Question

3. In Country X, GDP is $400B below the full-employment level of output. Government officials have measured the marginal propensity to consume at 0.75.
a. The government wants to use fiscal policy to bring the economy back to full employment.
(i) If the government wants to achieve this through a change in spending, what change would be necessary?
Answer:

(ii) If the government wants to achieve this through a change in taxes, what change would be necessary?
Answer:

(iii) If the government wants to achieve this without creating a budget deficit, what change would be necessary?
Answer:

Answer 1

1. The government would ; increase its spending in government purchases to reduce the long-run debt/ GDP ratio.
2. reduce the taxes
3. reduce the real interest rate costs that come from increases in expected inflation