PART A 3.

Suppose the aggregate demand curve in an economy is Y = 20,000 – 20,000 ,

This part contributes 25 per cent to the total marks for this examination. current inflation ( ) equals 0.06 (6%), and potential output (Y*) equals 18,800. If,
starting from long-run equilibrium, an aggregate supply shock reduces potential
Suggested time allocation: 30 minutes
output to 18,400, in the short run there will be a(n) _______ gap and, in the long run,
inflation will equal _____ %.
Answer all questions. For each question, using a 2B pencil, fill in the appropriate
small circle on the RESPONSE SHEET. Please follow the SAMPLE RESPONSE
SHEET for details required on the formal RESPONSE SHEET. a. expansionary; 6
b. expansionary; 7
Incorrect answers, no answer or more than one answer, will all receive a zero mark. c. expansionary; 8
d. recessionary; 6

For each question, choose the response a, b, c or d, that best answers the
question or completes the statement.
1. An increase in the target cash rate by the Reserve Bank
4. An upward shift in the Reserve Bank of Australia’s policy reaction function at a
time when the United States Federal Reserve did not shift its policy reaction function
is likely to have which of the following effects?

a. causes both an increase in the supply of 90-day commercial bills and a decrease
in demand for 90-day commercial bills, causing the 90-day commercial bill rate to
rise.
b. causes both an increase in the supply of 90-day commercial bills and a decrease
in demand for 90-day commercial bills, causing the 90-day commercial bill rate to
fall.
c. causes both a decrease in the supply of 90-day commercial bills and an increase
in demand for 90-day commercial bills, causing the 90-day commercial bill rate to
rise.
d. causes both a decrease in the supply of 90-day commercial bills and an increase
in demand for 90-day commercial bills, causing the 90-day commercial bill rate to
fall.
a. Increase the demand for Australian financial assets and so cause the Australian
dollar to depreciate.
b. Decrease the demand for Australian financial assets and so cause the Australian
dollar to appreciate.
c. Decrease the demand for Australian financial assets and so cause the Australian
dollar to depreciate.
d. Increase the demand for Australian financial assets and so cause the Australian
dollar to appreciate.
5. If the aggregate demand curve in an economy is Y = 10 000 – 10 000p, current
inflation (p) equals 0.07 (7%), and potential output (Y*) equals 9500, then, in the
short run, equilibrium output equals ____ and, in the long run, the inflation rate
equals ___ %.

2. Assume that the money supply in an economy is 1000, and that the currency held
by the non-bank public is equal to the reserves held by the banks. If the reserve to a. 9700; 3
deposit ratio of the banks is 0.25, the bank reserves equal b. 9500; 5
c. 9500; 7
d. 9300; 5
a. 200.
b. 250.
c. 400.
d. 800.

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6. In a three-sector economy, the marginal propensity to consume is 0.8 and the tax 9. If the actual overnight cash interest rate exceeded the Reserve Bank’s target for
rate is 0.25. Experiencing an economic downturn, the government decides to build the overnight cash interest rate, the Reserve Bank would
new freeways to deal with traffic congestion; the cost of these freeways is 100 million
dollars. Holding all else constant, as a result of this initiative, there will be an induced
change in expenditure in this economy of a. sell bonds to the banks, raising the level of balances in banks’ exchange
settlement accounts.
b. sell bonds to the banks, lowering the level of balances in banks’ exchange
settlement accounts.
a. 50 million dollars.
c. buy bonds from the banks, raising the level of balances in banks’ exchange
b. 100 million dollars.
c. 150 million dollars. settlement accounts.
d. 250 million dollars. d.. buy bonds from the banks, lowering the level of balances in banks’ exchange
settlement accounts.

7. In relation to unemployment, the term statistical discrimination refers to the

practice of business firms 10. Suppose you have the following information for an economy.

a. selecting employees according to statistics only rather than by interviewing them. C = 10 + 0.8Y
b. selecting employees according to individual characteristics which they have rather
than by reference to the characteristics of the groups to which they belong. I = 20
c. selecting employees according to group characteristics rather than by reference to G = 70
their individual suitability for the employment.
d. preferring to recruit people who have experienced long term unemployment due to X = 15
the government subsidies available.
M = 15

What is this economy’s short-run equilibrium level of GDP?

a. 100
8. An easing of monetary policy _____ interest rates, which _____ the demand for a
b. 250
currency and _____ the fundamental value of the exchange rate.
c. 400
d. 500

a. decreases; increases; increases

b. increases; increases; decreases
c. increases; decreases; increases 11. Consider a country which is described by the Solow–Swan model. Let the saving
d. decreases; decreases; decreases rate = 0.8; let the population growth rate n = 0.05; let the rate of depreciation d =
0.05. If per capita income y = 100 and the per capita stock of capital k = 1000, then

a. k = 0 and k is at the steady state per capita capital stock.

b. k = 20 and k is below the steady state per capita capital stock.
c. k = -20 and k is above the steady state per capita capital stock.
d. k = -20 and k is below the steady state per capita capital stock.

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12. If the value of one Australian dollar changes from 50 US. Cents to 85 US. Cents, 15. Use the following 450 line diagram to answer the question.
then

a. the value of Australia’s foreign debt measured in terms of Australian currency is PAE
likely to increase.
b. the rate of inflation in Australia is likely to increase .
c. the balance on goods and services in Australia will move to a surplus.
d. the price of shares in Australian companies will be higher in terms of United States
Dollars.

13. According to the theory of purchasing power parity, a rate of inflation that was PAE = 4000 + 0.6Y
persistently higher in Australia than in the United States is likely to lead to

a. an appreciation of the Australian dollar relative to the United States dollar.

b. an increase in the rate of interest in Australia relative to the rate of interest in the
United States.
c. a decrease in the rate of interest in Australia relative to the rate of interest in the 450
United States.
d. depreciation of the Australian dollar relative to the United States dollar. 10,000 Y

Starting from an initial equilibrium at which output is equal to 10,000, assume that
autonomous consumption expenditure increases by 1,000. Then the new equilibrium
14. Consider the following hypothetical information.
level of output will be equal to
Quarter Target Cash Interest Inflation Rate (%)
Rate (%)
March 2014 6.0 3 a. 11,500.
June 2014 6.25 3 b. 12,500.
September 2014 6.50 4 c. 13,500.
d. 14,500.
The information in the table is consistent with

a. an upward shift of the policy reaction function in both the June and September
quarters.
b. a movement along the policy reaction function in both the June and September
quarters.
c. an upward shift of the policy reaction function in the June quarter and a movement
along the policy reaction function in the September quarter.
d. a movement along the policy reaction function in the June quarter and an upward
shift of the policy reaction function in the September quarter.

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 SECTION B
There are three questions in this section. You must answer ALL three questions.
Each question contributes 25 per cent to the total marks for this examination.
This section contributes 75 per cent to the total marks for this examination.
Suggested time allocation: 30 minutes per question.
Answer the questions in the examination booklet(s) provided.
Question 1
(c) “Australia needs fiscal expansion In order to stimulate aggregate demand and
output if we are to reduce the unemployment rate below six per cent. But to avoid the
problems of a budget deficit, both economic and political, an alternative fiscal
expansion could be achieved by increasing government expenditure and financing it
completely by taxation. We call on the government to provide this stimulus
immediately.”
South West Tasmania Weekly News, September 4, 2015
In the light of this statement use the Keynesian three sector model to consider
whether the fiscal change being recommended would increase aggregate demand
and output.

(5 marks)

(a) Consider the following table which shows the recent behaviour of key national
accounting aggregates for Australia.

National Accounting Aggregate % Change March to June Quarter 2015

Chain Volume GDP 0.2
Real Gross Domestic Income -0.4
Real Gross National Income -0.5

Source: Australian Bureau of Statistics, Australian National Accounts: National

Income, Expenditure and Product, June Quarter 2015

Explain the difference between these aggregates as they are defined by the
Australian Bureau of Statistics.

Why has real GDP increased over this period while the other two measures have
contracted?

(10 marks)

(b) In the June quarter of 2015, GDP chain volume measure in Australia was
$401,816 million (seasonally adjusted) and the unemployment rate averaged 6.1%
(seasonally adjusted).

If the natural rate of unemployment was 4%, and a

Okun’s Law to calculate the loss of output experienced by the Australian economy
over that period due to the actual unemployment rate exceeding the natural rate.
.
(10 marks)

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Question 2
(a) To carry out QE central banks create money by buying securities, such as
government bonds, from banks, with electronic cash that did not exist before. The
new money swells the size of bank reserves in the economy by the quantity of
assets purchased—hence "quantitative" easing.
The Economist, March 9, 2015
http://www.economist.com/blogs/economist-explains/2015/03/economist-explains-5
Distinguish between the money supply and the monetary base.
If commercial banks experience such an increase in their reserves as identified in
the statement, explain how the money supply will increase by a multiple of this
increase in reserves.
(10 marks)
(b) “The forecasts assume a lower rate of population growth than in the previous
Statement. Recent data indicate that population growth has been declining
for some time because net immigration has been lower than expected.”
Reserve Bank of Australia, Quarterly Statement on Monetary Policy, August 2015.
Page 66
http://www.rba.gov.au/publications/smp/2015/aug/pdf/06-economic-outlook.pdf
In the light of this statement explain and use the Solow-Swan model to consider the
likely impact on Australia’s rate of economic growth of a lower rate of population
growth.
(10 marks)
(c) Using algebra, demonstrate that the Cobb-Douglas production function provides
for diminishing marginal product of the primary inputs, labour and capital.
(5 marks)
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Question 3
“We reiterate our commitment to move toward more market-determined exchange
rate systems and exchange rate flexibility to reflect underlying fundamentals, and
avoid persistent exchange rate misalignments. We will refrain from competitive
devaluations, and resist all forms of protectionism. We will implement fiscal policies
flexibly to take into account near-term economic conditions, so as to support growth
and job creation, while putting debt as a share of GDP on a sustainable path.”
Communique, G20 Finance Ministers and Central Bank Governors Meeting, 4-5
September 2015, Ankara, Turkey
https://g20.org/wp-content/uploads/2015/09/September-FMCBG-Communique.pdf
(a) In the light of this statement explain how a country could achieve such a
“competitive devaluation” which the G20 has pledged to avoid. Use diagrams.
(10 marks)
(b) Why would a country wish to pursue a policy of competitive devaluation?
(5 marks)
(c) “The importance of national savings is that it provides the resources to allow for
investment to occur”.
Explain this statement and derive national savings as the sum of private sector
savings and public sector savings. Must the equality of national savings and
investment continue in the open economy?
(10 marks)
End of Question Paper
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