Introduction to Macroeconomics Econ 104
Worksheet 4 – Keynesian Model of the Economy
1. Consider a closed, simple economy (not necessarily at full employment) with no government,
characterized by the following equations, (C is Consumption, PDI is personal disposable Income,
and I is Investment):
C = 200 + .75(PDI)
I = 300
a. Using the Graph below, graph the Consumption Function, Investment, and Aggregate
I = 300
0 Y = Income
b. On the Graph, label the point where Savings = 0, the point of equilibrium income. Then,
derive the values for these using the equations above.
AE = C + I
AE = Y
Y = C + I Y = 500 + 0.75(DPI) & Y = DPI
DPI = 500 + 0.75(DPI) 0.25(DPI) = 500
DPI = 2000 (WHERE S=0) Y = 500 + 0.75(2000)
Y = 2000
Savings = 0, Income = 2000 Equilibrium Income = 2000
c. At Equilibrium, how much are consumers saving? Investment?
Equilibrium Savings = 300 Equilibrium Investment = 300
What is the relationship between these two concepts in the model?
At equilibrium, S = I
d. What happens to equilibrium Income and Savings when Investors get pessimistic and
reduce Investment to 200?
Income would decrease
New Equilibrium Income = 1600 New Equilibrium Savings = 200 2. Now, consider another, more elaborate open e