In an IS-LM model, if the government decides to cut welfare spending,

Question

Quizplus · Accepted Answer

In the IS-LM model, a cut in welfare spending is a decrease in government spending (G), which shifts the IS curve to the left. This shift leads to a decrease in income (Y) and the interest rate (r). As a result, consumption (C) decreases due to the drop in income and investment (I) decreases due to the lower interest rate. Personal saving may increase, but it depends on the relative magnitudes of the changes in income and consumption. Income tax revenue may decrease due to the lower income, not increase. The federal budget deficit may decrease due to the lower government spending, but it depends on the changes in tax revenue and transfer payments. The level of output may decrease or may not change, depending on the size of the fiscal multiplier and other factors affecting the economy. Therefore, choice B is the best answer.

In an IS-LM Model, If the Government Decides to Cut