Question 1

In the basic Keynesian model, a decrease in transfer payments:

Accepted Answer

In the basic Keynesian model, transfer payments are a component of government spending. A decrease in transfer payments would decrease aggregate demand, leading to a decrease in short-run equilibrium output.

Question 2

In the short-run Keynesian model, if the mpc equals 0.8, then to decrease planned aggregate spending by $30 billion at any output level, government spending must be decreased by ______ or net taxes must be increased by _____.

Accepted Answer

To decrease planned aggregate spending by $30 billion, we need to find the change in government spending or net taxes that would cause a decrease in aggregate spending of $30 billion. Using the formula for the simple spending multiplier, we know that $30 billion = (1 / (1 - MPC)) x change in government spending or net taxes. Solving for the change in government spending or net taxes, we get a decrease in government spending or an increase in net taxes of $37.5 billion. Therefore, the answer is D) $30 billion; more than $30 billion.

Question 3

If short-run equilibrium output equals 10,000, the income-expenditure multiplier equals 10, the mpc equals 0.9, and potential output (Y*) equals 9,000, then taxes must be increased by approximately ______ to eliminate any output gap.

Accepted Answer

There is an expansionary gap of 1,000, the amount by which equilibrium output exceeds Y*. An mpc of 0.9 means that households will reduce autonomous spending by only 90 percent of any increase in taxes. To close the output gap, autonomous expenditure must decrease by 1,000 / 10 = 100, so the increase in taxes that is needed is 100 / 0.90 ≈ 111.

Question 4

In the short-run Keynesian model where the marginal propensity to consume is 0.75, to offset an expansionary gap resulting from a $1 billion increase in autonomous consumption, taxes must be:

Accepted Answer

To offset an expansionary gap of $1 billion, autonomous expenditures must decrease by $1 billion. An mpc of 0.75 means that households will reduce autonomous spending by only 75 percent of any increase in taxes (they will pay for the other 25 percent by saving less), so the increase in taxes that is needed is $1 billion/ 0.75 = $1.33 billion.

Question 5

Changes in taxes and transfers affect planned spending:

Accepted Answer

Changes in taxes and transfers affect disposable income, which affects consumption. This is an example of an indirect effect on planned spending.

Question 6

In the basic Keynesian model, an increase in government purchases:

Accepted Answer

In the basic Keynesian model, an increase in government purchases shifts the aggregate demand curve to the right, leading to a higher equilibrium output level in the short-run. This is because the increased government spending leads to higher demand for goods and services, leading firms to increase production and hire more workers, thereby increasing output. Therefore, choice B is correct. Choices A, C, and D are incorrect as they do not reflect the impact of an increase in government purchases on short-run or potential output.

Question 7

In the short-run Keynesian model, if the mpc equals 0.8, then to increase planned aggregate spending by $20 billion at any output level, government spending must be increased by ______ or net taxes must be decreased by _____.

Accepted Answer

If government spending is increased by $20 billion, planned aggregate spending goes up by $20 billion. Tax cuts increase spending but they also increase savings. In order for households to increase planned spending by $20 billion, they need to receive more than $20 billion in tax cuts.

Question 8

In the basic Keynesian model, an increase in transfer payments:

Accepted Answer

An increase in transfer payments will lead to an increase in disposable income. As a result, consumption spending will increase, leading to an increase in aggregate demand and short-run equilibrium output. This is consistent with the basic Keynesian model, which suggests that changes in aggregate demand can have a significant impact on output in the short run. Transfer payments themselves do not have a direct effect on potential output, which is determined by factors such as the economy's stock of capital, technology, and labor force.

Question 9

In the basic Keynesian model, a decrease in government purchases:

Accepted Answer

In the basic Keynesian model, government spending is one of the components of aggregate demand. A decrease in government purchases will decrease aggregate demand, which shifts the aggregate demand curve leftward. As a result, equilibrium output and employment will decrease in the short-run. Therefore, choice A is the correct answer.

Question 10

Changes in government purchases affect planned spending _____, and changes in taxes and/or transfers affect planned spending _______.

Accepted Answer

Changes in government purchases directly affect planned spending because government purchases are a component of planned spending in the GDP equation (C + I + G + NX = GDP). Changes in taxes and/or transfers indirectly affect planned spending as they affect disposable income, which in turn affects consumption expenditures (a component of planned spending). Therefore, the correct option is (B), changes in government purchases affect planned spending directly, while changes in taxes and/or transfers affect planned spending indirectly.

Question 11

Changes in government purchases affect planned spending:

Accepted Answer

Changes in government purchases affect planned spending directly by changing autonomous expenditures. Autonomous expenditures are those that do not vary with output or income, such as government spending, investment spending or exports, and their changes can directly affect planned spending in the economy. Induced expenditures are those that vary with output or income, such as consumption spending, and are affected indirectly by changes in autonomous expenditures. The presence or absence of an expansionary gap is irrelevant to the direct effect of changes in government purchases on planned spending.

Question 12

In the basic Keynesian model, a tax cut:

Accepted Answer

In the basic Keynesian model, a tax cut increases disposable income for individuals, which leads to an increase in consumption spending. This increase in aggregate demand leads to an increase in equilibrium output in the short run. Therefore, the correct answer is B.

Question 13

If short-run equilibrium output equals 10,000, the income-expenditure multiplier equals 5, the mpc equals 0.8, and potential output (Y*) equals 9,000, then transfers must be ______ by approximately ______ to eliminate any output gap.

Accepted Answer

There is an expansionary gap of 1,000, the amount by which equilibrium output exceeds Y*. An mpc of 0.8 means that households will reduce autonomous spending by only 80 percent of any decrease in transfers. To close the output gap, autonomous expenditure must decrease by 1,000 / 5 = 200, so the decrease in transfers that is needed is 200 / 0.80 = 250.

Question 14

In the short-run Keynesian model where the marginal propensity to consume is 0.75, to offset an expansionary gap resulting from a $1 billion increase in autonomous consumption, transfers must be:

Accepted Answer

To offset an expansionary gap of $1 billion, autonomous expenditures must decrease by $1 billion. An mpc of 0.75 means that households will reduce autonomous spending by only 75 percent of any decrease in transfers, so the decrease in transfers that is needed is $1 billion/ 0.75 = $1.33 billion.

Question 15

In the short-run Keynesian model where the marginal propensity to consume is 0.75, to offset a recessionary gap resulting from a $1 billion decrease in autonomous consumption, taxes must be:

Accepted Answer

To offset a recessionary gap of $1 billion, autonomous expenditures must increase by $1 billion. An mpc of 0.75 means that households will spend only 75 percent of any reduction in taxes, so the reduction in taxes that is needed is $1 billion/ 0.75 = $1.33 billion.

Question 16

If short-run equilibrium output equals 10,000, the income-expenditure multiplier equals 5, the mpc equals 0.8, and potential output (Y*) equals 9,000, then taxes must be ______ by approximately ______ to eliminate any output gap.

Accepted Answer

There is an expansionary gap of 1,000, the amount by which equilibrium output exceeds Y*. An mpc of 0.8 means that households will reduce autonomous spending by only 80 percent of any increase in taxes. To close the output gap, autonomous expenditure must decrease by 1,000 / 5 = 200, so the increase in taxes that is needed is 200 / 0.80 = 250.

Question 17

If short-run equilibrium output equals 10,000, the income-expenditure multiplier equals 5, potential output (Y*) equals 11,000, then government purchases must ______ to eliminate any output gap.

Accepted Answer

If the multiplier is 5, a 200-unit increase in government purchases results in a 1,000-unit increase in output. This closes the recessionary output gap of 1,000.

Question 18

In the short-run Keynesian model where the marginal propensity to consume is 0.75, to offset a recessionary gap resulting from a $1 billion decrease in autonomous consumption, transfers must be:

Accepted Answer

To offset a recessionary gap of $1 billion, autonomous expenditures must increase by $1 billion. An mpc of 0.75 means that households will spend only 75 percent of any increase in transfers, so the increase in transfers that is needed is $1 billion/ 0.75 = $1.33 billion.

Question 19

If short-run equilibrium output equals 10,000, the income-expenditure multiplier equals 10, the mpc equals 0.9, and potential output (Y*) equals 9,000, then transfers must be decreased by approximately ______ to eliminate any output gap.

Accepted Answer

There is an expansionary gap of 1,000, the amount by which equilibrium output exceeds Y*. An mpc of 0.9 means that households will reduce autonomous spending by only 90 percent of any decrease in transfers. To close the output gap, autonomous expenditure must decrease by 1,000 / 10 = 100, so the decrease in transfers that is needed is 100 / 0.90 ≈ 111.

Question 20

In the basic Keynesian model, a tax increase:

Accepted Answer

In the basic Keynesian model, a tax increase reduces disposable income for households, which leads to a decrease in consumption spending. This decrease in aggregate demand results in a reduction in short-run equilibrium output.

Quiz 11: Financial Markets and International Capital Flows