Question

One reason the government enacts fiscal policy instead of waiting for the economy to correct itself is:

Question 12 options:

	the automatic (autonomous) adjustment will cause permanent inflation.
	the automatic (autonomous) adjustment process involves a lot of economic hardship.
	the automatic (autonomous) adjustment means a lower level of potential GDP (the natural rate of output).
	fiscal policy does not affect the composite price level.

Fiscal policy most directly affects the economy by increasing or decreasing:

	the money supply.
	long-run aggregate supply.
	aggregate demand.
	short-run aggregate supply.

In the long run, changes in prices of goods and services paid by consumers:

	have no effect on aggregate demand.
	have an effect on the macroeconomy.
	have no effect on aggregate supply.
	can shift the aggregate supply curve.

Assume that the composite price level P is fixed. If the government wishes to decrease equilibrium GDP by $3,000b, and the MPC is 0.5, it should:

	decrease its spending by $6,000b.
	decrease its spending by $6,000b.
	decrease its spending by $1,500b.
	increase its taxes by $1,500b.

Answer 1

1. the automatic (autonomous) adjustment process involves a lot of economic hardship. Automatic adjustmeent would take at lot of time. Thus, the government intervenes with it's fiscal policy measures, so that all of the economic hardship is reduced and the economy comes back to it's normal state as soon as possible.

2. aggregate demand. Fiscal policy is mainly used when there is a need to ocntrol the money supply in the economy. When fiscal policy is implemented, people either have more money in their hands or less money in their hands. A more money would mean increased aggregate demand and vise-versa.

3. can shift the aggregate supply curve. If the price paid by consumers changes, the aggregate supply curve will not be impacted hat much, but in the long run suppliers would want to adjust their supply according to the prices they are getting and the cost they are incurring. Thus, there is shift in aggregate supply curve.

4. decrease its spending by $1,500b. MPC is 0.5, this mean MPS is 0.5. We'll multiply the government expenditure by the MPS, this will give thus the change in spending. 0.5 x $3000b = $1500.