Question

C = $300 billion + 0.75 YD

I = $300 billion

Use this information to complete this problem:

Identify the equilibrium rate of output (or GDP) .

If full-employment GDP equals $2500 billion ,what kind of Gap will develop (recessionary or Inflationary ) ? Explain clearly.

How much is the gap ?

What is the value of the multiplier?

What would happen to equilibrium GDP if the rate of investment increased to $350 from current $300 billion per year?

What will happen to Equilibrium GDP if Govt. takes a stimulus plan by increasing its spending by $50 billion ?

Answer 1

Y=C+S

S=Y-C

S=Y-300-0.75Y{ because there is no taxes given so disposable income would be EQUALS to income}

S=-300+0.25Y

As we know there are two ways to get equilibrium in two sector economy.

First is ,

AD=AS

I=S{we are going to use this}

I=300$ billion

300=-300+0.25Y

600=0.25Y

Y=600/0.25=2400 billions $

Full employment gdp=2500billion $

As output is lower than full employment output ,there will be recessionary gap{ difference between full unemployment and actual gdp when actual gdp is lower than full employment gdp is called recessionary gap}

Gap=2500-2400=100billion$

If investment increased from 300 to 350then,

350=-300+0.25Y

650/0.25=Y

Y=2600

Multiplier =∆Y/∆I

∆I=350-300=50

∆Y=2600-2400=200

Multiplier=200/50=4

As government spending is exogenous so there will be multiplier effect of increasing government spending.

Multiplier=4

∆G=50

∆Y=∆G*Multiplier=50*4=200

Due to increase in G by 50,income increase by 200

The new EQUILIBRIUM gdp =2600+200=2800