Question

1. First, write out the equilibrium conditions in the Goods and Services market and the Loanable Funds Market for a closed economy (i.e. the “supply equals demand” equations for each).

2. As we’ve learned, a third market – the Labor Market – typically does not reach an equilibrium where supply of labor equals demand for labor. What do we call the “normal” unemployment rate that persists even when wages have [incompletely] adjusted?

3. Say that businesses in the economy collectively think that the markets in which they sell their goods will soon experience increasing demand. In the loanable funds market, (a) which curve(s) do you expect to be affected, and (b) which direction(s) would those curves shift?

4. Say that the government reduces the taxes it collects as a percent of interest income. In the loanable funds market, (a) which curve(s) do you expect to be affected, and (b) which direction(s) would those curves shift?

5. Say that businesses and households suspect that the rate of inflation in the economy will be higher in the future. In the loanable funds market, (a) which curve(s) do you expect to be affected, and (b) which direction(s) would those curves shift?

6. Name and briefly describe at least three determinants of an economy’s long-run level of output.

7. What do we call this specific long run level of output?

Answer 1

1. Equilibrium in goods and services market: the market is in equilibrium when domestic savings are equal to domestic investment

S ^d = I ^d

Explanation

Aggregate demand for goods and services is

Y^d= C^d+I ^d+ G ……………. equation (1)

I^d = Y^d - C^d – G……………. equation (2)

C- Consumption expenditure, I- investments, G- government expenditure

National saving is :

S^d= Y^d - C^d – G……………. equation (3)

So calculation equation (2) and (3) the equilibrium will be

S ^d = I^d

Equation of loanable fund market :

Y = c(Y–T) + I(r) + G

T= time period , r= rate of interest

2. We call the “normal” unemployment rate that persists even when wages have [incompletely] adjusted as – involuntary unemployment rate.

3. In the loanable funds market (a) supply curve will be affected (b) the supply curve will shift to upward. Because to meet the increased demand they will produce more commodities.

4. In the loanable fund market (a) the demand curve will be affected (b) the demand curve will shift to right. As due to decrease in taxes interest income will increase.

5. In the loanable fund market (a) demand curve will be affected (b) demand curve will shift to upward. As current demand will increase because people want to buy maximum commodities currently

6. The three determinants of an economy’s long-run level of output:

• Technological change
• Availability of capital
• Labour force participation