This question explores IS and FX equilibria in a numerical example.
a. The consumption function is C = 1.5 + 0.75(Y – T). What is the marginal propensity to consume MPC? What is the marginal propensity to save MPS?
b. The trade balance is TB = 5(1 – [1/E]) – 0.25(Y – 8). What is the marginal propensity to consume foreign goods MPCF? What is the marginal propensity to consume home goods MPCH?
c. The investment function is I = 2 – 10i. What is investment when the interest rate i is equal to 0.10 = 10%?
d. Assume government spending is G. Add up the four components of demand and write down the expression for D.
e. Assume forex market equilibrium is given by i = ([1/E] – 1) + 0.10, where the two foreign return terms on the right are expected depreciation and the foreign interest rate. What is the foreign interest rate? What is the expected future exchange rate?