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Essentials of Economics
Chapter 10
Question 2
Intermediate goods are goods and services which are either resold or are used in the processing and manufacture other goods, thus contributing to the final product. Therefore, only final goods are counted while measuring GDP so as to avoid multiple counting. Used furniture bought and sold is not counted as part of GDP because it does not contribute to current production and, therefore, is not part of current GDP. Also, because it was counted the first time it was sold.
Question 5
Net exports are defined as a country’s exports minus its imports (X-M). Exports are goods and services produced in the US but bought by other countries, while imports are goods and services produced by other countries and purchased by the U.S. Therefore, with more exports there is an increase in domestic production, but if imports are more, then there is less domestic production. Net exports can end being a negative amount when the amount spent on imports is more than the amount exported.
Question 6
A. The services of a commercial painter painting the family home are included in the GDP because it is considered as part of the family’s consumer expenditure on the painting service.
B. An auto-dealer’s sale of a new car to a non-business customer is part of GDP because the car is a durable and final consumer good.
C. Money received by Smith when she sells her used biology textbook to a book buyer is not part of GDP because the book is not part of goods produced in the present.
D. The publication and sale of a new economics textbook is part of GDP because the new book is part of the current production and is a final good.
E. A $2 billion increase in business inventories is part of GDP because inventories is an investment. In economics, an investment is defined as the purchase of goods not for immediate consumption, but for future wealth creation. An increase in inventories means the goods are yet to be sold and consumed leading to an addition in the capital goods, thus growth in GDP.
F. Government purchase of newly produced aircraft is part of GDP because it is a government expenditure on a final good.
Question 7
To determine the levels of economic growth, supply, demand and efficiency factors have to be combined in achieving maximum output. The supply factors physically and technologically enable the economy to expand. They include increases in natural and human resources (in quality and quantity), capital goods and improved technology. In order for production to be sustained at a higher level, purchases (from government, households and people) of the increased output are essential. However, without optimally maximizing each dollar, economic growth will be compromised as the economy will not achieve full potential (or full employment.
On a possibilities curve, the supply factors, when optimally used, shift the curve outward (from BC to DE) and the demand factors ensures the economy to grow from point b to d. Along the curve, DE, optimal use of the available resources ensures that each dollar is accounted for.
Capital goods
Point b
Point d
C E Consumer goods
Chapter 11
Question 1
Business cycles are rises and declines, often in alternating form, in the level of economic activity over a period of time (years). The two primary phases of business cycles are recessions and expansions. During a recession, the GDP declines and there is a significant increase in the levels of unemployment. Also, inflation declines during a recession because people reduce their spending which leads to prices falling as a result of a reduced demand. After a recession follows a period of economic recovery and then expansion where real GDP, income, and employment levels rise. In an expansion cycle, spending tends to increase at a faster rate than production leading to an increase in prices of nearly all goods and services. Consequently, inflation rises.
Question 5
Inflation is a rise in the level of prices as each dollar buys fewer goods. The Consumer Price Index (CPI) is used to measure the levels of inflation each month. It measures the price of a basket of goods and services purchased by a typical consumer. CPI is determined by comparing the price of a market basket of consumer goods and services in one period with the price of the same basket of goods in a base period. For example, CPI for November = Price of a basket of goods in November/price of the same basket in October (base period).
The rate of inflation is then determined by comparing, in a percentage, the CPI index for the current month with the index of the previous month. For example, if the CPI for November is 250 while the CPI for October was 200, the rate of inflation would be ((250 – 200)/200) * 100 = 25%. When the CPI declines from one year to the next, it is termed as deflation, meaning there has been a decline in the price levels.
Nominal interest rate is the stated rate at which the lender is to be paid back before inflation while real interest rate is the actual rate an investor or lender receives after considering the effects of inflation. Inflation reduces the lender’s purchasing power once the loan has been paid off because the amount paid back will not be able to buy as much as it could have when the loan terms were negotiated.
Question 6
There are two types of inflation, demand-pull and cost-push inflation. Increases in price levels are often caused by excess spending which exceeds the capacity to produce, hence creating excess demand. This excess demand leads to an increase in prices, thus referred to as demand-pull inflation. Cost-push inflation occurs when an increase in price levels are caused by an increase in the cost of production due to increases in the cost of raw materials and other inputs.
Chapter 16
Question 1
International trade is more important to the United States compared to other countries because the exports of goods and services make up about 13% of the total US output, a much higher percentage than other countries such as Italy, UK, and Canada. Canada is the United States’ most important trading partner accounting for 19% of the total exports in 2011 (Brue, McConnell, and Flynn 397). Canada, in turn, contributed to 14% of the US imports. A trade deficit occurs when imports exceed exports. For instance, US has the largest trade deficit with China as, in 2011, imports exceeded exports by $295 billion (Brue, McConnell, and Flynn 397).
Question 7
In a bid to promote their exports and restrict their imports, governments use various protection policies such as imposing tariffs and import quotas, non-tariff barriers, voluntary export restrictions and export subsidies. A tariff refers to the taxation of imported goods, thus increasing their price. Import quotas refer to the act of a country limiting its imports for a certain period of time. Non-tariff barriers are obstacles such as licenses, unreasonable quality standards, bureaucratic hurdles and delays in customs procedures aimed at frustrating and restricting imports. A voluntary export restriction is when a foreign company agrees to limit its exports to a country in order to avoid trade barriers. Export subsidies are aimed at increasing exports by the government paying local producers enabling them to reduce their prices, thus exporting more.
The main beneficiaries of these policies are domestic producers who are able to sell more at a higher price because of reduced competition from foreign companies. The government is also a beneficiary because it gains revenues from the tariffs imposed on foreign firms. The losers are foreign exporters because the amounts they are able to sell are greatly reduced. Consumers are also losers as tariffs lead to an increased prices, prompting consumers to buy lesser amounts of the imported goods and opt for a substitute product irrespective of their quality. These trade restrictions increase consumer costs which exceed gains made by domestic producers and the government. Therefore, the outcome for society is the loss of efficiency in terms of reduced consumption, economic inefficiency and lower standards of living.
Work Cited
Brue, Stanley, Campbell McConnell & Sean Flynn. Essentials of Economics. 3rd Edition. New York: McGraw-Hill, 2014. Print.