In an economy, the consumption function is C = 500 + 0.75Y , (where C is consumption expenditureand Y is income. Calculate the equilibrium level of income and consumption expenditure, wheninvestment expenditure is 5,000
Question
In an economy, the consumption function is C = 500 + 0.75Y , (where C is consumption expenditureand Y is income. Calculate the equilibrium level of income and consumption expenditure, wheninvestment expenditure is 5,000
Solution
In order to calculate the equilibrium level of income and consumption expenditure, we need to understand that in a simple economy, equilibrium occurs when the total output (income, Y) equals the total spending (consumption, C + investment, I).
The equation for this is: Y = C + I
Given the consumption function C = 500 + 0.75Y and the investment expenditure I = 5000, we can substitute these into the equilibrium equation:
Y = 500 + 0.75Y + 5000
To solve for Y, we first isolate Y by subtracting 0.75Y from both sides of the equation:
Y - 0.75Y = 500 + 5000
This simplifies to:
0.25Y = 5500
Finally, we solve for Y by dividing both sides of the equation by 0.25:
Y = 5500 / 0.25
Y = 22,000
This is the equilibrium level of income.
To find the equilibrium level of consumption expenditure, we substitute Y = 22,000 into the consumption function:
C = 500 + 0.75 * 22,000
C = 500 + 16,500
C = 17,000
So, the equilibrium level of income is 22,000 and the equilibrium level of consumption expenditure is 17,000.
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