EC-205 Writing Assignment 5 Professor M

EC-205 Writing Assignment 5

Professor M. McKay

1. [30pts] Consider the following economy:

Autonomous Consumption = $3 trillion

Autonomous Investment = $1.5 trillion

Autonomous Government Expenditure = $3.5 trillion

Autonomous Taxes = $2.9 trillion

Autonomous Net Exports = $ -1.2 trillion

Autonomous Financial Frictions = $1 trillion Marginal Propensity to Consume = 0.90 d = 0.3

x = 0.2

1. Derive the consumption function, the investment function, and the net export function.  (10pts)

2. Derive the simplified expression for the IS curve. (5pts)

3. If the real interest rate is r = 3, what is the equilibrium output?  If r = 6, what is equilibrium output?  (5pts)

4. Use your answers from part c to graph the IS curve. (4pts)

5. If government purchases increase to $4.5 trillion, what will happen to equilibrium output at r = 3?  What will happen to output at r = 6?  Illustrate the effect of the increased government purchases in your graph to part d.  (6pts)