Barro Mod 19 & 20 chapter 14 budget deficit practice exam questions

(The attached PDF file has better formatting.)

Real government savings

The following are government accounts for year 20XX:

●    Real taxes = 5,041
●    Real transfers = 620
●    Nominal value of government debt = 13,410
●    Interest rate on government debt = 5%
●    Other government spending = 5,497
●    The price level = 150 (meaning 1.50)

The price level is constant, the debt is held throughout the year, and the government prints no new money.



Question 19.1: Interest expense on government debt

What is the interest expense on the government debt in nominal value?

Answer 19.1: Interest expense is the nominal value of the debt times the interest rate = 13,410 × 5% = 670.50


Question 19.2: Real interest expense on government debt

What is the interest expense on the government debt in real terms?

Answer 19.2: Interest expense in real terms is the nominal value divided by the price level = 670.50 / 1.50 = 447.00.



Question 19.3: Real government expenditures

What are real government expenditures for the year?

Answer 19.3: Real government expenditures are real transfers + real interest expense + other government spending = 620 + 5,497 + 447.00 = 6,564.00.


Question 19.4: Real government savings

What are real government savings?

Answer 19.4: Real government savings = real taxes – real government expenditures = 5,041 – 6,564 = (1,523) = –1,523.

Government expenditures are more than taxes, so government savings are negative.


Take heed: The solution to exam problems depends on the data given: Gt is government spending; (Gt + Vt + rt-1 × (Bgt-1/P) is real government expenditures. Real government savings = taxes – government expenditures =
    taxes – [ government spending + transfers + interest on government debt ] =

    Tt – [ (Gt + Vt + rt-1 × (Bgt-1 / P) ]