1. A small open economy is described by the following equations:
$C = 50 + 0.75(Y - T)$
$I = 200 - 20r$
$NX = 200 - 50\epsilon$
$M/P = Y - 40r$
$G = 200$
$T = 200$
$M = 3000$
$P = 3$
$r^* = 5$
(a) Derive and graph the IS* and LM* curves.5pts
(b) Calculate the equilibrium exchange rate, level of income, and net exports.5pts
(c) Assume a floating exchange rate. Calculate what happens to the exchange rate, the level
of income, net exports, and the money supply if the government increases its spending by
50. Use a graph to explain what you find.5pts
(d) Now assume a fixed exchange rate. calculate what happens to the exchange rate, the level
of income, net exports, and the money supply if the government increases its spending by
50. Use a graph to explain what you find.5pts
