Economics Principles I Marc Lieberman 1 Answers to Problem Set 2 New York University Fall 2012 a b c d Included as C 2 000 Included as I 2 500 when a business buys physical capital a tool that labor uses that is expected to last a long time e g longer than a year it is part of business purchase of plant and equipment This is one of the components of investment spending Included as G 5 000 In this case the government is the final user of a currently produced good Included as NX 3 500 This is an export of a good to a foreign resident even though the purchase takes place in the U S It will add 3 500 to exports and therefore add 3 500 to net exports which are exports minus import e Not included just an exchange of assets between people nothing is produced f Included as G 135 000 The Mayor is producing the services of running the city and the NY city government is the final user of those services that is they aren t being purchased as an input in order to sell something to someone else g Only the commission is included as C 100 the 9 000 in stock is just an exchange of assets h between the buyer and the seller they are pieces of paper rather than goods or services produced Included as I 40 000 these unsold goods add to GMs stock of inventories and the change in inventories is one of the components of investment spending i Not included this is a transfer payment no goods or services have been produced j this not included in our calculation of GDP The paper is an intermediate good it s contribution to GDP will be recorded as part of the price of the automobiles that GM sells to final users k Not included No goods or services are produced this is just an exchange of assets in this case money between the household and the bank l Not included just an exchange of assets between the household and the charity m Included in two components C 18 000 NX 6 000 so the contribution to GDP is 12 000 To see why note that consumption spending is all final goods and services that U S households buy in this case 18 000 But this mistakenly includes the value of final and intermediate goods that were produced abroad and don t belong in U S GDP We take care of this mistake by subtracting anything imported into the U S whether it s a final or intermediate good Thus since imports are 6 000 NX exports imports 6 000 in this case n The books will be included as C 7 000 They will also be included as investment 7 000 A decrease in inventories Net effect on GDP zero C 2 000 100 18 000 7 000 27 100 I 2 500 40 000 7 000 35 500 G 5 000 135 000 140 000 NX 3 500 6 000 2 500 GDP 27 100 35 500 140 000 2 500 200 100 2 3 a Expenditure approach GDP increases by 4 500 included as C G I and NX are unaffected Explanation The only thing produced in the year 2012 is the 4 500 worth of services provided by the car dealership both getting the car in shape and serving as middleman between buyer and seller These services are provided to the household that bought the car and are therefore part of C The value of the used car itself before the dealer improved it was already counted in GDP in 2003 the year it was originally produced Note the most common error here is to add in the 20 in labor paid to the employee But when using the expenditure approach you can regard labor as analogous to an intermediate good or intermediate service in producing the car dealer s services It s not actually an intermediate good because labor is considered a resource Nevertheless the value of this labor is embodied in the 4 500 of car dealer services we ve already counted To add the labor again separately would be to count its value twice b Factor Payments Approach For this approach we add up all the wages rent interest and profit across all households that received these factor payments and find that GDP increases by 4 500 Explanation There is 20 in wages paid to the employees of the dealership plus 4 480 in profits 5 000 received for the car minus 500 paid for the car minus 20 paid as wages leaves 4 480 in profit for the owner There are no other factor payments Adding up 20 4 480 4 500 in total factor payments Note if the owner had made other factor payments e g rent or interest then profits would be lower by the amount of these payments but these other factor payments would have been added to the now lower profits so GDP would still be 4 500 using the factor payments approach The same applies if the car dealer used intermediate goods like windex or glue the funds paid for these materials would ultimately be paid out to the factors of production at the firms that produced the intermediate goods c Value added approach In this approach we add up all the value added by every firm in the economy In this problem there was only one firm the car dealership It purchased a car for 500 and sold it for 5 000 using no intermediate goods Therefore it s value added was 4 500 4 a Based on the dialogue in the film Unger s denominator appears to have been the 14 trillion total value of U S equities he says in terms of investments on Wall Street American equities This gives him a fraction of 860 billion 14 000 billion 061 or 6 1 b If Unger was using the total value of U S equities in his denominator then he was calculating the value of all U S assets owned by Saudi Arabia stocks real estate bonds bank accounts and everything else as a percentage of the value of just one type of U S assets stocks only This does not tell use the fraction of the U S Economy that the Saudis own To see why Unger s statement is illogical here s an addition fact not provided in the problem used here just for illustration In 2004 U S residents owned 45 9 in U S assets stocks bonds real estate etc So if we use Unger s logic Americans that year would have owned 327 of the U S economy since 45 9 trillion 14 trillion 3 27 or 327 Clearly it s impossible for Americans to own more than 100 of the economy c Using U S GDP in the denominator we would get 860 billion 11 700 billion 074 or 7 4 The numerator Saudi ownership of U S wealth is a stock variable it refers to a quantity of assets held at a given point …