EC202_A3S10_Answers

EC202_A3S10_Answers - EC 202(01 Assignment 3 S10 Answers...

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EC 202(01) - Assignment # 3 - S10 - Answers 1 Question One Assume that national income (Y) increases by $50 So ∆Y   = $50 MPC out of ∆Y d = ∆C d /∆Y d = 0.70 and Y d = T Marginal tax rate (MTR) change in taxes per dollar change in Y MTR = ∆T/∆Y = 0.30 Solve for ∆T ∆Y d ∆C d MPC out of Y Answer: ∆T: ∆Recall: MTR = ∆T/∆Y ∆T = MTR*∆Y = 0.30*$50 = $15 ∆Y d : Recall: Y d = T ∆Y d = ∆Y  ∆T = $50 - $15 = $35 ∆C d : Recall:  MPC out of Y d  = ∆C d /∆Y d = 0.70 ∆C d = (MPC out of Y d ) *∆Y d = 0.70 * $35 = $24.50
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EC 202(01) - Assignment # 3 - S10 - Answers 2 MPC out of Y: Recall: MPC out of Y   = ∆C d /∆Y = $24.50//$50 = 0.49
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EC 202(01) - Assignment # 3 - S10 - Answers 3 Question Two Explain how an increase in government spending that is financed by borrowing affects consumption,  private saving, government saving and national saving.   Assume that: o G increases by $20 o MPC out of Y d  = 0.60 o C d  falls by $1 because of the anticipated increase in future taxes. Answer: o If the increase in G is financed by borrowing, then at some point in the  future, the government will have to repay the amount borrowed ($20) plus interest o We assume that is will do this by raising lump sum taxes in the future o We also assume that T is unchanged today o If taxpayers are aware of this, expected future disposable income will fall,  given expected future national income (Y f ) o This, in turn will cause current consumption C d  to fall Numerical Example: o Suppose that C falls by $1 because of the anticipated increase in future  taxes: o Then: o ΔS d = ΔY - ΔC d - ΔG = $0 - (-$1) - $20 = -$19
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EC 202(01) - Assignment # 3 - S10 - Answers 4 Effects on S govt o Given current taxes, an increase in G of $20 will cause S govt  to fall by $20 o If the anticipated increase in future taxes causes C d  to fall by $1, S d pvt  will  increase by $1
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EC 202(01) - Assignment # 3 - S10 - Answers 5 o Thus ΔS d = S govt +  ΔS d pvt -$20 + $1 = - $19 o To summarize, whether an increase in G is financed by borrowing (as  explained above) or whether it is financed by taxes, an increase in G will cause by C d  and S to fall o When the increase in G is financed by taxes, the effect on C d  will be large  relative to the increase in G and the effect on S d  will be quite small o When the increase in G is financed by borrowing the effect on C d  will be  small relative to the increase in G and the effect ton S d  will be quite large Question Three Explain how a decrease in lump sum taxes will affect desired consumption.
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EC202_A3S10_Answers - EC 202(01 Assignment 3 S10 Answers...

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