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Material Type: Assignment; Professor: Vazzana; Class: Principles of Macroeconomics; Subject: Economics; University: Berea College; Term: Short 2000;
Typology: Assignments
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Problem Set 9 Econ 101
1. Answer the following questions given the table below and an MPC=.75 and taxes are zero. Make sure you explain how you found your answers and show any formulas you use. Y C S 0 50 500 1000 1500 2000 a. Fill in the table above. b. What is your MPS? c. What are the consumption and saving functions? d. Graph the consumption and saving functions. Label carefully. 2. Sketch a diagram with a 45-degree line and an aggregate expenditure line that describes macroeconomic spending balance. What factors determine how steep the aggregate expenditure line is? What macroeconomic relationship does the 45-degree line describe? Show on the diagram what will happen to the level of income if there is a rise in government purchases. Does U.S. income increase by more or by less than the upward shift in government purchases? Explain. 3. Given the following consumption function stated in algebraic form, calculate real GDP (Y) that results in spending balance in the economy: C=100+.5(Y-T) I= G= X= T= a. Suppose you find out that government purchases will increase to 300 next year. What is your forecast of real GDP for next year? Which way did the AE line shift? b. Suppose businesses are pessimistic about how the economy will do next year. They decide to decrease their spending on plant and equipment by 100. How will this shift the AE line and by how much? What is the new level of real GDP? c. Now suppose that the marginal propensity to consume is .6 instead of .5. How does this affect the level of real GDP at spending balance? Why? d. Explain what happens when the government decides to increase taxes by $50 per person. Which way does the AE line shift? Why? How does this affect real GDP in the economy? e. Suppose the government decides to increase taxes and government purchases by the same amount, that is T and G both rise to 300. Calculate the new equilibrium Y and compare it to the original equilibrium with G=T=200. Why did Y go up when both T and G rose by the same amount? 4. Suppose government purchases will increase by $100 billion, and a forecasting firm predicts that real GDP will rise in the short run by $100 billion as a result. Would you say that forecast is accurate? Why? If you were running a business and subscribe to that forecasting service, what questions would you ask about the forecast? 5. Suppose that American goods suddenly become unpopular in Europe. What happens to net exports? How will this shift the AE line? What happens to real GDP? Demonstrate this in a diagram. 6. Let the consumption function be given by C=1+.6(Y-T) where T = taxes. Suppose I+G+X = 3. Everything is measured in trillions of dollars. a. Find real GDP (Y) when T=1. b. Now increase T to 1.2. What happens to Y compared to part a.? c. Now decrease T to .8. What happens to Y compared to part a.? d. Using these results, explain how changes in taxes would affect one’s short-term forecast of real GDP.
Multiple Choice practice problems (not for quiz):
c. The AE line would shift up by $10 billion. d. The AE line would shift down by $20 billion. e. The AE line would shift up by $7 billion.