Suppose that the price level is xed in the short run so that the economy does NOT reach general equilibrium immediately after a change in the economy. For each of the following changes, what are the short-run e ects on the real interest rate and output? Assume that, when the economy is in disequilibrium, only the labor market is out of equilibrium; assume also that for a short period rms are willing to produce enough output to meet the aggregate demand for output.

Suppose that the price level is xed in the short run so that the economy does NOT reach
general equilibrium immediately after a change in the economy. For each of the following
changes, what are the short-run e ects on the real interest rate and output? Assume that,
when the economy is in disequilibrium, only the labor market is out of equilibrium; assume
also that for a short period rms are willing to produce enough output to meet the aggregate
demand for output.
(a) A decrease in the expected rate of in ation. (Draw the FE-IS-LM diagram to explain
and answer the question.)
(b) An increase in consumer optimism that increases desired consumption at each level of
income and the real interest rate.
(c) A temporary increase in government purchases.
Question 2
An economy is described as follows:
Desired consumption:
C
d
= 600 + 0
:
5(
Y
(b) The money supply rises to 4752. Repeat part (a). Is money neutral?
(c) With the money supply back at 4320, government purchases and taxes rise to 190.
Repeat part (a). Assume for simplicity that

Y
is xed (una ected by
G
). Is scal
policy neutral in this case? Explain.
Question 3
The discovery of a new technology increases the expected future marginal product of
capital.
(a) Use the classical IS-LM model to determine the e ect of the increase in the expected fu-
ture
MPK
on the real interest rate, employment, real wages, consumption, investment,
and the price level. Assume that expected future real wages and future incomes are
una ected by the new technology. Assume also that current productivity is una ected
(b) Find the e ects of the increase in the expected future
MPK
on current output and
prices from the AD-AS diagram based on the misperceptions theory. What accounts
for the di erence with part (a)?
Quesiton 4
An economy has the following AD and AS curves.
AD curve:
Y
= 300 + 30(
M
P
)
AS curve:
Y
=

Y
+ 10(
P
(b) An unanticipated increase raises the money supply to
M
= 700. Because the increase
is unanticipated,
P
e
remains at 60. What are the equilibrium values of the price level
P
and output
Y
?

 
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