1. Consider an economy with the following equations.

C= 0.8 (1- t) Y

t= 0.25

I= 900 - 50i

G = 800

L= 0.25Y - 62.5i

M=2,500

P= 5

Where;

C is Consumption function, t is Marginal propensity to tax, I is Investment function, G is

autonomous Government expenditure, L is liquidity Preference, M is money stock and P is the

average price level.

a) Derive the IS curve relation for this economy. [3 marks]

b) Derive the LM curve relation for this economy. [3 marks]

c) Based on your answer in a) and b), interpret the nature of slopes of the IS and the LM curves.

[3 marks]

d) Determine the equilibrium output and real interest rate for this economy? [3 marks]

e) Suppose government increases its expenditure to 1,000. Calculate the new equilibrium

output and new interest rate at this level. [3 marks]