5. Consider the following changes in the macroeconomy. Show how we can explain t

Question

5. Consider the following changes in the macroeconomy. Show how we can explain the effect using the IS curve, and explain how and why GDP is affected in the short run.

(a) The government offers a temporary investment tax credit: for each dollar of investment that firms under- take, they receive a credit that reduces the taxes they pay on their income.

(b) A booming economy in Europe leads to an unexpected increase in demand for U.S. goods by Europeans.

(c) U.S. consumers become infatuated with anything and everything made in New Zealand; as a result they increase their imports from New Zealand.

(d) A housing bubble bursts (sound familiar?), so that housing prices fall by 20% and new home sales drop sharply.

Explanation / Answer

a) as taxes decreases the IS curve shifts upward and GDP decreases because as fro equation we can see as taxes (T) decreases then output (Y) increases.

b) so export (X) from US increases so GDP (Y) increases and IS curve shifts upwards . Because X and Y are directly related in the equation

c) as import (M) increases then GDP will decrease and IS will shift downwards because output(Y) and import(M) are negatively related

d)it will have not any impact on IS curve it will have ipact on LM curve as price is present in LM curve

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