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Chapter 11 and 12
Student’s Name
Institution
Date
Chapter 11
1. Define fiscal policy. Determine whether each of the following, other factors held
constant, would lead to an increase, a decrease or no change in the level of real GDP
demanded.
a. A decrease in government purchases
Decreases in government purchases have a negative multiplier effect on equilibrium real GDP.
b. An increase in net taxes
Increases in taxes have a negative multiplier effect on equilibrium real GDP.
c. A reduction in transfer payments
It should be noted that transfer payments are largely put in the hands of those who spend most of
the money immediately. This means that a reduction in transfer payment have a negative impact
on real GDP
d. A decrease in the marginal propensity to consume
A decrease in marginal propensity to consume means that many people will spend less and hence
the rate of consumption will reduce. This will lower the GDP
4. Assume that government purchases decreases by $10 billion, with other factors held
constant, including the price level. Calculate the change in the level of real GDP demanded
for each of the following values of the MPG. Then calculate the change if the government,
instead of reducing its purchases, increased autonomous net taxes by $10 billion
a. 0.9
The spending multiplier= 1/1-MPC=1/1-0.9=10
A decrease in G purchase will decrease income= 10x10=$100billion
b. 0.8
The spending multiplier= 1/1-MPC=1/1-0.8=20
A decrease in G purchase will decrease income= 10x20=$200billion
c. 0.75
The spending multiplier= 1/1-MPC=1/1-075=25
A decrease in G purchase will decrease income= 25x10=$250billion
d. 0.6
The spending multiplier= 1/1-MPC=1/1-0.6=40
A decrease in G purchase will decrease income= 10x40=$400billion
Then calculate the change if the government, instead of reducing its purchases, increased
autonomous net taxes by $10 billion
a. 0.9
A increase in G purchase will increase income= 10x10=$100billion
b. 0.8
A increase in G purchase will increase income= 10x20=$200billion
c. 0.75
An increase in G purchase will inccrease income= 25x10=$250billion
d. 0.6
A increase in G purchase will increase income= 10x40=$400billion
7. chapter 11 shows that increased government purchases, with taxes held constant can eliminate
recessionary gap. How could a tax cut achieve the same result
The tax cut will ensure that the consumers buy more and hence increase the rate of consumption.
As a result, the tax cut can eliminate a recessionary gap.
Chapter 12
Why does the budget require a forecast of the economy? Under what circumstances actual
government spending would and tax revenue fail to match the budget as approved?
The budget require a forecast of the economy so as to enable the federal government plan the
spending and consumption patterns. If the forecast shows that the economy is likely to face
economic slowdown, then the government will regulate its spending pattern. The actual
government spending and tax revenue will fail to match the budget as approved when there is
unexpected economic slowdown.
5. What happened to the federal debt since 2008 as measured relative to GDP
The financial crisis of 2007/2008 is also popularly referred to as the global financial crisis
or the Great Depression. It was characterized by the collapse of financial institutions, rescue of
banks by national governments and declines in the stock market. The 2008 financial crisis was
characterized by high levels of inflation (three digit inflation), economically referred to as the
hyper inflation) (Berger & Harjes, 2009). There was also Balance of Payment (BOP) imbalance
leading to what was referred to as the Government debt and deficit. Under the Balance of
Payment imbalance, the federal government was making more importation of commodities than
what it was exporting, leading to government debt and balance of payment deficit (Berger &
Harjes, 2009). The Great recession was further characterized by reduced Gross Domestic Product
(GDP) of the G20 members due high level of unemployment and subsequent reduced purchasing
power.
There were various monetary policies that were taken as corrective measures to this financial
crisis. These monetary policies include; subprime lending that made loans more accessible such
as the; mortgage, credit card and auto, leading to increased debt load (Berger & Harjes, 2009).
Subprime mortgage lending whereby, there was an increase in the subprime mortgage market
due to securitization and enabling environment for selling subprime mortgage loans as
Collateralized Mortgage Obligation (CMOs) (Berger & Harjes, 2009).
8. Try the following exercises to better understand how the national debt is related to the
government’s budget deficit
a. assume that the gross national debt initially is equal to $3 trillion and the federal government
then runs a deficit of $300 billion
i. What is the new level of gross national debt?
Gross national debt is the total amount outstanding in public and private debt in a country. The
new level of the gross national debt would be ($3,300,000,000,000.) three trillion and three
billion.
ii. If 100 percent of the deficit is financed by the sale of securities to federal agencies, what
happens to the amount of debt held by the public? What happens to the level of gross debt?
The amount of money available in the public will reduce and the level of gross debt will reduce
by 100 percent
iii. if GDP increased by 5 percent in the same year that the deficit is run, what happens to
gross debt as a percentage of GDP? What happens to the level of debt held by the public as
a percentage of GDP?
The gross debt will reduce by 5 percent and the level of debt held by the public will reduce as a
percentage of GDP
b. Now suppose that the gross national debt initially is equal to $2.5 trillion and the federal runs a
deficit of $100 billion
i. what is the new level of gross national debt?
The total amount outstanding in public and private debt in a country. The new level of the gross
national debt would be ($2,600,000,000,000.) two trillion and six billion.
ii. If 100 percent of this deficit is financed by the sale of securities to the public, what
happens to the level of debt held by the public? What happens to the level of gross debt?
The amount of money available in the public will reduce and the level of gross debt will reduce
by 100 percent
iii. If GDP increases by 6 percent in the same year as the deficit is run, what happens to
gross debt as a percentage of GDP? What happens to the level of debt held by the public as
a percentage of GDP?
The gross debt will reduce by 6 percent and the level of debt held by the public will reduce
References
Berger, H., & Harjes, T. (2009). Does Global Liquidity Matter for Monetary Policy in the Euro
Area?. Washington: International Monetary Fund.