exercise 3

# exercise 3 - EXERCISE 3 The mythical kingdom of Philhill is...

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EXERCISE 3 The mythical kingdom of Philhill is ruled by a philosopher-king who donates his time as mediator of all domestic disputes. Since there are no external enemies, there is no need for government spending or taxes. There are also no economic transactions with other countries. The result is that the macroeconomic environment in Philhill can be shown in terms of only consumption (C) and investment (I) spending, as in the table below. 1 2 3 4 5 6 7 8 9 10 11 At a GDP of: Disposable Income C1 I1 Y2=C1+I1 I2 Y3=C1+I2 I3 Y4=C1+I3 I4 Y5=C1+I4 0 0 100 200 100 50 150 500 500 500 200 100 100 200 1,000 1,000 900 200 100 150 250 1,500 1,500 1,300 200 100 200 300 2,000 2,000 1,700 200 100 250 350 2,500 2,500 2,100 200 100 300 400 Part A: 1. Note the relationship between GDP and disposable income in the data of columns 1 and 2. What (admittedly unrealistic) situation is being assumed? 2. Note the relationship between consumption and disposable income shown in the data of columns 2 and 3. What kind of cause-and-effect is being described? Calculate the nation's marginal propensity to consume (MPC) from the data given. Part B: 3. If the only type of demand in this country's economy came from consumers (as shown in the C1 column) so that aggregate demand would equal C1, what would be the equilibrium level of GDP? 4. Note the relationship between GDP and investment demand as indicated by the data in columns 1 and 4. What kind of cause-and-effect is being indicated? 5.

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exercise 3 - EXERCISE 3 The mythical kingdom of Philhill is...

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