This preview shows pages 1–3. Sign up to view the full content.
This preview has intentionally blurred sections. Sign up to view the full version.
View Full Document
Unformatted text preview: Economics 154a, Spring 2005 Intermediate Macroeconomics Problem Set 8: Answer Key April 11, 2005 1. Do numerical problem #4 on p. 425 in Chapter 11 of the textbook: An economy is described by the following equations: Desired Consumption C d = 300 + 0 . 5( Y T ) 300 r ... (a) Write the equation for the aggregate demand curve. ... ANSWER : The IS curve is given by Y = C d + I d + G = 300 + 0 . 5( Y 100) 300 r + 100 100 r + 100 = 450 + 0 . 5 Y 400 r . This can be rewritten as . 5 Y = 450 400 r , or Y = 900 800 r . The LM curve is M/P = L, or 6300/P = 0.5Y  200r. To find the aggregate demand curve, substitute the LM curve into the IS curve to eliminate r. To do this, multiply both sides of the LM curve by 4 to get 25 , 200 /P = 2 Y 800 r , or 800 r = 2 Y (25 , 200 /P ). Then substitute this in the IS curve: Y = 900 800 r = 900 [2 Y (25 , 200 /P )]. This can be rewritten as 3 Y = 900 + (25 , 200 /P ), or Y = 300 + (8400 /P ). (b) Suppose that P=15. What are the shortrun values of output, the real interest rate, consumption, and investment? ANSWER :With P = 15, the AD curve is Y = 300+(8400 / 15) = 860. From the IS curve, 860 = 900 800 r , which has the solution r = 0 . 05. Consumption is C = 300 . 5(860 100) (300 . 05) = 665. Investment is I = 100 (100 . 05) = 95. (c) What are the longrun equilibrium values of output, the real interest rate, con sumption, investment, and the price level? ANSWER :In the long run, Y = 700. From the IS equation, 700 = 900 800 r , which has the solution r = 0 . 25. The LM curve then is 6300 /P = (0 . 5 700) (200 . 25) = 300, which has the solution P = 21. Consumption is C = 300 . 5(700 100) (300 . 25) = 525. Investment is I = 100 (100 . 25) = 75. In addition, do part (d) below: (d) Suppose that the economy is the longrun equilibrium in part (c) and G increases from 100 to 110 (T remains fixed at 100). Determine the new shortrun equilib rium values of Y , r, C, and I (P remains fixed at its initial value). Calculate the 1 multiplier on government spending (i.e., the change in Y divided by the changemultiplier on government spending (i....
View Full
Document
 Spring '07
 BjoernBruegemann
 Macroeconomics

Click to edit the document details