Question

In: Economics

) Consider an economy described by the following equations: Real Sector &n

) Consider an economy described by the following equations:

Real Sector b. Monetary Sector

Y=C + I +G Demand for Money; r = 100 - M

C = 100 + 0.8 (Y –T) Supply of Money : M* = 90

I = 400 – 20 r

G =120

T = 100

Where Y is GDP, C is consumption, I is investment, G is government purchases, T is taxes, and r is the interest rate (%). And M is the stock of money. If the economy were at full employment (that is at its natural rate), GDP would be 2,000.

What is current actual level equilibrium level of GDP(Y*)?

Y* =_____________________

What is the marginal propensity to consume (MPC) in this economy? MPC=__0.8______
What is the magnitude of Government Purchase’s multiplier effect?__________________
Suppose the central bank reduces money supply and reduces money stock from

M*=90 to M**=80. Then what is new equilibrium level of GDP(Y**)? Y**=__________

Choose a monetary policy by the central bank to reduce money supply from below:

Sell Government bonds (b) reduce required reserve ratio (c) reduce discount rate (d) reduce federal funds rate

__reduce federal funds rate__________________

Assuming no change in monetary policy, what change in government purchases would restore full employment?

ΔG =________5_______

Assuming no change in fiscal policy, what change in interest rate (Δ r) would restore full employment?

Δ r =________________

In case of (5), assume that the inrease in government purchases raises the demand for money in (b) monetary sector from r= 100 - M to r = 110 – M. This causes the equilibrium interest rate to rise to a new level (r**) and the investment to be reduced to a new level (I**).

Find out r** __________ and I**___________

Continuing from (7), the increase in interest rate implies the cost of borrowing will increase and therefore, it will reduce investment which is defined as________________
Draw two diagrams (a) The Money Market and (b) The Aggregate Demand Curve below to explain (7) and (8):

(b)

Expert Solution

Rahul Sunny answered 1 month ago

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