Page 4 SECTION B: Answer ONE of the two questions 2. Output and Growth (a) Indicate whether the following statement is true, false, or uncertain and explain your answer using words, graphs and equations as appropriate. (i) If firm's production functions exhibit diminishing marginal product of both capital and labor, then an increase in capital will result in an increase in the marginal product of capital. (ii) If total factor productivity and the number of workers both rise, then real wages will be unchanged. (iii) In the Solow model with technological progress, if the efficiency of labor is increasing at rate g, then in steady state both the real wage and the real rental price of capital also grow at rate g. (15 marks total) (b) Consider an economy where consumption is given by C = 400 + 0.5Y. The investment function is 1 = 800-200r. Taxes are 200. And there is a budget deficit of 100 Suppose the demand for money in this economy is given by; (M/P) = (1/3)Y + 400. The nominal money supply is 2400, and the price level is 3. Suppose these equations describe a Keynesian Economy. (i) What is the equation of the IS curve? What is the equation of the LM curve? What are the respective intercepts and slopes of these two equations? (ii) Calculate all equilibrium values and graphically illustrate equilibrium. Question 2 continued on next pagePage 5 Now consider a standard Solow growth model with a Cobb- Douglas production function and labor's share of output being 2/3. Suppose that the savings and depreciation rates are the same and the population growth rate is half the depreciation rate. (iii) Calculate the values of the endogenous variables in steady state equilibrium? Graphically illustrate equilibrium. (iv) Calculate both the golden rule capital-labor ratio and golden rule savings rate. How does the golden rule capital-labor ratio compare to the capital-labor ratio in part (iii)