Question 46 (6 points) Consider the following short-run closed economy IS--LM model described by equations (1) through (6): (1) C = 600 + 0.9(Y - T); (2) T = 150+0.25Y ;(3) G = 700; (4) | =800-40r;(5)Y=C+1+G;(6) M/P =0.5Y - 50r where the nominal money supply M=2000 and the price level is P = 1. Equation (5) is the goods market equilibrium condition (IS equation), while equation (6) is the money market equilibrium condition (LM equation). Suppose that the government grants an investment tax credit to firms to stimulate investment, so that | _bar increases from 800 units to 200 units. If the Bank of Canada uses monetary policy to maintain the output level constant, then this increase in |_bar will cause: O a) the interest rate to rise by 2.5 percent and the money supply to decrease by 125 units. O b) the interest rate to rise by 3.3 percent and the money supply to increase by 375 units. O c) the interest rate to fall by 2 percent and the money supply to increase by 300 units. O d) the interest rate to fall by 2.5 percent and the money supply to decrease by 275 units. Consider the Mundell-Fleming short-run model of a small open economy under floating exchange rates described by the following equations (1) through (7). Assume that there are free capital flows and that interest rate parity holds so that r = r* where r* = 6 is the world interest rate. (1) C = 600+0.75 (Y - T); (2) | = 1000 -60r*; (3) G =400; (4) T=150 + 0.20 Y: (5) NX = 500 - 100e ; (6) Y =C + 1+ G + NX; (7) (M/P )= 1.5Y -60r*. Equation (6) is the goods market equilibrium condition (IS* equation), while equation (7) is the LM* equation. The nominal money supply is M = 7500, the fixed domestic price level is P = 2 while the foreign price level is P*= 1. In equation (5), eis the nominal exchange rate. In this economy, the equilibrium output level Y* is equal to (approximately): a) y*=3100 () b) Y*=2740 () ) Y*=3650 () d) Y*=2356: Consider the Mundell-Fleming short-run model of a small open economy under floating exchange rates described by the following equations (1) through (7). Assume that there are free capital flows and that interest rate parity holds so that r = r* where r* = 6 is the world interest rate. (1) C = 600+0.75 (Y - T); (2) | = 1000 -60r*: (3) G =400; (4) T=150 + 0.20 Y: (5) NX =500 - 100e ; (6) Y =C + 1+ G+ NX; (7) (M/P )= 1.5Y -60r*. Equation (6) is the goods market equilibrium condition (IS* equation), while equation (7) is the LM* equation. The nominal money supply is M = 7500, the fixed domestic price level is P = 2 while the foreign price level is P*=1. In equation (5), eis the nominal exchange rate. In this economy, the equilibrium nominal exchange rate e* is equal to (approximately): Oa) e*=5.0 Op) er=11 () e* =638 (O d) e =9.32 Consider the Mundell-Fleming short-run model of a small open economy under floating exchange rates described by the following equations (1) through (7). Assume that there are free capital flows and that interest rate parity holds so that r = r* where r* = 6 is the world interest rate. (1) C = 600+0.75 (Y - T); (2) | = 1000 -60r*; (3) G =400; (4) T=150 + 0.20 Y: (5) NX =500 - 100e ; (6)Y=C +1+ G+ NX; (7) (M/P )= 1.5Y -60r*. Equation (6) is the goods market equilibrium condition (IS* equation), while equation (7) is the LM* equation. The nominal money supply is M = 7500, the fixed domestic price level is P = 2 while the foreign price level is P*= 1. In equation (5), eis the nominal exchange rate. In this economy, if lump-sum taxes T_bar fall by 50 units (from 150 to 100), then the exchange rate O a) falls by 0.25 and net exports fall by 50 units. Q b) falls by 0.5 and net exports rise by 50 units O c) rises by 0.38 and net exports fall by 37.5 units. Q d) rises by 1.25 and net exports rise by 250 units Consider the Mundell-Fleming short-run model of a small open economy under fixed exchange rates described by the following equations (1) through (7). Assume that there are free capital flows and that interest rate parity holds so that r = r*where r* = 6 is the world interest rate. (1) C = 600+0.75 (Y - T); (2) | = 1000 -60r* (3) G= 400; (4) T=150+0.20Y: (5) NX =500 - 100e; (6) Y=C+I1+G+NX; (7) (M/P)= 1.5Y- 60r*. Equation (6) is the goods market equilibrium condition (IS* equation), while equation (7) is the LM* equation. The nominal money supply is M = 7500, the fixed domestic price level is P = 2 while the foreign price level is P*= 1. In equation (5), eis the nominal exchange rate. Suppose that the Central Bank decides to fix the nominal exchange rate at efi* = 11. Then the domestic money supply M and the equilibrium output level Y* must (approximately) () a) M =5563.3; Y* =2500. () b) M=7250; Y* = 3750 Q o) Y* stays constant as the Central Bank adjusts the money supply to stabilize output. O d) M= 6236.25;Y*=2318.75 Consider the Mundell-Fleming short-run model of a small open economy under fixed exchange rates described by the following equations (1) through (7). Assume that there are free capital flows and that interest rate parity holds so that r = r*where r* = 6 is the world interest rate. (1) C = 600+0.75 (Y - T); (2) | = 1000 -60r*: (3) G= 400, (4) T=150+0.20Y: (5) NX =500 - 100e; (6) Y=C+ [+ G+ NX;, (7) (M/P)= 1.5Y- 60r Equation (6) is the goods market equilibrium condition (IS* equation), while equation (7) is the LM* equation. The nominal money supply is M = 7500, the fixed domestic price level is P= 2 while the foreign price level is P*= 1. In equation (5), eis the nominal exchange rate. Suppose that the Central Bank decides to fix the nominal exchange rate at efi* = 11. Suppose also that there is suddenly political turmoil in the country, and that it now faces a risk premium @ = 1, so that r = r*+ @ = 7. In this case, the domestic money supply M and the equilibrium output level Y* must be (approximately): O a) Y* stays constant as the Central Bank uses expansionary monetary policy to stabilize output. O b) M stays constant while Y* falls. O c) M=5666.25; Y*=2168.75 () d) M=5500: Y*=3155.6