Economics 102Spring 2009Homework 3Due 3/9/2009Directions: The homework will be collected by your TA in a box before the lecture. Please make sure youknow your TA name so that you can place your homework in the correct box. Please place your name, TAname and section number on top of the homework (legibly). Make sure you write your name as it appears onyour ID so that you can receive the correct grade. Please remember the section number for the section you areregistered, because you will need that number when you submit exams and homework. Late homework willnot be accepted so make plans ahead of time. Good luck!#1 Suppose there are 15,000 people living in Madison in 2008. Out of these 15,000 people, 4,000 are either too old to work or too young to work. Of the remaining individuals, 4,000 areemployed with full-time jobs; 3,000 are employed part time, but they wish to work full-time; and 2,000 are underemployed, but they are working full-time jobs; 1,000 are currently not working, but they are looking for work; and the remainder of the population are discouraged workers.a) What is the size of the labor force in Madison in 2008?The size of the labor force is the sum of the employed workers plus the unemployed workers. There are 9000 employed workers (4000 with full-time work, 3000 with part-time work, and 2000 who are working but are underemployed) and there are 1000 unemployed workers. Hence the size of the labor force is 10,000 or (9000+1000).b) What is the employment rate in Madison in 2008?Employment Rate=(Employed/Labor Force)*100=(9000/10000)*100=90%c) What is the unemployment rate in Madison in 2008?Unemployment Rate=100-Employment Rate=10% Or (Unemployed/Labor force)*100=(1000/10000)*100=10%d) What percentage of the population are discouraged workers in 2008?We have 1000 discouraged workers, so 1000/15000=6.6666%e) Now suppose that Madison’s real GDP is $400,000 in 2008. Madison’s mayor recently got the report from UW-Madison’s Econ Department saying that 100 people find jobs for every $10,000 increase in the level of output. If the mayor’s target unemployment rate for the next year is 7%, what would the change in output need to be? Assume no changes in the number of young and old in the population or in the number of discouraged workers. That is, the amount of people in the labor force isnot affected by changes in GDP. The current unemployment rate is 10%. To reduce the unemployment rate to 7%,we need that 300 unemployed workers find jobs. This requires the output toincrease by 3*$10,000=$30,000.f) After the change in the level of output in the question (e), what’s the GDP growth ratebetween year 2008 and 2009? Now, Madison’s GDP is 430,000 (400,000+30,000). The growth rate is (430,000-400,000)/400,000 equals 0.075 or 7.5%g) Suppose now that people in Madison expect recession to come and hit the city during this next year. Due to this expected recession the people in Madison will decide to (increase, decrease) their rate of saving to be better prepared financially for the recession. Their anticipation might actually make the recession (better, worse). Pick the answer and explain briefly why this is the case. When people expect an economic recession to occur they reduce their spending on the consumption of goods and instead save more to prepare for the anticipated hard times to come during the recession. In response to that, producers decrease their production primarily by laying off workers. In turn, laid-off workers will cut back even more on their consumption levels. This spiralwill continue so that the pure expectation of recession actually can create a recession. #2 a) Bill is a baker. He makes and sells bread only. To make bread, he needs flour.In 2008, he made 5000 pounds of bread and sold the bread at a price of 10 dollars perpound. To make the bread, he used 3000 pounds of flour which was produced in 2007.He bought the flour he used to bake this bread in 2007 and he paid 5 dollars per pound offlour. Assume there was no inflation between 2007 and 2008. Assume Bill’s bread is theonly good counted in the measurement of GDP. Given these assumptions calculate GDPfor 2008.Because Bill used flour which was produced in 2007, the value of that flourshould not be counted in the calculation of GDP for 2008.2008 GDP = Total value of bread – the value of flour = (5,000*10) - (3,000*5) =35,000($)Note that this is real GDP of 2008 in terms of 2007 dollars.b) Suppose in 2011 Bill is still baking and selling bread. That is, Bill bought flour thatwas produced in 2010. He purchased 3000 pounds of this flour at a price of 5 dollarsper pound. Then, he made 5000 pounds of bread in 2011 and sold this bread in 2011.In 2011 Bill sold his bread for 11 dollars per pound. In addition there was 10%inflation between 2010 and 2011. Given this information, calculate GDP for 2011using 2010 as the base year (that is, measure real GDP in 2011 using 2010 as the baseyear). Since there was inflation between 2010 and 2011, we need to adjust themeasurement of GDP for 2011 to correct for this inflation. In this example wewant to measure real GDP in 2011 using 2010 as the base year, or that is, wewant to measure GDP in 2011 in terms of 2010 dollars. The real value of thebread in 2010 dollars = (5,000*11) / 1.1 = $50,000 in 2008 dollars. The value offlour in 2010 dollars = (3,000*5) = $15,000 in 2008 dollars. 2011 real GDP in2010 dollars = 50,000 – 15,000 = $35,000 which is real GDP for 2011 using 2010as the base year (i.e., real GDP is being measured in 2010 dollars).c) Assume that there was no inflation from 2007 to 2011. From the results of (a) and(b), what can you say about the GDPs of 2008 and 2011? Is this economy growing,shrinking, or staying constant?Since real GDP is the same, the value of economic production in this economy in2007 and 2011 is the same or, in other words, is constant.d) Now, it is 2015. Bill is still baking bread. The income for Bill was $30,000 in 2014.He bought 3000 pounds of flour at the price of 10 dollars per pound in 2014 and thenused this flour to produce bread in 2015. Assume the flour was produced in 2014.Then in 2015 Bill made 5000 pounds of bread and sold this bread in 2015. Between2014 and 2015, there was 5% inflation. If Bill wants to make the same real income in2015 as he did in 2014, what should the price of his bread be? Assume that the baseyear is 2014. Also assume that Bill can sell all
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