Practice Problems
PARTI: MULTIPLE CHOICE
1. The CPI index:
A. Is usually highly correlated with the GDP deflator
B. Measures the price of a consumption basket; the GDP deflator, instead, measures the cost of a basket of locally produced goods
C. Is sensitive to the high volatility of the price of food and energy
D. All of the above
2. Looking at the composition of GDP in the last 50 years, we can claim that:
A. Both in India and the US the consumption share has been converging to about 70%
B. The investment share has a positive trend in India and negative trend in the US
C. Both US and India are net exporters, and their exports represent a large share of GDP
D. The government expenditure share has declined both in
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Since investment is an important component of GDP, GDP growth will slow down and capital accumulation will proceed at lower pace as well.
On the other side, the higher interest rate will promote more national savings and will improve India net exports, and hence its current account.
Question 2: What are the implications for the capital and financial account? What are the benefits and the costs?
An improvement in the current account corresponds to a deterioration of the capital and financial account.
The improvement of the Indian current account implies that external debt will grow at a slower speed or even decline, as in the case of the graph. Indeed, if the Indian net exports become positive there is going to be a positive change in Indian net foreign asset position. This is a benefit for India.
On the negative side, there is going to be an outflow of capital from the country. Foreign investors will stop promoting physical investment in India and Indian resources will be used to promote investments abroad. This is a potential cost for the Indian economy.
Short answers:
1. Newspaper clip: “While some in the United States put the trade deficit down to a failing U.S. competitiveness or protectionist policies abroad, some economists claim that its genesis lies in the budget deficit.” How would the budget deficit be responsible for the trade deficit? What conclusions can be drawn about U.S. competitiveness?
One possibility is that the
India’s economy is booming! With large decreases in poverty, increases in literacy and GDP, India is continuing to make its way out of the third world and into the first. India is predicted to surpass even China in growth by 2050. A competitive private capital market has instilled Indians with a low cost high quality mentality and has resulted in some of the highest return rates for any country. India has been averaging 6% growth compared to China’s 9.5% with half the investments. India capital efficiency is one of its strongest economic benefits.
From 2003-2004 to 2006-2007, annual Real Growth Rate increases from 8.4% to 9.7%. Because of the summer’s credit-market crisis, the Indian GDP Growth decrease to 9.0% from 2007 to 2008 and Indian government estimates GDP Growth for 2008-2009 is 7.1%. The decrease of GDP ascribes the global financial crisis which affects India primarily through trade and capital outflows (The World Bank, 2008:16). On trade, exports are possible to weaken and make its contribution to GDP growth may be drop sharply. However, during
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i. Calculate the growth rate of real GDP for each year from 1994 to 1997.
An increase on the debt will lead to an increase in interest payments, these interest payments constitute a large part of primary income debits that flow out on the current account, therefor todays foreign debt adds to future CADs.
This creates a budget deficit because there is more being spent than what’s being brought it.
To get the composition percentage of GDP, simply divide each number by the GDP then multiple by 100.
d. The percentage of the labor force that is out of work and the difference in average income from country to country
a. We were already lagging behind the market to begin with. Unless we give an increase in the basic
b. The government lowers taxes, leaving households with more disposable income, with no corresponding reduction in government purchases (9 points).
However, in the economy of an oil-exporting country, AD will likely be high due to high profits when exporting oil to foreign consumers. This would mean that there will be an increase in the balance of trade due to an increase in (X-M) causing the AD curve to shift rightwards causing demand pull inflation. In order to produce more output to meet the increased demand, firms are forced to bid for increasingly scarce resources, raising their costs. They therefore require a higher price to be willing to supply more. With exports rising, the price elasticity of demand is low and there is a relatively small decrease in quantity demanded for oil. Therefore export revenue will probably rise, resulting in an improvement on the current account.
A. China 's GDP has remained strong, maintaining at least 8 percent growth and surpassing 10 percent in 2006
It is often suggested that the large current account deficit poses a serious financing problem for the United States. Each year, the lament goes, the United States must attract net inflows of capital sufficient to "cover" the huge current shortfall. But this proposition gets the logic backward: the U.S. deficit is "financed" by net capital inflows only in an ex post accounting sense. In economic terms it is more nearly correct to say that net capital inflows cause the current account deficit. (p. 218)
To well address this concept, the current account and concepts related to it will be explained with the big deficits and surpluses issues that have arisen since 1990s.
Current Account Deficit. A rise in the ratio of the current account deficit to GDP is generally associated with large external capital inflows that are intermediated by the domestic financial system and could facilitate asset price and credit booms. A large external current account deficit could signal vulnerability to a currency crisis with negative implications for the liquidity of the financial system, especially if the deficit is financed by short-term portfolio capital inflows. Financial crises that have