Suppose for a closed economy (no import or export) , the autonomous consumption (AC) =500, MPC=0.9, and suppose that the investment I =300, Government spending G= 400 and tax =400
A.) Write the specific consumption function: C=
and write the aggregate demand function AD=
B.) Write the equation to describe the market in equilibrium:
C.)What is the GDP – Ye in the equilibrium?
D.) If the potential GDP Yp= 8000, and the government decided to use fiscal policy (increase government expenditures) to increase the GDP to its potential level. With the multiply effect, how much government spending should be increased so to bring the economy back to full employment GDP?
E.) If the government did conduct the expansionary fiscal policy to raise the GDP, how will the government budget change.
F.) If the government decided to use fiscal policy to cut tax, thus to stimulate the economic growth. How much tax should it cut to bring the GDP to its potential full employment GDP- Yp=8000? Which fiscal policy is more effective and efficient without serious side effects? Explain it.
