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Chapter 13: Types of Fiscal Policy (page 264)
What is the relationship between the multiplier and the AD component of government spending?
Every component has its own respective multiplier.
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During the recession of 2007鈥�2009, the U.S. federal government鈥檚 tax collections fell from about \(2.6 trillion down to about \)2.1 trillion while GDP declined by about 4 percent. Does the U.S. tax system appear to have built-in stabilizers?
Yes
No
Explain how built-in (automatic) stabilizers work. What are the differences between proportional, progressive, and regressive tax systems as they relate to an economy鈥檚 built-in stability?
Refer back to the table in Figure 12.7 in the previous chapter. Suppose that aggregate demand increases such that the amount of real output demanded rises by \(7 billion at each price level. By what percentage will the price level increase? Will this inflation be demand-pull inflation, or will it be cost-push inflation? If potential real GDP (that is, full-employment GDP) is \)510 billion, what will be the size of the positive GDP gap after the change in aggregate demand? If government wants to use fiscal policy to counter the resulting inflation without changing tax rates, would it increase government spending or decrease it?
| Real Output Demanded (Billions) | Price Level (Index Number) | Real Output Supplied (Billions) |
| \(506 | 108 | \)513 |
| 508 | 104 | 512 |
| 510 | 100 | 510 |
| 512 | 96 | 507 |
| 514 | 92 | 502 |
(For students who were assigned Chapter 11) Assume that, without taxes, the consumption schedule for an economy is as shown below:
| GDP, Billions | Consumption, Billions |
| \(100 | 120 |
| 200 | 200 |
| 300 | 280 |
| 400 | 360 |
| 500 | 440 |
| 600 | 520 |
| 700 | 600 |
Graph this consumption schedule. What is the size of the MPC?
Assume that a lump-sum (regressive) tax of \)10 billion is imposed at all levels of GDP. Calculate the tax rate at each level of GDP. Graph the resulting consumption schedule and compare the MPC and the multiplier with those of the pretax consumption schedule.
Now suppose a proportional tax with a 10 percent tax rate is imposed instead of the regressive tax. Calculate and graph the new consumption schedule, and calculate the MPC and the multiplier.
Finally, impose a progressive tax such that the tax rate is 0 percent when GDP is \(100, 5 percent at \)200, 10 percent at \(300, 15 percent at \)400, and so forth. Determine and graph the new consumption schedule, noting the effect of this tax system on the MPC and the multiplier.
Use a graph similar to Figure 13.3 to show why proportional and progressive taxes contribute to greater economic stability, while a regressive tax does not.
In January, the interest rate is 5 percent and firms borrow \(50 billion per month for investment projects. In February, the federal government doubles its monthly borrowing from \)25 billion to \(50 billion, driving the interest rate up to 7 percent. As a result, firms cut back their borrowing to only \)30 billion per month. Which of the following is true?
There is no crowding-out effect because the government鈥檚 increase in borrowing exceeds firms鈥� decrease in borrowing.
There is a crowding-out effect of \(20 billion.
There is no crowding-out effect because both the government and firms are still borrowing a lot.
There is a crowding-out effect of \)25 billion.
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