IE University

Problem Set 1

INSTRUCTIONS - I need 30 minutes more of class time to cover all the material you need towards
solving PS1 , but you can start solving most of it (all but question 4). Do not wait that much to start,
the longer you wait the harder it will be to remember what we did in class, specially if taking class notes
is not one of your talents. The problem set is due next Monday, September 19th at 8 PM. Remember
that the effort can be individual or by teams (TEAMS WITH MAXIMUM TWO MEMBERS). In the
case of team effort, the problem set MUST be uploaded on Campus Online TWICE, once for each one
team members. If you fail to do so, the problem set will be considered delivered only by the student
who uploaded the file under his/her name. Problem sets will not be accepted after the deadline. The
course slides are already uploaded on the Course Slides folder (also the ones for the missing 30 minutes
of class of next week).

1. If the GDP of a country increases then welfare also increases? Is this statement true or false or
uncertain? ii) Spain has a higher GDP and a bigger public debt than Norway. Therefore, we
could conclude that if a country has a high public we could expect a higher high level of GDP.
Is this statement true or false or uncertain? (DO NOT OVERTHINK! Can a general inference
be made with this information?). iii) Which is the main difference between Astronomy and
Economics. iv) The courses of Macroeconomics and Economic Growth have a different object of
study. Explain this difference.
2. Open the following webpage link: https://jackblun.github.io/Globalinc/html/fig_1980.
html. This page is a great source for income inequality data across time and across countries
(you have only to pass the cursor to see the data). Each number represents the income of that
specific income decile and country. To calculate income inequality a common practice is to choose
the income of the highest decile and divided by the lowest decile. For example, in 2014 in USA
this number was equal to 60418/3778 = 16, which means the richest ten percentile in average
earns 16 times more times than the lowest percentile. i) Choose 5 high income countries, and
compare the data from 1980 with the data of 2014. Has income inequality increase or decrease?
ii) Compare these countries with another 5 low income countries. From this small sample, which
countries have more inequality, high income or low income? iii) Choose your home country: has
income increased or decreased, and how bad income inequality is in your home country (vis a vis
USA)?. iii) Choose the income of poorest decile in Switzerland and compare this data with the
RICHEST decile of a very low income country. What can you conclude from this comparison?
Some of you will think that things are more expensive in Geneva, but the data has been corrected
from distortions due to different purchasing power (it is PPP data). iv (optional) Play with the
data and if you find something interesting share it with me here.

3. i) When building a model which is the most common assumption made since reality is too
complex? ii) Why most macro models group together all households into a single representative
unit? iii) What are the conditions that theory must full in order to be acceptable? iv) We
know that most macro models simplify the economy reducing it to only four sectors (households,
firms, public sector and foreign sector). Since this is an unrealistic assumption then our Basic
Macroeconomic Model is useless. Is this statement true or false (explain)? (HINT: We can
make a more general question: if a model is based on unrealistic assumptions then the model is
useless?...good question...to know te answer is crucial...if you have no clue, look for the answer
when I upload the answer key to Problem Set 1 (PS1). v) Build a theory that fails the conditions
to be a good theory (similar to what I did in class with the examples a gave, but something
different (i.e. to open a can of food, to arrive to the sun, Malaga FC is champion, etc, etc). vi)
This going to be more difficult: now build a theory that meets the two conditions in order to be
a good theory (why you think it was more difficult?)

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4. i) In 2009, six Italian scientists were condemn to six years of prison for failing to forecast correctly
an earthquake that destroyed an Italian region. Do you think this was a fair sanction? (recall
what we mentioned in class regarding weather forecasts) ii) When an economic model makes an
incorrect forecast, does this means that the model is inadequate and should be changed? (think
about why sometimes the crystal ball makes wrong predictions).