Question

Q.2 The following equations describe an economy:

C= 10 + 0.5 Y (Consumption function)

I = 190-20i (Investment function)

Derive the equations for IS curve and represent it graphically for i=2 and i=5

Answer 1

$Y=C+I$

$Y=10+0.5Y+190-20i$

$Y-0.5Y=200-20i$

$0.5Y=200-20i$

$Y= 400-40i$

The above is IS equation.

When $i=2,$ then output=$400-40(2)$

$=400-80 = 320$

When $i=5,$ then output $=400-40(5)$

$=400-200 =200$

Its graphical representation is shown below-

The above figure shows there is an inverse relationship between ROI and output level. When i=2% then Y=320 and when ROI increases to 5% then output falls to 200.