Chapter 2: Macroeconomic accounts - Answers

Tutorial 1

Chapter 2: Macroeconomic accounts

Multiple choice questions

Question 1Ignoring errors and omissions in the balance of payments accounts, if official interventions (Off) are positive, what may we conclude?*a. That at least one of the current account (CA) and the private financial account (FA) was a deficit.Feedback: Correct. CA + FA + Off = 0 to hold and Off > 0, then we know the sum (CA + FA) < 0, meaning at least one of CA and FA must be negative.Page reference: 45b. That both the current account (CA) and the private financial account (FA) were a deficit.Feedback: Incorrect. This is too strong: all we know is that at least one of CA and FA was sufficiently in deficit.Page reference: 45c. That either the current account (CA) or the private financial account (FA) was a surplus.Feedback: Incorrect. We cannot be sure of this, because both CA and FA might have been in deficit.Page reference: 45d. That both the current account (CA) and the private financial account (FA) were in surplus.Feedback: Incorrect. This is impossible.Page reference: 45

Question 2Which ONE of the following variables is a stock variable?a. GDP.Feedback: Incorrect. Gross domestic product is a flow variable.Page reference: 27*b. Net external debt.Feedback: Correct. Debts are a liability from which we subtract foreign assets to get net external debt (difference of two stocks is a stock).Page reference: 27c. The government budget deficit.Feedback: Incorrect. Page reference: 27d. A nations trade surplus.Feedback: Incorrect. Page reference: 27

Question 3If the current account of the euro zone is in surplus by 38bn, its capital- and financial account is in surplus by 38bn, and errors and omissions are a negative 81bn, what has happened to foreign exchange reserves?a. They have increased by 5bn.Feedback: Incorrect. Page reference: 43, 45b. They remain unchanged.Feedback: Incorrect. Page reference: 43, 45*c. They have decreased by 5bn.Feedback: Correct. The overall balance is negative, which means that residents have sent more money abroad than they received. In that case the monetary authorities make up the difference, bringing domestic money home by selling some of their foreign exchange reserves. (This is according to data from European Central Bank (ECB) for 2007.)Page reference: 43, 45d. They have decreased by 38bn.Feedback: Incorrect. Page reference: 43, 45

Question 4In Borduria, consumption is 750, the government budget deficit is 20, total fiscal revenues equal 440, the current account is in surplus by 10, and total private saving equals 220. Which ONE of the following is true?Feedback: Y = C + I + G + X ZC = 750G = T + government budget deficit (G-T) = 440 + 20 = 460X Z = 10(S-I) + (T-G) = (X-Z)220 - I -20 = 10I = 190GDP = Y = 750 + 190 + 460 + 10 = 1410Net private saving = S I = 220 190 = 30 answer d. is the correct answerPage reference: 37, 40

Question 5In the circular flow of spending, which ONE of the following items does NOT constitute an increase of the flow of spending/income?a. Government purchases of goods and services.Feedback: Incorrect. Review Figure 2.3.Page reference: 36b. Business investment spending.Feedback: Incorrect. Review Figure 2.3.Page reference: 36*c. Spending on imported goods.Feedback: Correct. Review Figure 2.3. This is spending on other countries goods, not for domestic goods!Page reference: 36d. Government spending on transfers.Feedback: Incorrect. Review Figure 2.3.Page reference: 36

Question 6Consider the following statements:

I. If there is a surplus in the current account, and private investment exceeds private savings, the tax revenues collected by the government must be higher than government expenditures.II. The gross domestic product is equal to the net domestic product plus taxes.

Feedback: I: (S - I) + (T - G) = (X - Z)We know that (X - Z) > 0 and (S - I) < 0, so it must be the case that (T-G) > 0, i.e., T>G. Statement I is trueII: GDP = NDP + Depreciation (and NOT taxes) Statement II is false answer b. is the correct answer.

Question 7What is the difference between gross domestic product (GDP) and gross national income (GNI)?*a. GDP is a location-based measure, whereas GNI is an ownership-based measure of economic activity.Feedback: Correct. Page reference: 31b. GDP is measured in current prices, whereas GNI is measured in constant prices.Feedback: Incorrect. Both are measured in current prices and can be deflated to obtain values in constant prices.Page reference: 31c. GDP is limited to market transactions, whereas GNI includes imputed values for non-market economic activities.Feedback: Incorrect. Both include some imputed non-market activities, e.g. imputed rent for owner-occupied housing.Page reference: 31d. GDP is a flow variable, whereas GNI is a stock variable.Feedback: Incorrect. Both are flow variables.Page reference: 27; 31

Open question: Exercise 5 from the book.

Extra questions: Exercises 6 and 10 from the book.

6. GDP represents final sales of goods within a geographic entity, value added occurring within that geographic entity, and finally factor incomes earned within the boundaries of that geographic entity.

a) Yes, the purchase of sweets represents a final sale (consumption), income for the retailer and for all the factors of production involved, each of which contribute to the value-added represented by the candy. UK GDP rises.

b) Yes, because the purchase occurs within the geographic confines of the United Kingdom (consumption). UK GDP rises.

c) Yes, the purchase occurs within the geographic confines of the United Kingdom, and even if it is sent to Slovakia as export, it counts as final sales. UK GDP rises.

d) No, since the machine is imported from another geographic entity (Czech Republic). The value-added and income are earned there. If total purchases of machines remain unchanged in the UK, UK GDP declines.

e) Yes, while the sweets sold do not represent final sales to consumers, but they do for the store representing inventory investment during the measurement period. UK GDP rises.

f) Yes, the sales of the sweets represent final purchases by the government. UK GDP rises.

10. The official transactions balance is the negative mirror image of the overall balance, which is the sum of the current and private financial accounts. This implies that the monetary authorities of China, the Peoples National Bank of China, has been purchasing foreign currency or other instruments issued by foreign monetary authorities (central banks) to make up the excess of sales by Chinese residents of goods, services and financial instrument to foreigners.