Suppose we have the following short-run model. Resource constrain is Y₁ = C₁ + I + G₁ + EX₁ - IM₂ Where Y, is economy output, C, is consumption. It is investment. G, is government purchase. EX, is exports. IM, is imports. Government purchase depends on the current state of the economy. For example, when there is an economic recession, the government will spend more money to support the economy. To incorporate this intuition, we will use the following equations. Also, we will incorporate the consumption multiplier effects. Ct = c + ch Y₁ G₁ Y₁ EX₁ = acrY₁ IM₂ = aim Yt =ág + F₂Yt

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Suppose we have the following short-run model. Resource constrain is
Y = C₁+I+G₁ + EX-IM
Where Y, is economy output, C, is consumption. It is investment. G, is government purchase. EX,
is exports. IM, is imports. Government purchase depends on the current state of the economy. For
example, when there is an economic recession, the government will spend more money to support
the economy. To incorporate this intuition, we will use the following equations. Also, we will
incorporate the consumption multiplier effects.
Ct
Y₂
G₁
=āc + FcY₁
= ág+gYt
Y₁
EX₁ = aczY₁
IM₁ = amYt
1₁
Y₁
= a₁-b(R₂-F)
a. Derive IS curve, and draw IS curve. (x-axis: Y, y-axis: R(real interest rate)) What are the
slope and the y-intercept?
b. Suppose the multiplier effects for the government purchase changed(xr, increase). What is the
impact of this change?
e. Assume, MP(monetary policy) curve is a horizontal line. Suppose, there is a negative demand
shock on consumption. (a, decrease) What is the impact of this shock? What is the response
of the federal reserve? Use the IS-MP curve graph to explain the impact of this shock.
d. Continue with the previous question. Explain how the change in inflation (AT) changes when
there is a negative shock on consumption. (Use Philips Curve)
Transcribed Image Text:Suppose we have the following short-run model. Resource constrain is Y = C₁+I+G₁ + EX-IM Where Y, is economy output, C, is consumption. It is investment. G, is government purchase. EX, is exports. IM, is imports. Government purchase depends on the current state of the economy. For example, when there is an economic recession, the government will spend more money to support the economy. To incorporate this intuition, we will use the following equations. Also, we will incorporate the consumption multiplier effects. Ct Y₂ G₁ =āc + FcY₁ = ág+gYt Y₁ EX₁ = aczY₁ IM₁ = amYt 1₁ Y₁ = a₁-b(R₂-F) a. Derive IS curve, and draw IS curve. (x-axis: Y, y-axis: R(real interest rate)) What are the slope and the y-intercept? b. Suppose the multiplier effects for the government purchase changed(xr, increase). What is the impact of this change? e. Assume, MP(monetary policy) curve is a horizontal line. Suppose, there is a negative demand shock on consumption. (a, decrease) What is the impact of this shock? What is the response of the federal reserve? Use the IS-MP curve graph to explain the impact of this shock. d. Continue with the previous question. Explain how the change in inflation (AT) changes when there is a negative shock on consumption. (Use Philips Curve)
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