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9. Consider the goods market with exogenous (constant) investment ¯I, exogenous
government spending, ¯G and constant taxes, T. The consumption
equation is given by,
C = c0 + c1(Y − T),
where C denotes consumption, c0 denotes autonomous consumption, and c1
the marginal propensity to consume.
• (i) Solve for equilibrium output. What is the value of the multiplier ?
• (ii) Now let investment depend on Y and the interest rate, i
I = b0 + b1Y − b2i,
where b0 and b1 are parameters. Solve for equilibrium output. At a given
interest rate, is the effect of an increase in autonomous spending bigger
than it was in part (i)? In answering this, assume that c1 + b1 < 1.
• (iii) Now, introduce the financial market equilibrium condition
M/P= d1Y − d2i,
where M/P denotes the real money supply. Derive the multiplier. Assume
that investment is given by the equation in part (ii).
• (iv) Is the multiplier you obtained in part (iii) smaller or larger than the
multiplier you obtained in part (i). Explain how your answer depends
on the behavioral equations for consumption, investment, and money demand.
I got the answers for first two, I have a doubt in (iii), not really sure regarding which multiplier to find. Please help.
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