Problem Set #9. Stock Market and Warring Schools

Economics 116a: Fall 1999 Problem due before class Tuesday, November 16

Messrs. Nordhaus, Hall, and staff

Answer succinctly. Long-winded and vague answers will be penalized.

1. Assume that nominal GDP was $1000 billion in year 0 while the GDP deflator was 1 in year 0. Furthermore, the money supply in years 0, 1, 2, 3, and 4 was (in billions) $50, $52, $55, $58, and $60.

(a) Calculate the level of nominal output in years 1, 2, 3, and 4 according to the strict quantity theory of money.

(b) If potential output grows at 3 percent per year and the level of the money supply follows a preannounced path, what would the level of real GDP be according to the new classical macroeconomics?

2. What would monetarists, Keynesians, and new classical macroeconomists predict to be the impacts of each of the following on the course of prices, output, and unemployment (in each case, hold fiscal and monetary policy and other things constant unless specifically mentioned). Use the appropriate graphs.

(a) The government passes an investment tax credit (as in 1962).

(b) The Federal Reserve buys government bonds (as in 1975).

(c) There is tremendous technological change in the computer industry (as in the 1990s).

3. Do question 8 in Samuelson‑Nordhaus, page 184.

4. Look in a recent issue of the (in The Wall Street Journal or go online at www.quote.yahoo.com) to answer the following:

(a) What is the latest price of Nike stock (NYSE, symbol NKE)?

(b) What is the annual dividend payment and dividend‑price ratio for Nike? What is the price‑earnings ratio on Nike stock?

(c) What is the latest price of Toys R Us stock (NYSE, symbol TOY)? What is the latest price of eToys.com stock (NASDAQ, symbol ETYS)?

(d) There are currently 245 million shares of Toy R Us outstanding and 115 million shares of eToys.com outstanding. What are the Acapitalizations@ or market values of the two companies?

(e) Last year Toys R Us sold $11.2 billion worth of toys while eToys.com sold about $30 million worth of toys. Last year eToys.com's profits were a negative $28.6 million while Toys R Us profits were a positive $376 million. Both company sell toys over the Internet. Given your answer to question part (d), is this evidence of a speculative bubble or can efficient-market theory explain this? In other words, are these companies properly priced? Defend your answer. [Don't worry too much about part (e): the right answer will only become clear years from now!]