Suppose the economy is in recession. Policymakers estimate that aggregate demand is $100 billion short of the amount necessary to generate the long run natural rate of output. That is, if aggregate demand were shifted to the right by $100 billion, the economy would be in  long run equilibrium.  a.Explain the impact on the economy if the government chooses to use fiscal policy to stabilize  the economy and the marginal propensity to consume (MPC) is given as 0.75 with no crowding  out.  b.If there is a crowding out effect and investment is very sensitive to changes in the interest rate,  should the government increase spending more or less than this amount?

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
Chapter12: Fiscal Policy, Incentives, And Secondary Effects
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Suppose the economy is in recession. Policymakers estimate that aggregate demand is $100 billion short of the amount necessary to generate the long run natural rate of output. That is, if aggregate demand were shifted to the right by $100 billion, the economy would be in  long run equilibrium. 

a.Explain the impact on the economy if the government chooses to use fiscal policy to stabilize  the economy and the marginal propensity to consume (MPC) is given as 0.75 with no crowding  out. 

b.If there is a crowding out effect and investment is very sensitive to changes in the interest rate,  should the government increase spending more or less than this amount? 

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