Macroeconomics group assignment for third year accfn students

Maximum weight 10%

General direction: Copying from each other groups strictly forbidden and may invalid your result
with no any excuses.
Submission date at end of class

1. The following hypothetical data is obtained from the income account of country X all are in
million birr.
Personal consumption expenditure ………………………… ................. 1140
Compensation of employees ....................................................................... 1010
Government purchase of goods and services ............................................. 4000
Public transfers .......................................................................................... 110
Interest income ........................................................................................... 1880
Exports ....................................................................................................... 3050
Imports ....................................................................................................... 2000
Rental income ............................................................................................ 450
Indirect business taxes ................................................................................ 2000
Capital consumption allowances (depreciation) ........................................ 750
Income earned by foreigners from the domestic economy ........................ 150
Income earned by nationals from a broad ................................................... 200
Corporate profit .......................................................................................... 1600

Based on the above information, answer the following questions.

a. calculate GNP using expenditure approach
b. calculate GNP using income approach
c. determine net private domestic investment
d. Determine the value of Net national product
e. Determine the value of national income
2. Consider the economy that produces and consumes bread and automobiles, in the table below are
data for two different years
Year 2000 Year 2010
Price of an automobile 50,000 60,000
Price of loaf of bread 10 20
Number of automobiles produced 100 120
Number of loaf of bread produced 500,000 400,000
a. Using the year 2000 as the base year, compute the following statistics for each year
i. Real GDP
ii. GDP deflator.
iii. nominal GDP
b. How much have prices risen between Year 2000 and year 2010? (Inflation rate?)
3. Suppose that the year 2020 exports were equal to imports and gross investment was equal to
government expenditure. Private final consumption expenditure was twice its government
expenditure and equal to birr 300 million.
I. Calculate GDP
II. Calculate GNP assuming NFI was birr 30 million
III. Calculate the value of depreciation if the value of NNP during the year was birr 430
million?

Macroeconomics individual assignment for third year accfn students

1. Given the consumption C = 20 + 0.4Yd, and

 T = 600 I = 500, G = 600, then;
i. Write the equation of aggregate income and simplify.

Solution Y=C+I+G Equation of aggregate income

Y=20+0.4*Y+500+600
Y-0.4Y=1120
0.6Y=1120
Y=1120/0.6
=1867.67

ii. Calculate marginal propensity to save and interpret the result.

MPS=1-MPC
=1-0.4
=0.6
iii. Find autonomous tax multiplier.
mt=MPC/MPS
=0.4/0.6
=0.67
iv. Calculate the change of income when G decrease by 100.
Change of Y=Change of G*mg
mg=1/MPS=1/0.6=1.67
Change of Y= -100*1.67
= -167

v. Calculate the new equilibrium income when tax equation is given as T = 0.25Y

C=C0+MPC*(Y-T)
CO+0.4(Y-600)=20+0.4Y
CO+0.4Y-240=20+0.4Y
C0-240=20
C0=260
New function of consumption: C=260+0.4(Y-0.25Y)
C=260+0.3Y
Y=260+0.3Y+500+600
0.7Y=1360
Y=1360/0.7
=1942.86

vi. Calculate the new equilibrium income when I increase to 600.

Y=20+0.4Y+600+600
0.6Y=1220
Y=1220/0.6
=2033.33
 2. Jack and Jill both obey the two-period Fisher model of consumption. Jack earns $100 in the
first period and $100 in the second period. Jill earns nothing in the first period and $210 in
the second period. Both of them can borrow or lend at the interest rate r.
a. You observe both Jack and Jill consuming $100 in the first period and $100 in the
second period. What is the interest rate r?
Solution We can use Jill’s inter temporal budget constraint to solve the interest rate:
C1+ (C2/1+r) =Y1+ (Y2/1+r)
$100+($100/1+r)= $0+($210/1+r)
r= 10%
Jill borrowed $100 for consumption in the first period and in the second period
used her $210 income to pay $110 on the loan (principal plus interest) and $100
for consumption.
b. Suppose the interest rate increases. What will happen to Jack’s consumption in the
first period? Is Jack well off or worse off than before the interest rate rise?
Solution The rise in interest rates leads Amir to consume less today and more tomorrow. This
is because of the substitution effect: it costs him more to consume today than
tomorrow, because of the higher opportunity cost in terms of forgone interest. This is
shown in below Figure

By revealed preference we know is better off: at the new interest rate he could still
consume $100 in each period, so the only reason he would change his consumption
pattern is if the change makes him better off.
c. What will happen to Jill’s consumption in the first period when the interest rate
increases? Is Jill better off or worse off than before the interest-rate increase?
Solution Jill consumes less today, while his consumption tomorrow can either rise or fall. He
faces both a substitution effect and income effect. Because consumption today is more
expensive, He substitutes out of it. Also, since all his income is in the second period, the higher
interest rate raises his cost of borrowing and, thus, lowers his income. Assuming consumption in
period one is a normal good, this provides an additional incentive for lowering it. His new
consumption choice is at point B in below Figure

We know Jill is worse off with the higher interest rates because he could have consumed at point
B before (by not spending all of her second-period money) but chose not to because point A had
higher utility.
3. to the IS –LM model, what happens in the short run to the interest rate, income,
consumption, and investment under the following circumstances?
I. The central bank increases the money supply.
Solution If the central bank increases the money supply, then the LM curve shifts downward, as
shown in below Figure. Income increases and the interest rate falls. The increase in
disposable income causes consumption to rise; the fall in the interest rate causes
investment to rise as well.
 II. The government increases government purchases.
Solution If government purchases increase, then the government-purchases multiplier tells us
that the IS curve shifts to the right by an amount equal to [1/(1 – MPC)]∆G. This is
shown in below Figure. Income and the interest rate both increase. The increase in
disposable income causes consumption to rise, while the increase in the interest rate
causes investment to fall.

III. The government increases taxes.

Solution If the government increases taxes, then the tax multiplier tells us that the IS curve shifts
to the left by an amount equal to [ – MPC/(1 – MPC)]∆T. This is shown in below
Figure. Income and the interest rate both fall. Disposable income falls because income
is lower and taxes are higher; this causes consumption to fall. The fall in the interest
rate causes investment to rise.

IV. The government increases government purchases and taxes by equal amounts.
Solution We can figure out how much the IS curve shifts in response to an equal increase in
government purchases and taxes by adding together the two multiplier effects that we
used in parts (b) and (c):
∆Y = [(1/(1 – MPC))]∆G] – [(MPC/(1 – MPC))∆T]
Because government purchases and taxes increase by the same amount, we know that
∆G = ∆T. Therefore, we can rewrite the above equation as:
∆Y = [(1/(1 – MPC)) – (MPC/(1 – MPC))]∆G
∆Y = ∆G.
This expression tells us how output changes, holding the interest rate constant. It says
that an equal increase in government purchases and taxes shifts the IS curve to the
right by the amount that G increases.
This shift is shown in below Figure. Output increases, but by less than the amount
that G and T increase; this means that disposable income Y – T falls. As a result,
consumption also falls. The interest rate rises, causing investment to fall.

4. Use the neoclassical model of investment to explain the impact of each of the following
on the rental price of capital, the cost of capital, and investment.
I. Anti-inflationary monetary policy raises the real interest rate.

Solution Anti-inflationary monetary policy raises the real interest rate (r ↑). As mentioned, it will
depress net investment as firms have to pay a higher rate of interest on the investment
made. Such policy increases rental cost of capital and it will decrease the desired capital
stock.

II. An earthquake destroys part of the capital stock.

Solution An earthquake destroys part of the capital stock (K ↓). This will reduce net investment,
increases rental cost of capital and it will decrease the desired capital stock.

III. Immigration of foreign workers increases the size of the labor force.
Solution Immigration of foreign workers increases the size of the labor force (L ↑). With more
workers to share the capital stock, marginal producivity of capital rises and so net
investment increases. This decreases rental cost of capital and it will increase the
desired capital stock.