2. Points = 30.

Consider the following national income model (with taxes ignored):

Real Sector: Y - C (Y) - I (i) - G0 = 0 (0

<1; I '

<0)

Money Market: kY + L(i) - Ms0 = 0 (k= positive constant; L '

<0)

Analyze the comparative statics of the model due to monetary and fiscal policies.

1) Check if Implicit Function Theorem applies.

2) Write down the equilibrium identities.

To analyze the effect of monetary policy:

3) Setup the matrix equation assuming that Ms0 is a disequilibrating factor;

4) Take partial derivatives of Y* and i* with respect to Ms0;

5) Determine the signs of partial derivatives in (4);

6) What is the economic interpretation of the signs of partial derivatives in (5)?

To analyze the effect of fiscal policy:

7) Setup the matrix equation assuming that G0 is a disequilibrating factor;

8) Take partial derivatives of Y* and i* with respect to G0;

9) Determine the signs of partial derivatives in (4);

10) What is the economic interpretation of the signs of partial derivatives in (9)?