ECO 111 ch 18

Proponents of a balanced budget argue that the government's budget deficit cannot grow forever, but critics believe that this is not necessarily the case. They argue that what matters is the size of the debt relative to the nation's income. For example, suppose that real output in the United States grows at approximately 3%. If the inflation rate is 2% per year, this means that nominal income must be growing at a rate of % per year. Because nominal income grows over time, the nation's ability to pay back the national debt also rises. Therefore, as long as the nation's income grows than the government debt, the level of debt can continue to increase without harming the economy. In this case, the nominal government debt can rise by % each year without increasing the debt-to-income ratio.

5% faster 5%

Suppose a hypothetical economy is currently in a situation of deficient aggregate demand of $64 billion. Four economists agree that expansionary fiscal policy can increase total spending and move the economy out of recession, but they are debating which type of expansionary policy should be used. Economist A believes that the government spending multiplier is 8 and the tax multiplier is 4. Economist B believes that the government spending multiplier is 4 and the tax multiplier is 2. Compute the amount the government would have to increase spending to close the output gap according to each economist's belief. Then, for each scenario, compute the size of the tax cut that would achieve this same effect.

64/8=8 64/4=16 64/4=16 64/2=32

Which of the following is an example of a cost of inflation? Check all that apply.

A restaurant's costs to reprint its menu to reflect fluctuating prices An unintended redistribution of wealth from lenders to borrowers

Economist D argues that it is not possible to move the economy out of recession by increasing government spending. Which of the following statements is consistent with Economist D's belief

A rise in government spending completely crowds out private sector spending.

Which of the following arguments might an advocate of a balanced budget make in support of his position? Check all that apply.

Budget deficits place a burden on future taxpayers. Budget deficits crowd out private investment.

This question addresses the issue of whether monetary policy should be made by discretionary policy or be implemented according to a set of rules. Which of the following statements reflect arguments against discretionary monetary policy? Check all that apply.

Discretionary monetary policy may lead to a higher sacrifice ratio because the public is not confident that the Federal Reserve will keep inflation low. The Federal Reserve may use monetary policy to affect the outcome of elections.

Economist C favors increases in government spending to tax cuts. This means that Economist C likely believes that

Part of a dollar in tax cuts may be saved rather than spent and thus does not fully contribute to aggregate demand.

The following graph shows the demand for loanable funds and the supply of loanable funds in the United States. At the current equilibrium, the government is experiencing a balanced budget. Assume that the U.S. government bails out several troubled banks without increasing taxes, creating a budget deficit. Based on this model, the budget deficit leads to in the level of investment and in the interest rate.

a decrease an increase

Should policymakers use monetary policy, fiscal policy, or both in an effort to stabilize the economy? The following questions address the issue of how monetary and fiscal policies affect the economy and the pros and cons of using these tools to lessen economic fluctuations. The following graph shows a hypothetical aggregate demand curve (AD), short-run aggregate supply curve (AS), and long-run aggregate supply curve (LRAS) for the economy in April 2020. According to the graph, this economy is in . To bring the economy back to the natural level of output, the Federal Open Market Committee (FOMC) could use monetary or fiscal policy such as . Suppose that in April 2020, policymakers undertake the type of policy that is necessary to bring the economy back to the natural level of output, given the scenario just described. In June 2020, imports increase because the United States has eliminated trade restrictions on French goods. Because of the associated with implementing monetary and fiscal policy, the impact of the policymakers' stabilization policy will likely once the effects of the policy are fully realized.

an expansion a contractionary selling bonds lags push the economy below the natural level of output

A tax law change that successfully encourages saving willincrease Incorrect interest rates, which leads tomore Correct investment and economic growth. To better understand how changes in tax laws can affect saving, imagine that Deborah, a student, plans to save $450 from her summer job to buy textbooks next autumn. Deborah's parents are so impressed with her plans that they offer to pay her an additional 30% interest per month on the money she saves, which means that Deborah is now earning a large rate of return on her saving. It turns out that Deborah saves only $350 (before the interest paid by her parents) from her summer job. This means that thesubstitution Correct effect must be smaller than the Incorrect effect for Deborah in this case.

decrease more substitution income

As expected, inflation and the short-run Phillips curve shifts , illustrating that the cost of fighting inflation is .

falls downward temporary unemployment