Suppose that the government of Ansonia is experiencing a large budget surplus wi

Question

Suppose that the government of Ansonia is experiencing a large budget surplus with fixed government expenditures of G 250 and toed taxes of T in the following consumption function 200 Both G and T are independent of income. Assume that consumers of Ansonia behave as descibed C 300 0800Y- T) Suppose further that investment spending is fixed at l 200 Callculate the equiliorium level of GDP in Ansonia Solve for equilibrium levels or Y, C, and S Ys (Roundyourresoonse to MO decimalpaces.) c Round your response to two decimai piaces.) s-D (Round your response to two decimal places.) Now, assume that the Republican Congress in Ansonia succeeds in reducing taxes by 30 to a new fixed level of 170. Determine the value of the tax multiplien Tax multiplier = Round your response to two decimal places and include a m u s s mif necessary. Solve for equilibrium levels orY, C, and S ater the tax cut and check to ensure that the multiplier worked. Y (Round your response to two decimal places.) Cound your response to two decimai places) ound your response to two decimal places.) Enter your answer in each of the answer boxes 9:11 AM O Type here to search 12/16/2017

Explanation / Answer

PART 1

C = 300 + 0.80(Y - T)

I = 200

G = 250

T = 200

At equilibrium,

Y = C + I + G

Y = 300 + 0.80(Y - T) + 200 + 250

Y = 300 + 0.80(Y - 200) + 200 + 250

Y = 300 + 0.80Y - 160 + 200 + 250

Y - 0.80Y = 590

0.20Y = 590

Y = 2,950

C = 300 + 0.80(Y - T)

C = 300 + 0.80(2,950 - 200)

C = 300 + 2,200 = 2,500

S = Y - C = 2,950 - 2,500 = 450

So, at equilibrium

Y = 2,950

C = 2,500

S = 450

PART 2

MPC = 0.80

Tax multipler = -MPC/(1-MPC) = -0.80/(1-0.80) = 4

The Tax Multiplier is -4

PART 3

Now taxes has been reduced from 200 to 170

C = 300 + 0.80(Y - T)

I = 200

G = 250

T = 170

At equilibrium,

Y = C + I + G

Y = 300 + 0.80(Y - T) + 200 + 250

Y = 300 + 0.80(Y - 170) + 200 + 250

Y = 300 + 0.80Y - 136 + 200 + 250

Y - 0.80Y = 614

0.20Y = 614

Y = 3,070

C = 300 + 0.80(Y - T)

C = 300 + 0.80(3,070 - 170)

C = 300 + 2,320 = 2,620

S = Y - C = 3,070 - 2,620 = 450

So, at new equilibrium

Y = 3,070

C = 2,620

S = 450

It can be seen that consumption has increased by (2,620 - 2,500) 120.

Part 4

Reduction in tax leads to increase in consumption.

Increase in consumption = Cut in taxes * Tax multiplier = -30 * (-4) = 120

As per the working of tax multiplier, consumption should increase by 120.

The consumption has indeed increased by 120. This shows that multiplier has worked.

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