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1. Assume that the consumption function is given by C = 200 + 0.5(Y – T)...

1. Assume that the consumption function is given by C = 200 + 0.5(Y – T) and the investment function is I = 1,000 – 200r, where r is measured in percent, G equals 300, and T equals 200.

What is the numerical formula for the IS curve? What is the slope of the IS curve? (Hint: The slope of the IS curve is the coefficient of Y when the IS curve is written expressing r as a function of Y.) If G increases to 600, what is a new IS curve? Graphically illustrate IS curve from the original numerical formula and new IS curve from the increase to 600.

Solutions

Expert Solution

1. To find IS curve we must find the goods market equilibrium at Y=AD. Following this we manipulate the equation to give us the IS curve which expresses r and a function of Y.

After G rises by 600-300 = 300, the intercept of the new IS curve will rise. The slope however remains unchanged as we can see from the calculations.

For the graph the slope is -00025 indicating a downward slopping IS curve. The intercept term is positive and represents the interest rate when Y=0. IS0 is initial IS curve and IS1 is the final IS curve.

Rahul Sunny answered 2 years ago
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