Question 2 Consider the equilibrium equation in the goods market: Y =c0 +c1(Y T)+I +G ,

where: Y is the real domestic output, T is the tax revenue, I is the exogenous investment spending, G is the exogenous government spending, c0 is the consumption spending independent from Y , and c1 is the Marginal Propensity to Consume (MPC), with 0 < c1 < 1.

The on-going war between Russia and Ukraine has created economic uncertainty around the globe, shifting the consumption spending.

Assume that:

(i) the Australian households now choose to save more, i.e., increase in the marginal propensity to save (MPS) during this uncertain period, ceteris paribus.

(ii) Australian government is running a balanced budget, i.e. G = T . Explain and illustrate graphically the effect of the increase in the MPS on:

(a) The total demand line (ZZ). Show clearly the effect on the intercept with the vertical axis and the slope.

(b) The autonomous spending.

(c) The multiplier.