In this question we will calculate the fiscal multiplier, considering both foreign income and taxes endogenous. In particular, we will relax the small open economy hypothesis. The domestic country now affects the demand for goods from the foreign country, via its imports - which impact foreign exports, which again affect the demand for goods in the domestic country, and so on. Tax collection depends on the product.

Suppose that the consumption, import, export and tax collection functions for the domestic country are given by:

C = c₀ + 0.6(Y-T)

IM = 0.3(Y-T)

X = 0.3(Y*-T*)

T = 0.1Y

In the foreign country, the structure is symmetrical:

C* = c₀ + 0.6(Y*-T*)

IM* = 0.3(Y *-T*)

X* = 0.3(Y-T)

T* = 0.1Y*

Suppose that investment (I, I*) and government consumption (G, G*) in the two countries are exogenous, and the real exchange rate is equal to 1.

Calculate the domestic country's fiscal multiplier.

Hint: The correct answer is: 1.59. Demonstrate the calculations used.