# B2. Closed Economy IS-LM-FE model: The behaviour of households and firms in a closed economy is...

###### Question:

B2. Closed Economy IS-LM-FE model: The behaviour of households and firms in a closed economy is represented by the following equations Desired consumptionC 200+0.8(Y-T-500r Desired investment : r = 200-500r Real money demand where expected inflation is ㎡-0.10 and taxes depend on income according to T 20+0.25Y. (a) Derive an expression for the IS curve with the real interest rate on the left side of the equation. How does the position of the IS curve depend on G? (b) If the money supply is M = 9890 derive an expression for the LM curve, with the real interest rate on the left side of the equation. How does the position of the LM curve depend on P? (c) If government purchases are G 196, derive an expression for the aggregate demand curve. If the full-employment output evel isY 1000, what is the price level and the real interest rate in general equilibrium? (d) Starting from the situation in part (c), suppose government purchases are increased to G 216, what are the resulting values of Y, r, P, T, Cd and Id in the short-run? (e) How does the economy adjust to its new general equilibrium after the change in part (d)? What are the resulting general equilibrium values of Y, r, P, T, Cd and 1?

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