Closed Economy. Draw IS and LM. Multiplier. Equilibrium. New r,Y,P, D. Label. show all calculations and formulas. a,b,d,c,e

1 [Open Economy lS-LM] A small open economy is initially described by the following equations c = 50 + 0.50(Y T) 1 = 200 30:- NX = 100 25.2 M d () =Y20r P G=150 T=50 M=1,500 P=3 r*=5 Calculate the equilibrium exchange rate, level of income, and net exports. (6 ptSl . Assume the central bank maintains a xed exchange rate to the level in part (a). If the government wants to increase output by 10%, how can they achieve this goal using tax policy? (What must they set T to?) Which components on drive the increase in output? (8 pts) Now assume the exchange rate is floating. Does this change your recommendation in part (b)? Briefly explain. (3 pts) . Go back to the equilibrium in part (a) and assume the exchange rate if fixed to its equilibrium value. A large open economy starts raising their interest rates to combat ination. This causes 7'\" to rise above its current level. Graph the new equilibrium and label it clearly (you don't need to calculate numbers). (4 pts) In our models, we assume that the central bank can always maintain the exchange rate at their desired level. Briefly describe two reasons why a central bank might have trouble maintaining the exchange rate in practice. (4 pts)