Consider the following IS/LM model:

1. Find the equation of the IS curve of this economy (you must have Y on the left and
everything else on the right of the equation).
2. The central bank sets an interest rate of 10%. How does this decision translate into
in the equations defined above?
3. What is the level of money supply when the interest rate is 10%. Use
the real cash flow demand equation: (𝑀/𝑃)^𝑑 = 2𝑌 − 8000𝑖

4. Find the equilibrium values of C and I and check the result by calculating Y by summing
C, I and G with the values you get.
5. Assume that the central bank lowers its key rate to 10%. What
are the consequences of this decision on the LM curve? Find the balance for Y, I and C,
and explain in a written manner the effects of expansionary monetary policy. What
is the new equilibrium value of 𝑀/𝑃?
6. Let's return to the initial case where the interest rate set by the central bank is 5%.
Suppose that government spending increases so that 𝐺 = 400. Explain the
effects of an expansionary fiscal policy on Y, I and C. What is the effect of an expansionary fiscal policy
expansionary budget on the money supply?

2. Consider the following IS-LM mode:

C=200 + .25YD

I=150+.25Y-1,000i

G=250

T=200

(M/P)^d =2Y-8000i

M/P=1,600

2a. Derive the IS relation

2b. Derive the LM relation.

2c. Solve for equilibrium real output

2d. Solve for the equilibrium interest rate.

2e. Solve for the equilibrium values of C and I, and verify the value you obtained for Y by adding C, I, and G.

2f. Now suppose that the money supply increases to M/P=1840. Solve for Y,i,C, and I.

2g. Set M/P equal to its initial value of 1,600. Now suppose that government spending increases to G=400. Summarize the effects of an expansionary fiscal policy on Y, i, and C.

1. Lowering interest rates is a common monetary policy tool used to;

A. stimulate economic growth.

B.lower inflation.

C.decrease government borrowing costs.

D.none of these

2. Lower interest rates can also;

A.push prices lower.

B.push prices were higher.

C.lead to stagnation.

D.none of these

3. When central banks increase the money supply and take steps to lower interest rates it is known as;

A.expansionary monetary policy.

B.an inflation hawk stance.

C.contractionary monetary policy.

D.expansionary fiscal policy.

4. When Governments increase expenditures it is known as;

A.expansionary fiscal policy.

B.Contractionary fiscal policy.

C.contractionary monetary policy.

D.expansionary monetary policy.

Consider an economy described by the following equations: C = 200 + 0.75(Y-T) where I = 200 - 25r, G = 100, T = 100, L(r, Y) = Y - 100r M = 1000 P = 2

(a) Derive the equation for the IS curve

(b) Derive the equation for the LM curve.

(c) What are the equilibrium interest rate r and the equilibrium level of output Y?

(d) What is the government purchases multiplier?

(e) What is the tax multiplier?

(f) Suppose that government purchases are raised from 100 to 150. How does the IS curve shift? What are the new equilibrium interest rate and level of output?

(g) Suppose instead that the money supply is raised from 1,000 to 1,200. How does the LM curve shift? What are the new equilibrium interest rate and level of output?

(h) With the initial values for monetary and fiscal policy, suppose that the price level rises from 2 to 4. What happens? What are the new equilibrium interest rate and level of output?