Review Questions for Final [Key 13-17]

# Review Questions for Final [Key 13-17] - Answers to Review...

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Answers to Review Questions #13-17 Econ 102 Fall 2008 Prepared by Amy Brown government) in order to increase output during a recession. If we recall the Keynesian model Y = C + G C = a + bY D which states that aggregate income depends on the expenditures made on consumption by individuals and by the government and that private consumption consists of two components: a , autonomous consumption that is constant regardless of income and bY D , a fraction b of consumers± disposable income (income after taxation). The government may also spend money in transfer payments, TR made to consumers; consumers will be able to spend those on consumption as well. We may also write this as C = a + b (1 ) [ Y + TR ] where is the fraction of income that the government collects in taxes. This type of taxation leaves consumers with (1 ) of their income. (We have also discussed lump-sum taxation, which is not a fraction of the income, but a set amount T . In this case, consumers would be left with Y T + TR in disposible income.) Solving for equilibrium in this system, we see that Y = a + b (1 ) [ Y + TR ] + G Y b (1 ) Y = a + b (1 ) TR + G [1 b (1 )] Y = a + b (1 ) TR + G Y = a + b (1 ) TR + G [1 b (1 )] and as G increases, Y increases as well. For every dollar that the govern- ment spends, there is an additional stimulus to the economy of 1 [1 b (1 )] , which is known as the government spending multiplier. The additional production should result in increased employment (back to the long run equilibrium.) The model suggests, though, that as Y increases, we should see an in-

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Review Questions for Final [Key 13-17] - Answers to Review...

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