Example-Topics Mid Term

Exam Questions
2 out of 4 questions
Duration: 90 minutes
Example 1: Nominal and Real GDP
Apples Oranges
Price ($) Quantity Price ($) Quantity
2015 50 10 20 50
2016 100 20 30 100
2017 150 20 50 200

Nominal GDP $
2015 ($50 ✕ 10) + ($20 ✕ 50) = 1500
2016 ($100 ✕ 20) + ($30 ✕ 100) = 5000 Note that the base
2017 ($150 ✕ 20) + ($50 ✕ 200) = 13000 year’s nominal and
real GDP must be
Real GDP (Base year 2015) 2015 $ the same.
2015 ($50 ✕ 10) + ($20 ✕ 50) = 1500
2016 ($50 ✕ 20) + ($20 ✕ 100) = 3000
2017 ($50 ✕ 20) + ($20 ✕ 200) = 5000
Nominal and Real GDP
Apples Oranges
Price ($) Quantity Price ($) Quantity
2015 50 10 20 50
New value − Old value
2016 100 20 30 100 Growth Rate = 100
Old value
2017 150 20 50 200

Nominal GDP $ Growth Rate (%)

2015 ($50 ✕ 10) + ($20 ✕ 50) = 1500
2016 ($100 ✕ 20) + ($30 ✕ 100) = 5000 100 ✕ [(5000 – 1500)/ 1500] = 233
2017 ($150 ✕ 20) + ($50 ✕ 200) = 13000 100 ✕ [(13000 – 5000)/ 5000] = 160

Real GDP (Base year 2015) 2015 $

2015 ($50 ✕ 10) + ($20 ✕ 50) = 1500
2016 ($50 ✕ 20) + ($20 ✕ 100) = 3000 100 ✕ [(3000 – 1500)/ 1500] = 100
2017 ($50 ✕ 20) + ($20 ✕ 200) = 5000 100 ✕ [(5000 – 3000)/ 3000] = 67
Example 2: If 2021 is the base year and the CPI in
2022 is 120 find the RGDP in 2021 and 2022

NGDP RGDP CPI

2021 140
2022 175 120

Where N stands for nominal and R for Real.

If 2021 is the base year and the CPI in 2022 is
120 find the RGDP in 2021 and 2022
NGDP RGDP CPI
2021 140 140 100
2022 175 146 120

In the base year CPI is always 100 and we have:

𝑁𝐺𝐷𝑃 2021 140

𝑅𝐺𝐷𝑃 𝑖𝑛 2021 = × 100 = 100 × 100 = 140
𝐶𝑃𝐼2021

𝑁𝐺𝐷𝑃 2022 175

𝑅𝐺𝐷𝑃 𝑖𝑛 2021 = × 100 = 120 × 100 = 146
𝐶𝑃𝐼2022
 Find the economic growth? Or the percentage
change of NGDP and RGDP in 2021-2022
NGDP RGDP CPI
2021 140 140 100
2022 175 146 120

𝑁𝐺𝐷𝑃 2022 −𝑁𝐺𝐷𝑃2021 175−140

𝑃𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 𝑐ℎ𝑎𝑛𝑔𝑒 𝑁𝐺𝐷𝑃 = × 100 = × 100 =25%
𝑁𝐺𝐷𝑃2021 140

𝑅𝐺𝐷𝑃 2022 −𝑅𝐺𝐷𝑃2021 146−140

𝑃𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 𝑐ℎ𝑎𝑛𝑔𝑒 𝑅𝐺𝐷𝑃 = 𝑅𝐺𝐷𝑃2021
× 100 = 140
× 100 = 4.3%
 Find the inflation rate

NGDP RGDP CPI

2021 140 140 100
2022 175 146 120

𝐶𝑃𝐼 2022 −𝐶𝑃𝐼2021 120−100

𝑖𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 𝑟𝑎𝑡𝑒 𝑖𝑛 2022 = × 100 = × 100 =20%
𝐶𝑃𝐼2021 100
 Example 3: Find the GDP Deflator and the
inflation rate
Nom. Real GDP inflation
GDP GDP deflator rate
2010 $46,200 $46,200 100.0 n.a.
2011 51,400 50,000 102.8 2.8%
2012 58,300 52,000 112.1 9.1%

For 2010 we have (46200/46200)*100=100

For 2011 we have (51400/50000)*100=102.8
For 2011 we have (58300/52000)*100=112.1
 Nom. Real GDP inflation
GDP GDP deflator rate
2010 $46,200 $46,200 100.0 n.a.
2011 51,400 50,000 102.8 2.8%
2012 58,300 52,000 112.1 9.1%

𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2011 −𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2010 102.8−100

Inflation rate for 2011 is × 100 = × 100 = 2.8%
𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2010 100

𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2012 −𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2011 111.1−102.8

Inflation rate for 2012 is × 100 = × 100 = 9.1%
𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2011 102.8
• Inflation rate between 2010-2012 is
𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2012 −𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2010 112.1−100
× 100 = × 100 = 12.1%
𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2010 100

• Average Inflation rate in 2010-2012 is

𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2012 −𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2010
• /Number of Years
𝐺𝐷𝑃 𝐷𝑒𝑓𝑙𝑎𝑡𝑜𝑟2010
• 12.1%/2=6.05%
Examples: Consumer Price Index
Consumer price index (CPI) measures changes in the prices of goods
and services bought by households
➢calculated using a weighted average of the prices of various goods
and services it tracks
➢We keep the quantities fixed (use the quantities of the base year) and
the current prices.
Constant Weight Price Index =

sum of current prices weighted by base quantities

* 100
sum of base prices weighted by base quantities
Table 7 Calculation of a Constant-Weight Price Index
(1) (2) (3) (4)
Description Price per kilogram Quantity in base Sum of (prices ×
(€) year base quantities)
(2) × (3)] (€)
Year 1 (Base)
Apples €1.00 100 €100
Oranges €2.00 50 €100
€200
Year 2
Apples €1.50 100 €150
Oranges €2.00 50 €100
€250
*Bold type indicates base year quantities
Table 8. Calculation of a Constant-Weight Price Index
(1) (2) (3) (4)
Description Price per kilogram Quantity in base year Sum of (prices × base
(€) quantities) (2) × (3)] (€)
Year 1 (Base)
Apples €1.00 100 €100
Oranges €2.00 50 €100
€200 €200
CPI1 = * 100 = 100
€200
Year 2
Apples €1.50 100 €150
Oranges €2.00 50 €100
€250 €250
CPI2 = * 100 = 125
€200
*Bold type indicates base year quantities
 Similar Example: Compute the CPI
The basket contains 20 pizzas and
10 i-Tunes in 2009. If the quantities vary by year, we consider the base year
(2009 in this case). Thus, we multiply the current prices with the quantitiesof
the base year

For each year, compute

prices:
▪ the cost of the basket
pizza iTunes
▪ the CPI (use 2009 as
2009 $10 $15 the base year)
2010 $11 $15 ▪ the inflation rate from
2011 $12 $16 the preceding year
2012 $13 $15
Example 4
cost of inflation
basket CPI rate
2009 $350 100.0 n.a.
2010 370 105.7 5.7%
2011 400 114.3 8.1%
2012 410 117.1 2.5%
 Quantity
Price Pizza Pizza Price iTunes Quantity iTunes Cost of Basket
Price Pizza × Quantity Pizza + Price iTunes × Quantity iTunes=
10 20 15 10 10*20+15*10=200+250=350

11 20 15 10 11*20+15*10=220+150=370

12 20 16 10 12*20+16*10=240+160=400

13 20 15 10 13*20+15*10=260+150=410
𝐶𝑜𝑠𝑡 𝑜𝑓 𝐵𝑎𝑠𝑘𝑒𝑡 𝑖𝑛 𝑡ℎ𝑎𝑡 𝑦𝑒𝑎𝑟
×100
𝐶𝑜𝑠𝑡 𝑜𝑓 𝐵𝑎𝑠𝑘𝑒𝑡 𝑖𝑛 𝑏𝑎𝑠𝑒 𝑦𝑒𝑎𝑟
cost of inflation
basket CPI rate
2009 $350 100.0 n.a.
2010 370 105.7 5.7%
2011 400 114.3 8.1%
2012 410 117.1 2.5%

𝐶𝐵 2009 350
The CPI for 2009 is = × 100 = 100
𝐶𝐵2009 350

𝐶𝐵2010 370
The CPI for 2010 is = × 100=105.7
𝐶𝐵2009 350

𝐶𝐵2011 400
The CPI for 2011 is = × 100 = 114.3
𝐶𝐵2009 350

𝐶𝐵2012 410
The CPI for 2012 is = × 100 = 117.1
𝐶𝐵2009 350
 Example 5: Included or not
Included in GDP?
1. $10.00 for movie tickets YES
2. $5M Increase in defense expenditures YES
X $45 for used economics textbook NO
4. Ford makes new $2M factory YES
X $20K Toyota made and sold in Mexico NO
6. $15K car made in US, but sold in Canada YES
Example 6:
How Is Unemployment Measured?
• The unemployment rate is the percentage of the labour force that is
unemployed.

𝑁𝑢𝑚𝑏𝑒𝑟 𝑈𝑛𝑒𝑚𝑝𝑙𝑜𝑦𝑒𝑑
Unemployment Rate = × 100
𝐿𝑎𝑏𝑜𝑢𝑟 𝐹𝑜𝑟𝑐𝑒
How Is Unemployment Measured?

• The labour-force participation rate is the percentage of the adult

population that is in the labour force.

𝐿𝑎𝑏𝑜𝑢𝑟 𝐹𝑜𝑟𝑐𝑒
• Labour Force Participation Rate = × 100
𝐴𝑑𝑢𝑙𝑡 𝑃𝑜𝑝𝑢𝑙𝑎𝑡𝑖𝑜𝑛
Using the information for countries A and B in the following table, estimate the unemployment and labour
force participation rates. Which country has the highest unemployment rate, and which one has the
highest labour force participation rate?
Country A Country B
Total Adult Population (over the age of 95 million 97 million
15)
Employed 72 million 71 million
Unemployed 5 million 9 million
Answer
Country A:
Unemployment rate=(unemployed/labour force)*100
Where labour force= Employed + Unemployed=72+5=77
Unemployment rate=(5/77)*100=6.5%

Labour force participation rate =(labour force/ total adult population)*100

Labour force participation rate =(77/95)*100=81.05%
• Country B:

• labour force= Employed + Unemployed=71+9=80

• Unemployment rate=(9/80)*100=11.25%

• labour force= Employed + Unemployed=71+9=80

• Labour force participation rate =(80/97)*100=82.47%

• Country B has a higher unemployment rate at 11.25% compared to country A with 6.5%.

• On the other hand, country B has a higher labour force participation rate at 82.47% than country A with
81.05%.
Why Are There Always Some People Unemployed?
• Frictional unemployment refers to the unemployment that results
from the time that it takes to match workers with jobs.
• It takes time for workers to search for the jobs that best suit their tastes and
skills.
• It refers to the brief periods of unemployment experienced by people moving
between jobs or into the labour market
• This unemployment occurs even when labour supply equals labour demand
Wage Labour Supply

WE

Labour Demand

QE Quantity of
labour
Frictional Unemployment (file “Notes_Phillips Curve”)
• Frictional unemployment differs from other unemployment in three
ways:
• There is an adequate demand for the labour of the
frictionally unemployed.
• The frictionally unemployed have the skills required for
existing jobs.
• The job-search period will be relatively short.

Job search
is the process by which workers find appropriate jobs given
their tastes and skills.
it results from the fact that it takes time for qualified individuals
to be matched with appropriate jobs.
JOB SEARCH
• This unemployment is different from the other types of
unemployment.
• It is not caused by a wage rate higher than equilibrium.
• It is caused by the time spent searching for the “right” job.
Why Some Frictional Unemployment is Inevitable

• Search unemployment is inevitable because the economy is always

changing.
• Changes in the composition of demand among industries or regions
are called sectoral shifts.
• It takes time for workers to search for and find jobs in new sectors.
• Structural unemployment (lecture slides week 4 and the file
“Notes_Phillips Curve”)
Example 7: With reference to the Phillips Curve, examine how the addition of adaptive
expectations can explain rising inflation in the long run in an attempt to reduce
unemployment. Would the addition of rational expectations generate the same result? (file
“Notes_Phillips Curve”)
The Phillips Curve and SRAS

e n
Phillips curve:  =  −  (u − u ) + 
• SRAS curve:
output is related to unexpected movements in
the price level
• Phillips curve:
unemployment is related to unexpected
movements in the inflation rate
Adaptive expectations
• Adaptive expectations: an approach that assumes
people form their expectations of future inflation
based on recently observed inflation.
• A simple example:
Expected inflation = last year’s actual inflation

 e =  −1

▪ Then, the P.C. becomes

n
 =  −1 −  (u − u ) + 
Inflation inertia
n
 =  −1 −  (u − u ) + 
• In this form, the Phillips curve implies that
inflation has inertia:
• In the absence of supply shocks or cyclical
unemployment, inflation will continue indefinitely at
its current rate.
• Past inflation influences expectations of current
inflation, which in turn influences the wages &
prices that people set.
The expectations-augmented
Phillips curve

• The expectations-augmented Phillips curve

 =  e −  (u − u n ) + 

• When  = e, u = 𝑢𝑛

• When   e, u  𝑢𝑛

• When   e, u  𝑢𝑛
 How would ‘rational’ expectations affect analysis?
Boost to economy
(inflationary)
• If we take an Adaptive
Expectations Phillips Inflation
Pe=2%
Curve, we can show
what would change….
• N = ‘natural rate’ 4%
• (means what??)
• So in effect we have a
vertical Phillips Curve in 2%
the Long Run

N Pe=4% Unemployment
Pe=0%
 How would ‘rational’ expectations affect analysis?

• A rational expectations version Inflation

of this would do something
similar….
• But would adjust to any
(inflationary) boost instantly
• You would always be at the Inflation = Pe = 4%
natural rate, just with E
different levels of inflation D
depending on government
actions

Inflation = Pe = 2% C
B
A

u=3 un=5 Unemployment

Pe=0%
 ‘Rational expectations’ Phillips Curve

• And as these changes Inflation

happen instantly, we
would really just move
up and down inflation
levels at
Unemployment N Inflation = Pe = 4%
• A vertical Phillips
Curve in the Short Run
(and Long Run)
Inflation = Pe = 2%

N Unemployment
Pe=0%
Example 8
• Using the Expectations Augmented Phillips curve, illustrate and
explain how the failure to erode inflationary expectations can
increase the costs of attempts to reduce the rate of inflation
Example 9
• The economy has the Phillips curve: π = π-1 - 0.5(u-0.06), where β=-
0.5 and un (natural unemployment rate) is 0.06 or 6%. The economy
targets a disinflation of 5 percentage points. Find the cyclical
unemployment and the sacrifice ratio. (lecture slides week 6 and file
“Notes_Phillips Curve”)
Example 10: The sacrifice ratio
for the Volcker disinflation
• 1981:  = 9.7%
Total disinflation = 6.7%
1985:  = 3.0%

year u un u−u n
1982 9.5% 6.0% 3.5%
1983 9.5 6.0 3.5
1984 7.4 6.0 1.4
1985 7.1 6.0 1.1
Total 9.5%
The sacrifice ratio for the Volcker disinflation

• Previous slide:
• inflation fell by 6.7%
• total of 9.5% of cyclical unemployment
• Okun’s law:
each 1 percentage point of unemployment implies
lost output of 2 percentage points.
So, the 9.5% cyclical unemployment translates to
19.0% of a year’s real GDP.
• Sacrifice ratio = (lost GDP)/(total disinflation)
= 19/6.7 = 2.8 percentage points of GDP were lost
for each 1 percentage point reduction in inflation.
 Example 11: Consider an economy in long-run equilibrium with an inflation rate, π, of 12% (0.12) per year
and a natural unemployment rate, of 6% (0.06). The expectations augmented Phillips curve is:

 =  − 2(u − u )
e

Assume that Okun's law holds so that a 1 percentage point increase in the unemployment
rate maintained for one year reduces GDP by 2% of full-employment output.

a. Consider a two-year disinflation. In the first year π = 0.04 and πe =0.08. In the second
year π = 0.04 and πe = 0.04. In the first year, what is the unemployment rate? By what
percentage does output fall short of full-employment output? In the second year, what is
the unemployment rate? By what percentage does output fall short of full-employment
output? What is the sacrifice ratio for this disinflation?

Since the natural rate of unemployment is 0.06, π = πe − 2(u − 0.06), so u − 0.06 = 0.5(πe − π), or u = 0.06 + 0.5(πe − π).
u = 0.06 + 0.5(πe − π).

• Year 1: u = 0.06 + 0.5(0.08 − 0.04) = 0.06 + 0.02 = 0.08. The unemployment

rate is 0.02 higher than the natural rate. The percentage that output falls
short of full-employment output is 2 × 0.02 = 0.04, or 4%.
•
• Year 2: u = 0.06 + 0.5(0.04 − 0.04) = 0.06. The unemployment rate equals
the natural rate, since inflation equals expected inflation. Since
unemployment is at its natural rate, output is at its full-employment level.

• Since the output loss was 4 percentage points and inflation declined by 8
percentage points, the sacrifice ratio is:
• Sacrifice ratio = (lost GDP)/(total disinflation) =4/8 = 0.5.
 Example 12: find the inflation rate and the real wage in 2024. Did the
real wage increase or not, and why?
Year Nominal Wage CPI Real Wage
2023 200 100 (Nominal Wage/CPI)*100=(200/100)*100=200
2024 210 140 (Nominal Wage/CPI)*100=(210/140)*100=150
•
Year Nominal Wage Real Wage
2023 200 200
2024 210 150

The real wage reduced from 200 to 150 because the inflation was 40 per cent while the nominal wage
increased by less (5%).
𝑵𝒐𝒎𝒊𝒏𝒂𝒍 𝑾𝒂𝒈𝒆𝟐𝟎𝟐𝟒 −𝑵𝒐𝒎𝒊𝒏𝒂𝒍 𝑾𝒂𝒈𝒆𝟐𝟎𝟐𝟑 𝟐𝟏𝟎−𝟐𝟎𝟎
Nominal wage rate 2024= × 𝟏𝟎𝟎 = × 𝟏𝟎𝟎 = 𝟓%
𝑵𝒐𝒎𝒊𝒏𝒂𝒍 𝑾𝒂𝒈𝒆 𝟐𝟎𝟐𝟑 𝟐𝟎𝟎

𝑪𝑷𝑰𝟐𝟎𝟐𝟒 −𝑪𝑷𝑰𝟐𝟎𝟐𝟑 𝟏𝟒𝟎−𝟏𝟎𝟎

Inflation rate 2024= × 𝟏𝟎𝟎 = × 𝟏𝟎𝟎 = 𝟒𝟎%
𝑪𝑷𝑰𝟐𝟎𝟐𝟑 𝟐𝟎𝟎

𝑹𝒆𝒂𝒍 𝑾𝒂𝒈𝒆𝟐𝟎𝟐𝟒 −𝑹𝒆𝒂𝒍 𝑾𝒂𝒈𝒆𝟐𝟎𝟐𝟑 𝟏𝟓𝟎−𝟐𝟎𝟎

Real wage rate 2024= × 𝟏𝟎𝟎 = × 𝟏𝟎𝟎 = −𝟐𝟓%
𝑹𝒆𝒂𝒍 𝟐𝟎𝟐𝟑 𝟐𝟎𝟎
Example 13
• Exercises 1 and 3 in file “Examples IS Curve”
Other examples
• Check the pdf files “solved_examples”, “extra topics for exams” and
“Notes_Phillips Curve”
Other questions
• What it the GDP, CPI, inflation rate?
• What is Okun’s law? What is the sacrifice ratio?