The U.S. is a large economy with a trade deficit. Suppose the U.S. federal government increases...

The U.S. is a large economy with a trade deficit. Suppose the U.S. federal government increases income tax. How will this policy affects the U.S. saving, investment, real interest rate, and capital flows? Is it possible to prevent changes due to this tax policy? If yes, how? Explain reasoning.

Expert Solution

When , US government decides to increase income taxes we will see following changes.

Savings :

An increase in income tax will reduce givernmets budget defict. This will prevent government from filling that tax out of taking loans from banks in the form of T bills. It will leave national savings for more investment by the private sector.

Investment

Increase in income tax will result in reduced demand by consumers which will discourage business firms to invest more .

Real interest rate:

Tax increase will result in reduced demand this would bring down aggregate demand curve. When the economy is working above potential GDP level this reduced demand will ease inflationary pressure and thus,we will see reduced real interest rate.

On the other hand if the economy is already functioning way below potential GDP level reduced aggregate demand will not have much effect on price level thus, we won't see any considerable change in real interest rate.

Capital Flow :

Capital will flow out of consumers to government. The amount of government deficit will reduce and it can also result in government surplus .

Now, to prevent any changes in the economy due to increased tax rate what we can do is increase government expenditure by the same amount. When money out of consumers pocket is spent by government at the same proportion ,net change in economic variables will remain same as before. Here, instead of taking loans out of security government will increase expenditure our of tax income. On,the other hand consumers will reduce their expenditure, but government expenditure will offset this due to same level of aggregate demand in the economy . Investment will remain same due to no net change in consumption demand in the market.

Rahul Sunny answered 2 years ago

the u.s is a large economy with a trade deficit. suppose the us fedral government permanently...

the u.s is a large economy with a trade deficit. suppose the us fedral government permanently increase income tax. how will this policy affects the us saving investment, real interest rate and capitall flows? is it possible yo use monetary policy to prevent changes due to this tax policy? if yes how

Suppose that Keynesian policies led to large increases in the deficit and federal debt. How should...

Suppose that Keynesian policies led to large increases in the deficit and federal debt. How should these be handled?

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over...

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over the next ten years, with no change in tax rates. Describe the effects of such a policy according to the three business cycle models, assuming that the policy is fully credible) Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over the next ten years, with no change in tax rates. Describe the effects of such a policy...

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over...

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over the next ten years, with no change in tax rates. Describe the effects of such a policy according to the three business cycle models, assuming that the policy is fully credible

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over...

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over the next ten years, with no change in tax rates. Describe the effects of such a policy according to the three business cycle models, assuming that the policy is fully credible

Suppose that the federal government begins to run a large budget deficit at a time when...

Suppose that the federal government begins to run a large budget deficit at a time when many productive resources are idle factories are operating far below capacity in most industries, and there are surplus of labour in almost every area of the economy. How might the existence of all these idle resources prevent even a very large increase in government borrowing from leading to an increase in interest rates? If you found part (a) hard to answer, ask yourself whether...

1.Suppose that the federal government has a budget deficit and the economy is closed. Using the...

1.Suppose that the federal government has a budget deficit and the economy is closed. Using the savings–investment spending identity, explain how this affects investment spending. 2.The market for loanable funds is in equilibrium. All else equal, the federal government has eliminated taxes on interest earned from savings. Describe how this will affect the market for loanable funds, the equilibrium interest rate, and the equilibrium quantity of loanable funds.

According to the open-economy macro model, if the budget deficit of the U.S. increases then U.S....

According to the open-economy macro model, if the budget deficit of the U.S. increases then U.S. interest rates increase, U.S. domestic investment increases, NCO decreases and the U.S imports decrease because the U.S. dollar appreciates. Select one: True False In the market for foreign currency exchange, the amount of U.S. net exports desired at each real exchange rate represents the quantity of U.S. dollars demanded for the purpose of buying U.S. goods and services by foreign residents. Select one: True...

Suppose the government is concerned with its large trade deficit. Politician A proposes to encourage consumers...

Suppose the government is concerned with its large trade deficit. Politician A proposes to encourage consumers to buy more domestically produced goods by running "Buy American" marketing campaigns. Politician B proposes to reduce government spending in order to tackle government debt. A.) How does Politician A's plan affect the trade deficit and why? B.) How does Politician B's plan affect the trade deficit and why? C.) Which of these two policy choices, if any, will be effective in reducing the...

Suppose that the government budget deficit increases. Show, what curves in the open-economy macroeconomic model would...

Suppose that the government budget deficit increases. Show, what curves in the open-economy macroeconomic model would shift? What are the effects of this event on the economic variables like real interest rate, net capital outflow, and real exchange rate?

Question

The U.S. is a large economy with a trade deficit. Suppose the U.S. federal government increases...

Solutions

Expert Solution

Related Solutions

the u.s is a large economy with a trade deficit. suppose the us fedral government permanently...

Suppose that Keynesian policies led to large increases in the deficit and federal debt. How should...

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over...

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over...

Suppose the U.S. government announces that it will bring the federal budget deficit to zero, over...

Suppose that the federal government begins to run a large budget deficit at a time when...

1.Suppose that the federal government has a budget deficit and the economy is closed. Using the...

According to the open-economy macro model, if the budget deficit of the U.S. increases then U.S....

Suppose the government is concerned with its large trade deficit. Politician A proposes to encourage consumers...

Suppose that the government budget deficit increases. Show, what curves in the open-economy macroeconomic model would...