Answer Key 1. B 2. C 3. C 4. A 5. D 6. D 7. E 8. B 9. A 10. A 11. C 12. C 13. BThe average standard of living is defined as the ratio of output to population, or the value of output per person. If it is decreasing while population is constant, then it must be true that output is decreasing. Average labor productivity is equal to output divided by the number of people employed, or output per worker. The following equality must be true by division and multiplication: (output/population) = (output/workers)*(workers/population). Thus, the average standard of living can only increase if either average labor productivity increases or the proportion of the population employed increases. In this problem, the average standard of living has declined and the proportion of the population employed has increased. Therefore, average labor productivity must have decreased significantly to offset the increase in the employment-population ratio to bring down the average standard of living. 14. A 15. E 16. C 17. D 18. D 19. C 20. D 21. B 22. D 23. E 24. E 25. E 26. E 27. C 28. D 29. A 30. B 31. CFor the government to eliminate an expansionary gap, it is necessary to reduce planned expenditures. Only answer "C" has ALL items that would lead to reductions in either C, Ip, G, or NX. For this, recall that Ip is inversely related to the interest rate, which the Federal Reserve is assumed to control through its policy tools influencing the size of the money supply. 32. E 33. E 34. C To determine the type of gap, evaluate PAE at potential output and compare to potential output. PAE = 4,800 + .7Y - 30,000 r, which equal 4,800 +.7*(12,000) - 30,000*.06 at potential output. Therefore, PAE = 11,400, which is less than potential output (12,000). Thus, at potential output, there is not enough demand to purchase all output, which means there is a recessionary gap and actual output will be below potential output. Lowering interest rates increases planned investment and/or consumption, which increases planned expenditures increasing PAE and tending to eliminate the recessionary gap. 35. A 36. B 37. E 38. E 39. C 40. BTo deflate a nominal value, divide by a price index and multiply by 100 to express it in base year prices and, therefore, as a real value.
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