1. (DE Chapter 3, question 4, + modifications) 1.1. Suppose that as a professor

Question

1. (DE Chapter 3, question 4, + modifications) 1.1. Suppose that as a professor in India my salary is Rs 100,000 per year and that I get a raise of Rs 1,000 per year. Suppose that a school teacher who earns Rs 50,000 per year also gets the same raise of Rs 1,000. Convince yourself that the growth rates of our incomes are indeed different. 1.2. With these different growth rates, would our incomes converge or diverge? 1.3. Suppose our growth rates were equal. Would our incomes converge or diverge? 1.4. Suppose that the average income of a person in a developed country is $20,000 per year. Now go back in time by scaling this number down by 1.5% per year. What would the average income have been 200 years ago?

Explanation / Answer

1) Growth rate in income

Professor = (1000/100000)*100 = 1%

School teacher = (1000/50000)*100 = 2%

2) With these growth rates incomes will converge because incomes for school teachers are increasing at a higher rate.

3) Income will diverge as professors income will increase by more than that of schoolteacher and the gap will widen up.

4) Income =20000(1-0.015)^200 = $973.36

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