2 Fiscal Policy Objectives 1. What is the difference between discretionary andnondiscretionary fiscal policy?2. What is the cause-effect chain for expansionary andcontractionary fiscal policy?3. What are the automatic stabilizers?4. What period is considered the “Golden Age of Fiscal Policy”?5. What is the “crowding-out” effect?6. What is the “negative net export effect”?7. What are the “lags” involved in fiscal policy?8. What is “Supply-side” economists?9. What is the Council of Economic Advisers and theJoint Economic Committee?
3 Even if I have to dig a hole and cover it back up, I do have a job. Discretionary Fiscal Policy [“G” & “T”] can be used if further smoothing is required.John Maynard Keynes“Father of Fiscal Policy”Nondiscretionary Fiscal Policy can take33% to 50% of the curves out of the business cycle.[Automatic stabilizers, like welfare and unemploy. insur.]PeakPeakContractionContractionExpansionPeakPeakContractionContractionExpansionTroughTrough
4 Introduction This chapter confronts the following questions: 1. Can government spending and tax policies help ensure full employment?2. What policy actions willhelp fight inflation?3. What are the roles of government intervention?
5 Taxes (“T”) and “G” Spending Up until 1915, the federal government collected few taxes and spent little.In 1902, it employed fewer than 350,000 people and spent $650 million.Today, it employs nearly 5 million people and spends more than $3 trillion.
6 Government RevenueGovernment expansion started with the 16th Amendment to the U.S. Constitution (1913)which extended the taxing power to incomes.Today, the federal government collects over $2.6 trillion a year in tax revenues.
7 Expansionary Fiscal Policy Recession andExpansionary Fiscal PolicySRASAD1LRASAD2RecessionsDecrease in ADPrice LevelPL1$490YR$510YFReal GDP
8 [Increase “G” or “decrease “T” w. ME of 4] Expansionary Fiscal Policy[Increase “G” or “decrease “T” w. ME of 4]Full $20 BillionIncrease in ADAD1AD2LRASSRAS$5 Billion inadditionalG spendingPrice LevelPL1$490YR$510YFReal GDP
9 Is the “real” or “nominal” I.R. used with the LFM graph? What is theLoanable Funds Market?Is the “real” or “nominal” I.R.used with the LFM graph?“Real I.R.” will be used on the LFM [“r”& nominal I.R. on the money market [i].
10 D2 S D1 Loanable Funds Market G T r=8% r=6% F1 F2 [*Use this graph if there is a chg in savings by consumers or chg in fiscal policy][*Use the Money Market graph when there is a change in MS]Loanable Funds MarketD2D1SUse the “real interest rate” withLFM, because it is long-term.Use “nominal interest rate” withmoney market, as it is short-term.BorrowersLendersStarting from a balanced budget, if theG incr spending or decr T to get out ofa recession, they would now be runninga deficit and have to borrow, pushingup demand in the LFM and increasingthe interest rate.Real Interest Rate, (percent)r=8%E2r=6%E1$2.2 T$2 T$2 TGTF1F2Quantity of Loanable FundsBalanced Budget [G&T=$2 Tr.]
11 D1 S1 S2 Loanable Funds Market r=6% r=4% F1 F2 [*Use this graph if there is a chg in savings by consumers or chg in fiscal policy][*Use the Money Market graph when there is a change in MS]Loanable Funds MarketD1S1S2BorrowersLendersReal Interest Rate, (percent)The following would cause anincrease in supply in the LFMand lower real interest rates:Fed increases MSHH save moreBusiness save moreGovernment saves moreForeigners save more herer=6%E1r=4%E2F1F2Quantity of Loanable Funds
12 Demand for Loanable Funds Market Demand for Loanable Funds at 3%[no G borrowing]Business firms demand forLoanable Funds at 3%[a lot of investment]RealDIInterestSRateD1[no G]A3%A3%LFM1.5QIDLow interest rates, so- a lot of investmentTrillions of DollarsTrillions of Dollars
13 Demand for Loanable Funds Market Higher interest rates, so With “G” borrowing, the demand for LF goes to 5%Business firms demand for Loanable Funds at 5%[not as much investment]Government Demand for FundsBusiness Demand for FundsD2(G)DIRealSInterestRateD1[no G]B5%5%BA3%3%AHigher interest rates, sonot as much investment1.0LFM1.5QID2QID1Trillions of DollarsTrillions of Dollars
14 Balanced Budget [$2 Tril. “G” = $2 Tril. “T”] RecessionIncr G to $2.2orDecr T to $1.8$2 Trillion$2 TrillionDeficit sohigher I.R.Gonna have to borrowGTSo expansionary fiscal policyleads to higher interest rates.DeficitInflationDecr G to $1.8orIncr T to $2.2Surplus soLower I.R.BudgetWow! AsurplusSo, contractionary fiscal policyleads to lower interest rates.
15 Expansionary Fiscal Policy Loanable Funds Market[Incr G; Decr T] [But we get negative Xn]D2SD1SRASr=8%PLAD2Real In. RateStart from aBalanced BudgetG & T = $2 Trillionr=6%LRASAD1F1F2“Now, this is better.”$2.2 tr.“I can’t get a job.”PL2$2 tr.$2 tr.PL1E2G TE1YRYFReal GDP$2.2$2.2GGI.R.ADY/Empl./PL;LFM$1.8$1.8TY/Emp/PL;DICADTLFMIR
16 Contractionary Fiscal Policy Loanable Funds Market[Decr G; Incr T ] [Again, we get negative Xn]D1D2SPLr=6%SRASr=3%Real In. RateStart from aBalanced BudgetG & T = $2 TrillionAD2LRASF2F1PL1$2.2 T tril.E1$2 tril.$2 T tril.$1.8 tril..PL2G TE2AD1YFYIReal GDP[like we have“money trees”]$1.8$1.8GGI.R.ADY/Empl./PL;LFM$2.2$2.2TY/Emp/PL;DICADTLFMIR
17 Nondiscretionary Fiscal Policy Deliberate use of government spending and/or taxing.“G” and “T”Nondiscretionary Fiscal PolicyAutomatic Stabilizers1.Welfare & food stamps2. Unemploy. insurance3. Social security4. Corporate Dividends5. Progressive Tax SystemUnempl. checkDiscretion of Congress
18 Suppose the economy is in recession: Fiscal Policy[Automatic stabilizers]Suppose the economy is in recession:TaxcollectionsReal GDPTransfer paymentsASAD1AD2G > TPLThe deficit growsYR Y*“Recession”
19 If the economy has an inflationary gap: Fiscal Policy[Automatic stabilizers]If the economy has an inflationary gap:TaxcollectionsReal GDPTransfer paymentsASAD2PLAD1G < TY* YIThe surplus grows“Inflationary Gap”
20 Discretionary [“Active”] Fiscal Policy [“G” & “T”] [in a nutshell]Contractionary Fiscal PolicyDecrease “G”Increase “T”ASAD2AD1AD3PL2PL1PL3PeakPeakYRYFYIPeakExpansionPeakContractionExpansionary Fiscal PolicyIncrease “G”Decrease “T”TroughTrough[Takes about 1/3 to ½ out of the curves]
21 “Balance the economy over the course of the Business Cycle” Keynesian Policy“Balance the economy, not the budget.”PeakPeakRaise“T”Raise“T”ASAD2AD1AD3PL2TroughDeficitSpendingRaiseTaxesDeficit SpendingPL1“Balance the economy over thecourse of the Business Cycle”PL3YRYFYIBus. Cycle“Even if the jobs are diggingholes and filling them up.”Recess – Lower TDeficitsInflat – Raise TSurpluses
22 [Is borrowing or printing the money more expansionary?] FINANCING OF DEFICITS[Is borrowing or printing the money more expansionary?]1. Government borrows from the public[results in higher interest rateswhich crowds out investment]HigherI.R.MS12. Just print the money[Money creation – lower interest ratesso this would be more expansionary]MS27%4%Lower I.R.But the LR increase in MS resultsin an increase in inflationASAD2AD1PL2PL1Y* Y
23 [Should we hold the surplus or give it back] How To dispose of Surpluses[Should we hold the surplus or give it back]1. Debt Retirement[Give the surplus back during recessions to getlower interest rates and expand the economy]2. Impound The Surplus[Keep the surplus during inflations and give it backduring recessions]ASAD2AD1PL2PL1Y* YI
25 Friedman s G IG YR Y* [Incr G incr I.R. Decr Ig] "Crowding-out" Effect Loanable FundsMarket10%8%6%4%2%PLASD2sReal I.R.AD2D1AD14%2%G10%Real interest rateCrowdingOut Effect6%IGYRY*F1F215Quantity of LFInvestment (billions of dollars)In this case, it would be 100% “crowding out”.[The higher RIR could also cause crowding-out of Xn.]G can finance a deficit by:1. Borrowing - this raises interestrates in the LFM and “crowds out” investment.2. Money Creation - no “crowding out”so is more expansionary than borrowing.FriedmanJust follow the“monetary rule.”
26 Expansionary Fiscal Policy Negative Net Export Effect of Fiscal Policy“Negative Xn”Expansionary Fiscal PolicyDue to higher interest rates, dollar appreciatesLRASSRASADAD+G+C+IgAD-XnYR Y*
27 Expansionary Fiscal Policy Contractionary Fiscal Policy Negative Net Export Effect of Fiscal Policy“Negative Xn” of“Negative Xn” ofExpansionary Fiscal PolicyContractionary Fiscal PolicyDue to lower interestrates, dollar depreciatesDue to higher interestrates, dollar appreciatesLRASSRASADLRASSRASAD-Ig-C-G+GAD+C+Ig+Xn-XnYR Y*Y* YI
28 Liberal (“G”) or Conservative (“G”) LiberalsRecession: Increase “G”; Inflation: Increase “T”GConservativesRecession: Decrease “T”; Inflation: Decrease “G”G
30 Fiscal Policy lags Data (recognition) lag “The shower starts out too cold, because the pipes havenot yet warmed up. So the fool turns up the hot water.Nothing happens, so he turns up the hot water further.The hot water comes on and scalds him. He turns up thecold water. Nothing happens right away, so he turns upthe cold further. When the cold finally starts to come up,he finds the shower too cold, and so it goes.”Fiscal Policy lagsData (recognition) lag“Wait-and-see” lag – short runLegislative lag (political)Effect lag [takes months]
31 The G is like a “Fool in the Shower.” Discretionary fiscal policiesintended to fight a recessionoften end up feeding a boomand vice versa.E4LRASSRAS1AD1AD2SRAS2E1E2E4E3YRYFYIE2All too often, policy makers can inadvertentlyexacerbate rather than mitigate the magnitudeof economic fluctuations.
32 Traditional Fiscal Policy [“G” & “T”] will not work with Stagflation SRAS2AD1LRAS15%10%AD34%15%10%YR5%StagflationYRYF
33 THE LAFFER CURVE100Tax rate (percent)lTax revenue (dollars)
34 THE LAFFER CURVE100Tax rate (%)mlTax revenue (dollars)
35 THE LAFFER CURVE100nTax rate (percent)mlTax revenue (dollars)
36 THE LAFFER CURVE Maximum Tax Revenue Tax rate (%) 100nmmMaximumTaxRevenueTax rate (%)lTax revenue (dollars)
37 Supply-Side Economics [Voodoo Economics?] Shift the AS curve back to the right1. Reduce corporate taxes from 50% to 35%[they have more money and increase investment, so more jobs]2. Accelerated depreciation of capital investment from 10 years to 3 years[businesses save taxes enabling them to invest more]3. Reduce personal income taxes by $250 billion [keeping more of our moneymakes us work harder & longer; also, we buy more, so more jobs and inaddition, we save more, which lowers interest rates, which increases Ig]4. Tax Credits for R&D [businesses have more money, so more Ig and more jobs]Motto: Get the government off our [ regulations] backs & watch the AS curve shift.StagFlationWas President Reagana “closet Keynesian”with all the “G” & “T”?Perhaps he was a“Keynesian in drag.”AS2AS1ADPL10%3%10%5%
38 b c a b The Laffer Curve Tax revenue (dollars) 100 Tax rate (percent) President Reagan said he was on the Laffer curve. He said that after WWII,when he started making big money, that he could do 4 movies before making$200,000 and hitting the top marginal tax rate of 91%. After four, because hecould only keep 9%, he would quit making movies until the next year.“Yes, I was on the Laffer cuve. I couldn’t shoot my way out”bMaximum Tax RevenuecaTax revenue (dollars)ReaganThe “Gipper”bBonzo100Tax rate (percent)For rich people, this was a disincentive to keep working, so they would quitwhen they hit the top marginal tax rate. For most workers, this was not the case.
39 SUPPLY-SIDE FISCAL POLICY Can sustain a much greater increase in AD if theAS curve is also shifting to the right.AD1AD2AS1AS2Price levelPL2PL110%PL3Q1Q2Q3Real GDP10%
40 MULTIPLIER WITH PL CHANGES Inflation and the Multiplier ASFull Multiplier EffectReducedMultiplierEffect Dueto InflationAD3AD2AD1+20+20Price LevelP2P1+ 40 bil.+ 80 bil.GDP1GDP2GDP3M(4) = Y/ E M(2) = Y/ E 
41 EXPANSIONARY FISCAL POLICY [MPS=.25] the multiplier at work...$5 billion initial direct increase in spendingASAD1AD2Full $20 billionincrease in AD+5Price levelPL$485$505Real GDP (billions)
42 CONTRACTIONARY FISCAL POLICY direct decrease in spending [MPS=.25] the multiplier at work...ASAD2AD1PL1$5 billion initialdirect decrease in spendingPrice levelPL2Full $20 billiondecrease in AD$515Real GDP (billions)
43 Government Expenditures, Built-In Stability50%More vertical [more progressive],the more stability for the economy.TaxesEven moreTax moneyTaxes35%TransfersMore taxmoneyMoreTransfersGovernment Expenditures,G, and Tax Revenues, TSurplusDeficitGov. purchasesFewerTransfersLess TaxMoneyFewerTransfers10%But largerdeficits5%GDP1GDP2GDP3YRY*YIReal Domestic Output, GDP
44 Automatic Stabilizers Nondiscretionary [“Passive”] Fiscal Policy (Automatic stabilizers)1. Transfer Payments D. Corporate dividendsA. Welfare checks E. Social SecurityB. Food Stamps F. Veteran’s benefitsC. Unemployment checks2. Progressive Income TaxesAD2ASAD1AD3Automatic stabilizerstake 33-50% out.Stabilizers are like a thermostatmaintaining temperature.They are shock absorbers.33%-50%YR Y* YIYR ; T ; AD2YI ; T ; AD3Taxes reduce the drop in DIduring recessions and reducesthe jump in DI during expansions.Automatic StabilizersThe automatic stabilizers may be called the automatic pilot of our economy,not very well suited for takeoffs and landings, but fine for the smooth part of thethe flight. But when the going gets rough, the economy must use manual controls.[discretionary G&T]A pilot may take a stroll thru and let the co-pilotcruise. If there is turbulence, the pilot will rushto the cockpit [President & Congress] and use manualcontrols to correct turbulence. Discretionaryfiscal policy is our manual control system.
45 Mixed - Open ADDING THE PUBLIC SECTOR [“G”] $20 Billion Government Spending & Impact on Equilibrium YGovernmentSpending of$20 BillionC + Ig + Xn + GC + Ig + Xn$20 bil. on National Defense$550Consumption$470Increases Y by $80[$20 x 4 = $80]Private-public - ROW$390Mixed - OpenAE (billions)45ooRGDP550
46 Mixed-Open Incr. T by $20 billion [MT = 3] Equilibrium GDP[-60] ADDING THE PUBLIC SECTOR [“G”]Incr. T by $20 billion [MT = 3] Equilibrium GDP[-60]C + Ig + Xn + GCa + Ig + Xn + G$20 bil. incr in T$550$490Mixed-Open-20 x 3 = -$6045ooRGDP$490$550Real domestic product, GDP (billions of dollars)
47 [“T” affects AD indirectly thru “C”; “G” affects AD directly] Balanced Budget Multiplier [$20 billion][“T” affects AD indirectly thru “C”; “G” affects AD directly]GDP=$80Net Change in GDP =+$20The increase in “G” flows directly into the economy.The increase in “T” means we would have consumed $15 and kept $5 in our pockets.GDP=-$60T $20Sa= -$5G $20Ca= -$15ME = 1/MPSME = 1/.25 = 4So, 4 x $20 = $80MT = MPC/MPS=.75/.25=3So, 3 x -$20 = -$60ASAD1AD2PL$490 billion$470 billion
48 Fiscal Policy NS 1-81. With the Employment Act of 1946, the federal government committeditself to accept (total/some) degree of responsibility for employment/prices.2. Fiscal policy is carried out primarily by the (local/state/federal) government.3. Discretionary fiscal policy [G & T] (does/does not) require congressional action.4. In a mixed [private & public) closed economy, taxes & (savings/government spending)are leakages, while Ig and (savings/government spending) are injections.5. In a mixed economy, the equilibrium GDP exists where (C+Ig/C+Ig+G+Xn)=GDP.6. The balanced budget multiplier indicates that equal increases in G&T tend to(decrease/increase/not change) the equilibrium GDP. [MBB is “1”]7. Assume in a private economy that equilibrium GDP is $400 billion & the MPC is.80. Suppose the G collects new taxes of $50 bil. & spends the entire amount onour infrastructure. As a result equilibrium GDP will be ($400/$450/$500) billion.8. Suppose a constitutional amendment requires that the G always balanceits budget. If it desired to increase GDP by $40 billion, G should(increase/decrease) government spending & taxes by ($30/$40/$50) billion.
49 C YR YI A AE2 9. In a severe recession, Keynesians PL would favor a(n) (increase/decrease) intaxes.AE2PLAE1YR Y*?10. If the government tries to eliminate a budget deficit during a depression,these efforts will (help/hurt) the depression.11. A conservative economist who advocates an active fiscal policywould recommend tax (increases/decreases) during a recession and(increases/decreases) in government spending during inflation.AEPLOCYIYRA12. If the F.E. GDP is OC, then it would be appropriate fiscal policy forgovernment to (increase/decrease) “G” and (increase/decrease) “T”.13. If the F.E. GDP is OA, then it would be appropriate fiscal policy for
50 surplus will occur when the G (impounds/uses) the surplus 14. If G increases its spending during a recession to assistthe economy, the funds must come from some source.(Additional taxes/Borrowing from the public/Creating new money)would tend to be the most expansionary.15. The following fiscal actions, (incurring a budget surplusand allowing it to accumulate as idle Treasury balances/incurring a budget surplus which is used to retire debt heldby the public) is likely to be most effective in curbing inflation.16. The greatest anti-inflationary impact of a budgetsurplus will occur when the G (impounds/uses) the surplusfunds & lets them (stand idle/pay off the debt).17. In describing the built-in stabilizers, we can say thatpersonal & corporate income tax collectionsautomatically (incr/decr) as GDP increases & transfersand subsidies (incr/decr) as GDP increases.Should I give it back?
51 Recognition, Action, & Effect Lags of Fiscal Policy Recognition Lag Action Lag Effect Lag
52 FISCAL POLICY – Pure and Simple There are 3 things that could “diminish AD.”AD1AD2ASFiscal Policy:No ComplicationsPLPrice level$490YR$510Y*Real GDP (billions)
53 Three things that could “diminish AD.” 1. Crowding-out Effect2. Net Export Effect3. InflationAD1AD’2AD2ASNet Export EffectExpansionary fiscal policyleads to more governmentborrowing, increasing theinterest rate, appreciatingthe dollar, & decreasing Xn.PLCrowding-out EffectIncreasing G resultsin higher interest rates,decreasing investmentand the . . .$ $510$503Real GDP (billions)
54 3. Inflation would be a third factor that could reduce aggregate demandASAD2AD1Price levelP1$495$505$515Real GDP (billions)
55 NS 18-21 T2 1 Answer the next 3 questions(18-21) based on the diagram. [50%]T235%110%5%Answer the next 3 questions(18-21) based on the diagram.18. Deficits will be realized at GDP levels (below/above) C, andsurpluses (below/above) C.19. If the F.E. GDP for the economy is at D, the F.E. budget willentail a (deficit/surplus).20. If the tax line had a greater slope [more progressive tax system],stability would be (less/greater).21. If government adhered strictly to an annually balanced budgetthen the government’s budget would tend to (destabilize/stabilize)the economy.
56 NS 22-25 Tax Revenue YR Y* YI GDP For Questions 22-24 [graph] 50%(represents a moreprogressive system)[T3]35%25%[T2]Tax RevenueFlat 20% Tax20%20%[T1]15%10%5%YRY*YIGDPFor Questions [graph]22. (T1/T4) tax system is characterized by the least built-in stability.23. (T1/T4) tax system is characterized by the most built-in stability.24. (T1/T4) tax system will generate the largest cyclical deficits.25. Nondiscretionary Fiscal Policy (does/does not)require congressional action.
57 NS 26-3026. If the MPC is .5, a $10 B increase in “G” will increase “C”[not income] by ($20/$10/$5) billion.[G increase in spending of $10 B increases income(Y) by $20 B.With MPC of .5, C increases $10 B]27. If government tries to give back a surplus during aninflationary FE year, this will be (pro-cyclical/counter-cyclical).28. When politicians use fiscal policy to cause an improvementin the economy just prior to an election, this is a(presidential/Congressional/political) business cycle.29. When G incurs a deficit which is financed by borrowing,causing interest rates to increase which decreases Ig, thisis called the (crowding-in/crowding out) effect.30. Supply-siders argue that the primary effect of tax cuts isto shift the AS curve (leftward/rightward).
58 NS 31-34 AE billion, & the level of investment is $10 31. If the MPC is .8, a $2 billion increase in “G” will increase“consumption” by ($10/$8/$6) billion.[When G increases by $2 billion, Y does increase by $10, but *8 (80%) is consumed, or $8 billion]32. If the MPC is .9, a $1 billion increase in “G” will increase“consumption” by ($10/$9/$8) billion.SC+IgAE33. In a private-closed economy, the MPS is .2,consumption equals income at $200billion, & the level of investment is $10billion. The level of income at the newequilibrium level is ($200/$250) billion.“C”+$10 Ig200?S34. If the MPS is .2 and the economy has arecessionary spending gap of $5 bil.,we may conclude that the equilibrium levelof GDP is ($5/$20/$25) below the FE GDP.AE2AEAE1+$5YR ?
59 NS 35-38S35. If the MPS is .5 and the economy has aninflationary spending gap of $6 billion,we may conclude that the equilibrium levelof GDP is ($6/$12/$18) billion beyond theFE GDP.AEAE1AE2-$6Y* YI36. If the government decreases G&T by $10 billion, then aMPS of .10, the equilibrium GDP would (increase/decrease) by($5/$10/$100) billion.37. With a MPC of .75, government increases G&T by $8 billion.The equilibrium GDP (increases/decreases) by ($75/$32/$8) billion.38. If the government runs a budget surplus and desires tocurb inflation, it should (give the surplus back/keep it in storage).
60 Fiscal Policy Test Review 1-2 1. Expansionary fiscal policy will be most effective[increase GDP] when the AS curve is (vertical/horizontal)& (incr/decr) “C” and (incr/decr) unemployment.2. The paradox of thrift indicates that an increase in saving(matched/unmatched) by an increase in investment willlower equilibrium GDP.
61 Fiscal Policy Test Review 3-4 [On #3, start froma balanced budget]3. A contractionary fiscal policy [decr G, incr T] would cause a[an](incr/decr) in output[GDP] and a[an] (incr/decr) in interest rates.An expansionary fiscal policy [incr G, decr T] would cause a[an]4. In the AE model, if AE[AD]doesn’t buy up FE output(GDP), then theequilibrium output is (less than/more then) full employment output.G $2 Trillion T $2 Trillion[G ; LFM ; In. Rates ][T ; LFM ; In. Rates ][G ; LFM ; In. Rates ][T ; LFM ; In. Rates ]“Recessionary Gap”“Inflationary Gap”
62 5. To decrease AD the greatest amount, the government should: (decrease “G” only/increase “T” only/both decr G & incr T)6. To increase AD the greatest amount, the “G” should:(increase “G” only/decrease “T” only/both incr G and decr T)7. In a recessionary gap (AE model) at the equilibrium point[actual GDP]planned investment is (greater than/equal to/less than) saving, but at the FEGDP level, planned investment[backup] is (greater than/equal to/less than) saving.8. In an inflationary gap (AE model), at the equilibrium point [actual GDP]planned investment [backup] is (greater than/equal to/less than) saving, but atthe FE level, planned investment is (greater than/equal to/less than) saving.9. If businesses are experiencing an unplanned increase in inventories, AE is(less than/greater than) FE output & spending will (increase/decrease).10. If businesses are experiencing an unplanned decrease in inventories [disinvestment]AE is (less than/greater than) FE output & spending will (increase/decrease).
63 11. If “C” equals income at $500 billion, & MPC is .9, then an increase in Ig of $10 billion will change equilibrium GDP to($400/$490/$510/$600) billion.12. A conservative economist would want tax (incr/decr) duringa recession & (incr/decr) in “G” during inflationary times.13. A liberal economist would want tax (incr/decr) during aninflation & (incr/decr) in “G” during recessionary periods.14. An inflationary gap indicates AE[actual GDP] (exceeds/falls short of) FE GDP.15. A recessionary gap indicates AE[actual GDP] (exceeds/falls short of) FE GDP.16. To increase GDP [but reduce military spending], we would combine two(domestic/overseas) bases into one (domestic/overseas) base.17. A tax cut to expand the economy would (incr/decr) Y & (incr/decr) in. rates.18. A tax increase to contract the economy would (incr/decr) Y & (incr/decr) IR.
64 Test Review 19-22 19. To increase equilibrium GDP by $400,000, with a MPC of .5, a Keynesian economistwould (decrease “T”/increase “G”) by $200,000.20. Equilibrium GDP is $500 billion and MPS is .4.Now “G” collects taxes of $22 billion and spendsthe entire amount. As a result, equilibrium GDP willchange to: ($445/$478/$522/$555).21. With a MPC of .5, a $12 billion increasein “G” will increase “C” by ($12/$24/$36) bil.22. With a MPC of .5 and the economy in arecessionary spending gap of $12 billion,we may conclude that the equilibrium is($12/$24/$36) billion short of FE GDP.
65 Test Review 23-2723. An increase in Ig of $25 billion results in an increasein equilibrium income (GDP) of $50B, so the MPS is?24. A contractionary fiscal policy results in a(n) (incr/decr) in output, and a(n) (incr/decr) in interest rates.25. Increasing T or decreasing G will (increase/decrease) consumption, and (increase/decrease) unemployment.26. With a MPC of .5, and the economy with an inflationary GDP Gap of $50B, G could eliminate this inflationary GDP Gap by reducing government spending by?27. With a MPC of .5 and current output at $500 billion but FE output is $700 billion, correct fiscal policy would be to(increase G/decrease T) by $100 billion..5[Incr T or Decr G]$25 billion
66 Test Review 28-33 28. An increase in Ig in an economy (increase)/decrease) GDP & (increase/decrease) C.29. In a recessionary economy, atFE GDP, saving is (less than/more than) Ig.30. In a recessionary economy,(actual Y/potential Y) exceeds (actual Y/potential Y).31. In a mixed-closed economy (no Xn), the leakages are?and the injections are?32. If the economy has an inflationary Gap, atFE GDP, saving (exceeds/is less than) Ig.33. If there is an equal increase in G&T of $25 billion,then output will (increase/decrease) & interest rates[based on PL] will (increase/decrease).[S & T][G & Ig]