Question #4 - Reading 6 Economic Growth

Reading: Reading 6 Economic Growth

PDF File: Reading 6 Economic Growth.pdf

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Shared Context

- Cragistan's potential GDP growth rate exceeds that of Kurtenstein's. Which difference in factors could help justify Cragistan's higher sustainable growth rate? A) The savings rate between the two countries. B) The established financial sector intermediation. C) The free trade and unrestricted capital flows.

Question

If in Kurtenstein the growth in earnings relative to GDP is 0.50% and the growth of price-to- earnings is 0.8%, then the long-term aggregate equity growth rate is:

Answer Choices:

A. 3.9%

B. 4.7%

C. 3.0%

Explanation

Over the long-term, the growth in earnings relative to GDP is zero; labor will be unwilling to accept an ever decreasing share of GDP and the growth in P/E ratio will also be zero over the long term as the P/E ratio cannot grow indefinitely. Over the long run, the growth in aggregate stock market value should equal the growth in GDP.

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