Money Demand 9500-500i initial Money Supply-$100 Reserve Ratio: 5% Government Ta

Question

Money Demand 9500-500i initial Money Supply-$100 Reserve Ratio: 5% Government Taxes $5000 Loanable Funds Demand 1800-100i GDP gap = 100 MPC-0.6 Government Spending $6500 All numbers are in millions of dollars 1. National debt was 9800. What will be the new level of national debt? 2. (5 points) The government decides to change taxes to combat the situation. What will the new level of taxes be? 3. (5 points) What will the new level of government purchases be? 4. Monetary policy: OMO and RR changes. (20 pts) emonia 5. Find the government budget deficit/surplus before the policy change.

Explanation / Answer

1) National debt is the debt owned by the government. If national debt was 9800.

we have given:

Government spending - 6500

Government Taxes - 5000

Government budget deficit - 1500

Hence, the new level of national debt will be 9800 + 1500 = 11300

2) In order to combat the situation of budget deficit, government can increase the taxes by the budget deficit, i.e., 1500. New level of taxes be 6500.

4) Open market operation is process of buying and selling of government bonds to control the monetary policy of the country. For expansionary monetary policy, Fedral bank buys government securities from commercial banks due to which loanable funds increases. Whereas, for contractionary monetary policy, fed buys back government securities from commercial banks which reduces the loanable funds.

Reserve ratio is the tool use by the fedral bank to control monetary policy of the country. By increasing RR, loanable funds decreases and by decreasing RR, loanable funds increases in the market.

5)

Government spending - 6500

Government Taxes - 5000

Government budget deficit = Government spending - Government Taxes = 6500 - 5000 = 1500

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