Q1. Adding Government: The Consumption Function Out of National Income

Background

Topic: Consumption Function, Disposable Income, and Government Sector

This question tests your understanding of how the consumption function is constructed, how disposable income is calculated, and how government taxes affect consumption and aggregate expenditure.

Key Terms and Formulas

• Consumption Function:

• Disposable Income:

• Net Taxes:

• Marginal Propensity to Consume (MPC):

• MPC out of national income:

Step-by-Step Guidance

1. Start by identifying the parameters of the consumption function: .

2. For each value of disposable income (), substitute into the consumption function to fill in the table for desired consumption.

3. Calculate the slope of the consumption function, which is the marginal propensity to consume (MPC): .

4. When taxes are introduced (), calculate disposable income for each level of national income: .

5. Substitute into the consumption function to get as a function of (national income), then fill in the table for desired consumption out of national income.

6. Calculate the new slope (MPC out of national income): .

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Q2. Government Budget Balance

Background

Topic: Government Purchases, Net Taxes, and Budget Balance

This question tests your ability to calculate the government budget balance at different levels of national income and determine whether there is a deficit or surplus.

Key Terms and Formulas

• Government Purchases: (given as a constant)

• Net Tax Revenue:

• Budget Balance:

• Deficit:

• Surplus:

Step-by-Step Guidance

1. For each value of (100, 200, 300), calculate net tax revenue: .

2. Subtract government purchases () from net tax revenue to find the budget balance: .

3. Determine if the result is a deficit (negative) or surplus (positive) for each income level.

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Q3. Foreign Trade: Exports and Imports

Background

Topic: Open Economy, Exports, Imports, and Exchange Rates

This question examines your understanding of how exports and imports are modeled, and how changes in the exchange rate affect these functions.

Key Terms and Formulas

• Exports: (autonomous, not dependent on )

• Imports: (induced by national income)

• Marginal Propensity to Import:

• Appreciation of the Canadian Dollar: Makes imports cheaper, exports more expensive for foreigners

Step-by-Step Guidance

1. Sketch the export function as a horizontal line at (since it is autonomous).

2. Sketch the import function as a straight line through the origin with slope ().

3. Show the effect of an appreciation of the Canadian Dollar: shift the export function down (exports decrease), and rotate the import function up (imports increase at each level of ).

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Q4. Equilibrium National Income

Background

Topic: Aggregate Expenditure, Equilibrium, and Inventory Adjustments

This question tests your ability to construct the aggregate expenditure function, analyze inventory changes, and solve for equilibrium national income algebraically.

Key Terms and Formulas

• Aggregate Expenditure:

• Equilibrium Condition:

• Inventory Adjustment: If , inventories fall; if , inventories rise

Step-by-Step Guidance

1. Write out the AE function using the given equations for , , , , , and .

2. For a given (e.g., or ), substitute into the AE function to find desired aggregate expenditure.

3. Compare to to determine if inventories are accumulating or depleting, and predict how firms will adjust output.

4. Set and solve algebraically for the equilibrium level of national income, but stop before the final calculation.

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Q5. Marginal Propensity to Spend and the Simple Multiplier

Background

Topic: Multiplier Effect, Marginal Propensity to Spend, and Fiscal Policy

This question tests your understanding of how to calculate the marginal propensity to spend (), the simple multiplier (SM), and the effect of changes in government expenditure or tax rates on equilibrium national income.

Key Terms and Formulas

• Marginal Propensity to Spend:

• Simple Multiplier:

• Change in Equilibrium Income:

Step-by-Step Guidance

1. Calculate using the given values for , , and .

2. Calculate the simple multiplier using .

3. For a change in government expenditure, use to set up the calculation for the change in equilibrium income.

4. For conceptual questions, explain how changes in the exchange rate or tax rate would affect and (e.g., an increase in lowers and ).

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