KENYA METHODIST UNIVERSITY

END OF 1ST TRIMESTER 2014 (PT) EXAMINATION

SCHOOL : BUSINESS AND ECONOMICS

DEPARTMENT : ECONOMICS AND STATISTICS
UNIT CODE : ECON 302
UNIT TITLE : INTERMEDIATE MICROECONOMIC ANALYSIS
TIME : 2 HOURS

INSTRUCTIONS

Question One (30 marks)

a. Explain the meaning of the following terms
(i) Marginal propensity to consume
(ii) Autonomous expenditure
(iii) Tax multiplier
(iv) Aggregate demand
b. An economy has consumption function given as C = 30 + 0.5Y and
investment and government expenditure is exogenously determined at 50
and 80 units respectively
Determine national equilibrium level of income for this economy
c. Explain three assumptions of Mundell Flexing model
d. What are the advantages of floating exchange rates in an economy
e. Discuss the factors that would cause a shift in the LM curve

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Question Two (20 marks)
Assume the following model of an economy in the shortrun with price level
fixed (P) fixed at 10
C = 0.5 (Y – T)
T = 1000
I = 500 + 250 r
G = 1500
md
= 0.5Y – 500r
P
Ms = 1000
a. Write the formulae for IS curve showing Y as a function of r
b. Write the formulae for LM curve showing Y as a function or r
c. What is shortrun equilibrium values of Y, r and national savings (s)
d. Assume that G increases by 1500. By how much will Y increase in shortrun
equilibrium?

Question Three (20 Marks)

a. Describe the LM curve
b. Distinguish between classical and Keynesian supply curve
c. In Keynesian cross model, assume that consumption function is given by
C=200 + 0.15Yd investments is 100, government expenditure is 100 and
taxes are 100
(i) Draw a graph of planned expenditure as a function of income
(ii) What is equilibrium level of income
(iii) Suppose government purchases increase by 25, what is the
equilibrium income
(iv) What level of government purchases is needed to achieve the income
of 1600?

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Question Four
a. Explain three fiscal effects as Is- Lm model
b. Describe the theory of liquidity preference
c. Discuss three reasons why people hold money
d. Suppose the level of autonomous investment in an economy is 200 and
consumption function is given as C= 80 + 0.75Y. find the equilibrium level
of income

Question Five
a. Assume that real GDP (Y) is 1,200 consumption(c) is given by C=125 +
0.75Yd investment (I) is given by I = 200 – 10r where r is real interest rate,
taxes (T) are 100 and government expenditure (G) is 150
(a) What is the equilibrium value of r
(b) What are equilibrium values of C and I
(c) Suppose government purchases increase by 50. What is new equilibrium
values of C, I and r
(d) Suppose a government national program make the profile to save money
such that MPC reduces to 0.60. What is new equilibrium value of r?

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