ECMA06_Tutorial_6_Solution.doc

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Department
Economics for Management Studies
Course Code
MGEA06H3
Professor
Iris Au

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ECMA06 Tutorial #6 Answer Key Question 1 Part (a) • Without a government sector, DI = Y, so the consumption function is: C = 50 + 0.75Y – (P – 100) • The AE function: AE = C + I AE = [50 + 0.75Y – (P – 100)] +[100 – 3(0.04 – 0.04)] AE = 250 + 0.75Y – P • The AD function To derive the AD function, we make use of Y = AE. Y = 250 + 0.75Y – P 0.25Y = 250 – P Y = 1000 – 4Por P = 250 – 0.25Y dP dP • The slope of the AD function is downward sloping because dY < 0. In this question.dY = – 0.25. Part (b) P = 50 P = 100 P = 200 AD: Y = 1000 – 4P 800 600 200 • See page 2 for the linked diagram. Part (c) Suppose at r = 0.04 investment increases to 125: • The new AE function: AE = C + I AE = [50 + 0.75Y – (P – 100)] +[125 – 3(0.04 – 0.04)] AE = 275 + 0.75Y – P • The new AD function To derive the AD function, we make use of Y = AE. Y = 275 + 0.75Y – P Y = 1100 – 4Por P = 275 – 0.25Y • The shift in AD: 1 1 ⇒ The multiplier: M = 1 - dAE dY = 1 - 0.75 = 4 ⇒ The shift in AD = M × ΔI = 4 × 25 = 100 (for any given price level, AD shifts to the right to AD by 100) ⇒ Proof: If P = 100, Y = 1100 – 4(100) = 700, which is 100 more than the case in part (a). • See page 2 for the linked diagram. ECMA06 Tutorial #6 Answer Key 1 Question 1 Diagrams Part (b) Part (c) AE AE AE = Y AE = Y AE(P= 100, I=125) AE(P= 50) AE(P= 100) AE(P= 100, I=100) AE(P= 200) 45° 45° Y Y 200 600 800 600 700 P P 200 100 100 50 100 AD AD 0 AD 1 Y Y 200 600 800 600 700 ECMA06 Tutorial #6 Answer Key 2 Question 2 Part (a) • Without a government sector, DI = Y, so the consumption function is: C = 30 + 0.5Y – (P – 100) • The AE function: AE = C + I AE = [30 + 0.5Y – (P – 100)] + [70 – 1.5(0.05 – 0.05)] AE = 200 + 0.5Y – P P = 80 P = 100 P = 120 P = 140 P = 160 P = 200 Get Y by setting AE = Y 240 200 160 120 60 0 • The AD function To derive the AD function, we make use of Y = AE. Y = 200 + 0.5Y – P 0.5Y = 200 – P Y = 400 – 2P or P = 200 – 0.5Y • Equilibrium output & price: Equilibrium is defined as AS = AD: 50 + 0.25Y = 200 – 0.5Y 0.75Y
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