Answer these..
3} Diana has a car whose value is $40K. The probability of an accident is 10% and she will lose the car at occurrence of the accident. Diana has wealth of $20K aside from the car, and her utility over wealth is given by u. {w} = w'2 [Where w is measured in thousands]. 3a) {a} Suppose that the premium for the full insurance is 12K. Does Diana buy the insurance? 3b) [b] What is the highest premium that Diana is willing to pay for the full insurance? 1What is the expected prot for the insurance company if the premium is this value you calculated? 3c) {c} Now, suppose that company o'ers a partial insuranoe program that pays back only a half of the value of the car. Assuming the full insurance is still an option at full price P = 12 like in item (a): does Diana purchase the partial insurance if the premium is 131"\""*="='I = 6'? 5. Consider a simple economy in which only two goods are produced and sold: pizza and beer: The prices and quantities produced of these two goods over a th ree-year period are shown in the table below. Year Price of Pizza Quantity of Pizza Price of Beer Quantity of Beer zone 2010 201 1 a. Calculate nominal GDP in 2009, 2010, and 2011. b. Next, using 2005 as your base year, calculate real GDP in 2009, 2010, and 2011. c. Finally, calculate the GDP deator for 2009, 2010, and 2011: 6. Go back to the same example from question 5, just above. Consumers in the economy like two goods: pizza and beer. Prices and quantities consumed are the same as before: Year Price of Pizza [luantity of Pizza Price of Beer Quantity of Beer 2on9 51 1 $1 2 2010 201 1 As a rst step in computing the consumer price index [CPI], the Bureau of Labor Statistics surveys consumers to determine the "basket of goods" purchased by a typical consumer: Suppose that the SIS chooses 2009 as its base year and, consistent with the data shown in the table, decides that the basket ofgoods in this economy should consist of one pizza and two beers. a. What is the cost of the basket in each year: 2009, 2010, and 2011? b. Still using 2009 as the base year, what is the CPI in each year: 2009, 2010, and 2011? c. What is the inflation rate in 2010 and 2011iI T. In the mid-19205, the American author F. Scott Fitzgerald wrote a somewhat comical article for the Saturday Evening Post magazine titled, I"How to Live on $36,000 a Year,\" in which he explained how he and his wife managed to spend their entire annual income of $35,000 without saying anything: a. In the mid-1920s, the consumer price index was around 15; in 2010, the CPI was around 225. Using these figures, calculate how much Fitzgerald's income would be worth in 2010's dollars. b. More recen'dy, Forbes magazine published a list ofthe highest-paid authors, showing that J.K. Rowling, author of the Harry Potter books, earned 510 million in 1010. After adjusting for the effects of ination, who earned more: Fitzgerald or Rowling? B. In each case, please indicate whetherthe statement is true of false {you don't need to explain why]: a. In an economy experiencing ination, the nominal interest rate will be higher than the real interest rate. When the price of imported oil rises, that affects the CPI but not the GDP deflator: c. When the price of an aircraft carrier purchased by the US government rises, that affects the GDP deflator but not the CPL d. Because new goods sometimes get invented that help American consumers enjoy a higher living standard at a lower cost, increases in the CPI tend to understate increases in the tn.|e cost of living. e. When calculating the CPI, analysts at the US Department of Labor try to account for the fact that the newest generation of iPods can do a lot more, and are therefore of a higher quality, than older models of iPods, even though the price ofthose iPods has remained about the same oyerthe years. First Midterm Exam This exam has 8 questions on 3 pages; before you begin, please check to make sure your copy has all 8 questions and all 3 pages. Each of the 8 questions will receive equal weight in determining your overall exam score. You can work on the questions in any order, but please be sure to keep your answers to all of the parts of a specific question together in your exam book. 1. Suppose that the market for ice cream cones starts out in an initial equilibrium in which the quantities of ice cream cones demanded and supplied both equal 6 and the price of an ice cream cone is $1.50. a. Suppose next that a hotter than normal summer causes more people to want to eat ice cream cones. In a standard microeconomic supply and demand diagram, will this event work to shift the demand curve or the supply curve? b. Will the curve you mentioned above - demand or supply - shift to the left or to the right? C. Suppose for a moment that the price of an ice cream cone remains unchanged at $1.50 after the curve you mentioned above shifts. At this old price, will there be a shortage or a surplus of ice cream cones? d. Now suppose instead that the price of an ice cream cone changes to bring the demand for and supply of ice cream cones back into balance after the curve shifts. Will this new equilibrium price be higher or lower than $1.50? e. In the new equilibrium with the new price, will the quantities of ice cream cones demanded and supplied be larger or smaller than 6? 2. Please indicate whether each statement is true or false (you don't need to explain why). a. If firms in an economy produce luxury automobiles that sell for $50,000 each and apples that sell for $1 each, then each automobile contributes the same amount as 50,000 apples to nominal GDP b. It is possible for real GDP to rise more rapidly than nominal GDP; this happens if an economy is experiencing deflation. C. It is possible for the CPI to fall over time; this happens if an economy is experiencing deflation. d. US GDP includes the value of goods purchased by the federal government, but not by state and local governments. e. If a US citizen works temporarily in Canada, the market value of the goods he or she produces while in Canada still count as part of US GDP. N 3. Please indicate by how much, in dollar terms, each of the follow transactions or set of transactions contributes to US nominal GDP. If GDP does not change, just write down $0. For simplicity, assume that all goods are sold during the same period in which they are produced. a. A farmer in the US sells a bag of oranges to a juice company for $5; the juice company uses the oranges to make bottles of juice in the US that then get purchased by an individual consumer in the US for $10. b. The same farmer in the US sells a bag of oranges to an individual consumer in the US for $5. A retired person in the US cashes his or her social security check and spends $50 on groceries, all of which were produced in the US. d. A US consumer takes $100 that he or she has saved and deposits it in the bank. e. A small business in the US manufactures and sells $1,000 worth of goods to a foreign customer; the business owner uses $500 to pay his or her rent, $250 to pay his or her workers, and keeps the remaining $250 as profit. 4. In 1960, about 40 percent of all US women of ages 16 years and over had paying jobs outside their homes; by 2010 this number had risen to almost 60 percent. . How has this increase in women's "labor force participation" affected US GDP - specifically, is GDP today higher, lower, or the same as it would be if this trend towards higher labor force participation had not occurred? (Here, all you need to do is to say higher, lower, or the same as, you don't need to explain why.) b. Suppose that all of the women who joined the labor force between 1960 and 2010 report being happier working at their jobs than they would have been staying at home. Would the actual growth in GDP during this period overstate or understate the true increase in the quality of life that reflects the extra psychological benefits that women gain from working and earning income? (Again, all you need to say is overstate or understate, you don't need to explain why.)Assignment 2 Problems 6.6, 6.9, 9.7, 9.9, 9.10, 10.6, 11.8, 11.9, 11.11, 11.12, 11.14 Additional problems 1. Wage Rate: Consider an economy with a large number of identical individuals each with a utility function given by log(c) + log(1-1). They live for 1 period. The production function for the firm is given by y = 1. The profits from the firm go to the individuals and these individuals own the firm. What is the equilibrium wage rate? 2. Investment and Real Business Cycles: Consider the model with investment. Assume a temporary proportional downward shift of the production function (Assume that both MPK and MPL change - in particular assume that the change does not affect the productivity of the pre- existing stock of capital, it only affects the productivity of new capital). Depict the effects on output, investment, consumption and work effort (3 graphs are required). Also explain the intuition underlying the commodity market and labor market clearing conditions. (13 points) What is the main difference between this model and the model without investment? (2 points) 3. Economic Growth: Suppose that the production function takes the form Y = AK"=LI-, where a= 1/3. Assume that the saving rate, s = 0.25 and the rate of depreciation 8 = 0.1 Further, let A = 1, and L = 2, initially. a) Assuming that L and A remain fixed, what is the steady state capital stock? What is the capital-labor ratio (K/L) at the steady state? What is the real interest rate at the steady state? What is the wage rate at the steady state? b) Imagine that productivity, A grows at the rate 2% per annum and population, L grows at 3% per annum. What is the long-run (steady-state) growth rate of GDP, Y? What is the long-run growth rate of GDP per capita, Y/L? c) Suppose that the steady state stock of capital is 16. What saving rate guarantees that the economy will converge to this level of capital? (You need to provide a numerical answer) 4. Interest rates and Inflation: Consider an individual who lives for four periods. He earns a nominal income of $5000 in the first (young), $7000 in the second (middle-aged), $5000 in the third (old) period and $3000 (you may think of these as pension benefits) in the fourth. The real interest rate between periods 1 and 2 is 4%, between periods 2 and 3 is 3%, and between 3 and 4 is 4%. The rate of inflation between the first and second periods is 1%, between the second and third periods is 5% and between periods 3 and 4 is 3%. Assume that the price in period 1 equals $3. (In solving this problem, assume the approximation to the Fisher equation, ie. r= R - 7) Suppose that he wakes up in period 2 and realizes that the real interest rate between periods 3 and 4 will change from 4% to 6%. Assume that the inflation rate does not change. a) What is his real consumption in period 2, 3 and 4? b) Now suppose that in addition to the real rate of return changing between periods 3 and 4, the inflation rate between periods 3 and 4 changes from 3% to 5%. How much does he consume in periods 2, 3 and 4
