Introduction to Macroeconomics- Section M

Quiz 2.

08-02-2012

Marks: 35

Name: __________________________________

Roll No. : _______________________________

MCQs (15 marks)

1. The change in GDP associated with a change in taxes is:

A. equal to the change in taxes
B. smaller than—and opposite in sign to—that associated with an equal change government
spending
C. larger than—but of opposite sign as—that associated with an equal change in net exports
D. larger than—and opposite in sign to—that associated with an equal change in government
spending

2. If the MPC is .75 and the economy has a recessionary expenditure gap of $10 billion, then
equilibrium GDP is:
A. $10 billion below full-employment GDP
B. $10 billion above full-employment GDP
C. $40 billion below full-employment GDP
D. $40 billion above full-employment GDP

3. If inventories are unexpectedly declining at the current level of GDP:

A. GDP exceeds the level of current expenditures
B. GDP is at its equilibrium level
C. current expenditures exceed the level of GDP and GDP will fall
D. GDP is below its equilibrium level

4. When planned injections of investment, government spending, and exports equal leakages of
saving, taxes, and imports:
A. consumption plus injections will be greater than aggregate expenditures
B. net exports will be zero
C. output will be below its equilibrium level
D. None of the above

5. All else equal, if domestic consumers begin to spend a greater fraction of their consumption
expenditures on foreign-produced goods:
A. aggregate expenditures and GDP will both increase
B. aggregate expenditures and GDP will both decrease
C. exports will also rise, offsetting the increase in imports
D. the multiplier will increase

6. If consumption and disposable income are equal at a particular level of income in a closed private
economy:
A. the MPC must be one at this point
B. the MPS must be zero at this point
C. the APC must be less than one at this point
D. saving must be zero at this point

7. The saving schedule is:

A. a direct relationship between saving and the price level
B. an inverse relationship between consumption and saving
C. an inverse relationship between saving and the tax rate
D. a direct relationship between saving and disposable income
8. Use the following diagram for this question.

Which of the following might have caused the shift from consumption schedule C1 to schedule C2?
A. An increase in disposable income
B. An increase in household wealth
C. An increase in household debt
D. An increase in taxes

9. A refrigerator was produced by its manufacturer in 2001, sold to a retailer in 2001, and sold by the
retailer to a final consumer in 2002. The refrigerator was:
A. counted as consumption in 2001
B. counted as savings in 2001
C. counted as investment in 2001
D. not included in the gross domestic product of 2001

10. The change in real GDP is not an accurate measure of the change in economic welfare because,
for example:
A. improvements in product quality are overstated
B. expenditures for personal services are excluded
C. the price level changes over time
D. some production creates pollution

11. Suppose that last year domestic firms spent $80 billion on final purchases of plant and equipment,
of which $15 billion replaced equipment that had worn out during the year. In addition, firms
collectively added $10 billion to inventories and new construction totaled $35 billion. In calculating
GDP, national income accountants would add gross investment of:
A. $95 billion
B. $100 billion
C. $110 billion
D. $125 billion

12. Suppose nominal GDP in the base year was $400 billion. Five years later, nominal GDP was $480
and the GDP price index was 120. Over those five years, real GDP:
A. increased by $20 billion
B. increased by $96 billion
C. increased by $80 billion
D. did not change

13. What can happen to allocation of corporate profits?

A. It is paid to proprietors as income
B. It is paid to stockholders as dividends
C. It is paid to the government as interest income
D. It is retained by the corporations as rents
14. Along a particular saving schedule, each change in disposable income of $15 billion generates an
additional $3 billion in saving. Therefore:
A. the APS is .3
B. the MPS is .2
C. the APC is .8
D. the slope of the consumption schedule is .7

15. If the interest rate falls:

A. planned investment spending will increase
B. the investment demand curve will shift upward
C. the investment demand curve will shift to the left
D. the investment demand curve will shift to the right

Q. How are the values of output produced at a Pakistani-owned factory in Pakistan and a US-owned
factory in Pakistan treated in GDP accounting of Pakistan? (2)

The output produced by both factories will be included in the GDP of Pakistan, as it is output within
the borders of Pakistan.

Q. Explain any three limitations of the aggregate expenditure model. (3)

Any three of the following:

1. Does Not Show Price Level Changes

 Unable to measure rate of inflation

2. Ignores Premature Demand-Pull Inflation

 Inflation experienced before full employment is reached is ignored

3. Limits Real GDP to the Full-Employment Level of Output – possible for economy to go beyond

4. Does Not Deal with Cost-Push Inflation

5. Does not allow for “Self-Correction” of the recessionary or inflationary gaps through the internal
mechanism of the economy

Q. Explain the marginal cost and marginal benefit of an investment decision. How is the marginal cost
and marginal benefit of investment measured? (4)

Investment spending is guided by the profit motive: therefore we need to equate MB=MC. The
marginal benefit from investment is the expected rate of return businesses hope to realise. It is
expected return and not guaranteed as investment involves risk. The marginal cost is the interest rate
that must be paid for borrowed funds i.e. the financial cost of borrowing money to buy capital.. The
real interest rate is relevant in making investment decisions as we need to account for inflation too.
Businesses will invest as long as the expected return exceeds the interest rate.

Q. What is the purpose of trade adjustment assistance and what form it usually takes? (2)
Trade adjustment Assistance is given to help those who suffer as a result of shifts in international
trade patterns. It usually takes the form of cash assistance to unemployed workers displaced by
imports or relocation allowances to help displaced workers move geographically and find new jobs.

Q. What is the most volatile component of total spending and what are the reasons for this volatility?
(4)

Investment is the most volatile component of total spending. The reasons for its volatility are:

1. Durability

• Investment goods have indefinite life.

• Purchase is discretionary and can be postponed

2. Irregularity of Innovation

• Major innovations happen irregularly

3. Variability of Profits

• Expectations about future effected by today’s profits which are highly

volatile too

4. Variability of Expectations

• Single events can significantly alter their expectations

• Also impacted by stock market which is in itself speculative

Q. Explain with the help of a diagram a “inflationary expenditure gap” in a private open economy.(5)

Amount by which Aggregate Expenditure at the full employment GDP is greater than that required to
achieve the full employment GDP.

For diagram please refer to your book Figure 28.7,, chapter on aggregate expenditure model or see
lecture slides. The only thing to note here is that AE= C + Ig + Xn