describe the fiscal policy remedies that a Keynesian economist might prescribe to close a recessionary gap....

describe the fiscal policy remedies that a Keynesian economist might prescribe to close a recessionary gap. What impact would these policy changes have on the federal budget deficit and the public debt?

Expert Solution

Ans. In a recessionary phase, government must use the fiscal expansionary policy. So, either it can increase government spending or can cut taxes. Both these policies will increase household spending. Although due to increase in household income, transaction demand for money will rise increasing the interest rate at given level of money supply which will increase cost if borrowing decreasing investment spending and also, increased interest rate will lead to decrease in met capital outflow appreciating the domestic currency and hence, decreasing net exports. This will decrease the aggregate demand and the fiscal policy won't be able to have the same effect. But the aggregate demand for goods and services will increase leading to rightward shift of aggregate demand curve from AD to AD'. This will lead to increase in price level from P to P' and output from Y to Y' at given aggregate supply.

Budget Deficit = Government Expenditure- Tax Revenue

So, increase in government expenditure and decrease in taxes will increase government's budget deficit and hence, increase pubic debt.

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Rahul Sunny answered 1 year ago

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