Question

The following equations describe an economy.

Y=C+I+G

C=50+0.75*(Y-T)

I=150-10r

(M/P)^d=Y-50r

G=250

T=200

M=3,000

P=4

Identify each of the variables, and briefly explain their meaning.

From the above list, use the relevant set of equations to derive the IS curve. Graph the IS curve on an appropriately labeled graph.

From the above list, sue the relevant set of equations to derive the LM curve. Graph the LM curve on the same graph you used in part b).

What are the equilibrium level of income and the equilibrium interest rate?

Answer 1

The variables and their meaning are given below as follows: "r - Output/GDP/Aggregate Demand/Income C"-Consumption spending T- Investment spending G-Government spending rInterest rates 'T-Taxes 'P' = Price levels M-Nominal money supply The equation of the IS curve is given as follows: Y-C+I+G Y 50+0.75(Y-T)+(150-10r)+250 's 450-1074 0.75 (X-200) Y 450-10r +0.75Y-150 0.25y-300-10r 1, 200-40r The following graph plots the IS curve:

Interest rate, r% 30% IS curve 20% 10% 400 200 Output, Y The equation of LM curve is given as follows: ai tA Y- 3.000 y-50r = 750 Y = 750 + 507. 4

The following graph plots the LM curve on the previous graph Interest rate, r% 30% IS curve 20% LM curve 590 수 400 750 ,000 1,200 Output, Y The equilibrium interest rate is calculated as follows

IS-LM 1,200-40r 450 = 90r 750+50r Hence, the equilibrium interest rate is 5%. Substitute the value of interest rate in either IS or LM equation to solve for equilibrium output level as follows y-1, 200-40r =1.200-40(5%) = 1, 200-100 -1, 000 Hence, the equilibriu output/income level is 1,000