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Answer to Question #50767 in Macroeconomics for bob

Question #50767
Consider the following aggregate expenditure model of the Canadian economy operating with given wages and other factor prices, price level, interest rates, exchange rates, and expectations:
C = 50 + 0.8YD I = 400 G = 500 T = 0.3Y X = 650 IM = 0.36Y
where C is consumption (the 0.8 term represents the marginal propensity to consume) YD is disposable income, I is investment, G is government spending on goods and services, T is the total value of taxes net of transfers (the 0.3 term represents the net tax rate on national income), X is exports, and IM is imports (the 0.36 term represents the marginal propensity to import).
(c) Suppose that (due to the decrease in world oil prices) Canadian exports decrease by 100 from 650 to 550. What is the new level of GDP? Illustrate in your diagram. What is the effect on the government’s budget balance? What happens to net exports? Can you explain why the change in net exports less than the decrease in exports?
Expert's answer
C = 50 + 0.8YD
I = 400
G = 500
T = 0.3Y
X = 650
IM = 0.36Y
(b) Y = $1520.9
Disposable income YD = 0.308*1520.9/0.8 = 585.5
Consumption C = 50 + 0.308*1520.9 = 518.4
Private saving Sp = Y - T - C = 0.7*1520.9 - 518.4 = 546.2
Government budget balance BS = T - G = 0.3*1520.9 - 500 = -43.7
Net exports NX = X - IM = 650 - 0.36*1520.9 = 102.5
If Canadian exports decrease by 100 from 650 to 550, the new level of GDP will be Y2 = 1520.9 - 100 = $1420.9
The new government’s budget balance will be:
BS = 0.3*1420.9 - 500 = -$73.7
Net exports will be:
NX = X - IM = 550 - 0.36*1420.9 = $38.5
The change in net exports is less than the decrease in exports, because according to decrease in GDP, imports will decrease too.

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