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Unformatted text preview: University of California, Berkeley ` Fall 2007 Department of Economics ECON 182 Suggested Solutions to Problem Set 5 Problem 1: True, False, Uncertain—BRIEFLY explain (a) Uncertain. If the shock is transitory (most wars are), then there should be an increase in the U.S. current account deficit. If the shock is permanent, then the U.S. current account remains unchanged. (b) False. A depreciation of the currency indeed improves the current account, but it is not needed. An increase in savings or a decrease in investment are alternative ways to improve the current account without a depreciation. Problem 2: The DD schedule Recall that the DD schedule is derived by looking at the short-run effect of the exchange rate (E) on output (Y). Here we reconstruct the DD schedule. (a) Slide 11-18 (b) Slide 11-21 (c) Increases disposable income—increases AD—increases output Problem 3: The implications of a balanced budget (a) (i) To answer this question first we have to look at the aggregate demand function D = C(Y - T) + I + G + NX(q, Y - T, Y d_ ). A decrease in T will cause an increase in consumption spending C(Y - T) that is smaller than the increase in disposable income because part of the new income is saved. In addition, the increase in disposable income worsens the trade balance NX since imports increase. Combining disposable income worsens the trade balance NX since imports increase....
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This note was uploaded on 10/21/2008 for the course ECON 182 taught by Professor Kasa during the Fall '08 term at University of California, Berkeley.
- Fall '08