Homework 1

Tatia Tchitchikoshvili

1. GDP is not a perfect measure of standard of living, because it excludes some very
important aspects of well-being:
Leisure time. A country can raise its GDP from additional worked hours, but it
doesn’t count reduced leisure time.
The next is good and services that doesn’t appear in market. GDP doesn’t include
goods and services that are made outside the market. For example, it measures cost of
cake, which baker made for restaurant, but not one, that baker made for his son’s
birthday.
Quality of environment. GDP can be increased by producing more output that
increases pollution that worsens the quality of the environment, so the health of
citizens.
Distribution of income. GDP per capita shows the average income, but it doesn’t
measure how equally it is contributed. For example, in some countries most people
have very low income, but because some wealthy people it seems like there is a high
standard of living.
2. Using GDP as the key driver in the decision making process may cause some very
crucial mistakes. Environmental and social impacts are as significant as financial. But
it is also regarding how we account for social and environmental capital. It is well
known fact that climate change is accelerating. But, however the impact on
environmental and social capital is often ignored. An important fact is that planet is
consuming 50% more each year than the planet can bear. The ignorance of this
important realities is resulted to cost much. It is reported that top global
environmental externalities cause around $4.7 trillion loss. Nevertheless, companies
assert that they work for sustainability, financial profit is more preferable for them.
Fortunately, the necessity caused the invention of the system for valuing the social
and environmental impact and capital and not only the financial accounts are used to
make decisions, so it creates the opportunity to make good investment decisions.
3. It would affect only nominal GDP, because GDP includes current prices of goods and
services. But also, GDP will only include the market value of commodities which are
produced within given period of time, not ones that are built in the past and sold
now.

4. A)GDP deflator=Nominal GDP/Real GDP * 100

GDP deflator(2015)=33.9/33.9*100=100%
GDP deflator(2016)=35.8/34.9*100=102.58%
GDP deflator(2017)=40.8/36.6*100=111.48%
GDP deflator(2018)=44.6/38.4*100=116.15%
GDP deflator(2019)=50/40.4*100=123.76%

B) Inflation rate(year2)=(GDP deflator(Year2)-GDP deflator(year1))/GDP

deflator(Year1) * 100

Inflation rate(2016)=(102.58-100)/100*100=2.58%
Inflation rate(2017)= (111.48-102.58)/102.58*100=8.68%
Inflation rate(2018)= (116.15-111.48)/111.48*100=4.19%
Inflation rate(2019)= (123.76-116.15)/116.15*100=6.55%

C)CPI inflation rate(year2)=(CPI(Year2)-CPI(Year1))/CPI(Year1)*100

CPI(2015)=104.9
CPI(2016)=101.8
CPI(2017)=106.7
CPI(2018)=101.5
CPI(2019)=107.0

Inflation rate(2016)=(101.8-104.9)/104.9*100= -2.96%

Inflation rate(2017)= (106.7-101.8)/101.8*100= 4.81%
Inflation rate(2018)=(101.5-106.7)/106.7*100= -4.87%
Inflation rate(2019)=(107-101.5)/101.5*100= 5.42%

Inflation rates calculated by CPI and GDP deflator are different, because GDP and
CPI basket includes different goods and services. GDP only measure g&s that are
 produced domestically and no matter whether consumers use it , while CPI basket
also includes the cost of imported goods, that is used by consumers.
5.

a) cost of basket in 2011= 5*5+5*25=150

CPI(2011)=100*(cost of basket in 2011)/(cost of basket in 2010)=100*150/120=125

b) cost of basket in 2012= 5*9+25*6=195

CPI(2012)=100*(cost of basket in 2012)/(cost of basket in 2010)=100*195/120=162.5

CPI Inflation rate(2012)=100*(CPI2012-CPI2011)/CPI2011=100*37.5/125=30

6.

A. Real Interest Rate=(Nominal Interest Rate)-(Inflation Rate)

Inflation rate(2017)=100*(110-100)/100=10

Inflation rate(2018)=100*(125-110)/110=13.64

Inflation rate(2019)=100*(145-125)/125=16

Real interest rate(2017)=9-10=-1

Real interest rate(2018)=12-13.64=-1.64

Real interest rate(2019)=18-16=2

B.

r≈ i - ∏
Where:

r – real interest rate

i- nominal interest rate

∏ - expected inflation rate

Fisher equation describes the relationship between nominal and real interest rates. It corrects
nominal interest rate through the inflation. Real interest rate is the difference between
nominal interest rate and inflation rate. Nominal interest rate is how our money is increasing
in bank account, but real interest rate shows the real power of it.

C. Real interest rate can be negative, if inflation rate is more than nominal interest rate -
i-∏<0, so r<0.