Question

Question 7. Imagine that the production function of a small open economy is given by: Y- AK111/2 where A-1,25 K-L-3600 C-200+0,75Yd CA=-600+600q T-900 I-1000- 6000r G= 1 200 Please, calculate: . Th r* 5% e level of C, I, S, CA and q in equilibrium if we are a closed economy; The level of C, I, S, CA and q in equilibrium if we open our economy; How should change the government spending in order to assure the CA equilibrium? What would happen to the real exchange rate? How will change C, I, S, NX, q if interest rate drops by 3%? How will change C, I, S, NX, q if capital stock rises by 625? . . .

Answer 1

In a closed economy: CA = 0 Therefore -600 + 600q = 0 Therefore q = 1 Aggregate expenditure of close economy Y = C + I + G = 200 + 0.75 (Y - 900) + 1000 - 6000r + 1200 = 2400 + 0.75 Y - 6000r - 675 or: 25Y = 1725 - 6000r Therefore Y = 6900 - 24000r Y at full employment: Y = 1.25 (3600)^1/2 (3600)^1/2 = 4500 Therefore r = 6900 - 4500/24000 = 0.1 Therefore C = 200 + 0.75 (4500 - 900) = 2900 Therefore I = 1000 - 6000 (0.1) = 400 Therefore S = Y - C - T - G + T = 4500 - 2900 - 1200 = 400 CA = 0 \r\n In open economy: I = 1000 - 6000 (0.05) = 700 C = 2900 G = 1200 Therefore Y = C + I + G + CA or, 4500 = 2900 + 700 + 1200 + 600q - 600