Chapters 10 and 11
Warnings:
The Keynesian Cross/IS/LM model is a model that is perfect for creating extensions and
then asking students to incorporate their extensions in the model.
A perfect example is to ask what
happens when we assume taxes are income based rather than lump-sum based (see problem #5).
A
second type of question involves determining the difference between a shift of the IS (or LM) curve
and a movement along the IS or LM curve.
My advice is that you change every possible exogenous
variable, and then show what happens in the Keynesian cross, IS/LM, and Money Supply/Demand
curves (see problem #4).
Students that can algebraically, intuitively, and graphically answer questions
such as that posed on p. 311 (#1 of problems and applications) deserve an A on the final exam.
B Level Questions
1. Imagine an economy that can be described with the following equations: C = 500 + .8(Y-T) I = 200 – 5r G = 100 T = 100 a. Assuming r= 10, what is this economy’s equilibrium level of income?
b. The spending multiplier describes how much more GDP (income) is created when spending increases by one unit. In the example above, what is the spending multiplier? What does the spending multiplier depend upon?
c. Choose different levels of r and plot the IS curve. What is the equation for the IS curve (Hint: You should come up with a mathematical function that r is a function of Y).
d. Now imagine that government spending rises from 100 to 200. What has happened to the IS curve?