The economy of a country operating under the IS-LM model is described by the following equations: C = 100 + 0; 75(Y - T) T = 80 I = 90 - 100i G = 100 Md =Y-100i Ms = 440 a) Calculate the equilibrium income and interest rate for this economy.

b) The government believes that the equilibrium interest rate and income are too low. What policies should they implement to obtain exactly a 5% interest rate and simultaneously obtain an income of 1000? Calculate the values of Ms and G so as to obtain this result. Taxes remain at their value of 80.

c) Plot on the same graph the equilibrium calculated in a and the equilibrium calculated in b. d) Starting from equilibrium a, what combination of macroeconomic policies reduces the budget deficit while keeping the interest rate constant? Plot the effect of the combination, and comment on it.

e) Why is the IS curve decreasing? What component of spending justifies this decrease? Explain the behaviour of economic agents f) On which variables does the demand for money depend? For each of these variables, what is the sign of the dependence and the reason for it?

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Understanding the ISLM Model of the Economy This problem requires analyzing an economy described by the ISLM model and implementing various policies t... View the full answer