Question

1.start with the GDP identity: Y=C+I+G+NX, and prove that saving i equal to the sum of domestic investment(I) and net capital outflow (NCO), S=I+NCO.

2.Describe the concept of Misperception Theory.

3. Explain the consequence of policy that the Central Bank selling government bonds in the open market. No diagram is needed in your answer.

Answer 1

1- Net exports are component of GDP; Y=C+I+G+NX. Saving is the income thatis left after paying the consumption and government purchases; Y-C-G=I+NX. National saving (S) equals Y-C-G so; S=I+NX or Saving(S)= Domestic Investment(I)+Net Capital Outflow(NCO)

2- Misperception Theory

The theory of misperception states that when a seller sees that the price of its product declines, it makes an assumption that their relative price has also declined. This misperception about the product tends seller to decrease the quantity of goods supplied to the market.

3- When the central bank selling government bonds in the open market ,there will be following consequences:

1-It would decrease the reserves of commercial banks

2- it would decrease the price of the government securities, equivalent to incresing their interest rates

3- It would increase the interest rates