ISI 2007 ME II

[priyesh]

pls help me with the question????

[Spiti]

I am having difficulty in mathematically representing second sentence..
We can use the slopes of LM and IS curves to find out simple multiplier ie 1/(1-c) as 2.5 and equilibrium multiplier Ie 1/(1-c -ik/l)comes out to be 5/3.
So difference between these two multipliers is the COE which is 5/6.

What should be next step, I'm not sure.

[Amit Goyal]

I = -50r + k(1)
IS curve:
y - cy =  -50r + G + k(2)
Also, given that slope of IS is -1/125 implies that -50/(1-c) = -125. Thus, c = 75/125 = 3/5.
Hence, IS curve is:
y = -125r + 2.5G + k(3)
LM curve:
y = 250r + k(4)

where k(1), k(2), k(3), k(4) are constants.


Solving IS and LM for y, we get:
y = (5/3)G + k(5)

where k(5) is also a constant.

Crowding out  = (2.5 - 5/3)ΔG
So, 50 = (2.5 - 5/3)ΔG
gives us ΔG = 150/2.5 = 60.
ΔY = (5/3)ΔG = 100.

[Dreyfus]

But Amit sir, monetary policy is accommodating in this as gov. wants to prevent crowding out of investment.... Then why Δy is not equal to the multiplier times ΔG....I mean when there is fiscal expansion the shift of IS curve is multiplier times ΔG and when there is accommodating monetary policy so that money increases in such a way the equilibrium r remains constant and whole change in Y is given by the shift of IS curve I.e multiplier times ΔG....den why Δy≠multiplier times ΔG? Or is ΔY=100 is the pre monetary expansion change in Y? Please help...

[Spiti]

Thank you

[Amit Goyal]

That is subject to interpretation. I have computed change in Y before accommodating monetary expansion is applied.

[Dreyfus]

OK....thanks a lot sir

[mrittik]

Amit Sir, i think the ans is 125+250=375 by Slope method....