Question

In: Economics

Suppose the economy is characterized as follows: AE = C + I + G + (X-M)...

Suppose the economy is characterized as follows:

AE = C + I + G + (X-M)
C = 700 + .75(Y – T) - 30 (r)
I = 500 – 50(r)
G = 250
X- M = -25
T = 80
r = 5
Price level P is fixed at 1 (P=1)

Use the information above to get expressions for the consumption function and the AE equation.

1. The vertical intercept for the consumption function is?

2. The slope of the consumption function is?

3. The vertical intercept of the AE equation is?

4. The slope of the AE equation is?

5. Equilibrium output is equal to?

6. Equilibrium consumption is equal to

Suppose the Consumption function changes to C=600 +.75(Y-T) – 30(r).

7. The new value of equilibrium output is?

8. The new value of equilibrium consumption is?

9. The Consumption function is still C=600 +.75(Y-T) – 30(r). The Keynesian spending multiplier in this economy is?

Expert Solution

1. The vertical intercept for the consumption function is?

It is autonomous consumption and so it is constant at 700

2. The slope of the consumption function is?

Consumption function is drawn for Y and so slope is MPC which is 0.75

3. The vertical intercept of the AE equation is?

AE = C + I + G + (X – M)

AE = 700 + 0.75*(Y – 80) – 30*5 + 500 – 50*5 + 250 – 25

AE = 965 + 0.75Y

Hence vertical intercept is 965

4. The slope of the AE equation is?

Slope is 0.75

5. Equilibrium output is equal to?

It is given by AE = Y

965 + 0.75Y = Y

Y = 965*4 = 3860

6. Equilibrium consumption is equal to

C = 700 + 0.75*(3860 - 80) - 30*5 = 3385.

7. The new value of equilibrium output is given by

AE = 600 + 0.75*(Y – 80) – 30*5 + 500 – 50*5 + 250 – 25

AE = 865 + 0.75Y

865 + 0.75Y = Y

Y = 865*4 = 3460

8. The new value of equilibrium consumption is?

C = 600 + 0.75*(3460 - 80) - 30*5 = 2985.

9. The Consumption function is still C=600 +.75(Y-T) – 30(r). The Keynesian spending multiplier in this economy is 1/1-MPC = 1/1-0.75 = 4.

Rahul Sunny answered 2 years ago

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