A simplified economy is specified as follows:

A. Goods market, all values C, I, G and NX values are in billions of C$:

Consumption Expenditure:

C = 110 + 0.7(Y-T)

Investment Expenditure:

I = 1,000 - 4,100i

Government Expenditure:

G = 480

Lump-sum Constant Taxes:

T = 480

Exports:

60

Imports:

40

B. Money market, all M^dvalues are in billions of C$:

Interest Rate:

i= 0.03 or 3%

Money Demand:

M^d= 1,500 - 19,500i

Note:Keep as much precision as possible during your calculations. Your final answers should be accurate to at least two decimal places.

a)Given the above information, solve for the following: The equilibrium Y, money supply M, consumption expenditure C, and investment expenditure I.

Y

=

3,836.67

M

=

915

C

=

2,459.67

I

=

877

The Conference Board of Canada has recently announced that consumer confidence in Canada dropped. Let the drop in consumer confidence to be equal to 10 points, from 110 to 100, so now C = 100 + 0.7(Y-T).

b)Find the value of the goods market multiplier.

Goods market multiplier =

3.33

c)Find the new Y, by either using the long calculation method or by using the multiplier.

New Y =

3,803.33

d)Demonstrate how the drop in consumer confidence would affect the economy through the multiplier. Use three rounds of effects to demonstrate the multiplier effects. Let the first round be related to car purchases, the second round related to clothing, and the third round related to food.

C drops by 1, so we buy one less car. Car workers have $1 less in income, so

they spend $

0

less on clothing (they still have to wear something, the $

0

worth of clothing). Clothing workers have $

0

less income, so they spend

$

0

less on food (they still have to eat, the $

0

worth of food), and so on...

e)Suppose the Bank of Canada (BOC) is trying to reverse this adverse effect on the economy. For simplicity, it is not concerned about inflation for now. The BOC can drop the bank rate in order to stimulate investment spending (I). Suppose you work for the BOC and your boss Mark Carney has just dropped by your office to ask you what he should do.

You need to find the new interest rate that is required to stimulate I. The increase in I has to be sufficient to push the overall Y level back to the original Y level that you have found in a).

Hints:You already know what the value of Y has to be. Now determine what the new I must be in order to offset the drop in consumer confidence, then find theithat is required to achieve this new I.

i =

0

%