Suppose an imaginary economy is represented by the following equations: GDP= C +
ID: 1195350 • Letter: S
Question
Suppose an imaginary economy is represented by the following equations:
GDP= C + I
C= $100 + 0.8 Y D
I = I Planned + I Unplanned
Iplanned = $200
AEplanned = C+IPlanned
(1) Calculate the income- expenditure equilibrium level GDP. Show your work.
(2) Suppose the level of planned investment spending (Iplanned) drops by $50 . What will the new equilibrium GDP be? Show your work
(3) With Iplanned back at the original level $200, suppose that autonomous consumption spending decreases from $100 to $60. What will the new equilibrium be? Show your work.
(4) Calculate the value of the multiplier.
Explanation / Answer
GDP = 100+0.8Y+I
Under equilibrium, unplanned investment is zero, so Ip+iup = 200
Y=C+I, where C=100+0.8Y
Y = 100+0.8Y+200
Y-0.8Y=100+200
0.2Y=300; Y=1500.
So C=100+0.8*1500=100=1200=1300.
So the income- expenditure equilibrium level GDP will be $1500.
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If Iplanned drops by $50, then Ip will be $150
Y = 100+0.8Y+150 = 250+0.8Y
Y-0.8Y = 250; 0.2Y = 250
Y= 250x5 = $1250.
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When consumption reduces to $60. Y=C+I, where C=60+0.8Y
Y = 60+0.8Y+200
Y-0.8Y=100+160
0.2Y = 260; Y= 260x5 = $1300.
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