1)Provide an explanation of the difference between microeconomics and macroeconomics by highlighting

their respective focuses.

Economics is divided into two subfields: microeconomics and macroeconomics.

1. Microeconomics: Microeconomics studies how individuals and companies make choices in

specific markets. For example, Supply and demand, Consumer behavior, Firm behavior, Market
structures and etc.

2.Macroeconomics: This part looks at major economic trends. It looks at issues such as
government borrowing, changes in the national unemployment rate and overall living standards
in a country.

Both fields are connected because the decisions of individuals and businesses influence the
overall economy.

2) What does GDP stand for, and what does it measure in an economy? Briefly
provide examples of the components of GDP.
GDP or Gross Domestic Product is a measure of the total economic output within a country's
borders. It includes all goods and services produced in a given period. The components of GDP
are :
consumption (spending by households),
investment (spending by businesses on capital goods),
government spending (spending on public goods and services)
net exports (exports minus imports, indicating the contribution of international trade).
Collectively, these components impact the economic activity and health of a nation.

3)Explain GDP per capita. Discuss the relationship between GDP per capita and
total population of a country.
Gross Domestic Product (GDP) per capita is a measure of the average economic output per capita
in a country. It is calculated as a country's total GDP divided by its total population.
The relationship between GDP per capita and the total population of a country is important for
understanding the distribution of economic output across the population. A higher GDP per
capita means a higher average income and standard of living for the population. This shows that
individuals in the country are economically stronger.

4) Discuss the limitations of GDP as a measure of economic welfare.

GDP or Gross Domestic Product shows the total economic output within a country's borders. It
consist of all goods and services produced in a given period.
GDP's limits as an economic welfare measure are:

It leaves out non-market transactions.

It doesn't think how income is share.
It doesn't directly look at life quality rates.
It doesn't factor in environmental harm.
It leaves out unpaid work and free time.
It emphasizes quantity more than quality.

6) What is a production function? Write an equation for a typical production

function, and explain what each of the terms represents. Describe the concept of a
production function exhibiting constant returns to scale.

7) Suppose a company produces 380 units per day using seven workers. On
average, 0.5% of the units produced are defective and must be thrown away. What
is the labor productivity for non-defective units?

To calculate the labor productivity for non-defective units, we first need to find the total
number of non-defective units produced per day. Then, we can divide this number by the total
number of workers to determine the labor productivity per worker.

1. Find the total number of non-defective units produced per day: Total units produced
per day = 380
2. units Percentage of defective units = 0.5%
3. Non-defective units produced per day = Total units produced per day - (Total units
produced per day * Percentage of defective units)
4. Non-defective units produced per day = 380 - (380 * 0.005) = 380 - 1.9 ≈ 378.1 units
5. Determine the labor productivity per worker: Total number of workers = 7 workers
Labor productivity per worker = Non-defective units produced per day / Total number
of workers = 378.1 units / 7 workers ≈ 54 units per worker

Therefore, the labor productivity for non-defective units is approximately 54 units per worker
per day.

8) How do countries with lower initial levels of capital benefit from the catch-up
effect? Draw a graph to support your answer.

Countries with lower initial levels of capital benefit from the catch-up effect by experiencing
faster economic growth rates compared to countries with higher initial levels of capital. This is
because they can adopt existing technologies and knowledge from more advanced economies,
leading to accelerated growth as they close the gap in productivity and income levels. This is
depicted graphically by the upward shift in the production function of the country with lower
initial capital levels over time, indicating increased output for a given level of labor input.

9) Distinguish the inward oriented and outward oriented economic policies.

Explain their potential impact on economic growth.

Inward-oriented policies focus on protectionism and domestic markets, potentially limiting

growth. Then products will be produced in the country, not bought from abroad. This can
lead to less competition and innovation, slowing overall growth.

Outward-oriented policies emphasize openness and global trade, boosting long-term growth
prospects. These policies are about participating in the global economy by trading with other
countries. In this way, they can increase productivity, stimulate innovation and help local
businesses grow.

10) Explain the role of political stability and property rights on fostering economic
growth.

Political Stability:

 Provides predictability and confidence for businesses and investors.

 Enables consistent economic policies that support growth.
  Reduces the risk of social unrest and disruptions to economic activities.

Property Rights:

 Encourage investment, innovation, and entrepreneurship by ensuring individuals can

benefit from their efforts.
 Facilitate efficient resource allocation and access to capital.
 Promote innovation and technological progress by providing incentives for research
and development.

12) Identify the main determinants of productivity of an economy. Explain how

changes in productivity determinants impact productivity.

Productivity determinants:

1. Technology: Innovations, R&D.- Boosts efficiency.

2. Human Capital: Education.- Enhances skills.
3. Physical Capital: Infrastructure, equipment.- Increases output.
4. Natural Resources: Sustainability, efficiency.- Maintains productivity.
5. Institutions: Governance, regulations.- Foster productivity growth.

Improvements in any of these areas can lead to improved economic performance and
competitiveness.

13) Imagine the number of labor inputs is 100, and the number of outputs is 250 in
April. If the number of labor inputs is increased by 10 in May, what should the
number of outputs be to have same productivity (output per worker)?

Productivity = Number of labor inputs / Number of outputs = 250/100 = 2.5 outputs per worker

Number of labor inputs in May = 100 + 10 = 110.

To maintain the same productivity as April, we need to calculate the number of outputs required in
May:

Number of outputs in May=Productivity×Number of labor inputs in May

Number of outputs in May=2.5×110=275

14) What's the difference between firm-specific risk and market risk? Will
diversification eliminate one or both? Explain
  Firm-specific risk is unique to a company, as are management issues. For example, Apple
recalls 500 iPhones due to a part damage. This is a problem specific to Apple and other
companies are not affected.

 Market risk affects the whole market, such as economic trends.For example A world
economic crisis reduces everyone's purchasing power and this affects the whole market.
 Diversification can reduce firm-specific risk but not market risk.

16) Explain the concept of crowding out effect and its impact on economic growth.

The crowding out effect occurs when increased government borrowing raises interest rates, making
it more expensive for businesses and individuals to borrow money, thus reducing private sector
investment and spending. This can hinder economic growth by reducing capital formation,
innovation, and productivity.

17) What are the basic differences between bonds and stocks?

 Stocks represent ownership in a company, while bonds represent debt.

 Stocks offer higher potential returns but also higher risk, while bonds offer lower returns but
are generally less risky.
 Stocks may pay dividends, while bonds pay periodic interest payments.
 Stocks have no maturity date, while bonds have a specified maturity date.
 Bondholders have priority over stockholders in receiving payments in case of bankruptcy or
liquidation.

18) Consider a closed economy that can be described by the following values and
equations:

Y = 7,000

G = 800

T = 1,000

C = 250 + 0.75(Y − T)

I = 1,000 − 90r

a. Calculate private saving, public saving, and national saving.

b. Find the equilibrium interest rate.

a. Private saving can be calculated as S_p = Y - T - C, where Y is the national income, T is taxes, and C is
consumption.
Therefore, S_p = 7,000 - 1,000 - (250 + 0.75(7,000 - 1,000)) = 7,000 - 1,000 - (250 + 4,500) = 7,000 - 1,000 -
4,750 = 1,250.

Public saving can be calculated as S_g = T - G, where T is taxes and G is government spending. Therefore,
S_g = 1,000 - 800 = 200.

National saving can be calculated as S = S_p + S_g. Therefore, S = 1,250 + 200 = 1,450.

b. To find the equilibrium interest rate, we need to set investment equal to saving. In a closed economy, I =
S. Therefore, 1,000 - 90r = 1,450. Solving for r, we get:

90r = 1,000 - 1,450 90r = -450 r = -450 / 90 r = -5 Therefore, the equilibrium interest rate in this closed
economy is -5.

19) Which of the two bonds in each example would you expect to generally pay the
higher interest rate? Explain why. a.

a U.S. government bond or a Venezuelan government bond

b. a U.S. government bond or a municipal bond with the same term and issued by a
creditworthy municipality.

c. a 6-month Treasury bill or a 20-year Treasury bond

d. a Microsoft bond or a bond issued by a new recording company

20)
a. The equilibrium real interest rate is the point where demand and supply cross. This means that the
equilibrium real interest rate is 6%.

Loanable funds------>supply=demand=1100

b. investment tax credit increases --> firms invest more --> demand for loanable funds increases

Here the demand curve shifts from D1 to D2

22) Describe the concept of diversification. Explain how an investor gets benefit for
the portfolio from this strategy.

Diversification is a strategy where investors spread their investments across different assets or asset
classes to reduce overall portfolio risk. By avoiding over-reliance on any single investment,
diversification helps minimize the impact of poor performance in one area while potentially
capturing gains in others. It aims to provide more stable returns, preserve capital, and potentially
enhance long-term investment outcomes.

23) Explain the trade-off between risk and return

The trade-off between risk and return in investing suggests that higher potential returns typically
come with higher levels of risk, while lower risk investments generally offer lower potential returns.
Investors must balance their desire for higher returns with their tolerance for risk, considering
factors such as volatility, investment horizon, and financial goals when constructing their portfolios.

24) Describe efficient market hypothesis and explain why it might not be
completely true.

The Efficient Market Hypothesis (EMH) suggests that financial markets incorporate all available
information into asset prices, making it impossible to consistently outperform the market. However,
criticisms of the EMH include the existence of market anomalies, behavioral biases, market
frictions, and information asymmetry, which suggest that markets may not always be perfectly
efficient. Therefore, while the EMH provides a useful framework, it may not be completely true in
practice.

25) Suppose A1 Corporation will pay to you a dividend of $3 per share during 3
consecutive years. You expect to sell this stock for $45 after 3 years. If the current
interest rate in the market is 4% calculate the value of A1 stock.
  Dividend per share (DPS) = $3
 Number of years (n) = 3
 Expected selling price (S) = $45
 Interest rate (r) = 4% or 0.04

26) Use the rule of 70 for the following questions. Suppose that real GDP per
person in country X grows at an annual rate of 2 per cent and that real GDP per
person in country Y grows at an annual rate of 1 per cent.

a. How many years does it take for country X to double its real GDP per person?

b. How many years does it take for country Y to double its real GDP per person?
c. If real GDP per person in country X was $1000 in 1940, how much would it be in
the year 2010?

The Rule of 70 states that you can estimate the number of years it takes for a variable to double by
dividing the number 70 by the annual growth rate of that variable.

a. For country X: Annual growth rate = 2% Number of years to double = 70 / 2 = 35

years. So, it takes 35 years for country X to double its real GDP per person.
b. For country Y: Annual growth rate = 1% Number of years to double = 70 / 1 = 70
years. So, it takes 70 years for country Y to double its real GDP per person.
c. 2010-1949=70 year
Now, let's use the Rule of 70 to estimate how many times the real GDP per person
doubled in this period: 70/2=35 times
Growth rate = 2% per year
Number of doubling periods = 70 / 35 = 2
Doublings = 2 * 1 = 2
Real GDP per person in country X in 2010 = Initial GDP per person * (1 + growth rate) ^
number of doublings = $1000 * (1 + 0.02) ^ 2 ≈ $1000 * 1.0404 ≈ $1040.40

Therefore, the real GDP per person in country X in the year 2010 would be approximately
$1040.40

27) For each of the following situations, determine and explain the type of problem
from which the insurance market suffers.

1. George buys health insurance at the non-smoker rate. After getting the
insurance, he begins to smoke

2. Lily buys a car insurance as she usually drives on congested roads in rush hours

3. New petrol station opens at very close distance to Sam’s house. He decides to
buy fire insurance for his house

1. George's situation illustrates adverse selection, where he buys health insurance at a non-
smoker rate and then starts smoking, withholding information about increased risk.
2. Lily's scenario represents moral hazard, as she buys car insurance knowing she drives on
congested roads during rush hours, potentially increasing her risk-taking behavior.
3. Sam's case also exemplifies moral hazard, as he decides to buy fire insurance for his house
after a petrol station opens nearby, possibly leading to reduced precautionary measures
against fire risk.

29) Explain the two kinds of money and define the three fundamental functions of
money.

1. Commodity money has intrinsic value, like gold or silver, while fiat money has value
because of government backing.
 2. The three fundamental functions of money are:
o Medium of exchange: Facilitates transactions by serving as a universally accepted
form of payment.
o Unit of account: Provides a common measure for the value of goods and services.
o Store of value: Enables people to save purchasing power for future use.

30) Why can’t the Central Bank control the money supply perfectly?

1. The economy is influenced by numerous variables and actors, making it difficult for the
central bank to predict and respond to all factors accurately. There is often a delay between
the implementation of monetary policy and its impact on the economy, making it challenging
to fine-tune the money supply. The central bank may lack complete and accurate data about
the economy, leading to suboptimal policy decisions. And other incidents

31) Characterize the main monetary aggregates in an economy and explain

them from the perspectives of stability and liquidity.

1. M0 (Base Money): Consists of physical currency and reserves held by banks. It's highly
stable and liquid.
2. M1 (Narrow Money): Includes M0 plus demand deposits. It's stable and highly liquid,
representing money readily available for transactions.
3. M2 (Broad Money): Encompasses M1 plus savings deposits, time deposits, and money
market funds. It's less liquid than M1 but still relatively stable.
4. M3 (Broadest Money): Incorporates M2 plus large time deposits and other long-term
financial assets. It's less stable and less liquid compared to M1 and M2, representing the total
money supply including less liquid forms of money.

32) List the three tools of monetary control and characterize each of them
comprehensively.

1. Open Market Operations (OMO): Involves buying and selling government securities to
control the money supply directly. Flexible and precise, often the most used tool.
2. Reserve Requirements: Mandates the percentage of deposits banks must hold as reserves.
Directly impacts the amount of money banks can lend, but less frequently used due to
inflexibility.
3. Discount Rate: The interest rate at which banks borrow from the central bank. Influences
short-term interest rates and borrowing behavior, but less commonly used compared to
OMO.