1. Closed Economy problem: Full-employment GDP (Y) is $6,000. Consumption is C= 500 + 0.75(Y – T) and Investment is I= 1,250 – 100r, wherer is the rate of interest as a percent. Net Taxes (T) are $1,000 and government spending (G) is also $1,000. The economy is closed and output and income are equal to the full-employment value. When the loanable funds market is in equilibrium, the interest rate (r) = %. Suppose net taxes are reduced from $1,000 to $800. This policy causes the supply of loanable funds to shift to the (right/left) changing the interest rate (r) to %. This example illustrates (complete/partial) crowding out. 2) Open Economy problem: Consider an economy described by the information below. Calculate Consumption (C), National Saving (S), Net Foreign Investment (NFI), Net Exports (NX), and the equilibrium exchange rate (ɛ). The world interest rate is given by r* and is assumed to remain constant. Y=C+I+G + NX Y = 10,000 G=2,000 T= 2,000 C = 1,200 + 0.75(Y – T) I = 1,200 – 50r r* = 6 NX = 700 - 800ɛ NFI = NX = %3D =D3 Suppose government increases spending from $2,000 to $2,400, with no change in net taxes. Calculate the new values for Consumption, National Savings, Net Foreign Investment, Net Exports, and the real exchange rate. NFI = NX = = 3 Did the fiscal policy have a positive effect on output and employment? (yes/no) Did the domestic currency appreciate or depreciate in real terms?

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