4. Consider the following Keynesian economy:

Desired consumption Desired investment d

I d

200 0.6

( )

300 300 .

Taxes 2 0

Government purchases Net exports 152.

0.2 .

It trades with a country that produces only cheese, and the currency of that country is crowns. The real exchange rate,

e, equals 5 wedges of cheese per bottle of wine. The foreign price level is 20 crowns per wedge of cheese, and the domestic money supply is 48 francs.

C Y T r r

T Y G

NX 150 0.08 Money demand Money supply 0.5

= + − −

= −

= +

=

= − −

= −

=

200 .

924.

Full-employment output 1000.

200 .

500 .

Y r L Y r M

Y

=

a. What are the general equilibrium (that is, long-run)

values of output, the real interest rate, consump tion, investment, net exports, and the price level?

b. Starting from full employment, government pur chases are increased by 62, to 214. What are the effects of this change on output, the real interest rate, consumption, investment, net exports, and the price level in the short run? In the long run?

c. With government purchases at their initial value of 152, net exports increase by 62 at any income and real interest rate so that NX

= − −

212 0.08 500 .

What are the effects of this change on output, the real interest rate, consumption, investment, net exports, and the price level in the short run? In the long run? Compare your answer to that for part (b).

Y r