Instructions: Fill in the correct bubble on the answer sheet. Each question is worth one point.

1. Endogenous variables are determined within the model.

A. True B. False

2. GDP can be measured using the production, expenditure, and income ap- proach.

A. True B. False

3. The Cobb-Douglass production function F (K, L) = AK1/3L2/3 features con- stant returns to scale in capital K and labor L together.

A. True B. False

4. Net investment ∆Kt+1 is a stock variable.

A. True     B. False

5. Cyclical unemployment is not included in the natural rate of unemployment.

A. True B. False

6. There is a weak correlation between a country’s growth rate of the money supply and inflation rate. A. True     B. False

7. The Federal Reserve targets the Fed Funds rate when conducting monetary policy.

A. True B. False

8. It is possible for current GDP to be above potential GDP.

A. True B. False

9. Empirical evidence shows that households smooth consumption, following the predictions of the permanent income hypothesis, for unexpected changes in income.

A. True     B. False

10. The Lucas Critique suggests that macroeconomic models must incorporate rational expectations that consumers and firms have about the future path of policies. A. True B. False

11. The discount rate is the price ceiling in the Federal Funds market. A. True

B. False

12. The zero lower bound implies there is a limit to how low interest rates can be before everyone holds cash or finds another way to store liquid wealth.

A. True B. False

13. When the price-earnings ratio is high, it is a signal that stocks may be under- valued. A. True     B. False

14. The Federal Reserve expanded its balance sheet during the three phases of quantitative easing by buying exclusively long-term Treasury securities.

A. True     B. False

15. We would expect Ricardian equivalence to hold for an elderly retiree expe- riencing a tax cuts on their capital gains income if they have no children.

A. True     B. False

16. Higher corporate tax rates raise the user cost of capital. A. True B. False

17. Efficient markets hypothesis suggests that actively managed funds will have higher returns after fees than index funds. A. True     B. False

18. The most volatile component of investment in GDP accounting is business inventory. A. True B. False

19. If the rate of economic growth is greater than the size of the budget deficit and interest rates on government debt, the debt-GDP ratio will rise. A. True

B. False

20. Government budget deficits are said to “crowd out” private investment as they reduce national saving. A. True B. False

21. What is the feature about ideas that allows objects and ideas to have in- creasing returns together?

A. Excludability

B. Non-excludability

C. Rival

D. Non-rival

22. According to the quantity theory of money, if the money supply grows much faster than real GDP, then the economy will experience

A. Hyperinflation

B. Inflation

C.  Stagflation

D. Deflation

23. Consider the Cobb-Douglass production function Y = AK1/3L2/3, what equa- tion describes the growth rate of y (gy ) in terms of the growth rate of tech- nology (gA ), capital (gK ), and labor (gL )?

A. gY  = gA + gK + gL

B. gY  = gA + gK(1/)3 + gL(2)/3

C. gY  = gA + gK + gL

D. gK  = gA + gK + 2gL

24. Transition dynamics in the Solow model explain that when an economy is not in its steady state

A. GDP per capita will quickly approach the steady state when far away and then slowly approach when closer to the steady state.

B.  GDP per capita will slowly approach the steady state when far away and then quickly approach when closer to the steady state.

C. An economy will grow at a constant rate over time.

D. None of the above

25. Germany’s GDP in 2020 will be approximately e 3.6 trillion and California’s GDP in 2020 will be approximately $2.75 trillion. The Euro to USD exchange rate is e 0.90 per $. The ratio of the price level in California to the price level in Germany is 0.75. Which economy is larger after taking account of price differences?

A.  California

B. Germany

C.  Same size

D. Not enough information

26. The long-run growth rate of Botswana is around 5% increase in GDP per capita each year. In 1950, GDP per capita in Botswana was $250. What will GDP per capita be in Botswana in 2020?

A.  $4000

B.  $6000

C.  $8000

D.  $10000

27. In the production model, as we add more capital ( ) what happens to the wage rate?

A. increases

B. decreases

C. stays constant

D. not enough information

28. According to the Solow model, what should the capital-output ratio (K/Y) be equal to?

A.

B.

C.

D.  sA

29. Using the bathtub model of unemployment, what would you expect to be the effect of the government making it harder to fire workers?

A. increase the finding rate (f¯), raising the unemployment rate (u* ).

B. decrease the finding rate (f¯), raising the unemployment rate (u* ).

C. increase the finding rate (f¯), lowering the unemployment rate (u* ).

D. decrease the finding rate (f¯), lowering the unemployment rate (u* ).

30. What are the sources of funding for government purchases?

A. tax revenue

B. new issuance of debt

C. new issuance of currency

D. all of the above

31. The process of taking a large number of loans (such as mortgages) and pack- aging them into one asset that can be bought and sold in the marketplace is referred to as

A.  Scrutinization

B.  Secularization

C. Securitization

D. None of the above

32. Using Okun’s Law, if short-run output t  = −2%, then what would be the current unemployment rate?

A.  2% above the natural rate of unemployment

B. 1% above the natural rate of unemployment

C.  1% below the natural rate of unemployment

D.  2% below the natural rate of unemployment

33. Comparing economic outcomes to other financial crises and post-war reces- sions, the Great Recession was

A. about the same as other financial crises and about the same as other post-war recessions

B. about the same as other financial crises and worse than other post- war recessions

C. worse than financial crises and about the same as other post-war recessions

D. worse than financial crises and worse than other post-war recessions

34. The Phillips curve, when it was first discovered by the economist A.W. Phillips, showed the

A. positive relationship between inflation and short-run output

B. positive relationship between inflation and unemployment

C. negative relationship between inflation and short-run output

D. negative relationship between inflation and unemployment

35. An booming economy producing beyond potential output would be an ex- ample of

A. cost-push inflation

B. demand-pull inflation

C. cost-push and demand-pull inflation

D. none of the above

36. Economists believe that the classical dichotomy

A. holds in both the long-run and short-run.

B. holds in the long-run, but not the short-run.

C. holds in the short-run, but not the long-run.

D. does not hold in either long-run or short-run.

37. The principal cause of the Great Depression was

A. contractionary monetary policy

B. expansionary monetary policy

C. contractionary fiscal policy

D. expansionary fiscal policy

38. Empirical evidence about household consumption finds

A. rich households smooth consumption and have a high MPC, while poor house- holds do not smooth consumption and have a low MPC

B. rich households do not smooth consumption and have a high MPC, while poor households smooth consumption and have a low MPC

C. rich households smooth consumption and have a low MPC, while poor households do not smooth consumption and have a high MPC

D. rich households do not smooth consumption and have a high MPC, while poor households smooth consumption and have a low MPC

39. Why should monetary policy not respond to potential “bubbles” in asset prices?

A. bubbles are hard to identify in real time

B. monetary policy cannot precisely target “bubbles”

C. policymakers can use more refined tools like capital requirements

D. all of the above

40. In the neo-classical consumption model with β = 1, a high real interest rate R would imply that

A. ctoday  > cfuture

B. ctoday  = cfuture

C. ctoday  < cfuture

D. not enough information

41. If we changed the assumption in our short-run model that consumption fluc- tuates with short-run output rather than remain a constant fraction of potential output, then this would result in a

A. loading effect

B. leverage effect

C. magnitude effect

D. multiplier effect

42. Transition dynamics in the short-run model predict that

A. inflation rates will quickly approach steady-state inflation when fur- ther from the steady state

B. inflation rates will slowly approach steady-state inflation when further from the steady state

C. the Fed will cause deep recessions when inflation is slightly above target

D. the Fed will cause moderate recessions when inflation is far above target

43. Consider a student going to study abroad for a semester. They have a car they will not need while abroad. The student can sell the car for $500. Alternatively, the student can rent the car to a friend for $100. Once the student comes back from abroad, they believe they can sell the rented car for $450. What must the interest rate R be for the student to be indifferent between selling and renting the car?

A. 0%

B.  5%

C. 10%

D.  15%

44. If a firm discovers a new process to increase its productivity (i.e. just-in- time manufacturing, assembly-line-production), we would expect the firm’s desired capital stock to

A. increase

B. decrease

C. remain constant

D. not enough information

45. Facebook’s current stock market value is $575 billion. If the accounting value of Facebook’s capital stock is $600 billion, according to the theory of Tobin’s q, the firm should

A. invest to increase its capital stock

B. disinvest to decrease its capital stock

C. keep its capital stock constant

D. not enough information

46. A financial market is said to be informationally efficient when

A. prices reflect all available public information

B. impossible to make economic profits from trading on public information

C. only unexpected news moves stock prices

D. all of the above

47. The US government’s current stock of debt is $20 trillion. The average interest rate the US government pays on its debt is 2%. If the government’s budget is balanced this year, then what is the present discounted value of all future tax revenues the US government will collect?

A.  $19.61 trillion

B.  $20.00 trillion

C.  $20.40 trillion

D. not enough information

48. What would describe considerations made for how current tax and spending policies affect people not yet born?

A. intergenerational equity

B. intergovernmental equity

C. intergenerational optimization

D. intergovernmental optimization

49. Future budget deficits are forecasted to rise under current policies in the US because

A. There are fewer workers for each retiree

B. The population is living longer

C. New medical technologies are often expensive

D. All of the above

50. During the Euro sovereign debt crisis, profligate governments with high debt burdens found it difficult to issue new debt at high interest rates. Since these countries were part of the Euro area lacking their own central bank, which option for reducing their debt burdens was unavailable to these countries?

A. Increase tax rates

B. Print new currency

C. Reduce government spending

D. All of the above options were available to these countries

Instructions: Answer the following questions. Show all work. Point values are listed for each part of the question.

1. The following equations describe the Romer model:

Yt  = At Lyt

∆At+1  = At Lat

Lyt + Lat  =

Lat  =

where the parameters are: A¯0 , , , .

(a)  (6 points)  Solve for the growth rate along the balanced growth path as a function

of the parameters.

The growth rate is

= =

(b)  (6 points)  Solve for the level of GDP per capita yt  at any point in time along the

balanced growth path as a function of the parameters.

With the growth rate, we can solve for GDP per capita at any point in time by

yt  = = At (1 − ) = A0 (1 + )t (1 − )

(c)  (8 points)  Create a graph that shows GDP per capita y on the vertical axis and time t on the horizontal axis. Show the effect of an increase in the size of the labor force . Label both the original and new balanced growth path.

yt

t

t

2. The following equations describe the short-run model: t  = − (Rt − )

πt  = πt-1 + t +

Rt − = (πt − )

where the parameters are: , , , , , , and .

(a)  (8 points)  Solve for the steady state values of the endogenous variables as a function

of the parameters. In the steady state, all of the endogenous variables are constant t  = Yt-(˜)1  = Y˜* and πt  = πt-1  = π * and all shocks are equal to zero = 0 and = 0. If we plug this into our Phillips curve π *  = π *  + Y˜*  + 0 so Y˜*  = 0 Combining the monetary policy rule and IS curve along with the steady state short run output Y˜*  = − (π* − ) then 0 = 0 − (π* − ) so π *  =

(b)  (6 points) Assume the economy begins in the steady state.  The government in-

creases defense spending for a number of periods in a war with Canada for maple syrup. Describe and show the process of adjusting to the steady state.                   The economy begins in the steady state where inflation is at the central bank’s target and short-run output t  = 0.  A war with Canada increases US govern- ment spending which will cause our aggregate demand shifter > 1.  This causes the aggregate demand curve to shift up and to the right.  While there is the posi- tive aggregate demand shock, there will be strong pressure from demand on prices (t  > 0) which will start to pull the aggregate supply curve up and to the left until short-run output t  = 0. Eventually the war with Canada ends and US government spending returns to its normal level so that our aggregate demand shifter = 0 and the aggregate demand curve shifts back to its original position. At this point, there will be weak pressure from demand on prices (t  < 0) which will start to pull the aggregate supply curve down and to the right until short-run output t  = 0.  The economy has again reached its steady state where inflation is at the central bank’s target and short-run output t  = 0.

π

πL

ASt AS0

< 0 > 0

(c)  (8 points) Assume the economy begins in the steady state.  The economy experi- ences a financial crisis after a stock market bubble bursting which reduces consump- tion and investment due to market pessimism.  Describe and show the process of adjusting to the steady state.

The economy begins in the steady state where inflation is at the central bank’s target and short-run output t  = 0.  Decrease in consumption and investment due to market pessimism will cause our aggregate demand shifter < 1. This causes the aggregate demand curve to shift down and to the left. While there is the negative aggregate demand shock, there will be weak pressure from demand on prices (t  < 0) which will start to pull the aggregate supply curve down and to the right until short-run output t  = 0.  Eventually consumption and investment return to their normal levels so that our aggregate demand shifter = 0 and the aggregate demand curve shifts back to its original position.  At this point, there will be strong pressure from demand on prices (t  > 0) which will start to pull the aggregate supply curve up&n