Answer:
The equilibrium income increases by 50.
Explanation:
The IS curve is given by Y = 1,700 - 100r
The money demand function is given as (M/P)d = Y - 100r
The money supply is 1,000.
The price level is 2.
Putting value of Y in money demand function.
1,000/2 = Y - 100r
500 = 1,700 - 100r - 100r
1700 - 500 = 200r
r = 1200\200
r = 6%
Putting value of r = 6% in IS curve equation
Y = 1,700 - 100r
Y = 1,700 - 600
Y = 1,100
Now, if the money supply is increased to 1,200.
Putting value of Y in money demand function.
1,200/2 = Y - 100r
600 = 1,700 - 100r - 100r
1700 - 600 = 200r
r = 1100\200
r = 5.5%
Putting value of r = 5.5% in IS curve equation
Y = 1,700 - 100r
Y = 1,700 - 550
Y = 1,150
So, we see that on increasing money supply from 1,000 to 1,200 the income increase by 50 and rate of interest falls by 0.5 percent.
