Suppose a closed economy (economy that does not engage in international trade) is described by the...

Suppose a closed economy (economy that does not engage in international trade) is described by the following table.

Year	Potential GDP	Real GDP	Price Level
1	$1600 billion	$1600 billion	100
2	$1650 billion	$1620 billion	109

a. What problem will occur in the economy in Year 2 if no policy is pursued?

b. Describe the fiscal policy tools that could be used to combat the problem. Carefully explain all steps in the link between policy and outcomes. What impact will this policy have on the various components of the aggregate expenditures? What will happen to the real GDP and Price level as a result of these policies?

c. Describe the monetary policy tools that could be used to combat the problem. Carefully explain all steps in the link between policy and outcomes. What impact will this policy have on the various components of the aggregate expenditures? What will happen to the real GDP and Price level as a result of these policies?

d. Will your answers to (b) and (c) change if this was an open economy. In what way?

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Expert Solution

Rahul Sunny answered 1 year ago

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