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Assignment 1 - Answers - Q5, Assignments of Macroeconomics

Assignment 1 Question 5 Answers

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Assignment 1 โ€“ Answers โ€“ Q5
5. Consider two equations describing the relationship between three variables X, Y1, and Y2:
X = a + b Y1, (1)
X = c โ€“ d Y2, (2)
where a, b, c, and d, are positive, known constants. The objective is to find values of X, Y1, and Y2 for
which both equations are satisfied and as well Y1 = Y2.
a. How many unknowns are there? Clearly identify them. How many equations are there?
Clearly identify them. Note that there are as many equations as unknowns. (If you do not see
this, and you should think more carefully). Thus, a unique solution exists. (Try to convince
yourself that having only (1) and (2) makes it impossible to solve for the unknown variables,
by equating X from (1) to X from (2) and trying to solve for Y1 and Y2.)
There are three unknowns: Y1, Y2, and X
There are three equations:
X = a + b Y1, (1)
X = c โ€“ d Y2, (2)
Y1 = Y2. (3)
b. Replace both sides of the third equation (which one is it?) using expressions (1) and (2) to
solve for X.
๐‘Œ
1= ๐‘Œ
2โ†’1
๐‘(๐‘‹ โˆ’ ๐‘Ž)=1
๐‘‘(๐‘ โˆ’ ๐‘‹)
โ†’ ๐‘‘(๐‘‹ โˆ’ ๐‘Ž)= ๐‘(๐‘ โˆ’ ๐‘‹)
โ†’๐‘‘๐‘‹ โˆ’๐‘Ž๐‘‘ =๐‘๐‘ โˆ’๐‘๐‘‹
โ†’(๐‘ + ๐‘‘)๐‘‹ = ๐‘Ž๐‘‘ +๐‘๐‘
โ†’ ๐‘‹ = ๐‘Ž๐‘‘ +๐‘๐‘
๐‘ + ๐‘‘
c. After solving for X, find the values of Y1 and Y2 and verify whether the third equation (again,
which one is it?) is satisfied.
Using ๐‘‹ = ๐‘Ž๐‘‘+๐‘๐‘
๐‘+๐‘‘ and equation (1):
๐‘‹ = ๐‘Ž๐‘‘ +๐‘๐‘
๐‘ + ๐‘‘ โ†’ ๐‘Œ
1=๐‘ โˆ’ ๐‘Ž
๐‘ + ๐‘‘
Using ๐‘‹ = ๐‘Ž๐‘‘+๐‘๐‘
๐‘+๐‘‘ and equation (1):
๐‘‹ = ๐‘Ž๐‘‘ +๐‘๐‘
๐‘ + ๐‘‘ โ†’ ๐‘Œ
2=๐‘ โˆ’ ๐‘Ž
๐‘ + ๐‘‘
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Assignment 1 โ€“ Answers โ€“ Q

  1. Consider two equations describing the relationship between three variables X, Y 1

, and Y 2

X = a + b Y 1

X = c โ€“ d Y 2

where a, b, c, and d, are positive, known constants. The objective is to find values of X , Y 1

, and Y 2

for

which both equations are satisfied and as well Y 1

= Y

2

a. How many unknowns are there? Clearly identify them. How many equations are there?

Clearly identify them. Note that there are as many equations as unknowns. (If you do not see

this, and you should think more carefully). Thus, a unique solution exists. (Try to convince

yourself that having only (1) and (2) makes it impossible to solve for the unknown variables,

by equating X from (1) to X from (2) and trying to solve for Y 1

and Y 2

There are three unknowns: Y 1

, Y

2

, and X

There are three equations:

X = a + b Y 1

X = c โ€“ d Y 2

Y

1

= Y

b. Replace both sides of the third equation (which one is it?) using expressions (1) and (2) to

solve for X.

1

2

c. After solving for X , find the values of Y 1

and Y 2

and verify whether the third equation (again,

which one is it?) is satisfied.

Using ๐‘‹ =

๐‘Ž๐‘‘+๐‘๐‘

๐‘+๐‘‘

and equation (1):

1

Using ๐‘‹ =

๐‘Ž๐‘‘+๐‘๐‘

๐‘+๐‘‘

and equation (1):

2

1

2

The intersection of the two curves has the coordinates (

๐‘Ž๐‘‘+๐‘๐‘

๐‘+๐‘‘

๐‘โˆ’๐‘Ž

๐‘+๐‘‘

d. Now, replace Y 1

with Q

S

representing quantity supplied, a with 200, b with 2, Y 2

with Q

D

representing quantity supplied, c with 400, d with 3, and X with P representing price. This

gives you a system of supply and demand for a good. Re-write expressions (1) and (2) using

this information. How many unknown variables and how many equations do you have?

DIY.

e. To find the equilibrium and solve for equilibrium values of Q

D

, Q

S

, and P , what other

condition do we need? [ Hint: Think about our discussion in class and the fill the blank here

to find out what other condition you might need: โ€œIf quantity demanded is more than quantity

supplied, the price will ________. If quantity demanded is less than quantity supplied, then

price will _________. So, price will not change only if quantity demanded _________

quantity supplied. This is how we define equilibrium: a condition under which variables in

the model remain stable and do not change. We call this additional equation market-clearing

condition .โ€]

Q

D

= Q

S

โ€œIf quantity demanded is more than quantity supplied, the price will increase. If quantity

demanded is less than quantity supplied, then price will drop. So, price will not change only if

quantity demanded equals quantity supplied. This is how we define equilibrium: a condition

under which variables in the model remain stable and do not change. We call this additional

equation market- clearing condition.โ€

f. Given the system of supply and demand and the market-clearing condition, solve for

equilibrium values of Q

D

, Q

S

, and P.

DIY. (Q

D

= Q

S

= 40, P = 280)

g. Show the supply and demand curves on a grid putting price on the vertical axis and clearly

identify the equilibrium price and quantity.

DIY.