1. Chapter 34 – The Influence of Monetary and Fiscal Policy on Aggregate Demand
Money Market - the financial market in which financial instruments with high liquidity and very short maturities are traded
Used by participants as a means for borrowing and lending in the short term; from several days to just under a year.
Money market securities consist of certificates of deposit (CDs), bankers acceptances, U.S. Treasury bills, commercial paper, municipal notes, federal funds and repurchase agreements (repos).

2. Money Market Graph Interest Money supply rate r1 Equilibrium
Quantity
Fixed by the Fed
Money
demand r1
Md1
Equilibrium
Interest rate r2
Md2
Quantity of Money

3. Increase in Money Supply A Monetary Injection
(a) The Money Market
Interest
rate
Money supply,
MS1
MS2
1. When the Fed
increases the
money supply . . .
Money demand
at price level P r1
the equilibrium
interest rate falls . . . r2
Quantity
of money

4. Increase in Money Demand
Interest
rate
Money
supply
Quantity fixed
by the Fed
increases the
demand for money . . .
Money demand at
price level MD2
which increases
equilibrium interest rate . . . r2
Money demand at
price level MD1 r1
Quantity
of money

5. Application – The Money Market
Scenario: The Federal Reserve sells bonds in open-market operations.
(a) The Money Market
Interest
rate
Money supply,
MS2
MS1
Money demand
at price level P r2 r1
Quantity
of money

6. Application – The Money Market
Scenario: The Federal Reserve buys bonds in open-market operations.
(a) The Money Market
Interest
rate
Money supply,
MS1
MS2 MD r1 r2
Quantity
of money

7. Fiscal Policy and The Federal Budget
Fiscal Policy – Government spending policies that influence the macroeconomy.
These policies affect tax rates and government spending, in an effort to stabilize/control the economy.
Expansionary Fiscal Policy – involves increased government spending to stimulate the economy during or in anticipation of a business-cycle contraction
Contractionary Fiscal Policy - a decrease in government spending to slow the economy down during an inflationary economy

8. Tools of Fiscal Policy Two Tools of Fiscal Policy
Tax Policy – increase or decrease percentage of revenue from individual households and firms
Government Spending – increase or decrease in discretionary spending to affect AD

10. Example Tax Credits

11. Tax Structures
Proportional Tax – % of income taxes remains the same for all income levels (Flat tax)
Progressive Tax – % of income paid in taxes increases as income increases (Federal Income Tax)
Regressive Tax - % of income paid in taxes decreases as income increases (Sales Tax)

12. Tax Structure Examples
Type of Tax
Income of $10,000
Income of $100,000
Summary
10% flat tax = $1,000
10% of income
10% flat tax = $10,000
10% of income
As income goes up, the percent of income taxed stays the same
Proportional
10% income tax = $1,000
10% of income
25% income tax = $25,000
25% of income
The more you make, the more they take.
Progressive
6% State Sales Tax
$5,000 in consumer goods = $300
3% of income
6% State Sales Tax
$20,000 in consumer goods = $1200
1.2 % of income
The more you make the less they take.
Regressive

13. Who Bears the Burden?
What are the three tax structures and who bears the burden of each?
Progressive – more you make, more they take. Rich bear the burden.
Regressive – more you make, less they take. Poor bear the burden
Proportional – everyone pays the same percentage. The burden is spread equally amongst people in the economy.

14. How Fiscal Policy Influences Aggregate Demand
Expansionary vs. Contractionary Fiscal Policy
Expansionary Fiscal Policy - increased spending, tax cuts to stimulate AD
Contractionary Fiscal Policy – reduced spending, tax hikes to slow down AD

15. Tax Video

16. Individual Income Taxes
Tax Bracket – scheduled rate at which you are taxed based on your annual income
Marginal tax rate – is the tax rate that applies to the last unit of currency

17. Individual Income Taxes
$934.00

18. Individual Income Taxes

21. Individual Income Taxes
Taxable Income – A person’s gross income minus exemptions and deductions (link)

22. Tax Deductions

23. Individual Income Taxes
Example: A person with an income of $10,000
$8,375 x .10 = $837.5
$1625 x .15 = $243.75
Total tax paid = $ $ = $

24. Bush Tax Cuts – “Fiscal Cliff”

25. Bush Tax Cuts – “Fiscal Cliff”

27. Bush Tax Cuts – “Fiscal Cliff”

28. Other Types of Taxes
FICA (Federal Insurance Contributions Act) – payroll tax, funds Social Security and Medicare.
Social Security – funds people of old-age, survivors and disabilities, established in 1935, originally to provide old-age pensions of workers
Medicare – national health insurance program that helps pay for people over age of 65 or with certain disabilities
Medicaid – national health insurance for people within the poverty threshold
Unemployment – insurance for workers laid off through no fault of their own

29. Payroll tax Video

30. Other Types of Taxes
Excise tax – tax on specific goods, cigarettes, alcohol, phone service, cable, internet, etc.
Estate tax – “death tax”, tax on estate or value of money and property of a person who has died
Gift tax – tax on money or property that one living person gives to another; a person can give up to $14,000 a year tax-free per individual
Tariff – import tax on foreign goods brought into the country

31. Who bears the burden?
What are the three tax structures and who bears the burden of each?
Progressive – more you make, more they take. Rich bear the burden.
Regressive – more you make, less they take. Poor bear the burden
Proportional – everyone pays the same percentage. The burden is spread equally amongst people in the economy.

32. Federal Spending
Mandatory Spending – programs that lawmakers are required by existing laws to spend money on (Social Security, Medicare, Medicaid, etc.)
Discretionary Spending – spending that government can adjust; increase or decrease (Defense, environment, scientific research, etc.)

33. Fiscal Policy and The Federal Budget

34. The Federal Budget

36. Budget Deficit

37. Budget Deficits and the National Debt

38. Government Video

39. Budget Deficits and the National Debt

40. Budget Deficits and the National Debt
Balanced budget – money going into the U.S. Treasury is the same amount of money going out
Revenue = Spending
The last balanced budget occurred in 1997 under President Bill Clinton

41. Balancing the Budget
Budget Surplus – occurs when the government takes in more than it spends
Revenue > Spending
Budget Deficit – occurs when the government spends more than it takes in
Revenue < Spending

42. Dealing with a Budget Deficit
Reduce Spending – cut spending on government programs
Increase Taxes
Print money – the government can print or inject money into economy
Borrow money – government borrows money by selling bonds on the primary market
Bonds sold domestically or globally
China owns 1 trillion dollars in U.S. bonds

43. The National Debt
National debt – the total amount of money the federal government owes to bondholders
Combination of all borrowing over time
Budget deficit – the amount of money the government owes to bondholders in one fiscal year

45. China Video

46. Keynesian Economics
Keynesian economics - macroeconomic theory of 20th century British economist John Maynard Keynes.
Laissez Faire (no government interference) in private sector can lead to inefficient macroeconomic outcomes
Advocates active policy responses by the public sector (monetary policy and fiscal policy) to stabilize the business cycle
Book

47. Keynesian Economics
Advocates a mixed economy, predominantly private sector, but with a large role of government and public sector
Served as the economic model during the latter part of the Great Depression, World War II, and the post-war economic expansion (1945–1973)
Lost influence until the global financial crisis in 2007, which caused a resurgence in Keynesian thought.
President George W. Bush was heavily anti-Keynesian (except in 2007)
President Barack Obama, used Keynesian economics through government stimulus programs to attempt to assist the economic state.

48. Aggregate Supply and Demand Classical, Keynesian, and NeoClassical Models
Price
Level
Price
Level
AD1
AD1 Y2 Y1
AD2
AD2
Output Y2
Output
Classical Economics
Keynesian Economics
Price
Level
Classical
AD1
Intermediate (short-run)
Keynesian
Output Y1
Keynesian Economics
Neoclassical Economics

49. Multiplier Effect
Multiplier effect – additional shifts in AD that result when expansionary fiscal policy increases income, which leads to consumer spending
Investment accelerator – positive response to the increase in aggregate demand leads to capital deepening

50. Multiplier Effect Price level 2. . . . but the multiplier
AD3
but the multiplier
effect can amplify the
shift in aggregate
demand.
AD2
Aggregate demand, AD1
$20 billion
1. An increase in government purchases
of $20 billion initially increases aggregate
demand by $20 billion . . .
Quantity of
Output

51. Marginal Propensity to Consume (MPC)
Marginal Propensity to Consume (MPC) – fraction of extra income that a household consumes rather than saves
¾ = household spends .75 and saves .25
½ = household spends .50 and saves .50
¼ = household spends .25 and saves .75

52. Multiplier Formula Multiplier = 1/(1 – MPC)
¾ (.75) MPC, MM = 1/(1-.75) = 4
Government spending is $20 billion
20 Billion x 4 = $80 Billion
if MPC = 0.5 multiplier = 2
if MPC = 0.75 multiplier = 4
if MPC = 0.9 multiplier = 10
A bigger MPC means changes in Y cause bigger changes in C, which in turn causemore changes in Y.

53. Crowding-Out Effect
Crowding-out effect – when expansionary fiscal policy increases AD, which in turn raises interest rates
This “crowds out” potential capital investments by firms
High interest rates are a deterrent to borrowing

54. Changes in Taxes
Government cuts taxes or offers tax credits, increases households’ take-home pay
Tax cuts/credits shift AD to the right because “C” goes up
Multiplier effect can depend on the perception of tax permanence (Bush Tax Cuts, Payroll Tax Cut vs. a one-time stimulus)
Raise taxes, decreases households’ take-home pay
Tax hikes shift AD to the left because “C” goes down

55. Active Stabilization Policy
Active policies by the FED and Federal Government to interrupt long-run trends in the short-run
Respond to changes in private economy to stabilize AD
Fed
Raise the money supply to offset reduction in spending
Increased money supply lowers interest rates
Federal Government
Cut taxes, offer tax credits
Increase spending

56. Automatic Stabilizers
Automatic Stabilizers – “safety net”, changes in fiscal policy that stimulate AD when economy goes into a recession w/out policymakers having to take deliberate action
Progressive tax system, recession lowers taxes collected
Government discretionary spending increases during recession (unemployment, welfare, other cash transfers)

57. Tools of Fiscal Policy Chart
Expansionary/ Contractionary
Explanation
1. The government cuts business and personal income taxes and increases its own spending.
2. The government increases the personal income, Social Security and corporate income tax.
3. Government spending goes up while taxes remain the same.
4. The government reduces the wages of its employees while raising taxes on consumers and businesses.

58. Tools of Fiscal Policy Chart
Expansionary/ Contractionary
Explanation
1. The government cuts business and personal income taxes and increases its own spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases G.
Shifts AD to the right.
2. The government increases the personal income, Social Security and corporate income tax.
3. Government spending goes up while taxes remain the same.
4. The government reduces the wages of its employees while raising taxes on consumers and businesses.

59. Tools of Fiscal Policy Chart
Expansionary/ Contractionary
Explanation
1. The government cuts business and personal income taxes and increases its own spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases G.
Shifts AD to the right.
2. The government increases the personal income, Social Security and corporate income tax.
Contractionary
I & C decrease because of the tax increase.
Shifts AD to the left.
3. Government spending goes up while taxes remain the same.
4. The government reduces the wages of its employees while raising taxes on consumers and businesses.

60. Tools of Fiscal Policy Chart
Expansionary/ Contractionary
Explanation
1. The government cuts business and personal income taxes and increases its own spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases G.
Shifts AD to the right.
2. The government increases the personal income, Social Security and corporate income tax.
Contractionary
I & C decrease because of the tax increase.
Shifts AD to the left.
3. Government spending goes up while taxes remain the same.
Higher government spending without a corresponding rise in tax receipts increases G.
4. The government reduces the wages of its employees while raising taxes on consumers and businesses.

61. Tools of Fiscal Policy Chart
Expansionary/ Contractionary
Explanation
1. The government cuts business and personal income taxes and increases its own spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases G.
Shifts AD to the right.
2. The government increases the personal income, Social Security and corporate income tax.
Contractionary
I & C decrease because of the tax increase.
Shifts AD to the left.
3. Government spending goes up while taxes remain the same.
Higher government spending without a corresponding rise in tax receipts increases G.
4. The government reduces the wages of its employees while raising taxes on consumers and businesses.
Reduction in government spending results in a decrease in aggregate demand.
Increases in taxes reduces C.
Increased business taxes reduce I.

62. Effects of Fiscal Policy Chart
Scenario
Expansionary/ Contractionary
Effect on Federal Budget
Objective for Aggregate Demand
Action on Taxes
Action on Gov’t Spending
Effect on the National Debt
1. National unemployment rate rises to 12%
2. Inflation is strong at a rate of 14% per year.
3. Surveys show consumers are losing confidence in the economy, retail sales are weak and business inventories are increasing rapidly
4. Business sales and investment are expanding rapidly, and economists think strong inflation lies ahead.
5. The government eliminates the deductibility of interest expense for tax purposes
Move toward a deficit
Expansionary
Move toward a surplus
Contractionary
Move toward a deficit
Expansionary
Move toward a surplus
Contractionary
Move toward a surplus
Contractionary

63. Scenario 1: Your economy is experiencing an economic recession as a result of a lack of spending.
Assume long-run equilibrium initially
Show your economy from long-run to the recession on the LRAS model.
Show your economy in the recession using a PPC model.

64. Scenario 1: Your economy is experiencing an economic recession as a result of a lack of spending.
Explain in words what will happen if policymaker’s take no corrective action (automatic stabilization) and allow the economy to self adjust.
Show how your economy will self-correct on the LRAS model.

65. Scenario 1: Your economy is experiencing an economic recession as a result of a lack of spending.
Explain in words what both the Federal Reserve and the Federal Government could do to stimulate the economy and get the economy back to long-run equilibrium.
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures.

66. Scenario 1: Your economy is experiencing an economic recession as a result of a lack of spending.
Assume that the federal government had to run a budget deficit to increase AD.
Draw a properly labeled graph of the loanable funds market to show the government running a budget deficit

67. Scenario 2: Your economy is experiencing an economic boom
Scenario 2: Your economy is experiencing an economic boom. You are faced with an overheated economy as a result of an increase in consumer spending.
Assume long-run equilibrium initially
Show your economy from long-run to the boom on the LRAS model.

68. Scenario 2: Your economy is experiencing an economic boom
Scenario 2: Your economy is experiencing an economic boom. You are faced with an overheated economy as a result of an increase in consumer spending.
Explain in words what both the Federal Reserve and the Federal Government could do to slow the economy and get the economy back to long-run equilibrium.
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures.

69. Scenario 2: Your economy is experiencing an economic boom
Scenario 2: Your economy is experiencing an economic boom. You are faced with an overheated economy as a result of an increase in consumer spending.
Assume that the federal government is running a budget surplus as a result of the increase consumer spending.
Draw a properly labeled graph of the loanable funds market to show the government running a budget surplus.

70. Scenario 3: Your economy is experiencing a positive short-run supply shock. OPEC lowered the cost of oil for one year to ease international tensions. You are faced with an overheated economy as a result of the lower input costs.
Assume long-run equilibrium initially
Show your economy from long-run to the boom on the LRAS model.

71. Scenario 3: Your economy is experiencing a positive short-run supply shock. OPEC lowered the cost of oil for one year to ease international tensions. You are faced with an overheated economy as a result of the lower input costs.
Explain in words what will happen if policymaker’s take no corrective action (automatic stabilization) and allow the economy to self adjust.
Show how your economy will self-correct on the LRAS model.

72. Scenario 3: Your economy is experiencing a positive short-run supply shock. OPEC lowered the cost of oil for one year to ease international tensions. You are faced with an overheated economy as a result of the lower input costs.
Explain in words what both the Federal Reserve and the Federal Government could do to slow the economy and get the economy back to long-run equilibrium.
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures. .

73. Scenario 3: Your economy is experiencing a positive short-run supply shock. OPEC lowered the cost of oil for one year to ease international tensions. You are faced with an overheated economy as a result of the lower input costs.
Assume that the short-run supply shock allows your economy to produce beyond the PPF. Show this on the PPC model. .

74. Scenario 4: Your economy is experiencing a positive long-run supply shock. Immigration restrictions are lifted and cause a massive wave of immigration. You are faced with an overheated economy as a result of the lower input costs.
Assume long-run equilibrium initially
Show your economy from initial long-run to the new long-run, on the LRAS model, as a result of the immigration.
Show your structural economic change using a PPC model.
Show the LRAS curve in the new equilibrium, with a shift to the right in AD as a result of reduced input costs.

75. Scenario 4: Your economy is experiencing a positive long-run supply shock. Immigration restrictions are lifted and cause a massive wave of immigration. You are faced with an overheated economy as a result of the lower input costs.
Assume long-run equilibrium initially
Show your economy from initial long-run to the new long-run, on the LRAS model, as a result of the immigration.
Show your structural economic change using a PPC model.
Show the LRAS curve in the new equilibrium, with a shift to the right in AD as a result of reduced input costs.

76. Scenario 4: Your economy is experiencing a positive long-run supply shock. Immigration restrictions are lifted and cause a massive wave of immigration. You are faced with an overheated economy as a result of the lower input costs.
Explain in words what will happen if policymaker’s take no corrective action (automatic stabilization) and allow the economy to self adjust.
Show how your economy will self-correct on the LRAS model.

77. Scenario 4: Your economy is experiencing a positive long-run supply shock. Immigration restrictions are lifted and cause a massive wave of immigration. You are faced with an overheated economy as a result of the lower input costs.
Explain in words what both the Federal Reserve and the Federal Government could do to slow the economy and get the economy back to long-run equilibrium.
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures.

78. Scenario 5: Your economy is experiencing a negative long-run supply shock. Immigration restrictions are raised and cause a massive wave of emigration. You are faced with an structural change in the economy as a result of the higher input costs (people can demand higher wages because of the shortage of workers).
Assume long-run equilibrium initially
Show your economy from initial long-run to the new long-run, on the LRAS model, as a result of the immigration. Show your structural economic change using a PPC model.

79. Scenario 5: Your economy is experiencing a negative long-run supply shock. Immigration restrictions are raised and cause a massive wave of emigration. You are faced with an structural change in the economy as a result of the higher input costs (people can demand higher wages because of the shortage of workers).
Explain in words what both the Federal Reserve and the Federal Government could do to increase AD and get unemployment down (back to normal rate of 5-6%)
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures.

80. Scenario 5: Your economy is experiencing a negative long-run supply shock. Immigration restrictions are raised and cause a massive wave of emigration. You are faced with an structural change in the economy as a result of the higher input costs (people can demand higher wages because of the shortage of workers).
Assume that the federal government is running a budget surplus as a result of the increase consumer spending.
Draw a properly labeled graph of the loanable funds market to show the government running a budget surplus.

81. Assume long-run equilibrium initially
Scenario 6: Your economy is experiencing a negative short-run supply shock. War in the Middle East causes the cost of oil to increase for one year. You are faced with an underperforming economy as a result of the higher input costs.
Assume long-run equilibrium initially
Show your economy in the supply shock on the LRAS model.
Show your underperforming economy using a PPC model.

82. Show how your economy will self-correct on the LRAS model.
Scenario 6: Your economy is experiencing a negative short-run supply shock. War in the Middle East causes the cost of oil to increase for one year. You are faced with an underperforming economy as a result of the higher input costs.
Explain in words what will happen if policymaker’s take no corrective action (automatic stabilization) and allow the economy to self adjust.
Show how your economy will self-correct on the LRAS model.

83. Scenario 6: Your economy is experiencing a negative short-run supply shock. War in the Middle East causes the cost of oil to increase for one year. You are faced with an underperforming economy as a result of the higher input costs.
Explain in words what both the Federal Reserve and the Federal Government could do to slow the economy and get the economy back to long-run equilibrium.
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures.

84. Scenario 7: Your economy is experiencing a positive long-run supply shock. Technological advances are causing major reductions in input costs for firms. You are faced with an overheated economy as a result of the lower input costs.
Assume long-run equilibrium initially
Show your economy from initial long-run to the new long-run, on the LRAS model, as a result of the technology.
Show your structural economic change using a PPC model.
Show the LRAS curve in the new equilibrium, with a shift to the right in AD as a result of reduced input costs.

85. Show how your economy will self-correct on the LRAS model.
Scenario 7: Your economy is experiencing a positive long-run supply shock. Technological advances are causing major reductions in input costs for firms. You are faced with an overheated economy as a result of the lower input costs.
Explain in words what will happen if policymaker’s take no corrective action (automatic stabilization) and allow the economy to self adjust.
Show how your economy will self-correct on the LRAS model.

86. Scenario 7: Your economy is experiencing a positive long-run supply shock. Technological advances are causing major reductions in input costs for firms. You are faced with an overheated economy as a result of the lower input costs.
Explain in words what both the Federal Reserve and the Federal Government could do to slow the economy and get the economy back to long-run equilibrium.
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures.

87. Assume long-run equilibrium initially
Scenario 8: Your economy is experiencing tremendous consumer confidence and the marginal propensity to consume has risen. You are faced with an overheated economy as a result of an increase in consumer and business spending.
Assume long-run equilibrium initially
Show your economy from long-run to the boom on the LRAS model.

88. Show how your economy will self-correct on the LRAS model.
Scenario 8: Your economy is experiencing tremendous consumer confidence and the marginal propensity to consume has risen. You are faced with an overheated economy as a result of an increase in consumer and business spending.
Explain in words what will happen if policymaker’s take no corrective action (automatic stabilization) and allow the economy to self adjust.
Show how your economy will self-correct on the LRAS model.

89. Show how your economy will self-correct on the LRAS model.
Scenario 8: Your economy is experiencing tremendous consumer confidence and the marginal propensity to consume has risen. You are faced with an overheated economy as a result of an increase in consumer and business spending.
Explain in words what will happen if policymaker’s take no corrective action (automatic stabilization) and allow the economy to self adjust.
Show how your economy will self-correct on the LRAS model.

90. Scenario 8: Your economy is experiencing tremendous consumer confidence and the marginal propensity to consume has risen. You are faced with an overheated economy as a result of an increase in consumer and business spending.
Explain in words what both the Federal Reserve and the Federal Government could do to slow the economy and get the economy back to long-run equilibrium.
Show a graph of the LRAS with active stabilization measures
Show a graph of the Money Market with your active stabilization measures.

91. Scenario 8: Your economy is experiencing tremendous consumer confidence and the marginal propensity to consume has risen. You are faced with an overheated economy as a result of an increase in consumer and business spending.
Assume that the federal government is running a budget surplus as a result of the increase consumer spending.
Draw a properly labeled graph of the loanable funds market to show the government running a budget surplus.

92. Chapter 34 Practice Worksheet
1. If a country’s central bank were to engage in activist stabilization policy, in which direction should it move the money supply in response to the following events?
A wave of optimism boosts business investment and household consumption.
Decrease the money supply
To balance its budget, the government raises taxes and reduces expenditures.
Increase the money supply
OPEC raises the price of crude oil.
The taste for the country’s products amongst the residents of other countries declines.
The stock market falls.

93. Chapter 34 Practice Worksheet
2. If a country’s central bank were to engage in activist stabilization policy, in which direction should it move interest rates in response to the same events listed in the previous question?
A wave of optimism boosts business investment and household consumption
Increase interest rates
To balance its budget, the government raises taxes and reduces expenditures.
Decrease interest rates
OPEC raises the price of crude oil.
The taste for the country’s products amongst the residents of other countries declines.
The stock market falls.
Explain the relationship between central bank policy in terms of the money supply and policy in terms of the interest rate.
In the short run, with prices sticky or fixed, an increase in the money supply implies a reduction in interest rates and a decrease in the money supply implies an increase in interest rates.

94. Chapter 34 Practice Worksheet
3. If policy makers were to use fiscal policy to actively stabilize the economy, in which direction should they move government spending and taxes?
A wave of pessimism reduces business investment and household consumption.
Increase spending, decrease taxes
An increase in price expectations causes unions to demand higher wages.
Decrease spending, increase taxes
The taste for the country’s products amongst the residents of other countries declines.
OPEC raises the price of crude oil.

95. Chapter 34 Practice Worksheet4.
Multiplier = 1/(1 – 0.75) = 4; $100/4 = $25 billion.
Multiplier = 1/(1 – 0.80) = 5; $100/5 = $20 billion.
More, because as the government spends more, investors spend less so aggregate demand won’t increase by as much as the multiplier suggests.
More of a problem. Government spending raises interest rates. The more sensitive investment is to the interest rate, the more it is reduced or crowded out by government spending.
More likely to allow the economy to adjust on its own because if the economy adjusts beforethe impact of the fiscal policy is felt, the fiscal policy will be destabilizing.

96. Chapter 34 Practice Worksheet5.
It lowers interest rates because, in the short run, with prices sticky or fixed, money demand is unchanging. Thus, an increase in the money supply requires a decrease in interest rates to induce people to hold the additional money.
It has no effect because, in the long run, the increase in spending causes a proportional increase in prices, output is fixed at the natural rate, money is neutral, and interest rates are determined by the supply and demand for loanable funds which have not changed.

97. Extra Credit
Describe the difference between monetary and fiscal policy.
Fill out the chart to indicate the measures the Federal Government could take to deal with the scenarios below.
Scenario
Expansionary/ Contractionary
Effect on Federal Budget
Objective for Aggregate Demand
Action on Taxes
Action on Gov’t Spending
Effect on the National Debt
1. The stock market is booming
2. The economy is experiencing deflation