Term 1

Question 1

What are the 3 ways of defining GDP?

Answer 1

1. Value of the final goods and services produced in the economy during a given period
   2) Value added in the economy during a given period
   3) Sum of incomes (wages + profits) in the economy during a given period

Question 2

Intermediate goods

Answer 2

Goods used in the production process

Question 3

Nominal GDP ($Y)

Answer 3

The sum of quantities of final goods produced multiplied by their current price

Question 4

Real GDP (Y)

Answer 4

The sum of quantities of final goods multiplied by constant prices

Question 5

Why is real GDP better than nominal?

Answer 5

We want to measure production and its change over time (not prices)

Question 6

Base year

Answer 6

Year used to construct prices

Question 7

Difficulties with measuring GDP

Answer 7

1) The quality of products is changing over time
2) Many new services are free (e.g. Google)
3) Measuring illegal production is difficult
4) Home production is normally excluded from GDP

Question 8

Real GDP in chained dollars

Answer 8

Weighted average of all final goods, giving greater weight to production with greater importance in the economy

Question 9

Unemployment

Answer 9

The number of people who do not have a job but are actively looking for one

Question 10

Labour force

Answer 10

The sum of employment and unemployment

Question 11

Unemployment rate

Answer 11

The ratio of the number of people who are unemployed to the number of people in the labour force

Question 12

Discouraged workers

Answer 12

Those who give up looking for a job and so are no longer counted as unemployed

Question 13

Participation rate

Answer 13

The ratio of the labour force to the total population of working age (18-65)

Question 14

Significance of unemployment

Answer 14

1) Directly affects the welfare of the unemployed
2) High unemployment is a signal that the economy is not using its human resources efficiently
3) Very low unemployment could mean the economy runs into labour shortages

Question 15

Inflation

Answer 15

A sustained rise in the general level of prices (the price level)

Question 16

Inflation rate

Answer 16

The rate at which the price level increases

Question 17

Deflation

Answer 17

A sustain decline in the price level

Question 18

GDP deflator

Answer 18

The ratio of nominal GDP to real GDP

Question 19

Relationship between nominal GDP, real GDP and GDP deflator

Answer 19

Nom GDP = Real GDP x GDP deflator

Question 20

Rate of growth of nominal GDP =

Answer 20

The rate of inflation + the rate of growth of real GDP

Question 21

Differences between inflation rate and CPI

Answer 21

1) Some of the goods in GDP are sold to firms, the government or foreigners rather than consumers
2) Some of the goods bought by consumers are not produced domestically (imported)

Question 22

Consumer Price Index (CPI)

Answer 22

Measure of the cost of living (calculated through consumption basket of typical consumer)

Question 23

Significance of inflation

Answer 23

1) Inflation affects income distribution when not all prices and wages rise proportionally
2) Inflation leads to distortions due to uncertainty, and because of its interaction with taxation

Question 24

Consumption

Answer 24

Goods and services purchased by consumers

Question 25

Investment

Answer 25

The sum of non-residential and residential investment

Question 26

Government Spending

Answer 26

Purchases of goods and services by foreigners

Question 27

Imports

Answer 27

Purchases of foreign goods by domestic consumers, firms, and government

Question 28

Trade surplus

Answer 28

Exports > Imports

Question 29

Trade Deficit

Answer 29

Imports > Export

Question 30

Inventory investment

Answer 30

difference between production and sales (add goods produced this year but not sold and vice versa)

Question 31

Consumption function

Answer 31

Function of disposable income (income that remains once consumers have received their government transfers and paid their taxes)

Question 32

Keynesian consumption function equilibrium condition

Answer 32

Y = 1/(1-c1) * (c0 + I + G - c1T)

1) C = c0 +c1*YD
2) Substitute formula for disposable income: C = c0 + c1(Y-T)
3) Add I, G and T (exogenous)

Question 33

What are c0 and c1 in the Keynesian consumption function?

Answer 33

1) c0 is consumption when disposable income is zero

2) c1 is marginal propensity to consume

Question 34

Autonomous spending in Keynesian consumption function

Answer 34

The part of the demand for goods that does not depend on output (c0 + I + g + c1T)

Question 35

Why is autonomous spending positive?

Answer 35

If T=G (balanced budget) and c1 is between 0 and 1 then G-c1T is positive

Question 36

What is the multiplier?

Answer 36

1/(1-c1) - larger the closer c1 is to 1

Question 37

Why is the increase in output larger than the initial shift in demand?

Answer 37

1) Production depends on demand, which depends on income, which is itself equal to production
20 An increase in demand leads to an increase in production and income, which in turn leads to a future increase in demand

Question 38

Dynamics of adjustment

Answer 38

The adjustment of output over time (how long this takes depends on how and when firms revise their production schedule)