Université d'Orléans - Année universitaire 2012-2013 Faculté de Droit, Économie et Gestion

Licence Economie Gestion (Mention Européenne) – semestre 2 Macroeconomics March 19, 2013

Exam #1

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I. Exercice (5 points)

There are 5 firms in a closed economy. -

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A firm is specialized in iron extraction. The firm has invested 50000€ in machines. The firm employs 5 worker earning 100000€ of wages in total (20000€ each). The firm is selling iron to the steel producer for 150000€. The steel producer has also invested 50000€ in machines. The firms employs 10 workers for 200000€ of wages in total. She has bought iron to the company of extraction (see above). She sells steel to the car producer for 500000€ and to the machines producer for 200000€. The car producer has invested 200000€. He employs 10 workers for 200000€ and buys steel to the steep producer. He sells cars to the car agent for 2000000€. The car agent employs one worker for 20000€. He sells cars to consumers for 2500000€. A last firm is specialized in the production of machines. The firm buys steel to the steel producer. Total wages are 40000€. The firm is selling machines for the iron extraction firm, the steel producer, and the car producer.

1) Calculate the added value of each firm. (2 points) AV1 = 150000 AV2= 200000+500000-150000=550000 AV3=2000000-500000=1500000 AV4=2500000-2000000=500000 AV5=50000+50000+200000-200000=100000 2) Calculate the GDP using the added-value approach. (1 point) GDP= sum AV= 2800000

3) Calculate the GDP using the income approach. (2 points)

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W= 100000+200000+200000+20000+40000=560000 Profit = 50000 + 350000 + 1300000+480000+60000 = 2240000 GDP = W + Profit = 560000+2240000=2800000

II. Exercice (6.5 points) The consumption function in the economy is given by the following equation: C=0.6YD+2 with C the final consumption of households, and YD the disposable income. 1) What do the values 0.6 and 2 represent? (1 point) 0.6: marginal propensity to consume 2: fixed consumption 2) Show graphically the consumption function (0.5 points) 3) Give the saving function (1 point) S = Yd – C = 0.4Yd – 2 = 0.4 (Y-T) – 2 4) What is the average propensity to consume? How does this propensity to consume move when income rises? (1 points). (To=0) APC= C/Y = 0.6 Y/Y + 2/Y = 0.6 + 2/Y The APC decreases when income increases (psychological fundamental law). 5) The State puts in place a lump-sum tax (T=To=2). Give the marginal propensity to consume and the average propensity to consume. Show graphically the new consumption function (1.5 points) C= 0.6 Y – 1.2 + 2 APC = 0.6 + 0.8/Y (APC is lower due to taxes) MPC = 0.6

6) The State puts in place a flat-rate tax (T=tY=0.2Y). Give the marginal propensity to consume and the average propensity to consume. Show graphically the new consumption function (1.5 points). C=0.6(Y – 0.2 Y) +2 = 0.48Y +2 C/Y = 0.48 + 2/Y MPC = 0.48 (a flat tax also impacts MPC).

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III. Exercice (5.5 points) An investment (a new machine-tool) has the following characteristics:

Initial Cost Life expectancy Expected Income (per year) Expected sale value

Project A 305000 2 years 150000 60000

Project B 500000 4 years 150000 60000

The interest rate is 5%. 1. Calculate the net present value of project A. We suppose the firm can sell the machine-tool after the two years. (1 point) 2. Calculate the net present value of project B. We suppose the firm can sell the machine-tool after the four years. (1 point) 3. Which project should be chosen? Why? (1 point) T1 T2 142857,143 136054,422 54421,7687 NPV Project A Project B

T3 T4 129575,64 123405,371 49362,1485

28333,3333 81254,7241

NPV B > NPV A The firm can choose either to invest in project B if both projects are substitutable, or to invest in both projects as the NPV is also positive for project A.

The interest rate increases. It is now 10%. 1. Without making any calculation, comment the effect of such increase on the probability to invest. (0.5 points) An increase of the interest rate decreases the probability to invest. The higher is i the lower are investments. Investment is a decreasing function of i.

2. Calculate the net present values of both projects. Comment. (2 points)

136363,636 123966,942 112697,22 102452,018 49586,7769 40980,8073

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Project A Project B

4917,35537 16460

Project B is still more profitable than project A (NPV B > NPV A) but the gap between NPV is much lower. This is due to the fact that project B is longer. Due to the increase of the interest rate, present values of future incomes are lower. Only project A is now profitable.

IV. Exercice (3 points) The economy has the following characteristics: C=200+0.8Yd I=100 G=100 T=100 1. Find the equilibrium GDP Y. (1 point) Y = C + I +G = 200 + 0.8Y – 0.8(100) + 100 +100 Y = 400 + 0.8Y -80 0.2Y = 320 Y = (1/0.2) * 320 = 1600

2. What is the value of the multiplier? Explain. (1 point) 1/0.2 = 5 Any change in autonomous spending leads to a five time increase in GDP.

3. Show what will be the effect on GDP of a public spending increase of 100. (1 point). \delta G = 100  \delta Y = 5 * \delta G = 500 Y’=2100

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