Question #4. Individual income taxes directly affect personal disposable incomes which in turn affect the domestic demand for goods and services. Production costs depend substantially on oil prices. Market expectations are: (1) income taxes in the U.S. will decline and (2) oil prices will remain relatively unchanged. Using market expectations, what do you expect the U.S. output and prices next year? Assume we are moving from the old equilibrium to a new equilibrium.  Please state clearly your assumptions and include a graph to support your answer.

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Asked Jun 13, 2019
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Question #4. Individual income taxes directly affect personal disposable incomes which in turn affect the domestic demand for goods and services. Production costs depend substantially on oil prices. Market expectations are: (1) income taxes in the U.S. will decline and (2) oil prices will remain relatively unchanged.

 

Using market expectations, what do you expect the U.S. output and prices next year? Assume we are moving from the old equilibrium to a new equilibrium.  Please state clearly your assumptions and include a graph to support your answer.

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Expert Answer

Step 1

Income is the money that an individual or business earns in exchange for providing a commodity or service by investing in the capital that can be spent on funding the day-to-day expenses.

Production cost is the cost that is incurred by the producer while producing a commodity or service for the market.

Here, the market expectations are given as:

  1. A decline in the U.S. income tax.
  2. The oil price remains relatively unchanged.
Step 2

To determine the market expectations about next year price and output.

Step 3

Consider the following assumptions before framing the economic model,

  1. A market where the demand and supply are at their optimal level before the market expectation took place i.e. assume initially, the market demand is equal to the market supply. The market equilibrium occurs at point E.
  2. T...

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