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Principles of Economics 2e

2nd Edition
Steven A. Greenlaw; David Shapiro
ISBN: 9781947172364

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BuyFindarrow_forward

Principles of Economics 2e

2nd Edition
Steven A. Greenlaw; David Shapiro
ISBN: 9781947172364
Textbook Problem

What would happen if expansionary fiscal policy was implemented in a recession but, due to lag, did not actually take effect until after the economy was back to potential GDP?

To determine

To state: Due to lag, if expansionary fiscal policy did not actually affect the economy unless it was back to normal, although it was implemented in period of recession.

Explanation

An expansionary fiscal policy of the government refers to use of government spending to increase the aggregate demand, output, employment and prices in the economy. It includes:

  1. cuts in business taxes to increase after tax profits
  2. cuts in individual income taxes to increase the disposable income and hence to increase the consumption
  3. increasing government purchases of final goods and services to increase aggregate demand directly.

When the decision to use discretionary fiscal policy is made to counter recession, it takes time for the fiscal policy to respond to the recession. This time lag is because of:

  1. Recognition lag: It is the lag in the recognition of onset of recession.
  2. Legislative lag: It is the lag in the passing of bills regarding expenditure and tax alterations under fiscal policy...

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