Answer to Question #97944 in Macroeconomics for Tiffany

Question

The economy is at full employment and an election is coming up. Officials decide to increase government spending by $100 billion. Graham says the money should be spent on improving education and transport systems. Dole proposes building several large Coast Guard training facilities in states that currently have none. What effect would Senator Dole’s proposal have on the AD/AS model? Describe all shifts and effects on short and long-run equilibrium change in output and price level.

Answer 1

Increased government spending raises aggregate demand and consumption (the demand curve shifts to the right). Under conditions of full employment in the short run it won't change the output (because it equals to the maximum potential level), and will raise the prices. In the long run the production facilities increase, and the AS curve will also shift to the right, the potential output rise and the prices decrease.