Econ 2

Question 1

Economy’s sustainable growth rate formula:

Answer 1

Long-run Aggregate output - growth rate of potential GDP - Max amt an economy can sustainably produce without inducing an increase in growth rate of inflation

Question 2

Comparing performance of growth factors:

1. Interpret difference in GPD
2. Interpret difference in GPD/capita

Answer 2

1. Measure how rapidly the economy is expanding
2. Reflects the average standard of living

To compare we need to convert each country’s real GDP to a common currency at a PPP exchange rate

Question 3

When comparing performance of growth factor why don’t we use market fx rate?

Answer 3

1. volatile

2. reflect traded g/s + financial flows

Question 4

Comparing performance developed vs developing in which 6 areas?

Answer 4

1. Saving & Investment
2. Financial markets & Intermediaries
3. Political stability, rule of law and property rights
4. Education & Health care systems
5. Tax & Regulatory systems
6. Free trade & Unrestricted capital flows

Question 5

How does saving and investment affect growth? How do we in growth with saving and investment?

Answer 5

Low saving -> Low Investment -> Slow GDP growth -> persistently low incomes.

Remedies typically aimed at increasing investment either by capital flow or FDI (foreign direct investment)

Question 6

How does financial markets & Intermediaries promote growth?

Answer 6

1. Promote growth by allocating capital to projects with highest risk-Adjusted returns
2. encouraging savings by creating investment product
3. overcoming credit constraints

Countries with better-functioning financial markets and intermediaries grow at a faster rate

Question 7

Free trade and unrestricted capital flows, how does that encourage growth?

Answer 7

1. FDI
2. foreign investors can purchase securities issued by domestic countries

both will increase capital stock, increase productivity, employment/ wage, and increase domestic savings.

Question 8

Explain: P = GPD (E/GDP)(P/E)

Answer 8

(1/T)%∆P = (1/T)%∆GDP + (1/T)%∆(E/GDP) + (1/T)%∆(P/E)

Long term change in stock value = changes in GDP + changes in share of earnings in GDP + changes in the price-earning multiple

In long term changes in (E/GDP) & (P/E) = 0

Question 9

How does higher potential GDP affect economy

Answer 9

1. Improves general credit quality of issuers
2. Deby/y vs deby/y* - structural or cyclical adjusted deby
   3.

Question 10

Cobb-Douglas 2 properties?

Answer 10

1. Constant returns to scale - double input = double outputs

Y = AF(K,L) / L -> output per worker/ Labor productivity

Y/L = AF(K/L,L/L) = AF(K/L,1)

• The amount of goods a worker can produce depends on the amount of capital for each working (K/L), TFP(A) & the share of capital in GDP.
  2. Diminishing marginal productivity - the extra output obtained from each additional unit of input will decline.

Question 11

K/L

Answer 11

Capital deepening

Question 12

K/L A: 100,000
K/L B: 5,000

What effect on growth rate of potential GDP

1. Investment increase in both country
2. University research in both countries
3. Eliminate restriction on foreign investment for Country b

Answer 12

1: Capital deepening, A has smaller effect while B has bigger effect
2: Likely increase potential GDP for both countries
3: Investment increase and raise potential GDP in b

Question 13

Growth accounting equation(measure potential GDP)
∆Y/Y = ∆A/A + (1 - α)∆L/L + α∆K/K

explain:

Answer 13

α - elasticity of output with regards to captial

1 - α - elasticity of output with labor

Question 14

Labor Productivity growth rate accounting method

Answer 14

Growth rate in potential GDP = Long-term growth rate of labor force + long term growth rate in labor productivity

Question 15

ICT Capital

Answer 15

infrastructure, computers, and telecommunication capital

Question 16

Developed economy issue with ICT & Non ICT capital

Answer 16

1. Increase potential GDP but may also increase unemployment rate
2. Net immigration increase potential GDP but may also make unemployment worse

Question 17

Growth Theories (Thomas Malthus)

Answer 17

Growing population with limited resources will leads to overpopulation and depletion of resources

Y = F(L, Land)

• When income/capita > subsistence level (Technological progress aka. labor productivity + land expansion) = higher population growth
• constant standard of living overtime
• new technology = larger population not richer population

Question 18

Classical model (Thomas Malthus) failures

Answer 18

1. as income/capita increases, population grows slow not accelerates
2. growth rate of technological process > rate of diminishing returns

Question 19

Neo - Classical growth model (Solow growth model)

Answer 19

Y = AK(F,L)

Y equilibrium = steady state rate of growth (Y/K) constant -> K/L and Y/L grow at the same rate

Question 20

Neo - Classical growth in steady state, how would capital deepening effect on growth rate of economy and MPK?

Answer 20

No effect

Question 21

Under Neo - Classical model

1. Capital accumulation
2. Deepening vs technology
3. Convergence
4. Effect of s on growth

what are the effect of these factors?

Answer 21

1. affects level of output, but not growth rate/ economies move towards a steady state/ in steady state, growth rate of output does not depend on capital accumulation
2. growth slows as capital is added/capital deepening limits out/without increases in TFP, growth of y will slow
3. growth rate of developing countries should exceed developed countries/per capital incomes should converge
4. saving increase growth rate until a steady state is reached, in steady state, growth does not depend on s/ countries with higher saving have higher y, k, TFP

Question 22

Endogenous growth theory

Answer 22

Ye = f(Ke) = cke

output/worker is proportional to capital/worker -> output/worker grows at the same rate as capital/worker