Question

The government has the ability to influence the level of output in the short run using monetary and fiscal policy. There is some disagreement as to whether the government should attempt to stabilize the economy.

Which of the following are arguments in favor of active stabilization policy by the government? Check all that apply.

Changes in government purchases and taxation must be passed by both houses of Congress and signed by the president.

Businesses make investment plans many months in advance.

Shifts in aggregate demand are often the result of waves of pessimism or optimism among consumers and businesses.

The Fed can effectively respond to excessive pessimism by expanding the money supply and lowering interest rates.

Which of the following are examples of automatic stabilizers? Check all that apply.

Personal income taxes

The discount rate

Unemployment insurance benefits

Answer 1

1.
Correct Answer:
C

Pessimism and optimism strongly affect the aggregate demand in the economy and active government policy brings stimulation that can nullify the excessive impact of the pessimism and optimism. Expansionary policy helps during the time of recession and contractionary policy helps during the time of expansion.

2.

Correct Answer:
A
C

Automatic stabilizers help the economy to drive towards the stability. Personal income tax comes down during the time of recession and people don’t pay or pay less tax. It means that there are additional income for the consumption and demand gets a boost. On a similar note, unemployment insurance benefits are issued to those who are unemployed and it helps to boost the demand. It further develops economic activities and new employment opportunities are created. As a result, the economy moves onwards the stability and recover from the recession.