Economics 100B Professor K. Kletzer UCSC Fall 2008 Problem Set 2 Due at the beginning of lecture, Friday, October 17 1. Consider the following IS-LM model: C = 1200 + 0.9 YdI = 0.2 Y – 20,000 i G = 2000 T = (1/3) Y (M/P)d = Y – 100,000 i M/P = 6000 (a) Derive the equation for the IS curve (it will be easiest if you write this with Y on the left-hand side and all else on the right-hand side). (b) Derive the equation for the LM curve (again, put Y on the left-hand side). (c) Solve for the equilibrium interest rate (note that 0.01 is 1%). (d) Solve for equilibrium real output. (e) Solve for the equilibrium values of C and I. Verify that your answer for Y is correct by adding C, I and G together. 2. Use the IS and LM curves that you derived for Problem 1 to answer the following. (a) Calculate the changes in Y and i if G increases by 400. Calculate the change in I. Explain the effects of expansionary fiscal policy using your results to illustrate.
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