Question

Consider an economy where the full employment output is 1 trillion Rupees and the natural rate of unemployment is 6%. If actual unemployment rate is 8%, then according to Okun's law, the absolute gap between the full employment output and actual output (in billion Rupees) will be __________. (in integer) 
 

Hint:

Okun’s coefficient (usually around 2) means that for every 1% rise in unemployment above the natural rate, GDP falls about 2% below potential output.

Answer 1

Correct Answer: 40

Step 1: Recall Okun’s law. 
Okun’s law relates the output gap and unemployment as: \[ \frac{Y^* - Y}{Y^*} = \beta (u - u^*) \] where $Y^*$ = full employment output, $Y$ = actual output, $u$ = actual unemployment rate, $u^*$ = natural unemployment rate, and $\beta$ ≈ 2. 
Step 2: Substitute given values. 
\[ Y^* = 1 \text{ trillion} = 1000 \text{ billion}, \quad u^* = 6%, \quad u = 8%. \] \[ \frac{Y^* - Y}{Y^*} = 2(8 - 6) = 4%. \] 
Step 3: Compute output gap. 
\[ Y^* - Y = 0.04 \times 1000 = 40 \text{ billion.} \] 
Step 4: Conclusion. 
The absolute output gap = 40 billion Rupees.