Question

In order to avoid entering a recession, the government of Batavia spent $300 billion improving infrastructure around the country. Assuming that the marginal propensity to consume is ½ and without considering any crowding out effects, how much would aggregate demand increase from this initial increase in government spending?

Question 3 options:

	$150 billion
	$300 billion
	$600 billion
	$900 billion

Assume the multiplier is 5 and that the crowding-out effect is $30 billion. An increase in government purchases of $20 billion will shift the aggregate-demand curve to the

Question 4 options:

	right by $130 billion.
	right by $70 billion.
	right by $50 billion.
	right by $10 billion.

A goal of monetary policy and fiscal policy is to

Question 5 options:

	offset the shifts in aggregate demand and thereby eliminate unemployment.
	offset shifts in aggregate demand and thereby stabilize the economy.
	enhance the shifts in aggregate demand and thereby create fluctuations in output and employment.
	enhance the shifts in aggregate demand and thereby increase economic growth

Answer 1

1> C

We know that the spending mulitiplier is 1/(1-MPC) = 1/0.5 = 2

Thus, the increase in aggregate demand would be Increase in spending * Multiplier = 300*2 = $600 Billion (Ans)

2> B

Without crowding out effect, the AD would have shifted to the right by investment * multiplier = 20*5 = $100 billion

Since the crowding out effect is $30 Billion, the shift in AD will be 100-30 =70 Billion to the right (Ans)

3> B

Stabilizing the economy is the goal of monetary and fiscal policy, since stabilization can only occur if there is no large change of AD in the absence of fundamental reason. So, that is the goal of fiscal and monetary policy.