Qestions are about Economic Growth and Development. Draw a graph of a poverty tr
ID: 1220468 • Letter: Q
Question
Qestions are about Economic Growth and Development.
Draw a graph of a poverty trap vs. one without a poverty trap (as in Poor Economics). Make sure to label both axes and indicate where the ' trap" actually occurs. Which economist (Sachs or Easterly) believes that poverty traps exist extensively in the developing world? What is his suggested policy (aid to the developing world or evaluating incentives)? What is purchasing power parity? Explain intuitively. Why does PPP not always hold? Suppose that a sweater sells for $40 in Boston (USA) and 450 pesos in Mexico City (Mexico). If PPP were to hold, what must the exchange rate be? Suppose that the market exchange rate was $1 = 10 pesos. Is the peso under or overvalued? Define economic growth and economic development. Is it harder to measure growth or development? Explain. What is one way (an index...) to measure development that we talked about in class? Explain why many indices that measure development are highly correlated with GDP per capita. Suppose that in 1990 real GDP per capita was $ 10.000. In 2000 real GDP per capita was $20, 000. What was the average growth rate?Explanation / Answer
Purchasing power parity (PPP):
a.
Definition: If two countries have same purchasing power there exchange rates must be in equilibrium. If purchasing power of a country decreases because of increasing inflation, its exchange rate depreciates in order to return to PPP. Therefore, the relation of two countries’ exchange rates and their price levels is known as PPP.
b.
PPP not always hold:
1. Price indexes of two countries are not same, because different basket of goods and services might be used. Such difference arises, since two countries might not have same taste and preference.
2. Other economic activity may force to change the exchange rate when PPP remains constant.
c.
The nominal exchange rate = M’s price / USA price = 450 / 40 = 11.25 peso
It means, $1 = 11.25 pesos
d.
Market exchange rate, $1 = 10 pesos
Peso is undervalued, since the above nominal exchange rate is higher than the market exchange rate.