The response of the economy to fiscal policya. Use an IS-LM diagram, show the effects on output of a decrease in government spending. Can you tell what happensto investment? Why?Now consider the following IS-LM model:

C = c₀ + c₁(Y - T)

I = b₀ + b₁Y - b₂i

Z = C + I + G

i = i

b. Solve for equilibrium output when the interest rate isi.Assume c₁ + b₁ < 1. (Hint: You may want to reworkthrough Problem 2 if you are having trouble with this step.)

c. Solve for equilibrium level of investment.

d. Let's go behind the scene in the money market. Use theequilibrium in the money market M/P = d₁Y - d₂i tosolve for the equilibrium level of the real money supplywhen i = i. How does the real money supply vary withgovernment spending?