The following is a model of a closed economy with no government. C = 44 + 0.6YD
ID: 1248894 • Letter: T
Question
The following is a model of a closed economy with no government.
C = 44 + 0.6YD I = 12
where C = desired consumption expenditure (in billions of $), YD = disposable
income (in billions of $), and I = desired investment expenditure (in billions
of $).
m) At equilibrium, what do the injections and the withdrawals in this
economy equal?
n) Give two reasons why investment would change from I = 12 to I = 18.
o) What are the new equilibrium levels of Y, C, S, and YD if investment
changed from I = 12 to I = 18?
p) What is the size of the (simple) multiplier?
q) What is the change in Y in the 3rd round of the multiplier effect as a
result of the change in investment in part n?
Explanation / Answer
o) What are the new equilibrium levels of Y, C, S, and YD if investment
changed from I = 12 to I = 18?
for a closed economy
Y= C+I
S=I
S= 18
At equilibrium Y= YD
Y= C+I
YD= 44 + 0.6YD + 18
YD= 62+0.6YD
0.4YD=62
YD= 62/0.4
Y=YD =155
C= 44 + 0.6YD
= 44 + 0.6(155)
C= 137
p) What is the size of the (simple) multiplier?
Multiplier= 1/1-MPC
MPC= 0.4
Multiplier= 1/1-0.6
= 1/0.4
= 2.5
q) What is the change in Y in the 3rd round of the multiplier effect as a
result of the change in investment in part n?
Due to changes in investment the YD has increased from 140 (initial equilibrium) to 155
Change in Disposable income= 155 -140= 15
Change in Y in third round due to multiplier effect= 15 x multiplier
= 15 x 2.5
= 37.5
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