 in 2007.
Definition of Full Employment
Natural Rate of Unemployment (NRU)
Full employment level of unemployment
Can vary over time
Demographic changes
Changing job search methods
Public policy changes
Actual unemployment can be above or fall below the NRU
LO2
13
Full employment does not mean zero unemployment, but it does

mean that cyclical unemployment is zero. The full employment-
unemployment rate is equal to the total frictional and structural
unemployment because these types of unemployment are always
occurring and are a natural part of our economy. The full
employment rate of unemployment is also referred to as the
natural rate of unemployment.
The natural rate is achieved when labor markets are in-balance;
the number of job seekers equals the number of job vacancies.
The natural rate of unemployment is not fixed but depends on
the demographic makeup of the labor force and the laws and
customs of the nation.
Economic Cost of Unemployment
GDP Gap
GDP gap = actual GDP - potential GDP
Can be negative or positive
Okun’s Law
Every 1% of cyclical unemployment creates a 2% GDP gap
LO2
14
The GDP gap is the difference between potential and actual
GDP where potential GDP reflects the level of GDP associated
with the natural rate of unemployment. Economist Arthur Okun
quantified the relationship between unemployment and GDP as
follows: For every 1 percent of unemployment above the natural
rate, a negative GDP gap of about 2 percent occurs. This is
known as “Okun’s law.” This means that the country is
producing below what could potentially be produced, given our
resources and level of technology. You might liken this to
operating inside of the PPC if you covered the Production
Possibilities Model.
Question
Suppose that an economy has 9 million people working full

time. It also has 1 million people who are actively seeking work
but currently unemployed as well as 2 million discouraged
workers who have given up looking for work and are currently
unemployed. What is this economy’s unemployment rate?
Unemployment rate=(No. of unemployed/Labor
Force)*100%=(1/(9+1))*100%=10%
15
Question
Label each of the following scenarios as either frictional
unemployment, structural unemployment, or cyclical
unemployment.
a. Tim just graduated and is looking for a job.
b. A recession causes a local factory to lay off 30 workers.
c. Thousands of bus and truck drivers permanently lose their
jobs when driverless, computer-driven vehicles make human
drivers redundant.
d. Hundreds of New York legal jobs permanently disappear
when a lot of legal work gets outsourced to lawyers in India.
Frictional
Cyclical
Structural
Structural
16
LO2
Actual and Potential Real GDP & the Unemployment Rate

17
This figure shows the actual and potential real GDP and the
unemployment rate from 1995-2015. (a) The difference between
actual and potential GDP is the GDP gap. A negative GDP gap
measures the output the economy sacrifices when actual GDP
falls short of potential GDP. A positive GDP gap indicates that
actual GDP is above potential GDP. (b) A high unemployment
rate means a large GDP gap (negative), and a low
unemployment rate means a small or even positive GDP gap.
LO2
Unemployment Rate
A high unemployment rate means a large GDP gap, and a low
unemployment rate means a small or even positive GDP gap.
Unequal Burdens
Occupation
Age
Race and ethnicity
Gender
Education
Duration
LO2
19
Unequal burdens of unemployment exist, see the next slide for
the table of data. Rates are lower for white collar workers.
Teenagers have the highest unemployment rates. African-
Americans have higher unemployment rates than whites. Rates
for males and females are comparable, though females currently
have a lower unemployment rate. Less educated workers, on

average, have higher unemployment rates than workers with
more education. The “long term” (15 weeks or more)
unemployment rate is much lower than the overall rate, although
it increased from 1.5% in 2007 to 4.7% in 2009.
Unequal Burdens Continued
LO2Unemployment Rates by Demographic Group: Full
Employment Year (2007) and Recession Year
(2009)*Demographic GroupUnemployment
Rate20072009Overall4.6%9.3%Occupation:
Managerial and professional
Construction and extraction2.1 4.67.619.7Age:
16-19
African American, 16-19
White, 16-19
Male, 20+
Female, 20+15.724.329.439.513.921.84.19.64.07.5Race and
ethnicity:
African American
Hispanic
White8.314.85.612.14.18.5Gender:
Women
Men4.58.14.710.3Education:**
Less than high school diploma
High school diploma only
College degree or more7.114.64.49.72.04.6Duration:
15 or more weeks1.54.7
20
This table illustrates civilian labor force data for people age 25
or over. As you can see, the overall unemployment rate was 4.6
percent in 2007, and 9.3 percent in 2009.
Global Perspective

LO2
21
This Global Perspective shows the unemployment rates in five
industrialized nations, 2004-2014. Compared with Italy, France,
and Germany, the United States has had a relatively low
unemployment rate in recent years.
Inflation
General rise in the price level
Inflation reduces the “purchasing power” of money
Consumer Price Index (CPI)
CPI
Price of the Most Recent Market
Basket in the Particular Year
Price estimate of the Market
Basket in the base year
=
×
100
Inflation
CPI2 – CPI1
CPI1
=
×
100 = 1.6%
LO3
22
Not all prices rise at the same rate, and some prices may stay
constant while other prices fall. Reduced purchasing power

means that each dollar of income will buy fewer items than
before. The CPI-U is the most commonly reported measure of
inflation. The main index used to measure inflation is the
Consumer Price Index (CPI). The CPI-U is the measure the
media reports. This is the CPI for all urban consumers and
thought to cover 87% of our population’s purchasing
experiences. There are other price indexes reported by the BLS
and each is important to different groups. For example, there is
the CPI-W, the CPI-C, the PPI etc. To measure inflation,
subtract last year’s price index from this year’s price index and
divide by last year’s index. Finally, multiply by 100 to express
as a percentage.
In this numerical example, using CPI data for 2014, there is a
price index of 236.7 and 2013 has a price index of 233.0. You
can calculate the inflation rate and find it is 1.6%. The BLS
rounds to the tenths decimal place. “Rule of 70” permits quick
calculation of the time it takes the price level to double: Divide
70 by the percentage rate of inflation and the result is the
approximate number of years for the price level to double. Here
the inflation rate is 1.6% so divide 70 by 1.6 and you get the
number 43.75. Therefore, it would take about 44 years for
prices to double at that rate of inflation. If the inflation rate is 7
percent, then it will take about ten years for prices to double.
Inflation Continued
LO3
23
This global perspective shows the inflation rates of five
different countries. You can see that for the United States the
inflation rate has been generally slightly higher than the other
countries.
Inflation Concluded

LO3
24
This figure shows the inflation rate in the U.S. from 1960 to
2015.
Types of Inflation
Demand-Pull inflation
Excess spending relative to output
Central bank issues too much money
Cost-Push inflation
Due to a rise in per-unit input costs
Supply shocks
LO3
25
Demand-pull inflation is a result of spending increasing faster
than production. It is often described as “too much spending
chasing too few goods.”
Cost-push inflation occurs as prices rise because of a rise in
per-unit production costs (Unit cost = total input cost/units of
output).
In cost-push inflation, prices rise but output falls. Rising costs
reduce profits and reduce the amount of output producers are
willing to supply at the existing price level. As a result, the
economy’s supply of goods and services declines and the price
level rises. Supply shocks have been the major source of cost-
push inflation. These typically occur with dramatic increases in
the price of raw materials or energy.
Types of Inflation Continued
Difficult to distinguish inflation types

Types differ in sustainability
Demand-pull continues as long as the excess spending continues
Cost-push ends in a recession
LO3
26
It is difficult to distinguish between the causes of inflation,
although cost-push will die out in a recession if spending does
not also rise. Because food (like oranges) and energy products
(like gasoline) prices are subject to wide swings that can be
temporary in nature, the BLS also reports the core CPI which is
the CPI less food and energy. The policy makers are mainly
interested in whether the underlying core CPI is rising and how
quickly. Based on that analysis, they may take measures to try
to stop it.
Redistribution Effects of Inflation
Nominal income
Unadjusted for inflation
Real income
Nominal income adjusted for inflation
Anticipated vs. unanticipated income
Percentage
change in real income
=
Percentage change in nominal income
Percentage change in
price level
LO4
-
27
Nominal income is the number of dollars received as wages,

rent, interest, or profit. Real income refers to the purchasing
power of your income (how much can actually be purchased
with your income). Anticipated inflation is much less harmful
than unanticipated inflation. Real income can decrease even
with an increase in nominal income if the inflation rate is higher
than the increase in nominal income.
Question
Your brother graduated from college in December 2006 and
started to work at a salary of $36,000. You expect to graduate
this December and start work for a salary of $54,000. The
Consumer Price Index (CPI) was 80 in December 2006, and it is
expected to be 120 in December 2018. Who will have had the
higher real salary, you or your brother? Show your work.
Real salary of your brother= (36000/0.8)=45,000
Your real salary=(54000/1.2)=45,000
Both have the same real salary
28
Who is Hurt by Inflation?
Fixed-income receivers
Real incomes fall
Savers
Value of accumulated savings deteriorates
Creditors
Lenders get paid back in “cheaper dollars”
LO4
29
Harm from unanticipated inflation causes real incomes and
wealth to be redistributed. Were the inflation to be expected,
people could plan ahead for it. Those expecting inflation may be
able to adjust their work or spending activities to avoid or

lessen the effects. Unanticipated inflation has stronger impacts.
Fixed income groups will be hurt because their real income
suffers. Their nominal income does not rise with prices. Savers
will be hurt by unanticipated inflation because interest rate
returns may not cover the cost of inflation. Their savings will
lose purchasing power. Creditors (or lenders) can be harmed by
unanticipated inflation. Interest on payments received may be
less than the inflation rate and loan payments will have less
purchasing power for the lender when the lender did not
correctly anticipate and account for inflation.
Who is Unaffected by Inflation?
Flexible-income receivers
COLAs
Social Security recipients
Union members
Debtors
Pay back the loan with “cheaper dollars”
LO4
30
If inflation is anticipated, the effects of inflation may be less
severe, since wage and pension contracts may have inflation
clauses (Cost-of-living adjustments) built in, and interest rates
will be high enough to cover the cost of inflation to savers and
lenders. Debtors (borrowers) can be helped because interest
payments may be less than the inflation rate, so borrowers
receive “dear” money and are paying back “cheap” dollars.
Anticipated Inflation
Real interest rate
Rates adjusted for inflation
Nominal interest rate
Rates not adjusted for inflation
LO4

31
If inflation is anticipated, individuals can plan ahead mitigating
the effects of inflation.
“Inflation premium” is the amount that the interest rate is raised
to cover effects of anticipated inflation.
“Real interest rate” is defined as the nominal rate minus the
inflation premium.
Anticipated Inflation Continued
Nominal
Interest
Rate
Real
Interest
Rate
Inflation
Premium
11%
5%
6%
=
+
LO4
32
This figure shows the inflation premium and nominal and real
interest rates. The inflation premium — the expected rate of
inflation — gets built into the nominal interest rate. Here, the
nominal interest rate of 11 percent comprises the real interest
rate of 5 percent plus the inflation premium of 6 percent.
Question

Assume you borrow money from the bank and they charge you
8.5% interest. It is expected that inflation rate will be 3%. The
bank, therefore, expects to earn a real rate of return, or a real
interest rate, of 11.5%. Indicate whether this statement is
TRUE or FALSE; and then provide support for your answer.
False, real interest rate=8.5%-3%=5.5%
33
Other Redistribution Issues
Deflation
Mixed effects
Incomes may rise
Fixed assets values may fall
For fixed-rate mortgages, real debt declines
Arbitrariness
LO4
34
In the past, deflation has been as much a problem as inflation.
For example, the 1930s depression was a period of declining
prices and wages. The effects of deflation are the reverse of
those of inflation.
Many families are simultaneously helped and hurt by inflation
because they are borrowers and earners and savers.
Effects of inflation are arbitrary in terms of individuals who
will benefit and individuals who are harmed, regardless of
society’s goals.
Hyperinflation
Extraordinarily rapid inflation

Devastates an economy
Businesses don’t know what to charge
Consumers don’t know what to pay
Money becomes worthless
Zimbabwe’s 14.9 billion percent inflation in 2008
LO5
35
There is a danger of creeping inflation turning into
hyperinflation, which can cause speculation, reckless spending,
and more inflation.
The Zimbabwe experience is interesting. The government of
Zimbabwe faces a wide variety of difficult economic problems
as it struggles with an unsustainable fiscal deficit, an
overvalued official exchange rate, hyperinflation, and bare store
shelves. Its 1998-2002 involvement in the war in the
Democratic Republic of the Congo drained hundreds of millions
of dollars from the economy. The government's land reform
program, characterized by chaos and violence, has badly
damaged the commercial farming sector, the traditional source
of exports and foreign exchange and the provider of 400,000
jobs, turning Zimbabwe into a net importer of food products.
The EU and the US provide food aid on humanitarian grounds.
Badly needed support from the IMF has been suspended because
of the government's arrears on past loans and the government's
unwillingness to enact reforms that would stabilize the
economy. The Reserve Bank of Zimbabwe routinely prints
money to fund the budget deficit, causing the official annual
inflation rate to rise from 32% in 1998, to 133% in 2004, 585%
in 2005, past 1,000% in 2006, and 26,000% in November 2007,
and to 11.2 million percent in 2008. Meanwhile, the official
exchange rate fell from approximately 1 (revalued) Zimbabwean
dollar per US dollar in 2003 to 30,000 per US dollar in
September 2007.

Question
Consider the production of fries and burger in an economy:
Where Q represents quantity and P represents prices; 2013 is
the base year.
Compute the value of price index using 2013 as the base year.
What is the rate of inflation in 2014?
Year20132008.55001.520141909.05001.6
Price Index in 2013=100 (Since 2013 is the base year)
Price index in 2014= [(200x9)+(500x1.6)]/[(200x8.5)+(500x1.5)
x 100= 106.1
Rate of inflation= (106.1-100)/100 x100%= 6.1 %
36
Lecture 4
Chapter 12
Aggregate Demand and Aggregate Supply
Outline
• Introduction to key four markets in any economy:
• Aggregate Demand (AD)
• Short-run Aggregate Supply (SRAS)
• Long-run Aggregate Supply (LRAS)
The four key markets are:
Goods and services market

Resources market
Loanable funds market
Foreign exchange market
Goods & Services Market
Firms supply goods & services to the market in exchange for
sales revenue.
Households, investors, governments, and foreigners (net
exports) demand these goods & services.
Resource Market
Firms demand resources for their productive activities.
Households supply labor and other resources in exchange for
income.
Loanable Funds Market
Borrowers demand funds (e.g. firms demand capital for their
operations)
Lenders supply funds (Households supply their savings)
Foreign Exchange Market
Households and firms demand foreign currency (in order to buy
things abroad)
Foreigners supply foreign currencies in exchange for dollars (so

they can buy domestic goods and services).
Circular Flow Diagram (Without Gov &
Foreign Exchange)
The Circular Flow Diagram
In this course, we will be examining three of these four markets
in details!
We start by the Goods & Services Market
Aggregate Demand
• The total demand for final goods and services in an economy
• The AD curve indicates the various quantities of domestically
produced goods & services that buyers are willing to buy at
different price levels.
11
Aggregate Demand (AD) – Cont’d

• Think of AD as the spending side of the economy.
• When people spend more on goods and services, AD increases.
• Not only households spend on goods & services, business and
the government spend too.
• Thus
�� = � + � + � + ��
Aggregate Demand (AD) – Cont’d
This figure depicts the aggregate demand curve. The
downsloping aggregate demand curve, AD, indicates an inverse
(or negative) relationship between the price level and the
amount of real output purchased.
13
Why AD Is Downward Sloping?
Real-balances/ wealth Effect: Other things being constant,
lower prices make people richer in real terms (increase the
purchasing power of money), so they increase their
consumption.
Interest rate effect: lower prices reduce the demand for money
and therefore reduces interest rates, which stimulates additional
purchases.
International Effect (foreign purchases effect): Other things
being constant, lower prices make domestic goods cheaper
relative to foreign goods, which increases exports.

Aggregate demand is a schedule or curve that shows the various
amounts of real domestic output that domestic and foreign
buyers desire to purchase at each possible price level. The
aggregate demand curve shows an inverse relationship between
price level and real domestic output.
(The explanation of the inverse relationship is not the same as
for demand for a single product, which centered on substitution
and income effects. Substitution effect doesn’t apply within the
scope of domestically produced goods, since there is no
substitute for “everything.” Income effect also doesn’t apply in
the aggregate case, since income now varies with aggregate
output.)
The explanation of the inverse relationship between price level
and real output in aggregate demand are explained by the
following three effects.
Real balances effect: When price level falls, the purchasing
power of existing financial balances rises, which can increase
spending.
Interest rate effect: A decline in price level means lower
interest rates that can increase levels of certain types of
spending.
Foreign purchases effect: When price level falls, other things
being equal, U.S. prices will fall relative to foreign prices,
which will tend to increase spending on U.S. exports and also
decrease import spending in favor of U.S. products that compete
with imports (similar to the substitution effect).
15
You need to distinguish between shifts in the AD curve and
movements along the curve.

Shifts occur due to factors that lead people to demand more of
the goods or services at a certain price.
Movements occur due to factors that change the overall price
level.
Factors that cause movement along AD
The same factors that result from price changes. For example:
a) Real-balances effect
b) Interest rate effect
c) International trade effect
These factors result in change in the QUANTITY of goods &
services demanded.
Factors that cause shifts in the AD
1. Change in consumer spending:
Changes in real wealth
Changes in real interest rates
Change in expectations (income, inflation)
2. Change in Investment spending:
Interest rates
Expected returns
3. Changes in government spending
4. Changes in net exports
Change in foreign income
Changes in exchange rates

1. Consumer wealth is the difference between household assets
(homes and stocks and bonds) and liabilities (loans and credit
cards). The value of the assets can change and the consumer
will react by spending more as asset values increase and
spending less as asset values decrease.
Households can borrow in order to spend more which increases
AD and if the household reduces spending in order to pay off
household debt, AD decreases.
Expectations of future higher incomes or higher prices will
increase current household spending and AD; expectations of
lower household spending or lower prices will decrease AD.
A reduction in personal income taxes increases disposable
income and increases spending by the household, increasing
AD; an increase in taxes will decrease disposable income and
decrease household spending, decreasing AD.
2. Investment spending is spending on capital goods. Increases
in investment spending increases AD; decreases in investment
goods decreases AD.
As real interest rates increase, the cost of borrowing increases
and subsequently less will be borrowed resulting in less money
spent, reducing AD. On the other hand, a decrease in real
interest rates will increase borrowing and subsequently
investment spending will increase AD.
If business owners and managers are optimistic about future
expected returns they will spend more now increasing AD and if
expected returns are less than favorable they will spend less
now reducing AD.
3. Other things equal, if government spending increases, AD
increases. An example would be of the government spending
more on transportation projects.
If government spending decreases, AD decreases. An example
of this is less military spending
4. If net export spending rises, AD rises. If net export spending
declines, AD declines. As the national incomes of trading
partners of the U.S. increase, they are more able to purchase

U.S. produced goods and services which increases AD. If the
foreign nations’ incomes decline, the opposite occurs.
If the dollar depreciates, AD increases. Depreciation of the
dollar encourages U.S. exports since U.S. products become less
expensive, as foreign buyers can obtain more dollars for their
currency. Conversely, dollar depreciation discourages import
buying in the U.S. because our dollars can’t be exchanged for as
much foreign currency. AD can decrease through changes in
currency exchange rates if the U.S. dollar appreciates. The
currency appreciation of the dollar discourages U.S. exports
because now U.S. goods are relatively more expensive than
before since it takes more of the foreign currency to buy the
U.S. dollar. This will also encourage more import spending
since the U.S. dollar can buy more of another nation’s currency
than before. Net exports will decline which reduces AD.
19
Question
Consider just the AD curve. Suppose consumption (C) broadly
increases across the entire economy. This will cause
A movement along the AD curve.
B the AD curve to shift outward.
C the slope of the AD curve to get steeper.
D a decrease in the price level of the economy.
Answer: B
21
Question

The price level rises and this changes the real value of
consumers’ wealth.
Does this cause a movement along the AD curve, or a shift to a
new AD curve?
Answer. This causes a movement along the AD curve
22
Aggregate Supply (AS)
• The total supply for final goods and services in an economy
• The AS curve indicates the willingness of the producers to
supply goods & services at different price levels.
Aggregate Supply (AS) – Cont’d
When considering the AS, we need to distinguish between:
Short-run (SR):
A period of time during which (some) prices are fixed (prices
are NOT adjustable because they are determined by prior
contracts).
Long-run (LR):
A period of time, long enough, for agents to modify their
behavior in response to price changes.
Aggregate supply is a schedule or curve showing the level of
real domestic output available at each possible price level. The
relationship is determined on the basis of whether input prices
and output prices are fixed or flexible.
In the short run, input prices are fixed but output prices are

variable.
In the long run, input prices and output prices can vary
24
Short-Run Aggregate Supply (SRAS)
Indicates the various quantities of goods and services that firms
supply in response to the changing demand conditions that alter
the price level.
Upward sloping (positive relationship between the price level
and the quantity of the output to be produced)
Short-Run Aggregate Supply (SRAS) –
Cont’d
SRAS curve is upward sloping (has a positive slope)
Because input prices are fixed, changes in the price level affect
the firm’s real profit, which affect their decision of how much
output to produce.
Factors that shift the SRAS
• Temporary supply shocks
• Changes in resource prices

• Changes in expected future prices
Examples
Long-Run Aggregate Supply (LRAS)
Indicates the relationship between the price level and quantity
of output after necessary sufficient time has passed so they
adjust their prior commitments.
LRAS is related to the economy's production possibilities
constraint
The constraints are imposed by the economy's resource base,
and level of technology, and the efficiency of its institutional
arrangements - Not related to the price level.
Long-Run Aggregate Supply (LRAS)
In the LR, the economy moves towards the full employment
level of output (Y*).
Y* is NOT affected by the price level.
LRAS is independent of the overall price level.
Long-Run Aggregate Supply (LRAS) –
Cont’d

Factors that shift the LRAS
• Factors that determine economic growth, e.g.:
Change in the recourses available
Changes in technology
Changes in the quality of institutions
Example
Important Note
LRAS shifts cause SRAS shifts...
However, the reverse is not true!
There are many factors that cause SRAS to shift but does not
influence LRAS (for example temporary supply shocks that
occur only in the SR).
Short-run Equilibrium
Short-run equilibrium occurs at the price level (P*) & the
output level, where AD = SRAS.
Graphically, it occurs at output level where the AD and SRAS
curves intersect.
At this market clearing price (P*), the amount that buyers want
to purchase is just equal to the quantity that sellers are willing
to supply.

Short-run Equilibrium
Long Run Equilibrium
LR equilibrium requires two conditions:
The aggregate quantity demanded = aggregate quantity supplied
at the current price level.
Price level anticipated by decision makers equals the actual
price level (agents fully adjusted to any changes in prices that
occurred in the past).
In the LR: AD = SRAS = LRAS.
Long run Equilibrium
What happens when output is different
from LR potential?
There are two scenarios:
• Output is greater than LR potential:
Price level increases by more that what was anticipated.
In the SR, profit margins are high hence output increases
Economic boom (unsustainable)
• Output is less than LR potential:
Price level is less than what was anticipated.
In the SR, profit margins are low hence Output shrinks
Recession (unsustainable)

Which curve does these factors affect? Do they cause a
movement along the curve or a shift in the curve?
a. Due to the increase of clothes prices in the US, consumers
substitute out of clothes made in the US to clothes made in
Bangladesh
b. New Shale Gas Deposits are found in North Dakota
c. OPEC meets and decides to increase the world output of oil,
which
results in the decline of the prices of oil in the next six months.
d. Consumers read positive news about expected future
economic growth
e. New policies cause an increase in the cost of meeting
government regulations.
Movement along the AD curve
LRAS/SRAS shift to the right
SRAS curve shifts to the left
AD shifts to the right
LRAS shifts to the left
41
Which curve does these factors affect? Do they cause a
movement along the curve or a shift in the curve?
Imports increase
Price level increases
The Japanese Earthquake and Tsunami of 2011
Introducing smart phones to the cell phones market
Introduction of computers
The invention of airplanes
World War II

Impact of Exogenous Shocks
How the economy adjusts
• To analyze the effect of any shock to the economy, we study
its impact on output, unemployment, and the price level.
• For an effective analysis, follow these steps:
Begin with the model at the LR equilibrium
Determine the curves that are affected by the shocks and
identify the direction of each shift
Shift the curves in the appropriate directions
Determine the new SR/ LR equilibrium points
Compare the new equilibrium with the starting point.
Discuss the Impact of the following shocks on the US economy
World War II (discuss the impact on the Japanese economy and
the US economy)
Strong economic growth in China that increases income in
China (Hint: China is the second big trading partner with the
US)
The housing market bust in 2008-09
The 2007 oil price shock.
Resource Market
Demand for Resources:
Business firms demand resources (labor and capital) because
they contribute to the production of goods the firm expects to
sell at a profit.
The demand curve for resources slopes down and to the right.
Supply of Resources:
Households supply resources in exchange for income.

Higher prices increase the incentive to supply resources; thus,
the supply curve slopes up and to the right.
Equilibrium in the Labor Market
Loanable Funds Market
The interest rate coordinates the actions of borrowers and
lenders.
From the borrower's viewpoint, interest is the cost paid for
earlier availability.
From the lender’s viewpoint, interest is a premium received for
waiting, for delaying possible current expenditures into the
future.
The Money and Real Interest Rates
The money interest rate is the nominal price of loanable funds.
The real interest rate is the real price of loanable funds.
The difference between the money rate and real interest rate is
the inflationary premium.
This premium reflects the expected decline in the purchasing
power of the dollar during the period the loan is outstanding.
i = r + inflation
Inflation & Interest Rate

When Americans buy from foreigners or make investments
abroad, they demand foreign currency in the foreign exchange
market.
When Americans sell products and assets (including bonds) to
foreigners, they generate a supply of foreign currency (in
exchange for dollars) in the foreign exchange market.
The exchange rate will bring the quantity of foreign exchange
demanded into equality with the quantity supplied.
Appreciation & Depreciation
Appreciation: Increase in the value of the domestic currency
relative to foreign currencies
Depreciation: Reduction in the value of the domestic currency
relative to foreign currencies
Capital Flows and Trade Flows
When equilibrium is present in the foreign exchange market, the

following relation exists:
Imports + Capital Outflows=Exports + Capital Inflows
This relation can be written as:
Imports - Exports= Capital Inflows - Capital Outflows
Trade Balance = Net Capital Flows
Capital Flows and Trade Flows
◦ When imports exceed exports, a trade deficit occurs.
◦ If, instead, exports exceed imports, a trade surplus is present.
When the exchange rate is determined by market forces, trade
deficits will be closely linked with a net inflow of capital.
Conversely, trade surpluses will be closely linked with a net
outflow of capital.
Summer 2018 Homework 1 ECON 121
Submit your work at the beginning of class on Monday (July
2nd, 2018). You may work with other students but the write-ups
must be unique. For calculation questions you must show your
work in order to get partial credits. The write-ups MUST be
handwritten.
PART I: SHORT ANSWER QUESTIONS
1. What is an opportunity cost? Which of the following
decisions would entail the greater opportunity cost: allocating a
square block in the heart of New York City for a surface
parking lot or allocating a square block at the edge of a typical
suburb for such a lot? (7 points)
2. Which of the following are positive economic statements and

which are normative? (1 point each)
(a) The national economy grew at a 6.2 percentage rate in the
last quarter as the economy continues to recover from the past
recession.
(b) The unemployment rate fell to 5.7 percent this month, and
is expected to fall to 5.5 percent next month.
(c) The rate of inflation should be reduced to zero to maintain
the value of the U.S. dollar.
(d) The government should take action to reduce the prices of
prescription drugs charged by drug companies.
3. Which contributes more when measuring GDP, a new
diamond necklace purchased by a wealthy person or a soda
purchased by a thirsty person? Why? (7 points)
4. Do these transactions affect this period’s GDP or not? If they
do, which component do they affect?
(2 points each) For the No’s the answer is worth 2 points. For
the Yes’s, give one point on yes and 1 point on the component
(a) A monthly scholarship check received by an economics
student
(b) The purchase of a new truck by a trucking company
(c) Government purchase of missiles from a private business
(d) The purchase of a used tractor by a farmer
(e) The value of the purchase of shares of Microsoft by an
individual
5. Explain the difference between GDP and GNP (7 points)
6. Describe whether the following factors affect the AD, SRAS
or LRAS; and whether they cause a shift or a movement along
the curve. Hint: some factors can impact multiple curves (2
points each)
1 point on whether there is a movement or a shift and one point
on the direction
a. Imports increase

b. Price level increases
c. Discovery of oil
d. Strong earthquake
e. Government purchases increase
PART II: PROBLEM SOLVING
1.
Year
Nominal GDP
Real GDP
GDP Deflator
1
$100
100
2
$120
120
3
$150
125
a. Complete the table. (3 points)
b. From year 1 to year 2, did real output rise or did prices rise?
Explain. (4 points)
c. From year 2 to year 3, did real output rise or did price rise?
Explain. (4 points)
Prices stayed the same and real output rose 25%.53
2. Use the following information about Employment Country to
answer questions. Numbers are in millions.
2007
2008
Population
223.6
226.5

Adult population
168.2
169.5
Number of unemployed
7.4
8.1
Number of employed
105.2
104.2
a. What is the labor force in 2007 and 2008? (4 points)
b. What is the labor-force participation rate in 2007 and 2008?
(4 points)
c. What is the unemployment rate in 2007 and 2008? (4 points)
d. From 2007 to 2008, the adult population went up while the
labor force went down. Provide a number of explanations why
this might have occurred. (5 points)
e. If the natural rate of unemployment in Employment Country
is 6.6 percent, how much is cyclical unemployment in 2007 and
2008? Is Employment Country likely to be experiencing a
recession in either of these years? (5 points)
3. The following table shows the prices and the quantities
consumed in the country known as the Unit States. Suppose the
base year is year (1). Also suppose that in year (1), the typical
consumption basket was determined, so the quantities consumed
during year (1) are the only quantities needed to calculate the
CPI in every year.
Year
Price of Books
Quantity of Books
Price of Pencils
Quantity of Pencils
Price of Pens

Quantity of Pens
1
$50
10
$1
100
$5
100
2
$50
12
$1
200
$10
50
3
$60
12
$1.50
250
$20
20
a. What is the value of the CPI in each of the three years? (6
points),100) x 100 = 250
b. What is the inflation rate in years 2 and 3? (4 points)
4. The nominal salary paid to the president of the US along
with data on the CPI is given below:
Year
Salary
CPI (2000 = 100)
Real Salary
1920
75,000
11.6

1940
75,000
8.1
1960
100,000
17.2
1980
200,000
47.9
2000
400,000
100
a. Compute the real salary of the president as measured in
purchasing power of the dollar in 2000
(5 points).
b. In which year was the real presidential salary the highest? (2
points)
c. The president’s nominal salary was constant between 1920
and 1940. What happened to the real salary? Can you explain
why? (5 points)
1

BUSI 223Exercise 6 Instructions1. How much life insurance do y.docx

BUSI 223Exercise 6 Instructions1. How much life insurance do y.docx

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BUSI 223Exercise 6 Instructions1. How much life insurance do y.docx