Macroeconomics Exam 3

If taxes are decreased by $500 billion, and the marginal propensity to consume is 0.80, then which of the following correctly describes the increase in real GDP that will be generated by the decrease in taxes?

$2 trillion. Two equations are needed to answer this question. First we need to find the tax multiplier when the MPC is 0.80. Tax multiplier = - MPC/(1 - MPC) With a MPC of 0.80 the tax multiplier is -0.80 / (1 - 0.80) = -4 Then we plug the tax multiplier and the change in taxes to the equation below: Change in Taxes x Tax multiplier = total change in real GDP -$500 x -4 = total change in real GDP Since taxes are decreased we say the change in taxes is -$500. $2,000 billion or $2 trillion = total change in GDP GDP will be increased by $2 trillion as a result of the $500 billion decrease in taxes.

If the spending multiplier is 3 and the desired amount of increase in real GDP is $270 billion, then by how much would government spending have to increase?

$90 billion. Change in government spending x Spending multiplier = Change in real GDP Change in government spending x 3 = $270 Change in government spending = $270 / 3 = $90 billion increase in G

If the marginal propensity to consume (MPC) is 0.80, and if policy makers wish to increase real GDP by $200 million, then by how much would they have to change taxes?

-$50 billion. Change in Taxes x tax multiplier = Change in real GDP The tax multiplier is [-MPC/(1 - MPC)] = [-0.80/(1 - 0.80)] = -4 Plugging in the value of the tax multiplier: Change in Taxes x -4 = $200 Change in Taxes = $200 / -4 = -$50 million The fiscal policy measure is for the federal government to decrease taxes by $50 m.

Each year that the federal government runs a​ deficit, the federal debt ________ Each year that the federal government runs a​ surplus, the federal debt __________ .

1. Grows 2. Shrinks

If the MPC is 0.75, the government purchases multiplier in the economy is _______ and the tax multiplier in the economy is ________.

4;3 The formula for the simple spending multiplier is 1/(1 - MPC) and the formula for the tax multiplier is -MPC/(1 - MPC). Since the MPC equals 0.75 the simple spending multiplier is 1/(1 - 0.75) = 1/0.25 = 4 and the tax multiplier is -0.75/(1 - 0.75) = -0.75/0.25 = -3.

. ______ consumption is consumption that depends upon the level of GDP and ______ consumption is consumption that does not depend upon the level of GDP.

A) induced; autonomous

Some economists argue that because increases in government spending crowd out private​ spending, increased government spending will reduce the​ long-run growth rate of real GDP. A.) This is most likely to happen if the private spending being crowded out is B.) In terms of its effect on the​ long-run growth rate of real​ GDP, it is likely to matter more if the additional government spending involves

A. investment spending B. increased spending on highways and bridges.

Increased government debt can lead to higher interest rates​ and, as a​ result, crowding out of private investment spending. In terms of borrowing​ (debt-spending), what will offset the effect of crowding out in the long run so that government debt poses less of a problem to the​ economy?

A. ​Debt-spending on research and development. B. ​Debt-spending on education. C. ​Debt-spending on highways and ports. D. All of the above.

Changes in the autonomous component of consumption could be the result of

AN INCREASE IN WEALTH. The autonomous component of consumption is the part of households' consumption spending that does not depend on GDP or income. It's the part of households' consumption spending that depends on interest rates, wealth, level of optimism/pessimism, the price level and/or expected future income.

The federal​ government's budget surplus LOADING... was​ $189.4 billion in 2000 and​ $41.8 billion in 2001. A decrease in the federal​ government's budget surplus can be the result of

All are correct A. an increase in government purchases. B. a decrease in taxes. C. a recession.

What is the difference between an autonomous expenditure and an induced expenditure?

An autonomous expenditure is a type of spending that does not depend on the level of GDP in the economy. Firms' purchases, government purchases and net exports do not change when GDP changes (see the Table above), so all of I, G and NX are autonomous expenditures. Part of consumers' spending is autonomous, because it does not depend on GDP or households' incomes. An induced expenditure is an expenditure that does depend on current GDP and incomes generated from production. Part of consumers' spending does depend on households' incomes, so as GDP changes, and incomes consequently change, consumers spending will change (see Table above). When investment spending decreased by $100, this is an autonomous change because it was not caused by changes in GDP. When firms responded to this decrease in other firms' spending by reducing production and employment, those changes in spending, production and employment were caused by changes in GDP. Of the total reduction in GDP of $500 in the example above, the $100 reduction in spending by firms was autonomous and the remaining ($500 - $100) = $400 reduction in spending was induced

Assume that investment spending decreases by $10 billion, with other factors held constant. Calculate the change in equilibrium real GDP for each of the following values of the MPC: a)MPC = 0.9 b) MPC = 0.8 c) MPC = 0.75 d) MPC = 0.5

Answer: If investment spending decreases by $10 billion: Spending a) 0.9 X 10 = -$100 billion b) 0.8 X 5 = -$50 billion c) 0.75 X 4= -$40 billion d) 0.50 X 2= -$20 billion

Are federal expenditures higher today than they were in​ 1960?

As a percentage of​ GDP, federal expenditures have increased since 1960.

Are federal purchases higher today than they were in​ 1960?

As a percentage of​ GDP, federal purchases have decreased since 1960.

The increase in government spending needs to be a​ short-term surge with greater outlays in 2009 and 2010 but then tailing off sharply in 2011. . . . Buying military supplies and​ equipment, including a variety of​ off-the-shelf dual use​ items, can easily fit this surge pattern. ​ Why would it be important that the increased spending happen primarily during 2009 and 2010 and tail off sharply in​ 2011?

Because if economic stimulus continues after the economy has​ recovered, it can cause inflation.

In the long run, most economists agree that a permanent increase in government spending leads to ________ crowding out of private spending

Complete

Which of the following is considered contractionary fiscal policy?

Congress increases the income tax rate. An increase in defense spending is not to achieve macroeconomic objectives and a change in spending by New Jersey is at the state level, not the federal level.

Why might the tax multiplier have a larger value after two years than after one​ year?

Consumers are more likely to perceive the tax change as permanent and change their spending choices.

What is a contractionary fiscal​ policy?

Contractionary fiscal policy includes decreasing government spending and increasing taxes to decrease aggregate demand.

What is meant by crowding​ out?

Crowding out is a decline in private expenditures as a result of increases in government purchases.

In what ways does the federal budget serve as an automatic stabilizer for the​ economy?

During a​ recession, there is an increase in government expenditures for transfer payments and a decrease in taxes as wages and profits fall. During an​ expansion, there is a decrease in government expenditures for transfer payments and an increase in taxes as wages and profits rise. Both of these occur automatically and both effects help to stabilize aggregate demand.

What is an expansionary fiscal​ policy?

Expansionary fiscal policy includes increasing government spending and decreasing taxes to increase aggregate demand.

What is the difference between federal purchases and federal​ expenditures?

Federal purchases require that the government receives a good or service in​ return, whereas federal expenditures include transfer payments.

What is fiscal​ policy?

Fiscal policy can be described as changes in government spending and taxes to achieve macroeconomic policy objectives

Which of the following statements is most accurate regarding fiscal policy and monetary​ policy?

Fiscal policy includes changes in government spending and taxes and is controlled by the federal government. Monetary policy includes changes in the money supply and interest rates and is controlled by the Federal Reserve. Both policies are intended to achieve macroeconomic objectives.

Explain how​ "governments' thirst for​ funds" could lead to crowding out

Government borrowing increases the demand for​ funds, causing interest rates to rise.

What is the difference between federal government purchases​ (spending) and federal government​ expenditures?

Government purchases are included in government expenditures.

The term​ "crowding out" refers to a situation​ where:

Government spending increases interest rates and decreases private investment.

How does the idea that few economists believed the economy was in a recession until nine months after the recession began help explain the difficulty that Congress and the president face in implementing a fiscal policy that stabilizes rather than destabilizes the​ economy?

If an expansionary policy is implemented after the economy is​ recovering, it can cause inflation.

Which of the following best describes the difference between crowding out in the short run and in the long​ run?

In the short​ run, an increase in government purchases may not fully crowd out private expenditures due to the stimulative effect of an increase in government purchases on aggregate demand. In the long​ run, most economists believe that a permanent increase in government purchases will result in complete crowding out of private expenditures.

What changes should they make if they decide a contractionary fiscal policy is​ necessary?

In this​ case, Congress and the president should enact policies that decrease government spending and increase taxes.

If Congress and the president decide an expansionary fiscal policy is​ necessary, what changes should they make in government spending or​ taxes?

In this​ case, Congress and the president should enact policies that increase government spending and decrease taxes.

Why would crowding out reduce economic​ growth?

Increases in interest rates reduce​ investment, which is likely to reduce economic growth.

From the discussion in this​ chapter, which source of government revenue is likely to increase the most in the​ future?

Individual income taxes.

Which can be changed more​ quickly: monetary policy or fiscal​ policy?

Monetary policy can be changed more quickly than fiscal policy. Monetary policy can be changed at any of the FOMC meetings and the smaller number of individuals involved makes it easier to change policy.

After September​ 11, 2001, the federal government increased military spending on wars in Iraq and Afghanistan. Is this increase in spending considered fiscal​ policy?

No. The increase in defense spending after that date was designed to achieve homeland security objectives.

Who are the baby​ boomers?

People born between World War II and 1965.

Government transfer payments include which of the following?

Social Security and Medicare programs

What is the difference between the federal budget deficit and federal government​ debt?

The federal budget deficit is the​ year-to-year short fall in tax revenues relative to government spending ​ (T < G​ + TR), financed through government bonds. The federal government debt is the accumulation of all past deficits.

Who is responsible for fiscal​ policy?

The federal government controls fiscal policy.

Which of the following is an example of fiscal policy?

The federal government cuts taxes to stimulate the economy. Fiscal policy has to be enacted by the federal government (President and Congress) and with the intention of improving the national economy.

Why might cutting government spending as a fiscal policy be a more difficult policy than the use of monetary policy to slow down an economy experiencing​ inflation?

The legislative process experiences longer delays than monetary policy.

Which of the following is a true statement about the multiplier?

The multiplier rises as the MPC rises.

Fiscal policy refers​ to:

The​ government's use of taxes and expenditures to achieve macroeconomic policy objectives

According to a Congressional Budget Office​ report, ​"The number of people age 65 or older will more than double by​ 2050, and the number of adults under age 65 will increase by about 16​ percent." ​ Which answer below best describes the implications of these facts for the Social Security system and for federal government spending as a percentage of GDP in​ 2050?

This will result in increases in Social Security payments and decreases in Social Security tax​ revenues, resulting in a significant deficit for the Social Security system. This will also cause spending on Social Security to become a larger percentage of GDP.

Why does a​ $1 increase in government purchases lead to more than a​ $1 increase in income and​ spending?

Through the government purchases​ multiplier, the​ $1 increase in government spending will lead to an increase in aggregate demand and national​ income, which will lead to an increase in induced spending.

Why might the effects on health of a temporary increase or decrease in income be different than the effects of a permanent increase or​ decrease?

With a temporary decrease in income due to a​ recession, people have more time to​ exercise, eat​ healthier, lose​ weight, and experience less stress. In the long​ run, permanent increases in income are associated with improved health.

Why should the retirement of the baby boomers cause a large increase in the growth rate of spending by the federal government on Social​ Security?

With the retirement of the baby​ boomers, there will be more individuals collecting Social Security than currently

Is it possible for Congress and the president to carry out an expansionary fiscal policy if the money supply does not​ increase?

Yes, because fiscal policy and monetary policy are separate things.

In​ 2009, Congress and the president enacted​ "cash for​ clunkers" legislation that paid people buying new cars up to​ $4,500 if they traded in an​ older, low​ gas-mileage car. ​ Was this piece of legislation an example of fiscal​ policy?

Yes, because the primary goal of the spending program was to stimulate the national economy.

An unplanned increase in inventories is a result of

actual investment that is greater than planned investment. Firms experience an unplanned increase in inventories when they sell less of their product than they expected to sell.

If the economy is currently in equilibrium at a level of GDP that is below potential GDP, which of the following would increase spending and GDP, and thus move the economy back to potential GDP?

an increase in housing prices. If the equilibrium GDP is below potential GDP, the economy needs to experience an increase in spending so that firms will respond by increasing production, and thus GDP. An increase in interest rates and a decrease in business confidence would decrease investment spending, and an increase in the value of the dollar would decrease net exports. An increase in wealth would increase consumption.

If real GDP exceeded potential real GDP and inflation was increasing, which of the following would be an appropriate fiscal policy?

an increase in taxes

. A change in consumption spending caused by income changes is __________ change in spending, and a change in government spending that occurs to improve roads and bridges is __________ change in spending.

an induced; an autonomous When the government increases or decreases government purchases as part of a fiscal policy, that is an autonomous change. Autonomous is another way of saying in independent. The federal government's decision on how many goods and services to purchase is a political decision, and does not depend on changes in GDP. After government purchases are increased and production increases, national incomes start to rise, which induces further increases in spending. When production and incomes change this induces, or causes, a change in consumption spending because more workers are being employed and receiving incomes.

. The increase in government spending on unemployment insurance payments to workers who lose their jobs during a recession, and the decrease in government spending on unemployment insurance payments to workers during an expansion, are examples of

automatic stabilizers.

Some spending and taxes increase or decrease with the business cycle. This event often has an effect on the economy that is similar to fiscal policy and is called

automatic stabilizers.

One-time tax​ rebates, such as those in 2001 and​ 2008, increase consumption spending by less than a permanent tax cut because​ one-time tax rebates increase

current income.

Which of the following would be most likely to persuade the president and Congress to conduct expansionary fiscal policy? A significant

decrease in investment spending. A decrease in investment spending would cause a decrease in real GDP, which may cause a recession. If the economy is in a recession, Congress may decide to conduct expansionary fiscal policy.

Congress and the president can​ "rein in" the federal budget deficit by which would

decreasing government spending or increasing taxes educe the likelihood of crowding out

If aggregate planned expenditures are less than total production,

firms will experience unplanned increases in inventories. When AE are less than GDP, firms have sold less of their product than they expected, and their inventory levels are higher than planned.

Federal government purchases, as a percentage of GDP,

have fallen since the early 1950s

Suppose the government increases taxes by ​$130 billion and the marginal propensity to consume is 0.90. By how will equilibrium GDP​ change?

he change in equilibrium GDP​ is: ​$ negative 1170 billion.

Net exports usually ________ when the U.S. economy is in a recession and ________

increase; decrease

At the beginning of a recession, firms usually experience an unplanned __________ in inventories and respond by _____________ production.

increase; decreasing

Over the next 40 years, the number of people age 65 and older will ______________, resulting in ___________________ in Social Security payments and __________ in Social Security revenues.

increase; increases; decreases

Suppose the economy is currently in equilibrium where real GDP is less than Potential GDP. If the federal government conducts expansionary fiscal policy, spending by the federal government will ______ and real GDP will ____.

increase; rise; If the federal government conducts expansionary fiscal policy, the federal government will increase government purchases of goods and services. As the government purchases more items, and the firms they buy from being to purchase more items, business will begin to produce more items, causing real GDP to increase.

Which of the following would not be considered an automatic stabilizer?

legislation increasing funding for job retraining passed during a recession

Defense spending is increased.

not part of fiscal policy

Families are allowed to deduct all their expenses for daycare from their federal income taxes.

not part of fiscal policy

The State of New Jersey builds a new highway in an attempt to expand employment in the state.

not part of fiscal policy

The corporate income tax rate is increased. This is

part of a contractionary fiscal policy

The individual income tax rate is decreased.

part of an expansionary fiscal policy

Crowding out refers to a decline in ________ as a result of an increase in ________.

private consumption and investment expenditures; government purchases

If an increase in autonomous consumption spending of $10 million results in a $50 million increase in equilibrium real GDP, then

the MPC is .8. Based on the information in the question and the following formula Change in equilibrium GDP = Change in autonomous expenditures x Multiplier The multiplier must be equal to 5. The formula for the multiplier is 1/(1 - MPC) If the MPC is 0.8 the multiplier is 5.

U.S. net exports increase when?

the growth rate of U.S. rises faster than the price level in other countries

When the economy is experiencing a recession automatic stabilizers will​ cause:

transfer payments to increase and tax revenues to decrease.

Does government spending ever reduce private​ spending?

​Yes, due to crowding out