Economics 101: Intermediate Macroeconomic Theory 2024 Summer Session II Problem Set 3SQL

Java Python Economics 101: Intermediate Macroeconomic Theory

2024 Summer Session II

Problem Set 3

I.         In Mantica, 98 percent of each dollar of additional disposable income is spent on consumption.

a.   (2 points) If the government raises its spending by $400 million, what is the change in overall output?

b.   (4 points) Using the Keynesian Cross, explain what happens when the

government raises its spending. Afterwards, demonstrate the change in a figure. Make sure to label all the curves, axes, and equilibrium values. When explaining through words, do not describe what is happening in the figure; rather, explain what is happening in the economy.

c.   (2 points) Instead of raising the government spending, taxes can be lowered instead. If taxes decline by $400 million,what is the change in overall output?

d.   (1 point) What maybe causing the difference between your answers in part (a) and part (b)?

e.   (2 points) If the government wishes to achieve the same change in overall output as the amount from part (a), how much should taxes change?

II.        (5 points) In the country of Patria, the economy is currently at its long-run equilibrium. Suppose that the monetary policy has decided to loosen its monetary policy. Discuss using words and explain through a figure how the economy changes in the short-run and long-run of the IS-LM model. Make sure to label all of the  curves, axes, and equilibrium values. When explaining through words, do not describe what is happening in the figure; rather, explain what is happening in the economy.

III.       Consumers have begun to think that the economy will be worse in the near future.

A.  (5 points) For an economy that was initially at its long-run equilibrium, use the IS- LM model to explain using words and demonstrate using a figure how this unexpected event affects the short-run and long-run economy when there is no policy intervention. Make sure to label all the curves, axes, and equilibrium values. When explaining through words, do not describe what is happening in the figure; rather, explain what is happening in the economy.

B.  (5 points) Following the changes in  Economics 101: Intermediate Macroeconomic Theory 2024 Summer Session II Problem Set 3SQL the economy in part (a). Discuss the type of monetary policy response that is appropriate to stabilize output. Make sure to use the IS-LM model to explain in words and demonstrate using a figure how the short-run and long-run economy changes with the combination of the shock and monetary policy response. Make sure to label all the curves, axes, and equilibrium values. When explaining through words, do not describe what is happening in the figure; rather, explain what is happening in the economy.

C.  (5 points) Consider the situation when monetary policy intervention is not enough to bring output back to the long-run equilibrium level. Discuss the type of fiscal policy response that is appropriate to help stabilize output. Make sure to use the IS-LM model to explain in words and demonstrate using a figure how the short-run and long-run economy change with the combination of the shock and two policy responses. Make sure to label all the curves, axes, and equilibrium values. When explaining through words, do not describe what is happening in the figure; rather, explain what is happening in the economy.

IV.       (5 points) In Monrova, the economy is currently at its long-run equilibrium. The central bank just announced its intentions to lower the prevailing interest rate. The fiscal authority intends to implement policy that would keep output the same. Discuss the combination of policies that are appropriate for this set of goals. Use the IS-LM model to explain in words and demonstrate using a figure how this can be achieved. Make sure to label all the curves, axes, and equilibrium values. When explaining through words, do not describe  what is happening in the figure; rather, explain what is happening in the economy.

V.  Assume that in an economy the Phillips Curve is given by

π = πt−1  − 0.5(u − 4)

Expectations are formed using Adaptive Expectations.

a.   (1 point) What is the natural rate of unemployment?

b.   (1 point)  Graph the short-run and long-run relationships between inflation and unemployment.

c.   (1 point) How much cyclical unemployment is necessary to reduce inflation by 2 percentage points?

d. (1 point) Explain how your answer may be different if the economy has Rational Expectations and full central bank credibility