1.You are given data on the following countries:

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United States | Money growth per annum | Real growth per annum |

| 10% | 5% |

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China | Money growth per annum | Real growth per annum |

| 10% | 10% |

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In both countries, the demand for money rises at the same rate as real income growth, so that there is no change in the income velocity of money (the inverse of the Cambridge k.) Answer the following:

**A.**What is the inflation rate per annum suggested by the quantity theory of money in each country? Support your answer!

However, k and k* are constant, so

M y

M y

Thus, inflation in the US is:

And inflation in the China is:

**B.**Will the dollar (USD) price of the yuan (CNY) rise or fall over time? That is, on an annual basis, what will be the depreciation or appreciation of the dollar relative to the yuan over time if these patterns persist? (hint: indicate the percentage change in the dollar spot price of the yuan predicted by relative purchasing power parity). Defend your answer!

**2.** You are given data on the historical growth experience of the United States and China in the growth accounting framework.

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China (1985‐2005) | % change in Y | alpha times % change in K | (1‐alpha)*% change in Labor | Percentage change in technology |

(1985‐2005) | 11.35 | 3.85 | 1.2 | |

USA | % change in Y | alpha times % change in K | (1‐alpha)*% change in Labor | Percentage change in technology |

1950‐2005 | 3.27 | 1.14 | 0.98 | |

**A.**What is the average percentage change per annum in Total Factor Productivity (technology) over the respective periods.

**B.**Would you expect China to be able to maintain such high growth rates in technology? Why or why not?

**3.**Consider the relationship below between the (proportional) tax rate on income on the horizontal axis and the economic growth rate on the vertical axis.

**A.**Explain your reasoning why economic growth is negative at a zero tax rate, point A, and at a 100% tax rate, point B.

**B.**Does this lead you to conclude that between tax rates equal to zero and equal to 1 (i.e. 100%), there must be a tax rate that maximizes economic growth? Explain your reasoning.

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