Question: Problem 2. Consider a small open economy described by the following system of equations: Y = C+I+G+ NX, Y = 1000, C =0.4(Y -T) +

Problem 2. Consider a small open economy described by the following

Problem 2. Consider a small open economy described by the following system of equations: Y = C+I+G+ NX, Y = 1000, C =0.4(Y -T) + 300, I = 200 - 20r, G = 200, T = 200, 7* = 4, 40 NX = E Letters Y, C, I, G, and NX denote (real) output, consumption, investment, government purchases, and net exports. Letters T, r, r*, and e denote the tax, domestic real interest rate, world real interest rate, and real exchange rate. Solve for the equilibrium exchange rate. Discuss the effects of increasing the tax to 7 = 300 on the real exchange rate, consumption, investment, and net exports. Discuss the effects of a rise in world real interest rate to * = 5. Discuss the effects of an extreme form of trade protectionism: closing off all trade and becoming a closed economy. Explain the intuition behind all of your results

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