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makro (Subject) / LV 3 AD-AS (Lesson)
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- Identify and explain all three ranges of the AS curve. a. Keynesian: Government spend money grow economy à Inflation -) In the Keynesian range, the effect is reversed; an increase in aggregate demand leads to inflation (rise in price level), with very little increase in real output. b. Intermediate: -) In the intermediate range, both effects are present; real output expands, and price level rises as well. c. Classical: -) In the classical range, an increase in aggregate demand leads to increase in real output, with very little inflation.
- Define fiscal policy Changes in government purchase and/ or taxes designed to achieve full employment and low inflation. Sometimes called discretionary fiscal policy or activist fiscal policy. -) Contractionary Fiscal Policy (USED when we have inflation)
- a) What is the marginal propensity to consume (MPC)? -) is the fraction of additional income you consume
- b) What is the marginal propensity to save (MPS)? -) is the fraction you save
- c) If the MPC is 0.75 then what is the MPS? 0.25
- If the MPC is 0.75 what is the expenditures multiplier? -) 4 (1/(1-MPC))
- e) If the MPC is 0.75 and the government increases spending by $1,000,000 how much will the economy grow? -) 4.000.000,-
- f) If the MPS is 0.2 and the government increases spending by $1,000,000 how much will the economy grow? -) 5.000.000,-
- g) If the MPC is 0.75 what is the tax multiplier? -) 3 (or -3)
- h) If the MPC is 0.75 how much will the economy grow if taxes are cut by $1,000,000? -) 3.000.000,-
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- i) If the MPS is 0.2 how much will the economy grow if taxes are cut by $1,000,000? 4.000.000,-
- 3. Define and give an example of a tax that you pay that qualifies for each. 1. Progressive tax: A tax in which the average tax rate increases as taxable income increases (and decreases as taxable income decreases) 2. Regressive tax: A tax in which the average tax rate decreases as taxable income increases (and increases as a taxable income decreases) 3. Proportional tax: A tax in which the average tax rate remains constant with eiter increases or decreases in taxable income.
- 3. Define and give an example of a tax that you pay that qualifies for each. 1. Progressive tax: A tax in which the average tax rate increases as taxable income increases (and decreases as taxable income decreases) 2. Regressive tax: A tax in which the average tax rate decreases as taxable income increases (and increases as a taxable income decreases) 3. Proportional tax: A tax in which the average tax rate remains constant with eiter increases or decreases in taxable income.
- Who really pays the indirect tax? How does elasticity affect this? -) Consumers – The amount passed onto consumers depends on the elasticity of the product. The more inelastic the product or service is the more the tax is passed onto the consumer.
- Explain how the tools of fiscal policy, based on Keynesian theory [changing AD], can be used to grow an economy out of a recession. -) Increase government spending or decrease taxes – demand increases, higher prices, higher GDP à full employment
- Explain how the tools of fiscal policy, based on Keynesian theory [changing AD], can be used to reduce inflation. If we have inflation at - Raise Taxes - Reduce Governmental Spending
- What type of budget does this create? - Surplus Budget
- Identify and explain whether the government building a road or the government extending unemployment compensation would have a larger effect on AD and the macro-economy. [This is not in the textbook, think of the impact on demand and the multiplier] -) Building a road has a greater economic impact. It is like an expenditure multiplier
- Explain why increasing tax rates may not always increase tax revenue. -) At a certain point people will not work anymore, because it is not worth it.
- Identify two government supply-side fiscal policies. -) Cost- push inflation & Demand Pull Inflation
- Identify two government supply-side fiscal policies. -) Cost- push inflation & Demand Pull Inflation