7) (40 Points) Problem

7) (40 points) Problem:

The IS curve is given by: Y = 18 - r

The MP curve is given by: MP = 1 + .5π a) (5 points) Solve for the AD curve.

Y = 18 - [1 + .5π]

Y = 17 - .5π

In the space below, draw the MP curve, the IS curve, and the AD curve labeling as point A, where inflation is 2% and point B, where inflation is 3%. Be sure to label all the axes. 15 points for completely labeled graphs

Suppose the IS curve changes and is now: Y = 17 - r b) (10 points) Name 3 reasons why the IS curve would change the way it did.

Update your graphs above account for the IS shock - label as point C, where inflation is 2%. c)(10 points) What determines the slope of the IS curve and was is the slope of the IS curve so important from a policy perspective?