Question

The following hypothetical data shows the demand schedule for business investment (or the amount of business investment that would be generated at various rates of interest).

Interest Rate (%)	Business Investment   ($Billions)
0.50	360.0
0.75	355.0
1.00	350.0
1.25	340.0
1.50	330.0
1.75	320.0
2.00	310.0
2.25	295.0
2.50	280.0
2.75	265.0
3.00	250.0

Hypothetical assumptions for the economy:  

Leakages are 40% of new income.

                                                                                                                       

The current bank rate is 1.50%.

The current Real GDP in 2019 dollars is $2,109,000,000,000 OR $2,109 Billion

It is estimated that the potential output RGDP would be $2,159 Billion.

           

1.         Use the information above to solve the following problem.

1. Identify whether there is a recessionary gap or an inflationary gap and the amount of the output gap.

2. Given that leakages are 40%, what is the amount of the multiplier on any new spending?

3. Using the multiplier, what change in business investment spending would change GDP enough to eliminate the output gap?

4. What new rate of interest would bring about this change in business investment?

2.         How much would GDP change if the government decreased taxes by $100 million dollars and leakages are 70%? (1 mark)

3.         Draw a label a model for Aggregate Demand and Short-Run Aggregate Supply.   Draw Long-Run Aggregate Supply (LRAS) on your chart to show the output gap in this case. Use the chart to show how the change in business investment spending will affect the economy and the impact on inflation and the RGDP.

Answer 1