This problem set is due Thursday, October 29, at the beginning of the class period. Problem sets done on notebook paper or unstapled will not be accepted. Late problem sets are unacceptable also.

1. You are given the following information about Parkland’s economy:

• Each year consumers spend $430 billion regardless of the level of their disposable income. In addition to those $430 billion, they always spend 90% of their yearly disposable income.
• Investment is fixed at $360 billion.
• Government expenditures are $250 billion.
• Net taxes equal 280.
• Exports are $430 billion.
• Imports are always equal to 80 billion plus 15% of the level of disposable income.

b) How much would net exports be when this economy is at equilibrium output?

c) Parkland’s main export product is Cheesy Puffs. Due to new medical discoveries that prove Cheesy Puff consumption enhances performance in economics exams, Parkland’s exports increase by $180 billion to a new level of $610 billion. How much would Parkland’s new equilibrium level of output be?

d) How much would net exports be when this economy is at its new equilibrium output?

e) Eric Cartman, the President of Parkland, decides that he wants equilibrium output to go back to its original level. How much would he have to increase taxes to achieve his objective?

f) How much would net exports be when the policies of Parkland’s President bring equilibrium output back to its original level?

2. In 1998 Chile faces a large international trade surplus (or positive net exports).

a) Draw a diagram representing the Chilean economy during 1998 (Hint: In this diagram, equilibrium output must occur at a level in which net exports are positive; and this should be shown in your diagram).

b) Assume that the government wants to reduce the trade surplus without changing the level of national output. Describe the changes in fiscal policy and in the exchange rate that would be necessary to achieve these objectives. Use a diagram to show the effects of your proposed policy changes.
 
 

3. You are given the following information about the U.S. economy: When unemployment is at its natural rate, which is 6 percent, government spending is 25 percent of GDP, while taxes and other government revenues are equal to 18 percent of GDP. For each 1 percentage point increase in the unemployment rate, government spending increases by 1 percentage point of GDP and taxes fall by 2 percentage points of GDP. There is no inflation.

a) In 1999, the unemployment rate is 5%. Calculate the actual, structural, and cyclical deficits (as percentages of GDP) of the U.S. government.

b) In 2000, the unemployment rate is 7%. Calculate the actual, structural, and cyclical deficits (as percentages of GDP) of the U.S. government.

c) In 2001, the unemployment rate is 9%. Calculate the actual, structural, and cyclical deficits (as percentages of GDP) of the U.S. government.

d) In 2002, the U.S. Congress and the Administration decide to cut taxes and increase government expenditures to stimulate the economy. Now you are told that when unemployment is 6 percent, government spending is 26 percent of GDP, while taxes and other government revenues are equal to 16 percent of GDP. Furthermore, as happened before, for each 1 percentage point increase in the unemployment rate, government spending increases by 1 percentage point of GNP and taxes fall by 2 percentage points of GDP. Assuming that these policies make the unemployment rate fall to 7%, calculate the actual, structural, and cyclical deficits (as percentages of GDP) of the U.S. government.

e) In 2003, the unemployment rate is 6%. Calculate the actual, structural, and cyclical deficits (as percentages of GDP) of the U.S. government (Assume that the changes that took place in 2002 are permanent).
 
 

4. You are given the following information about Googoo’s economy:

• Each year consumers spend $2,000 million regardless of the level of their disposable income. In addition to that $2,000 million, they always spend 80% of their yearly disposable income.
• Investment is fixed at $1,500 million.
• Government expenditures are $1,200 million.
• Taxes equal 25% of income.
• Exports are $2,200 million.
• Imports are always equal to $1,200 million plus 10% of the level of disposable income.

b) How much would net exports be when this economy is at equilibrium output?

c) How much would the net government surplus (or deficit) be when this economy is at equilibrium output?

d) Due to lack of confidence in the economy, Googoo’s investors decide to cut their investment level by $190 million to a new level of only $1,310 million. How much would Googoo’s new equilibrium level of output be?

e) How much would the net government surplus (or deficit) be when this economy is at its new equilibrium output? Was this change in the surplus (or deficit) due to structural or cyclical reasons? Explain.

f) Following supply-side ideas, and in order to stimulate the economy Googoo’s President, Dr. Johnny Rzeznik, cuts taxes from 25% of income to a new level of only 17% of income. How much would Googoo’s new equilibrium level of output be?

5. Visit the U.S. Office of Management and Budget web site (http://www.access.gpo.gov/su_docs/budget/index.html) and use the FY 1999 Federal Budget Publications to obtain the data necessary to answer the following questions.

a) How much was the yearly total budget deficit of the Federal Government from 1980 until 1997? (Note: You should look for the Historical Tables section, Table 1.1-Summary of Receipts, Outlays, and Surpluses or Deficits: 1789-2003 to get these numbers)

b) Was the change in the actual deficit from 1980 to 1983 mainly due to cyclical or structural reasons? Explain.

c) Was the change in the actual deficit from 1984 to 1986 mainly due to cyclical or structural reasons? Explain.

d) Was the change in the actual deficit from 1990 to 1992 mainly due to cyclical or structural reasons? Explain.

e) Was the change in the actual deficit from 1992 to 1997 mainly due to cyclical or structural reasons? Explain.

f) How much was the estimated yearly total budget surplus or deficit of the Federal Government from 1998 until 2003 according to the Historical Tables (these estimations were prepared at the beginning of 1998)?

g) How much was the estimated yearly total budget surplus or deficit of the Federal Government from 1998 until 2003 according to the Mid-Session Review Table (You need to look for Table 1. Receipts, Outlays and Surplus in the Executive Summary of this review that was prepared during the summer of 1998)?

h) Why are the two estimates from parts f) and g) different? Are these changes due to cyclical or structural reasons?