BUSM

Consider a household whose utility is determined by its consumption in periods 0 and 1. Let c0 and c1 denote the consumption in periods 0 and 1, respectively. The utility of this household can be represented by a utility function:

U(c0, c1) = u(c0) + u(c1)

Assume further that the per-period utility u(c) is given by u(c) = log c, and the discount factor

is given by = 9/10. In periods 0 and 1, this household is endowed with incomes y0 = 190 and

y1 = 380, respectively. Importantly, this household can save or borrow in period 0 at the interest rate r = 1/9

(g) Solve the intertemporal optimization problem. Does this household save? Or borrow? By how much?

(h) Explain what 'consumption smoothing' means. Does this household smooth its consumption?

(i) In the c0-c1 plot, illustrate the point of income endowment, the optimum, the intertemporal budget constraint, and the indifference curve passing the optimum. Indicate the amount of bor- rowing /saving in this plot.

(j) Assume that the interest rate changes from r = 1/9 to r = 2/9 . Find the new optimum. Does this household still smooth consumption?

(k) Describe the three channels (the substitution effect, the positive wealth effect, and the negative wealth effect) through which the interest rate change described in question (j) affects the optimal consumption bundle.

(l) In the cA-cB plot, illustrate how the optimum, the intertemporal budget constraint, and the indifference curve passing the optimum have changed as a result of the interest rate change de- scribed in question (j). On the same plot, graphically decompose the shift of the optimum into the shifts caused by the wealth effect (i.e. the combined effect of the positive and negative wealth effects) and the substitution effect.

(m) Central banks decrease interest rates when they want to boost up the aggregate demand of the economy. (Such an action by a central bank is often called an 'expansionary monetary policy'.) In a fully-fledged, large-scale macroeconomic model that many central banks practically use, the substitution effect dominates among the three channels (the substitution effect, the positive wealth effect, and the negative wealth effect) because the positive and negative wealth effects nearly cancel out each other. Using the substitution effect we study in the two-period intertemporal optimization model presented in Q2, explain why a decrease in the interest rate can boost up the current aggregate demand.

[11:45 PM, 2/2/2022] Fridah: Problem 6. Iwo irms use a common resource (a river or a forest, for example) to produce output. s the total amount of the resource used by the two firms increases, each firm can produce less output. Denote by r; the amount of the resource used by firm i. Assume that firm i's output is ;(1-1-2) if1 t2 1, and zero otherwise. Each firm i chooses 7; to maximize its output. Formulate this situation as a strategic game. Find the Nash equilibria of the game. Find an action profile (x1, T2) at which each firm's output is higher than it is at any Nash equilibrium. [11:55 PM, 2/2/2022] Fridah: I. Consider the following demand and supply curves:

QD = 40 - 15P

QS = 6 + 2P

1. Plot both functions.

2. Use these two equations to solve for the market clearing (equilibrium) price and quantity.

3. Obtain the consumer and producer surplus in this case.

II. An entrepreneur has the opportunity to start a firm. The entrepreneur's current income is $300,000. Should the entrepreneur start the firm? Use the following data to compute the profit from the start up. Suppose that the entrepreneur knows that:

Firm revenue: $6,000,000

Wage Costs: $4,500,000

Capital Costs (machines, buildings, etc.): $1,000,000

Should the entrepreneur start the firm? Hint: Compute profit. Suppose that capital costs rise to $5,000,000 all else the same. Should the entrepre...

: Suppose the domestic market demand for cars (in thousands) is given as P = 100 - 2Q and domestic supply is given as P = 10 + Q

If the world price is $20,000, what would the gains from trade be from opening the economy to the international market?

Suppose the government wants to cut imports in half. Explain in detail two different ways they could achieve this goal.

What is the deadweight loss associated with the trade policies detailed in part (b)?

Is one of these policies detailed in part (b) preferred? Explain why or why not.

If two firms have the same constant marginal cost, they earn zero profits in the Bertrand equilibrium. This depends crucially on the feature that the goods involved are perfect substitutes. If products are differentiated instead, then the Bertrand equilibrium can lead to positive profits. The products are differentiated when consumers consider them only imperfect substitutes Whilst a consumer may be unwilling to buy the product of one producer, she will have the incentive to do this if the price of their favorite product becomes too high. To model this we allow the demand for each good to depend not only on its own price but also on the price of the other good. Assume for example that the demand for the good produced by F irm1, q1, and the demand for the good produced by F irm2, q2, are described by the following functions: q1 = 180 p1 (p1 p) q2 = 180 p2 (p2 p) 6 where p is the average price that is taken over the prices of the two firms. Each firm has average (and marginal) cost c = 20. Suppose the firms can only choose between the three prices {94, 84, 74}. 1. Compute the profits of the firms under the 9 different price combinations that are possible in the model. 2. Using you answer to the previous point, construct the 3x3 payoff matrix for the normal form game where the payoffs are given by the profits of the firms 3. Find the (Bertrand-)Nash equilibrium of this game. What are the profits at this equilibrium?

Problem 2: Location Choice. Dallas currently has an NBA team (the Mavericks). Demand for Mavericks games in Dallas is given by:

PD(QD) = 160 2QD Austin does not currently have an NBA team, but they would like to attract the Mavericks.

Demand for Mavericks games in Austin is given by: PA(QA) = 180 2QA

The marginal cost of production in both cities is constant at MC = 40.

2. Suppose now that cities can offer subsidies (i.e., bids) to attract the team.

a) What is the highest subsidy that Dallas would offer the team to stay?

b) What is the highest subsidy that Austin would offer the team to move?

c) Will the team move to Austin?

d) How much is the winning subsidy? e) What is the profit plus subsidy for the team?

f) What is consumer surplus minus the subsidy?

Problem 2: Location Choice. Dallas currently has an NBA team (the Mavericks). Demand for Mavericks games in Dallas is given by:

PD(QD) = 160 2QD Austin does not currently have an NBA team, but they would like to attract the Mavericks.

Demand for Mavericks games in Austin is given by: PA(QA) = 180 2QA

The marginal cost of production in both cities is constant at MC = 40.

3. Suppose that the consumer surplus in Dallas is actually 2000, but all other values remain the same.

a) If subsidies are banned, where would the team locate? b) If subsidies are allowed, would the team move to Austin?

c) If subsidies are allowed, how much is the winning subsidy? d) If subsidies are allowed, what is the profit plus subsidy for the team?

e) If subsidies are allowed, what is consumer surplus minus the subsidy?

[1:41 AM, 10/28/2021] Fridah: Consider a country that produces and consumes Good X and Good Y.

True or False: A tax on the production of Good X always has the same impact as an equivalent tax on consumers of Good X because the tax creates a wedge between the price that consumers pay and the price that producers receive. All points will be awarded based on your explanation. Feel free to use a diagram to show your answer.

[Note: A statement can be false because a part of the statement is false or because the logic connecting parts of the statement is incorrect.] [1:51 AM, 10/28/2021] Fridah: 1.Suppose you have two part-time jobs, Restaurant Server and Uber Driver. After younger servers start working for less, employers pay only $11 instead of $14 per hour. What happens to your supply of hours for Uber driving? Explain.

2.The current bank interest is 10%. You borrow $20,000 from the bank as well as invest $20,000 of your own money in a new business for a year. Detail the obvious costs and the implicit costs (hidden opportunity costs) for both amounts of money you are investing.

3.Would you rather have higher inflation or higher unemployment? What are the reasons behind your personal choices?

4.Banks, like other businesses, operate to make profits. Are there reasons why banks should be subject to more government regulations than, for example a shoe store or dollar store? Explain your answer.

5.Recently, the Bank of Canada lowered its target for the overnight rate by 50 bases points to 0.25 percent in order to provide support to Canada's financial system. Explain how this change affects your decision to buy or not your own house.

Suppose that a country experiences a reduction in productivity due to an increase in regulations on its energy sector. This is the equivalent of an adverse shock to the country's production function.

a) What will happen to the labor demand curve? Explain.

b) How would this change in productivity affect the labor market - that is employment, unemployment, and real wages - once the labor market reaches a new equilibrium?

c) How would this change in productivity affect the labor market in a country where the unionization of the labor force is relatively high and unions prevent real wages from falling?

2. Suppose a country has a money demand function:

(M/P)d = kY, where k is a constant parameter

Let's assume that the Money Supply grows by 10%/year and Real Income grows by

3%/year.

a) What is the average rate of inflation?

b) If real income growth was higher, how would that affect the inflation rate? Explain.

c) What is the economic meaning of k? How is it related to monetary velocity? Explain.

d) If the growth rate of monetary velocity increased steadily due to technical innovations,

how would that affect the rate of inflation? Explain.

BUSM

Consider a household whose utility is determined by its consumption in periods 0 and 1. Let c0 and c1 denote the consumption in periods 0 and 1, respectively. The utility of this household can be represented by a utility function:

U(c0, c1) = u(c0) + u(c1)

Assume further that the per-period utility u(c) is given by u(c) = log c, and the discount factor

is given by = 9/10. In periods 0 and 1, this household is endowed with incomes y0 = 190 and

y1 = 380, respectively. Importantly, this household can save or borrow in period 0 at the interest rate r = 1/9

(g) Solve the intertemporal optimization problem. Does this household save? Or borrow? By how much?

(h) Explain what 'consumption smoothing' means. Does this household smooth its consumption?

(i) In the c0-c1 plot, illustrate the point of income endowment, the optimum, the intertemporal budget constraint, and the indifference curve passing the optimum. Indicate the amount of bor- rowing /saving in this plot.

(j) Assume that the interest rate changes from r = 1/9 to r = 2/9 . Find the new optimum. Does this household still smooth consumption?

(k) Describe the three channels (the substitution effect, the positive wealth effect, and the negative wealth effect) through which the interest rate change described in question (j) affects the optimal consumption bundle.

(l) In the cA-cB plot, illustrate how the optimum, the intertemporal budget constraint, and the indifference curve passing the optimum have changed as a result of the interest rate change de- scribed in question (j). On the same plot, graphically decompose the shift of the optimum into the shifts caused by the wealth effect (i.e. the combined effect of the positive and negative wealth effects) and the substitution effect.

(m) Central banks decrease interest rates when they want to boost up the aggregate demand of the economy. (Such an action by a central bank is often called an 'expansionary monetary policy'.) In a fully-fledged, large-scale macroeconomic model that many central banks practically use, the substitution effect dominates among the three channels (the substitution effect, the positive wealth effect, and the negative wealth effect) because the positive and negative wealth effects nearly cancel out each other. Using the substitution effect we study in the two-period intertemporal optimization model presented in Q2, explain why a decrease in the interest rate can boost up the current aggregate demand.

[11:45 PM, 2/2/2022] Fridah: Problem 6. Iwo irms use a common resource (a river or a forest, for example) to produce output. s the total amount of the resource used by the two firms increases, each firm can produce less output. Denote by r; the amount of the resource used by firm i. Assume that firm i's output is ;(1-1-2) if1 t2 1, and zero otherwise. Each firm i chooses 7; to maximize its output. Formulate this situation as a strategic game. Find the Nash equilibria of the game. Find an action profile (x1, T2) at which each firm's output is higher than it is at any Nash equilibrium. [11:55 PM, 2/2/2022] Fridah: I. Consider the following demand and supply curves:

QD = 40 - 15P

QS = 6 + 2P

1. Plot both functions.

2. Use these two equations to solve for the market clearing (equilibrium) price and quantity.

3. Obtain the consumer and producer surplus in this case.

II. An entrepreneur has the opportunity to start a firm. The entrepreneur's current income is $300,000. Should the entrepreneur start the firm? Use the following data to compute the profit from the start up. Suppose that the entrepreneur knows that:

Firm revenue: $6,000,000

Wage Costs: $4,500,000

Capital Costs (machines, buildings, etc.): $1,000,000

Should the entrepreneur start the firm? Hint: Compute profit. Suppose that capital costs rise to $5,000,000 all else the same. Should the entrepre...

: Suppose the domestic market demand for cars (in thousands) is given as P = 100 - 2Q and domestic supply is given as P = 10 + Q

If the world price is $20,000, what would the gains from trade be from opening the economy to the international market?

Suppose the government wants to cut imports in half. Explain in detail two different ways they could achieve this goal.

What is the deadweight loss associated with the trade policies detailed in part (b)?

Is one of these policies detailed in part (b) preferred? Explain why or why not.

If two firms have the same constant marginal cost, they earn zero profits in the Bertrand equilibrium. This depends crucially on the feature that the goods involved are perfect substitutes. If products are differentiated instead, then the Bertrand equilibrium can lead to positive profits. The products are differentiated when consumers consider them only imperfect substitutes Whilst a consumer may be unwilling to buy the product of one producer, she will have the incentive to do this if the price of their favorite product becomes too high. To model this we allow the demand for each good to depend not only on its own price but also on the price of the other good. Assume for example that the demand for the good produced by F irm1, q1, and the demand for the good produced by F irm2, q2, are described by the following functions: q1 = 180 p1 (p1 p) q2 = 180 p2 (p2 p) 6 where p is the average price that is taken over the prices of the two firms. Each firm has average (and marginal) cost c = 20. Suppose the firms can only choose between the three prices {94, 84, 74}. 1. Compute the profits of the firms under the 9 different price combinations that are possible in the model. 2. Using you answer to the previous point, construct the 3x3 payoff matrix for the normal form game where the payoffs are given by the profits of the firms 3. Find the (Bertrand-)Nash equilibrium of this game. What are the profits at this equilibrium?

Problem 2: Location Choice. Dallas currently has an NBA team (the Mavericks). Demand for Mavericks games in Dallas is given by:

PD(QD) = 160 2QD Austin does not currently have an NBA team, but they would like to attract the Mavericks.

Demand for Mavericks games in Austin is given by: PA(QA) = 180 2QA

The marginal cost of production in both cities is constant at MC = 40.

2. Suppose now that cities can offer subsidies (i.e., bids) to attract the team.

a) What is the highest subsidy that Dallas would offer the team to stay?

b) What is the highest subsidy that Austin would offer the team to move?

c) Will the team move to Austin?

d) How much is the winning subsidy? e) What is the profit plus subsidy for the team?

f) What is consumer surplus minus the subsidy?

Problem 2: Location Choice. Dallas currently has an NBA team (the Mavericks). Demand for Mavericks games in Dallas is given by:

PD(QD) = 160 2QD Austin does not currently have an NBA team, but they would like to attract the Mavericks.

Demand for Mavericks games in Austin is given by: PA(QA) = 180 2QA

The marginal cost of production in both cities is constant at MC = 40.

3. Suppose that the consumer surplus in Dallas is actually 2000, but all other values remain the same.

a) If subsidies are banned, where would the team locate? b) If subsidies are allowed, would the team move to Austin?

c) If subsidies are allowed, how much is the winning subsidy? d) If subsidies are allowed, what is the profit plus subsidy for the team?

e) If subsidies are allowed, what is consumer surplus minus the subsidy?

[1:41 AM, 10/28/2021] Fridah: Consider a country that produces and consumes Good X and Good Y.

True or False: A tax on the production of Good X always has the same impact as an equivalent tax on consumers of Good X because the tax creates a wedge between the price that consumers pay and the price that producers receive. All points will be awarded based on your explanation. Feel free to use a diagram to show your answer.

[Note: A statement can be false because a part of the statement is false or because the logic connecting parts of the statement is incorrect.] [1:51 AM, 10/28/2021] Fridah: 1.Suppose you have two part-time jobs, Restaurant Server and Uber Driver. After younger servers start working for less, employers pay only $11 instead of $14 per hour. What happens to your supply of hours for Uber driving? Explain.

2.The current bank interest is 10%. You borrow $20,000 from the bank as well as invest $20,000 of your own money in a new business for a year. Detail the obvious costs and the implicit costs (hidden opportunity costs) for both amounts of money you are investing.

3.Would you rather have higher inflation or higher unemployment? What are the reasons behind your personal choices?

4.Banks, like other businesses, operate to make profits. Are there reasons why banks should be subject to more government regulations than, for example a shoe store or dollar store? Explain your answer.

5.Recently, the Bank of Canada lowered its target for the overnight rate by 50 bases points to 0.25 percent in order to provide support to Canada's financial system. Explain how this change affects your decision to buy or not your own house.

Suppose that a country experiences a reduction in productivity due to an increase in regulations on its energy sector. This is the equivalent of an adverse shock to the country's production function.

a) What will happen to the labor demand curve? Explain.

b) How would this change in productivity affect the labor market - that is employment, unemployment, and real wages - once the labor market reaches a new equilibrium?

c) How would this change in productivity affect the labor market in a country where the unionization of the labor force is relatively high and unions prevent real wages from falling?

2. Suppose a country has a money demand function:

(M/P)d = kY, where k is a constant parameter

Let's assume that the Money Supply grows by 10%/year and Real Income grows by

3%/year.

a) What is the average rate of inflation?

b) If real income growth was higher, how would that affect the inflation rate? Explain.

c) What is the economic meaning of k? How is it related to monetary velocity? Explain.

d) If the growth rate of monetary velocity increased steadily due to technical innovations,

how would that affect the rate of inflation? Explain.

BUSM

Consider a household whose utility is determined by its consumption in periods 0 and 1. Let c0 and c1 denote the consumption in periods 0 and 1, respectively. The utility of this household can be represented by a utility function:

U(c0, c1) = u(c0) + u(c1)

Assume further that the per-period utility u(c) is given by u(c) = log c, and the discount factor

is given by = 9/10. In periods 0 and 1, this household is endowed with incomes y0 = 190 and

y1 = 380, respectively. Importantly, this household can save or borrow in period 0 at the interest rate r = 1/9

(g) Solve the intertemporal optimization problem. Does this household save? Or borrow? By how much?

(h) Explain what 'consumption smoothing' means. Does this household smooth its consumption?

(i) In the c0-c1 plot, illustrate the point of income endowment, the optimum, the intertemporal budget constraint, and the indifference curve passing the optimum. Indicate the amount of bor- rowing /saving in this plot.

(j) Assume that the interest rate changes from r = 1/9 to r = 2/9 . Find the new optimum. Does this household still smooth consumption?

(k) Describe the three channels (the substitution effect, the positive wealth effect, and the negative wealth effect) through which the interest rate change described in question (j) affects the optimal consumption bundle.

(l) In the cA-cB plot, illustrate how the optimum, the intertemporal budget constraint, and the indifference curve passing the optimum have changed as a result of the interest rate change de- scribed in question (j). On the same plot, graphically decompose the shift of the optimum into the shifts caused by the wealth effect (i.e. the combined effect of the positive and negative wealth effects) and the substitution effect.

(m) Central banks decrease interest rates when they want to boost up the aggregate demand of the economy. (Such an action by a central bank is often called an 'expansionary monetary policy'.) In a fully-fledged, large-scale macroeconomic model that many central banks practically use, the substitution effect dominates among the three channels (the substitution effect, the positive wealth effect, and the negative wealth effect) because the positive and negative wealth effects nearly cancel out each other. Using the substitution effect we study in the two-period intertemporal optimization model presented in Q2, explain why a decrease in the interest rate can boost up the current aggregate demand.

[11:45 PM, 2/2/2022] Fridah: Problem 6. Iwo irms use a common resource (a river or a forest, for example) to produce output. s the total amount of the resource used by the two firms increases, each firm can produce less output. Denote by r; the amount of the resource used by firm i. Assume that firm i's output is ;(1-1-2) if1 t2 1, and zero otherwise. Each firm i chooses 7; to maximize its output. Formulate this situation as a strategic game. Find the Nash equilibria of the game. Find an action profile (x1, T2) at which each firm's output is higher than it is at any Nash equilibrium. [11:55 PM, 2/2/2022] Fridah: I. Consider the following demand and supply curves:

QD = 40 - 15P

QS = 6 + 2P

1. Plot both functions.

2. Use these two equations to solve for the market clearing (equilibrium) price and quantity.

3. Obtain the consumer and producer surplus in this case.

II. An entrepreneur has the opportunity to start a firm. The entrepreneur's current income is $300,000. Should the entrepreneur start the firm? Use the following data to compute the profit from the start up. Suppose that the entrepreneur knows that:

Firm revenue: $6,000,000

Wage Costs: $4,500,000

Capital Costs (machines, buildings, etc.): $1,000,000

Should the entrepreneur start the firm? Hint: Compute profit. Suppose that capital costs rise to $5,000,000 all else the same. Should the entrepre...

: Suppose the domestic market demand for cars (in thousands) is given as P = 100 - 2Q and domestic supply is given as P = 10 + Q

If the world price is $20,000, what would the gains from trade be from opening the economy to the international market?

Suppose the government wants to cut imports in half. Explain in detail two different ways they could achieve this goal.

What is the deadweight loss associated with the trade policies detailed in part (b)?

Is one of these policies detailed in part (b) preferred? Explain why or why not.

If two firms have the same constant marginal cost, they earn zero profits in the Bertrand equilibrium. This depends crucially on the feature that the goods involved are perfect substitutes. If products are differentiated instead, then the Bertrand equilibrium can lead to positive profits. The products are differentiated when consumers consider them only imperfect substitutes Whilst a consumer may be unwilling to buy the product of one producer, she will have the incentive to do this if the price of their favorite product becomes too high. To model this we allow the demand for each good to depend not only on its own price but also on the price of the other good. Assume for example that the demand for the good produced by F irm1, q1, and the demand for the good produced by F irm2, q2, are described by the following functions: q1 = 180 p1 (p1 p) q2 = 180 p2 (p2 p) 6 where p is the average price that is taken over the prices of the two firms. Each firm has average (and marginal) cost c = 20. Suppose the firms can only choose between the three prices {94, 84, 74}. 1. Compute the profits of the firms under the 9 different price combinations that are possible in the model. 2. Using you answer to the previous point, construct the 3x3 payoff matrix for the normal form game where the payoffs are given by the profits of the firms 3. Find the (Bertrand-)Nash equilibrium of this game. What are the profits at this equilibrium?

Problem 2: Location Choice. Dallas currently has an NBA team (the Mavericks). Demand for Mavericks games in Dallas is given by:

PD(QD) = 160 2QD Austin does not currently have an NBA team, but they would like to attract the Mavericks.

Demand for Mavericks games in Austin is given by: PA(QA) = 180 2QA

The marginal cost of production in both cities is constant at MC = 40.

2. Suppose now that cities can offer subsidies (i.e., bids) to attract the team.

a) What is the highest subsidy that Dallas would offer the team to stay?

b) What is the highest subsidy that Austin would offer the team to move?

c) Will the team move to Austin?

d) How much is the winning subsidy? e) What is the profit plus subsidy for the team?

f) What is consumer surplus minus the subsidy?

Problem 2: Location Choice. Dallas currently has an NBA team (the Mavericks). Demand for Mavericks games in Dallas is given by:

PD(QD) = 160 2QD Austin does not currently have an NBA team, but they would like to attract the Mavericks.

Demand for Mavericks games in Austin is given by: PA(QA) = 180 2QA

The marginal cost of production in both cities is constant at MC = 40.

3. Suppose that the consumer surplus in Dallas is actually 2000, but all other values remain the same.

a) If subsidies are banned, where would the team locate? b) If subsidies are allowed, would the team move to Austin?

c) If subsidies are allowed, how much is the winning subsidy? d) If subsidies are allowed, what is the profit plus subsidy for the team?

e) If subsidies are allowed, what is consumer surplus minus the subsidy?

[1:41 AM, 10/28/2021] Fridah: Consider a country that produces and consumes Good X and Good Y.

True or False: A tax on the production of Good X always has the same impact as an equivalent tax on consumers of Good X because the tax creates a wedge between the price that consumers pay and the price that producers receive. All points will be awarded based on your explanation. Feel free to use a diagram to show your answer.

[Note: A statement can be false because a part of the statement is false or because the logic connecting parts of the statement is incorrect.] [1:51 AM, 10/28/2021] Fridah: 1.Suppose you have two part-time jobs, Restaurant Server and Uber Driver. After younger servers start working for less, employers pay only $11 instead of $14 per hour. What happens to your supply of hours for Uber driving? Explain.

2.The current bank interest is 10%. You borrow $20,000 from the bank as well as invest $20,000 of your own money in a new business for a year. Detail the obvious costs and the implicit costs (hidden opportunity costs) for both amounts of money you are investing.

3.Would you rather have higher inflation or higher unemployment? What are the reasons behind your personal choices?

4.Banks, like other businesses, operate to make profits. Are there reasons why banks should be subject to more government regulations than, for example a shoe store or dollar store? Explain your answer.

5.Recently, the Bank of Canada lowered its target for the overnight rate by 50 bases points to 0.25 percent in order to provide support to Canada's financial system. Explain how this change affects your decision to buy or not your own house.

Suppose that a country experiences a reduction in productivity due to an increase in regulations on its energy sector. This is the equivalent of an adverse shock to the country's production function.

a) What will happen to the labor demand curve? Explain.

b) How would this change in productivity affect the labor market - that is employment, unemployment, and real wages - once the labor market reaches a new equilibrium?

c) How would this change in productivity affect the labor market in a country where the unionization of the labor force is relatively high and unions prevent real wages from falling?

2. Suppose a country has a money demand function:

(M/P)d = kY, where k is a constant parameter

Let's assume that the Money Supply grows by 10%/year and Real Income grows by

3%/year.

a) What is the average rate of inflation?

b) If real income growth was higher, how would that affect the inflation rate? Explain.

c) What is the economic meaning of k? How is it related to monetary velocity? Explain.

d) If the growth rate of monetary velocity increased steadily due to technical innovations,

how would that affect the rate of inflation? Explain.