Consumption $500 Population 120 Investment $175 Labor Force 100
Exports $55 Employed 83
Imports $80
Government Spending $90 Expected Inflation Rate 7%
Taxes $60
Potential Real Output $800
(a) Calculate the actual rate of unemployment. Show your work.

(b) Is the economy facing a recessionary gap, an inflationary gap, or neither? Explain using numbers.

(c) Based on your answer to part (b), how will the economy adjust in the long run in the absence of any government policy action? Explain.

(d) Now assume the economy is in long-run equilibrium.
(i) Assume government spending increases by $45 billion and the marginal propensity to save is 0.5. Calculate the maximum possible change in real output. Show your work.
(ii) Based on the change in government spending, what will happen to the equilibrium price level in the short run? Explain.

(e) Based on the change in real output in part (d)(i), in the short run is the actual rate of unemployment greater than, less than, or equal to the natural rate of unemployment? Explain.

(f) Based on loanable funds market analysis, how will an increase in the government budget deficit affect the equilibrium real interest rate? Explain.

(g) Based solely on the change in the equilibrium real interest rate identified in part (f), what will be the effect on each of the following?
(i) Investment in physical capital. Explain.
(ii) The nominal interest rate that would be charged at the time of issuing a new loan if inflationary expectations are unchanged. Explain.