1. Consider the following economy: C = co + c1 (Y – T), I = ao +aY, I, = (1+ s) I1, T = sI + G and Z = C+I2 + Ğ. Parameters ao and co are positive: ao > 0 and co > 0. Parameters a1, ci and s are between 0 and 1: ai € (0, 1), cı € (0, 1) and s e (0, 1). In this economy, business investment (I1) depends on the level of economic activity (Y). The government wants to encourage investment so for each dollar of investment they offer a subsidy of s dollars (think of the subsidy as a negative tax: instead of taking money from you, the government gives money to you). (a) Derive an expression for the equilibrium level of output. What is the government expenditure multiplier? (b) If s = 0, what is the equilibrium level of output? What is the government expenditure multiplier? Briefly explain why the multiplier has this value. (c) Use algebra to compare the goveri.nient expenditure multipliers in parts (a) and (b). Which one is greater? Briefly explain the economic intuition behind your result

1. Consider the following economy: C = co + c1 (Y – T), I = ao +aY, I, = (1+ s) I1, T = sI + G and Z = C+I2 + Ğ. Parameters ao and co are positive: ao > 0 and co > 0. Parameters a1, ci and s are between 0 and 1: ai € (0, 1), cı € (0, 1) and s e (0, 1). In this economy, business investment (I1) depends on the level of economic activity (Y). The government wants to encourage investment so for each dollar of investment they offer a subsidy of s dollars (think of the subsidy as a negative tax: instead of taking money from you, the government gives money to you). (a) Derive an expression for the equilibrium level of output. What is the government expenditure multiplier? (b) If s = 0, what is the equilibrium level of output? What is the government expenditure multiplier? Briefly explain why the multiplier has this value. (c) Use algebra to compare the goveri.nient expenditure multipliers in parts (a) and (b). Which one is greater? Briefly explain the economic intuition behind your result

Economics: Private and Public Choice (MindTap Course List)

16th Edition

ISBN:9781305506725

Author:James D. Gwartney, Richard L. Stroup, Russell S. Sobel, David A. Macpherson

Publisher:James D. Gwartney, Richard L. Stroup, Russell S. Sobel, David A. Macpherson

Chapter27: Investment, The Capital Market, And The Wealth Of Nations

Section: Chapter Questions

Problem 14CQ

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