Iowa State University

Department of Economics

Intermediate Macroeconomics

ECON 302

Problem Set # 1

This problem set is due Tuesday, September 12

1. Assume a simple economy with no government and no foreign sector. The model is:

TE = C + I

C = a + b Y

Where a = 100, b = .75, and I = 200.

a. Graph the consumption function using 4 values of Y.
b. In a separate diagram, graph the Total Expenditures schedule.

c. Calculate the equilibrium level of national product. What is the level of consumption at equilibrium Y?

d. If actual output was 1000, what would the level of consumption be? What would the level of Total Expenditures be? Describe the process that would lead the economy back to equilibrium.

2. The model is:

TE = C + I + G

C = a + b (Y - t Y + TR)

I = I

G=G

where

a = 60	G = 250
b = .8	TR = 200
t = .25	I = 200

a. What is the equilibrium level of national product?

b. What is the government's budget surplus?

c. The government decides to increase the tax rate to balance the budget. Let the change in the tax rate be +.04 (i.e., D t = +.04). Calculate the D Y from this tax rate change. What is the new equilibrium level of Y? What is the budget surplus? Graphically depict the effect of this tax rate change on Total Expenditures.