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Homework 8 2010 Homework Problem Solutions

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Queen's University
ECON 231
Huang Hui

Homework #8 1. Successive US government representatives over the 1990s and early 2000s have attributed the American trade deficit with China to be all about unfair Chinese trade practices that restrict market access to American exporters. Use the national income identity to propose a different explanation for the American current account deficit before the 2007 housing market crisis. Y = C + I + G + NX => Y = C(Y - T) + I(r) + G + NX The US current account deficit before the 2007 bubble may/has been attributed to a combination of factors that don’t necessary apply to a very large economy like that of the US, but when nevertheless have proven to create a deficit for them. A combination of successive tax decreases during the Bush administration, and constant growing foreign spending on the war in Iraq and Afghanistan, has shown a large and constant outflow of money out of the economy to other parts of the world. All at the expense of an increasing deficit and debt as the ratio to GDP continued to grow faster than the economy was. Usually an increase in G is associated with an increase in Y, but since the increase was not in the US economy (in a relative perspective) the economy saw little benefit from the expenditures. Therefore, the economy stagnated as a housing bubble was creating fuelled by cheap goods coming out of China (NX was decreasing, adding to the %GDP/debt ratio), and C rising, as T fell, which created a bubble of inflation based from national debt... 2. For a small open economy that has a fixed exchange rate, a lasting increase in real GDP can be caused by either a. An increase in exports or a decrease in income tax rates b. An increase in the money supply or a decrease in exports c. A decrease in the money supply or an increase in income tax rates d. A decrease in exports or an increase in income tax rates 3. “The more that people expect inflation in Canada to exceed inflation in the United States, the more likely it is that Canadian interest rates will exceed US interest rates.” Is this statement true or false? Explain your answer. If Canadians are expecting inflation to be higher, the interest rates will be adjusted lower for compensation, and stabilization of the economy. Therefore, if Canada > US =>iCanadi < US . r r 4. For each of the following organizations, describe their role, the initial reason for creating them, and say how long Canada has been a member: a. The World Bank A financial institution aimed at lowering poverty by lending money to developing nations at relatively low rates; Canada since 19
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