101 001 ECON 101 11 Fall 2017 The Influence of Monetary and Fiscal Policy on Agg

Question

101 001 ECON 101 11 Fall 2017 The Influence of Monetary and Fiscal Policy on Aggregate Demand: Algorithmic End of Chapter I Read Chapter 21 | Back to Attempts Score: 1 8. Problems and Applications Q8 An economy is operating with output $400 billion above its natural level, and fiscal policymakers want to close this expansionary gap. The central bank agrees to adjust the money supply to hold the interest rate constant, so there is no crowding out. The marginal propensity to consume is 3/5, and the price level is completely fixed in the short run. To close the expansionary gap, the government would need to -spending by Is billion. Terms of Use Privacy Notice

Explanation / Answer

Spending multiplier = 1/(1 - MPC) = 1/(1 - 3/5) = 2.5

Positive output gap = $400 bn

Government would need to decrease spending by : 400/2.5 = $160 bn

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