Question 1

Suppose that the MPS = .2 and the government is interested in raising the level of output in the economy by $100 billion. Calculate how much the government would have to spend to achieve this objective.

Accepted Answer

Y = m x G . Since Y = $100 billion and the m = 1/ mps or 1/.2 or 5, then the change in government spending that would be necessary to achieve this objective would be $20 billion.

Question 2

Assume an economy is represented by the following:
 (a) Suppose actual output is 3000. What is the level of planned expenditures at this level of output? What is the level of unplanned changes in inventories?
(b) Calculate the equilibrium level of output.
(c) Based on your analysis in Part (b), calculate the levels of consumption and saving that occur when the economy is in equilibrium.
(d) Now suppose that G decreases by 100 and T simultaneously decreases by 100. Calculate the new equilibrium level of income. Given your answer, what is the size of the balanced budget multiplier?

Accepted Answer

(a) AE = 2800. With Y = 3000 and AE = 2800, unplanned changes in inventories equal + 200.
(b) Y = 2600
(c) C = 400 and S = 200
(d) Y = 2500. Y decreases by 100 so the balanced budget multiplier is 1.

Question 3

Assume the economy was originally at an output level of $800 billion. The government then cut taxes by $20 billion. If the economy expands by $60 billion, what is the value of the tax multiplier?

Accepted Answer

The tax multiplier is the ratio of change in the equilibrium level of output to a change in taxes. Therefore the tax multiplier must be -3. ($60 billion -$20 billion)

Question 4

The MPC in Montavada is .75.
(a) If taxes were reduced by $1,000 in Montavada, by how much would equilibrium output change?
(b) If government spending were increased by $1,000 in Montavada, by how much would equilibrium output change?
(c) Explain why a tax cut of $1,000 would have less effect on the economy of Montavada than an increase in government spending of $1,000.

Accepted Answer

The answer of The MPC in Montavada is .75.
(a) If...

Question 5

Calculate the value of the tax multiplier if the MPS = .1.

Accepted Answer

The answer of Calculate the value of the tax multiplier...

Question 6

What do economists mean by the concept of a full-employment budget? Explain your answer in relation to the structural and cyclical deficit.

Accepted Answer

The answer of What do economists mean by the concept...

Question 7

The intuition behind the balanced budget multiplier is fairly straightforward. When the government taxes the public and spends the money, it is taking funds from people who would not have spent it all, and giving it to people (government agencies) who will spend it all. Can you think of any flaw in this logic?

Accepted Answer

The answer of The intuition behind the balanced budget multiplier...

Question 8

Assume that you know that the tax multiplier for the economy is -4. From this information calculate the value of the MPC and MPS.

Accepted Answer

The answer of Assume that you know that the tax...

Question 9

Determine the impact of an increase in government spending of $10 billion when the MPC is .8. Determine the impact of a decrease in government spending of $5 billion when the MPS is .25.

Accepted Answer

The answer of Determine the impact of an increase in...

Question 10

Suppose policymakers decide to increase government spending by 100 and simultaneously increase taxes by 100. Explain what effect this simultaneous increase in G and increase in T will have on the economy and on the budget deficit.

Accepted Answer

The answer of Suppose policymakers decide to increase government spending...

Question 11

Assume government reforms the unemployment compensation program such that the amount of benefits that are distributed in any given fiscal year are fixed. In periods where there are more claims the amount of the benefits per person would simply decline and vice versa. Would this tend to soften or to weaken macroeconomic stability?

Accepted Answer

The answer of Assume government reforms the unemployment compensation program...

Question 12

For the economy to be in equilibrium what must be the relationship between government spending, investment, savings, and tax revenue. (Hint: write out an equation)

Accepted Answer

The answer of For the economy to be in equilibrium...

Question 13

Determine the net impact upon the nation's economy that results from equal increases in spending and taxes of $10 billion when the MPC is .8.

Accepted Answer

The answer of Determine the net impact upon the nation's...

Question 14

Suppose that the government's budget deficit is $200 billion and the equilibrium level of output is at $8 trillion. If the output level necessary for full employment is $8.1 trillion, by how much must the government increase spending and taxes to stimulate the economy?

Accepted Answer

The answer of Suppose that the government's budget deficit is...

Question 15

Assume the following behavioral equations for a macroeconomy: C = 100 + .9Y_d , I = 50, T = 100 and G = 40 Calculate the equilibrium level of output.

Accepted Answer

The answer of Assume the following behavioral equations for a...

Question 16

Define the tax multiplier and give the algebraic expression.

Accepted Answer

The answer of Define the tax multiplier and give the...

Question 17

How is is possible for the budget deficit to change even when Congress doesn't change spending or taxes?

Accepted Answer

The answer of How is is possible for the budget...

Question 18

Explain what is meant by fiscal drag.

Accepted Answer

The answer of Explain what is meant by fiscal drag....

Question 19

Suppose planned investment drops by 200.
(a) First, graphically illustrate the effects of this reduction in planned investment using the AE - Y graph. Explain what effect it will have on the economy.
(b) Now suppose policymakers wish to prevent this drop in I from having any effect on output. How much would government spending have to increase in order to prevent any change in Y? Explain.
(c) Rather than use a change in spending, suppose policymakers wish to use a change in taxes to prevent Y from changing. Explain what must happen to taxes to achieve this.
(d) Briefly compare and explain any differences in the size of the change in G and change in T in parts (b) and (c).

Accepted Answer

The answer of Suppose planned investment drops by 200.
(a) First,...

Question 20

How would a weak economy affect the size of the budget deficit?

Accepted Answer

The answer of How would a weak economy affect the...

Exam 9: The Government and Fiscal Policy