An economy is operating with output $400 billion below its natural rate, and fiscal policymakers want...

An economy is operating with output $400 billion below its natural rate, and fiscal policymakers want to close this recessionary gap. The central bank agrees to adjust the money supply to hold the interest rate constant, so there is no crowding out. The marginal propensity to consume is 4/5, and the price level is completely fixed in the short run.

a. In what direction and by how much would government spending need to change to close the recessionary gap? Explain your thinking.
b. In what direction and by how much would taxes need to change to close the gap? Explain.
c. If the central bank were to hold the money supply, rather than the interest rate, constant in response to the change in fiscal policy, would your answers to the previous questions be larger, smaller, or the same? Explain.
d. If policymakers in this economy wanted to close the recessionary gap without increasing the government’s budget deficit, what are two ways they can accomplish this goal?

Expert Solution

a. increase spending by borrowing the money from the central bank. Or the central bank will buy more government bonds.
b. increase spending = 400/5=$80 billion.
c.the government has to borrow to the public. It will have the crowding-out effects. Interest rate will rise. The spending is the same.
d.It might go the classic way such as increase velocity of money,or adjust wage rate or value of marginal product by raising productivity. Or it might use only monetary policy, increase money supply, lower interest rate, lower reserve ratio.That won't affect the budget deficit.

Rahul Sunny answered 2 years ago

An economy is operating with output $200 billion above its natural level, and fiscal policymakers want...

An economy is operating with output $200 billion above its natural level, and fiscal policymakers want to close this expansionary gap. The central bank agrees to adjust the money supply to hold the interest rate constant, so there is no crowding out. The marginal propensity to consume is 3/4, and the price level is completely fixed in the short run. To close the expansionary gap, the government would need to decrease or increase spending by ?? billion.

Consider an economy with zero interest rate and aggregate output less than its natural output (liquidity...

Consider an economy with zero interest rate and aggregate output less than its natural output (liquidity trap). b. What type of fiscal policy is needed to reduce unemployment rate and increase output? Show on the graphs. c. Do you think that the policy packages in response to the 2008 financial crisis (great recession) were effective? If so, why the recovery took long?

Suppose the economy produces real GDP of $40 billion when unemployment is at its natural rate.

5. The slope and position of the long-run aggregate supply curve Suppose the Fed doubles the growth rate of the quantity of money in the economy. In the long run, the increase in money growth will change which of the following? Check all that apply. The size of the labor force The quantity of physical capital The price level The inflation rate Suppose the economy produces real GDP of $40 billion when unemployment is at its natural rate. Use the purple points (diamond symbol) to plot the...

Suppose the economy produces real GDP of $60 billion when unemployment is at its natural rate.

5. The slope and position of the long-run aggregate supply curve Suppose the Fed doubles the growth rate of the quantity of money in the economy. In the long run, the increase in money growth will change which of the following? Check all that apply. The inflation rate The quantity of physical capital The size of the labor force The price level Suppose the economy produces real GDP of $60 billion when unemployment is at its natural rate. Use the purple points (diamond...

If the economy starts at the natural rate of output, then in the short run a...

If the economy starts at the natural rate of output, then in the short run a decrease in aggregate demand moves the economy to a lower level of output and, according to the Phillips curve, a higher level of unemployment as the inflation rate falls. Select one: True False In the long run, unemployment depends upon factors such as the nature of the job search process, the amount and duration of unemployment benefits and the power of unions and minimum...

The economy of Newland is in short-run macroeconomic equilibrium. The current real output is $400 billion,...

The economy of Newland is in short-run macroeconomic equilibrium. The current real output is $400 billion, and the full employment output is $500 billion. The marginal propensity to consume is 0.8. (a) Is the economy experiencing a recessionary output gap or an inflationary output gap? Explain. (b) Assume Newland’s government is considering taking action to close the output gap identified in part (a). (i) Calculate the minimum change and indicate the direction of change in government spending required to shift...

Assume that the economy starts at the 'natural rate of output'. Now suppose there is a...

Assume that the economy starts at the 'natural rate of output'. Now suppose there is a decline in net exports due to the global economic downturn caused by COVID-19. Using the AD-AS diagram to show the effects in the short run and the medium run on the output, employment. and the price level. show how expansionary fiscal policy may influence these equilibrium positions.

Suppose the hypothetical economy of Curlyoria produces real GDP of $40 billion when unemployment is at its natural rate.

2. The long-run aggregate supply curve Suppose the hypothetical economy of Curlyoria produces real GDP of $40 billion when unemployment is at its natural rate. Use the purple line (diamond symbols) to plot the economy's long-run aggregate supply (LRAS) curve in the following graph. Then place a black point (X symbol) on the point representing the equilibrium price and output level The long-run equilibrium level of output is determined by _______ ; Therefore it will _______ if the aggregate demand curve shifts...

Assuming the economy is operating below its potential output, how does an increase in net exports...

Assuming the economy is operating below its potential output, how does an increase in net exports affect real GDP? Why is it difficult, perhaps even impossible, for a country to boost its net exports by increasing its tariffs during a global recession? Use examples.

III. Suppose the economy begins with output equal to its natural level. Then, there is a...

III. Suppose the economy begins with output equal to its natural level. Then, there is a reduction in income taxes. a. Using the AS-AD model, show the effects of a reduction in income taxes on the position of the AD, AS, IS, and LM curves in the short- and medium-run. b. What happens to output, the interest rate, and the price level in the medium run? What happens to consumption and investment in the medium run?

Question