Please kindly answer the following question (E) Consider the following economy C
ID: 1190968 • Letter: P
Question
Please kindly answer the following question (E)
Consider the following economy
C = Ca + 0.80 (Y – T) Ca = 400 – 10 R T = 750 + 0.2 Y (M/P)d = 0.25 Y – 25 R
(MS/P) = 2000/P. This means that Ms = 2000. Ip = 1800 – 30 R G = 2000 NX = 700 – 0.04 Y
E) Derive the equation of the aggregate demand curve AD. [Hint: Replace the equilibrium interest rate in either the IS or LM function. This should give you the AD curve in the form:
YAD= Constant + Constant/P
Explanation / Answer
C = Ca + 0.80 (Y – T)
Ca = 400 – 10 R
T = 750 + 0.2 Y
Thus, C= 400-10R+0.8(Y-750-.2Y) = 400-10R+0.8(0.8Y-750) = 400-10R+0.64Y-600
=0.64Y-10R-200
Ip = 1800 – 30R
G = 2000
NX = 700 – 0.04Y
In equilibrium, AD= C+I+G+NX
Thus, Y= 0.64Y-10R-200+800-30R+2000+700-0.04Y
0.4Y=3300-400R 1
Also, (M/P)d = 0.25 Y – 25 R
(M/P)s = 2000/P
In equilibrium, (M/P)d =(M/P)s
0.25Y-25R=2000/P
25R= 0.25Y-2000/P
R= 1/100Y-80/P 2
Using 1 and 2,
0.4Y=3300-400(1/100Y-80/P) = 3300-0.4Y-3200/P
0.8Y=3300-3200/P
Y=4125-4000/P