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Assign_3_2010

# Assign_3_2010 - York University Department of Economics...

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York University Department of Economics Faculty of Liberal Arts and Professional Studies AP / ECON 2450 M Intermediate Macroeconomic Theory II Tasso Adamopoulos Assignment 3 Duration: 2 ½ hours Question 1 ( 26 marks ) Consider an economy in which the components of aggregate expenditure are given by the following equations: C = C 0 + C y (1-t)Y I = I 0 – I r r G = G 0 NX = X F Y F + X ε – IM y Y The real exchange rate is given by: = 0 r (r-r F ) Potential output is produced according to: Y * = F(K,E L * ) The demand for real money balances is given by: M D /P = Y/V L [V 0 + V i (r + π e )] Okun’s law is described by the following equation: u – u * = -0.6(Y-Y * )/Y * The aggregate supply side of the economy behaves according to: (Y-Y * )/Y * = θ (P-P e )/P e

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(a) ( 6 marks ) Derive the planned expenditure line. Using the planned expenditure line, derive the economy’s IS curve. Derive the economy’s LM curve. (b) ( 4 marks ) Derive the economy’s aggregate demand curve and explain what it describes. (c) ( 4 marks ) Assume now that the central bank conducts its monetary policy according to the following Taylor Rule: r = r * + φ ’’( π π ’) Derive the economy’s Monetary Policy Reaction Function (MPRF) as a relationship between the price level and real GDP. (d)
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