Question

Recall that in an open economy Y = C + I + G + NX, where
                            Net Exports NX = EX - IM.
     Suppose a country's exports EX are independent of (unrelated to) its national income Y, but its
      imports IM tend to increase whenever Y increases.

a. Briefly explain why imports might behave in this manner.

      b. Given these assumptions draw each of the following curves as a function of Y
           on a separate graph:

                1) Exports EX

                2) Imports IM

     3) Net Exports NX = EX – IM (be careful)

       c. Explain how this change concerning the behavior of net exports would
            affect the slope of the planned expenditure curve.

d. Refer to the round-by-round story to explain intuitively how this change would
       affect the multiplier.

            e. State and briefly explain how this change would affect the slope of the IS curve.

Answer 1

a:-ans In an economy imports depend on the marginal propensity to import (mpm). If mpm is positive (say 0.1)then with increase in unit disposable income, import will increase (10%)

b:-ans Diagram submitted in photos

c:-ans The slope of planned expenditure curve will become flatter when we add net export to it because imports are negative function of national income.

d:-ans There will be a backward multiplier effect as imports are withdrawal from the circular flow.

K=1/1-(mpc-mpm)

e:-ans A high import propensity would make IS curve steeper. The higher the import propensity, the smaller the multiplier, so there will be a small shift.