1. Openness in the Goods Market (19 Points)

Let us consider a domestic open economy described as follows:

C = 10 + 0.5(Y-T)

I = 3 + 0.3Y

G=10

IM/e = 0.2Y

X = 0.3Y*/e

where e stands for the real exchange rate defined as the price of one unit of the domestic good in terms of foreign goods and Y* stands for the foreign output/income. The government budget deficit is equal to 2% of the domestic output/income denoted by Y.

a. Write down the equation of the net exports schedule (NX) for the above domestic economy. Does the Marshall-Lerner condition hold? (4 Points)

b. Write down the domestic goods market equilibrium condition. Solve for the domestic equilibrium output/income Y given Y* and e. (3 Points)