For this problem use the full IS-LM model. Start from an equilibrium. Suppose th

Question

For this problem use the full IS-LM model. Start from an equilibrium. Suppose the government (not the central bank) wants to reduce the interest rate. If the government uses a fiscal expansion, they will achieve this goal but output will fall If the government uses a fiscal contraction, they will achieve this goal but output will fall If the government uses a fiscal expansion, they will achieve this goal and output will increase If the government uses a fiscal contraction, they will achieve this goal and output will increase

Explanation / Answer

2. If the government uses a fiscal contraction, they will acheive this goal but the output will fall.

As the government uses a contraction fiscal policy like increase in taxes, the AD decreases , and due to decrease in AD , the IS curve shifts left and both output and interest rate decreases.

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