Question

According to Chapter 7 “The Spending Allocation Model”, a decrease in government spending results in, among other things, an increase in investment in the long run. Suppose the capital stock is $1 trillion and a fall in government spending causes a $50 billion rise in investment. Determine the effect of the change in government purchases on long-run per capita output growth, using the growth accounting formula. (Assume that the coefficient on capital in the growth accounting formula is one-third.)

Suppose that a country has no growth in technology, and that capital and labor hours are growing at the same rate. What is the growth rate of real GDP per hour of work? Explain.

Suppose that capital in the country described in part (a) continues to grow at its previous rate and technology growth is still zero, but growth in labor hours falls to half its previous rate. What happens to growth in real GDP per hour of work?

Answer 1

The consumption share of GDP is consumption C divided by way of GDP, or C/Y. It's the proportion of GDP that's used for consumption. The consumption share is negatively involving the true interest rate. A better interest expense encourages saving, decreasing consumption.

The investment share of GDP is funding I divided through GDP, or I/Y. It's the proportion of GDP that's used for funding. The funding share can be negatively related to the real interest expense. A larger curiosity cost raises the rate of borrowing, making it more expensive for a organization to construct a brand new manufacturing unit or purchase a new computer. When mortgage interest premiums upward thrust, it turns into more luxurious to buy new houses, and so the residential factor of investment falls. The investment share is more touchy to interest charges than the consumption share.

The trade fee is the cost of 1 foreign money in terms of one other. It's expressed because the quantity of models of international foreign money that can be purchased with one unit of home currency, equivalent to euros per dollar.

The online exports share of GDP is internet exports X divided with the aid of GDP, or X/Y. It's the proportion of GDP that's used for internet exports. The online exports share is also negatively regarding the true interest rate. A higher interest cost in the USA raises the alternate price in view that it makes dollar-denominated assets extra attractive than overseas property. The bigger trade fee makes home items extra high priced and international goods more cost-effective, reducing exports and increasing imports. With curb exports and bigger imports, net exports, which can be exports minus imports, decline. Therefore a greater interest price decreases web exports. Conversely, a reduce interest expense in the USA lowers the alternate rate, increasing internet exports. The web exports share can also be extra sensitive to interest charges than the consumption share. The online exports share will also be positive, zero, or negative. When the net exports share is positive, there is a exchange surplus. When the net exports share is poor, there's a alternate deficit.

The federal government purchases share of GDP is govt purchases G divided through GDP, or G/Y. It is the share of GDP that is used for government purchases. Due to the fact that govt purchases are not suffering from the interest cost, the federal government purchases share shouldn't be involving the curiosity cost.

The nongovernment share of GDP is the sum of the consumption, investment, and internet exports shares. The nongovernment share is negatively concerning the actual interest price in view that each and every of its components, the consumption, investment, and internet exports shares, is negatively concerning the curiosity expense. The curiosity cost adjusts to make certain that the federal government and nongovernment shares add up to a hundred percent of GDP. Equivalently, the curiosity fee adjusts to make certain that the sum of the consumption, investment, executive purchases, and net exports shares equals 1.

The real curiosity expense is the nominal interest price, the interest price on loans, minus the anticipated inflation price. It is the actual interest cost, no longer the nominal interest price that determines how actual GDP is split among consumption, funding, government purchases, and web exports. Additionally, it is fundamental to don't forget that it takes time for buyers and firms to entirely reply to a metamorphosis in the curiosity price. The division of actual GDP into shares is relevant to the long run, three years or extra, to not quick-run fluctuations.

When the government purchases share of GDP raises, the nongovernment share decreases via the same quantity. Seeing that the nongovernment share is negatively related to the actual curiosity rate, the interest cost have got to upward push. In addition, seeing that each and every element of the nongovernment share is negatively involving the interest expense, the consumption, funding, and internet exports shares all fall. The decline in investment due to an expand in govt purchases is called crowding out. The approach is reversed when the federal government purchases share of GDP decreases. The interest price falls, and the consumption, funding, and net exports shares rise.