Question

Analyse the effect of the following on GDP and the price level:

a) A decrease in taxes, while excess capacity exists in the economy.

b) Technological advancements which when applied to secondary and tertiary sectors improve productivity and overall output levels.

c) A fall in interest rates, when the economy is approaching the peak stage of the business cycle.

d)An increase in the price of oil which is key input into the production process of the manufacturing sector which represents 70% of GDP.

e) A trend towards online shopping due to the lower prices obtained by using such a small distribution channel.

f) Government's usual spending on roads falls when the economy is operating at full employment.

g) The TT dollar appreciates with respect to the currencies of its major trading partners.

h) The removal of tariffs imposed by other countries on our fresh fruits and vegetables.

Answer 1

a.

GDP: since tax decreases, the disposable income would increase and consumers would go for more purchasing which tends to increase the GDP.

Price level: since there is excess capacity, the aggregate supply would increase in order to match the excess demand, which keeps the price level remain as it is.

b.

GDP: technological improvement increases productivity; therefore, GDP would increase.

Price level: since overall output level increases, it keeps the price level down.

c.

GDP: if the interest rate falls, investment would increase; investment is a component of GDP; therefore, GDP increases.

Price level: since it is nearly in peak stage, further production may not be possible; the increasing demand through an increasing GDP push the price level up.

d.

GDP: since input price increases, there will be no change in GDP because it is not directly associated with the input price.

Price level: it increases the price level, since the aggregate supply curve shifts inward (showing a decreasing supply).

e.

GDP: Online shopping trend increases GDP, because it increases purchase motive.

Price level: it tends to increase the price level, if the trend increases further and creates more demand.

f.

GDP: since there is full employment, there will be no increase or decrease in GDP. The maximum level is already achieved.

Price level: since government spending declines, it reduces aggregate demand and decreases the price level.

g.

GDP: since there is an appreciation of dollar value, export will down and import will increase causing GDP to decrease.

Price level: it keeps the price level down, since one of the reasons of dollar appreciation is smaller inflation rate.

h.

GDP: since the tariff is eliminated there would be more export than import, leading to a higher GDP.

Price level: it increases the price level, because the demand for fruits and vegetables would be very high that creates inflation.