Question 2 Assume the following model of a closed economy, with the price level P fixed at 1.0 C = 0.6 (Y – T) I = 500 – 50r Ms = 450 T = 200 G= 250 Mp = 2Y – 200r Where C is consumption, Y is output, T is taxes, I is investment, ris the interest rate, G is government spending, Mş is the money supply, and Mp is money demand. a) Derive formulas for the IS and LM schedules, showing Y as a function of r alone. (20%) b) Calculate the short-run equilibrium values of Y, C, I, and r. (20%)
Question 2 Assume the following model of a closed economy, with the price level P fixed at 1.0 C = 0.6 (Y – T) I = 500 – 50r Ms = 450 T = 200 G= 250 Mp = 2Y – 200r Where C is consumption, Y is output, T is taxes, I is investment, ris the interest rate, G is government spending, Mş is the money supply, and Mp is money demand. a) Derive formulas for the IS and LM schedules, showing Y as a function of r alone. (20%) b) Calculate the short-run equilibrium values of Y, C, I, and r. (20%)
Chapter1: Making Economics Decisions
Section: Chapter Questions
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Transcribed Image Text:Question 2
Assume the following model of a closed economy, with the price level P fixed at 1.0
C = 0.6 (Y – T)
I = 500 – 50r
Ms = 450
T = 200
G= 250
Mp
= 2Y – 200r
Where C is consumption, Y is output, T is taxes, I is investment, ris the interest rate, G
is government spending, Mş is the money supply, and Mp is money demand.
a) Derive formulas for the IS and LM schedules, showing Y as a function of r alone.
(20%)
b) Calculate the short-run equilibrium values of Y, C, I, and r. (20%)
c) Suppose that the central bank doubles the money supply to 900. Draw a diagram,
and explain in words what will happen. Find the new values of Y, r, and I. (30%)
d) Suppose now the money demand relationship was instead given by
Mp
2Y – 50r
P
What value of the money supply would result in the same outcome for Y and r
that was obtained in part b)? Suppose the central bank initially sets the money
supply at this value but then doubles it. What is the increase in Y that results from
this doubling? Why do you think it is greater than the increase in Y that resulted
from doubling the money supply in part c)? (30%)
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