Question

The Kingdom of Elfwood (A closed Economy in the LR) has been battling to increase production of Candy but have not been able to succeed. Their economy can be expressed as: C = 400+0.60(Y-T) T = Y*0.8 G =4000 I = 750-100r Y=5000 It turns out that the King of Elfwood has a sweet tooth for Candy and has been levying back breaking taxation on its population. The King has hired you to come up with some possible ideas as to how Elfwood could increase its production in the future? However, the king does not want to reduce his consumption of Candy, not does he want to run a budget deficit. For question 1, Make sure you also talk of how it impacts the economies agents and aggregate values (C,I,S and Y)

Question 1 Could policies to change Investor pattern work? Provide 1 numerical possibility and explain how this change could be achieved. Make sure you are able to properly articulate what you want to

and how those changes will make there way in the economy. Here I am looking for you to provide me with a possible numerical change, and to explain how you would achieve it.

Question 2

The King then asked you if you believe that he should reduce his consumption of Candy? Which would reduce Government expenditures and Tax revenue by the same proportion. Would this help in achieving its goal? Provide and example where Government expenditures drop by 25%

Answer 1

Q1) Ans: As per the given equations:

C = 400 + 0.60(Y-T)........1

T = 0.8Y........2

I = 750 - 100r.....3

G = 4000

Y = 5000

According to our formula of production function (GDP):

Y = C + I + G

Now, T = 0.8Y = 0.8*5000 = 4000......5

Putting eq 4 in 1, we get: C = 1000

So. the equation stands -

5000 = 1000+750-100r+400

Solving we get, r = 7.5%

Now according to the question, the production must increase, keeping the consumption constant. This can only be achieved by decreasing the interest rate. As there exist an inverse relation between investment and interest rate, as interest rate falls investment rises and vice versa.

So, for simplicity, if we take our interest rate =  6%, we get Y = 5150.

That is, if we decrease the interest rate by 1.5%, our output gets increased by 100 times, which is a good thing.

Q2) Ans: In response to the impact of financial slowdown in the country, the The King here plays a key role by increasing its investments in order to accelerate economic growth. The increased taxes can well negate the effect of increased government spending, which would remain unchanged for aggregate demand ( AD). However, higher expenditure and higher taxes could contribute to an increase in GDP. The rise in public investment will have a multiplier impact. If the king provides jobs for the unemployed, more money will be invested and the overall demand will begin to rise. In these economic circumstances, the expenditure may increase the candy production in the end more than the initial injection. However, if the economy is fully capable, the surge in the spending will also dwindle other spendings, which does not result in a net improvement in aggregate demand. The increase in King's spending contributes to an increase in some general economic production indexes, such as GDP. This multiplier says The king should understand before accepting any increased investment to improve growth whether that investment will accelerate growth, and how much volatility these predictions entails.