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International Economics 17th Edition

International Economics (17th Edition)

Book Edition17th Edition
Monetary and Fiscal Policies in an Open Economy
International Trade Application
International Economic Policy Coordination
International Trade Application
Chapter 15, Monetary and Fiscal Policies in an Open Economy, International Trade Application, Exercise 01
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What do you think? Does the U.S. government have enough ammunition to combat a future economic downturn?

Here is a tip:

The government responds to an economic slowdown by increasing the government spending to deal with low demand.


Country U responded to the economic downturn by pumping investment and spending, and providing tax rebates, lower interest rate and central bank's credit support. Fiscal stimulus was provided again in the year 2008. Based on these past tendencies and strong fundamentals of Country U, it can be stated that Country U retains ammunition to deal with economic downturn.


However, Despite several acts and policies in action such as reduction in the federal fund target rate to zero, one time tax rebate and unclogging of the credit market, the Country U's government was not able to reinstate the consumer confidence in the market for a long time as consumers still preferred saving over spending. This shows that besides availability of funds other factors such as  targeted spending along with proper analysis of reasons behind the economic downturn are equally important while deciding the key factors contributing to the downturn. The response to government implemented measures largely depends on the prevailing economic conditions, current consumer sentiment and the funds available. Thus, whether the ammunition used to deal with economic downturn will be sufficient or not depends on consumer reaction.

Sample Response

Country U had previously put in place measures in the form of lowering fiscal stimulus, federal fund rates, central bank lending to businesses and banks temporary tax rebates which suggests that Country U will have proper ammunition to combat economic downturn.


However, Country U spending economy was not able to deal with the economic downturn in 2008-09 when the consumers ended up saving the tax rebates or paying bills that were. This implies that whether the ammunition would be effective or not is highly dependent on the consumer response to the measures implemented.

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