Macroeconomics for MAF

Assignment 1
Prof. Ramkishen S. Rajan
Problem Set 1 (Due: November 03, 2016; Hard Copies in class)
1. The accompanying table shows data on nominal GDP (in billions of dollars), real GDP (in
billions of 2005 dollars), and population (in thousands) of the United States in 1960, 1970,
1980, 1990, 2000, and 2010. The U.S. price level rose consistently over the period 1960
2010.

a. Why is real GDP greater than nominal GDP for all years until 2000 and lower for 2010?
b. Calculate the percent change in real GDP from 1960 to 1970, 1970 to 1980, 1980 to 1990,
1990 to 2000, and 2000 to 2010. Which period had the highest growth rate?
c. Calculate real GDP per capita for each of the years in the table.
d. Calculate the percent change in real GDP per capita from 1960 to 1970, 1970 to 1980,
1980 to 1990, 1990 to 2000, and 2000 to 2010. Which period had the highest growth
rate?
e. How do the percent change in real GDP and the percent change in real GDP per capita
compare? Which is larger? Do we expect them to have this relationship?
2. The consumer price index, or CPI, measures the cost of living for a typical urban household
by multiplying the price for each category of expenditure (housing, food, and so on) times a
measure of the importance of that expenditure in the average consumers market basket and
summing over all categories. However, using data from the consumer price index, we can see
that changes in the cost of living for different types of consumers can vary a great deal. Lets
compare the cost of living for a hypothetical retired person and a hypothetical college

student. Lets assume that the market basket of a retired person is allocated in the following
way: 10% on housing, 15% on food, 5% on transportation, 60% on medical care, 0% on
education, and 10% on recreation. The college students market basket is allocated as follows:
5% on housing, 15% on food, 20% on transportation, 0% on medical care, 40% on education,
and 20% on recreation. The accompanying table shows the July 2011 CPI for each of the
relevant categories.

Calculate the overall CPI for the retired person and for the college student by multiplying
the CPI for each of the categories by the relative importance of that category to the
individual and then summing each of the categories. The CPI for all items in July 2011 was
225.9. How do your calculations for a CPI for the retired person and the college student
compare to the overall CPI?
3. There is only one labor market in Profunctia. All workers have the same skills, and all firms
hire workers with these skills. Use the accompanying diagram, which shows the supply of and
demand for labor, to answer the following questions. Illustrate each answer with a diagram.

a. What is the equilibrium wage rate in Profunctia? At this wage rate, what are the level of
employment, the size of the labor force, and the unemployment rate?
b. If the government of Profunctia sets a minimum wage equal to $12, what will be the level
of employment, the size of the labor force, and the unemployment rate?

c. If unions bargain with the firms in Profunctia and set a wage rate equal to $14, what will
be the level of employment, the size of the labor force, and the unemployment rate?
d. If the concern for retaining workers and encouraging high-quality work leads firms to set
a wage rate equal to $16, what will be the level of employment, the size of the labor force,
and the unemployment rate?
4. Suppose that a country experiences a reduction in productivity that is, an adverse shock to
the production function.
a. What happens to the labor demand curve?
b. How would this change in productivity affect the labor market- that is, employment,
unemployment, and real wages if the labor market were always in equilibrium?
c. How would this change in productivity affect the labor market if unions prevented
the real wage from falling?
5. In the economy of Solovia, the owners of capital get two-thirds of national income, and the
workers receive one-third.
a. The men of Solovia stay at home, performing household chores, while the women
work in factories. If some of the men started working outside their homes so that the
labor force increased by 5 percent, what would happen to the measured output of the
economy? Does labor productivity defined as output per worker increase,
decrease, or stay the same? Does total factor productivity increase, decrease or stay
the same?
b. In year 1, the capital stock was 6, the labor input was 3 and output was 12. In year 2,
the capital stock was 7, the labor input was 4 and output was 14. What happened to
total factor productivity between the two years?