1. Consider the following short-run model of an open economy: Y C+I + G+ NX C ( +0 :7( Y : T) NX IM E LY E 10 1 IM Domestic and foreign prices are constant with P = P' = 1 : Thus, the real exchange rate is equal to the nominal rate E (a) Suppose that autonomous consumption and foreign income are ini- tially given by Y 800 The policy makers want to achieve the following targets for output, consumption and net exports: YT = 200, CT = 120 and NXT = 0. Show how these targets can be achieved using government consump- tion (G), taxes ( T ) and the exchange rate ( E) as policy instruments. The required values of the policy instruments are G 48 T 40 E 2 (b) Now suppose that there is an increase in autonomous consumption and foreign income to 15 = 1000 Calculate the new values of the policy instruments if you want to keep output, consumption and net exports at the unchanged target levels (YT = 200, CT = 120; NXT = 0) : Carefully explain the eco- nomic intuition behind the (directions of the) changes of the policy instruments