Question 1. Consider the following Keynesian model:
C=0.9*DI where DI = Y - T
I=20
G=G0
T=T0
(where G and T are constant and autonomously given in this economy)
(a) When there is no government (i.e. T=0 and G=0), what is the equilibrium level of Y (i.e., GDP)?
(b) Suppose a government is established, and this government thinks that the level of effective demand is too low. If this government sets G=15, without raising taxes, by how much is it able to increase GDP? What is the government expenditure multiplier?
(c) Now suppose that, in order to finance its expenditures, the government decides to set T=G=15. (This would be an example of a balanced budget situation.) By how much does GDP go down? What is the tax expenditure multiplier?
(d) In general, by how much does output change when both G and T are increased by the same amount? (Assume that taxes and government are independent of income.) Does this mean that fiscal policy is ineffective?
Question 2. Consider the following Keynesian model:
C=10+0.8*DI (where disposable income DI=Y -T)
I=20 (assume investment is constant and autonomously given)
G=15 (assume government spending is constant and autonomously given)
T=T0+t*Y, where T0=10, t=0.5. Please round numbers to two decimals.
a). What is the equilibrium level of Y (i.e., GDP)?
b). Suppose that we change T0 from 10 to 15 (i.e now T=15+0.5Y instead of T=10+0.5Y). What will be the new equilibrium level ofY?
c). What is the tax expenditure multiplier?
Question 3. Consider the following Keynesian model.
C= 100+0.8*DI (as always, DI=Y - T)
T= -25+0.25*Y
I= 100 and G = 100
a). What is the equilibrium level of output Y?
b). What is the equilibrium level of consumption?
c). What is the equilibrium level of taxes?
d). What is the equilibrium level of saving?
Question 4. Consider the Classical Model and the loanable funds market. Suppose that government spending is G=2.5 $ trillion and taxes are T=2 $ trillion. Assume that we have the following equation expressing the relationship between planned investment I and the interest rate r:
r = 13 – 5*I
The equation expressing the relationship between saving S and the interest rate r is given byr = -2.4 + 4*S
Note that the interest rate is expressed in the equation as a percent (e.g., 5% would appear in the equation as 5) and that I and S are expressed in trillions of dollars. Also note that both equations are written in slope-intercept form where the interest rate is on the vertical axis: this facilitates graphing the two equations. Please round all answers to 2 decimals.
a). Graph the supply and demand curves for the loanable funds market.
b). What is the equilibrium level of savings and equilibrium level of the interest rate?
c). What is the size of leakages and injections in equilibrium? (Assume this is a closed economy and therefore (X – M) equals zero.)
5. Consider the Classical Model. The labor supply curve is
Ws = (1/40)*L
And the labor demand curve is
Wd = 20 – (1/10)*L
Where W is the wage per hour in dollars and L is the number of workers hired (in millions of workers). Furthermore, the aggregate production function is
Y =
Here Y or GDP is measured in trillions of $. Please round all answers to 2 decimals.
a). What is the equilibrium wage and employment?
b). What is the equilibrium level of GDP?
c). What is the productivity of workers at the equilibrium level of GDP?
d). Suppose that labor supply shifts right. The new equilibrium level of employment becomes L=200. What is the productivity of workers at this new level of L?