Question 16 of 17advanced🔧 ApplyNumerical5 marks

Suppose C = 100 + 0.75YD, I = 500, G = 750, taxes are 20 per cent of income, X = 150, M = 100 + 0.2Y. Calculate equilibrium income, the budget deficit or surplus and the trade deficit or surplus.

Correct Answer

(budget_deficit) ₹283.33

(equilibrium_income) ₹2333.33

(trade_deficit) ₹416.67

Exercise: EXERCISES | Q: 18 | (Page Page 12)
For More Understanding

Explanation

This numerical problem requires applying the open economy equilibrium condition Y = C + I + G + X - M. The key is correctly handling proportional taxes (T = 0.2Y) to find disposable income (YD = Y - T = 0.8Y), then solving for equilibrium income and calculating the budget and trade balances.

Solution Steps

  1. Step 1: Find Disposable Income (YD): Since taxes are 20% of income, T = 0.2Y. Therefore, YD = Y - T = Y - 0.2Y = 0.8Y.

  2. Step 2: Express Consumption Function: C = 100 + 0.75YD = 100 + 0.75(0.8Y) = 100 + 0.6Y.

  3. Step 3: Apply Equilibrium Condition: Y = C + I + G + X - M. Substituting values: Y = (100 + 0.6Y) + 500 + 750 + 150 - (100 + 0.2Y).

  4. Step 4: Solve for Equilibrium Income: Y = 1400 + 0.4Y. Therefore, Y - 0.4Y = 1400, which gives 0.6Y = 1400. Hence, Y = 1400/0.6 = ₹2333.33.

  5. Step 5: Calculate Budget Balance: Tax Revenue (T) = 0.2×2333.330.2 \times 2333.33 = ₹466.67. Government Expenditure (G) = ₹750. Budget Balance = T - G = 466.67 - 750 = -₹283.33 (Budget Deficit).

  6. Step 6: Calculate Trade Balance: Exports (X) = ₹150. Imports (M) = 100 + 0.2(2333.33) = 100 + 466.67 = ₹566.67. Net Exports (NX) = X - M = 150 - 566.67 = -₹416.67 (Trade Deficit).

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