Q: Suppose the government increases its purchases by $100 billion and the marginal propensity to consume (MPC) is 0.6. What is the total change in real GDP according to the government purchases multiplier?

$$ \text{Total change in real GDP} = \frac{1}{1 - 0.6} \times 100 = 250 \text{ billion} $$

Q: If the government increases transfer payments by $50 billion and the MPC is 0.75, what is the total change in real GDP?

$$ \text{Total change in real GDP} = \frac{0.75}{1 - 0.75} \times 50 = 150 \text{ billion} $$

Question 1

Which of the following best describes discretionary fiscal policy?

Accepted Answer

Intentional actions by Congress and the president to change government spending or taxes to achieve macroeconomic objectives.

Question 2

Suppose the government increases its purchases by $100 billion and the marginal propensity to consume (MPC) is 0.6. What is the total change in real GDP according to the government purchases multiplier?

Accepted Answer

$$ 	ext{Total change in real GDP} = \frac{1}{1 - 0.6} 	imes 100 = 250 	ext{ billion} $$

Question 3

Which of the following is an example of an automatic stabilizer?

Accepted Answer

Unemployment insurance payments that rise during a recession.

Question 4

If the government enacts a contractionary fiscal policy, which of the following is most likely to occur in the short run?

Accepted Answer

Aggregate demand shifts to the left, reducing inflationary pressures.

Question 5

Which of the following best explains why the tax multiplier is smaller (in absolute value) than the government purchases multiplier?

Accepted Answer

A tax cut is partially saved by households, while government purchases directly increase aggregate demand.

Question 6

During the Covid-19 recession, the U.S. government enacted a large expansionary fiscal policy. What was one major short-term consequence of this action?

Accepted Answer

A large increase in the federal budget deficit.

Question 7

Suppose the marginal propensity to consume (MPC) is 0.8. What is the value of the government purchases multiplier?

Accepted Answer

$$ \frac{1}{1 - 0.8} = 5 $$

Question 8

Which of the following is a potential long-run problem associated with a rising national debt relative to GDP?

Accepted Answer

It can crowd out private investment, reducing long-term economic growth.

Question 9

If the government increases transfer payments by $50 billion and the MPC is 0.75, what is the total change in real GDP?

Accepted Answer

$$ 	ext{Total change in real GDP} = \frac{0.75}{1 - 0.75} 	imes 50 = 150 	ext{ billion} $$

Question 10

Which of the following best describes the concept of 'crowding out'?

Accepted Answer

A decline in private expenditures as a result of an increase in government purchases.

Question 11

Which of the following is NOT a reason why fiscal policy may be less effective than monetary policy for stabilizing the economy?

Accepted Answer

Fiscal policy always causes deflation.

Question 12

Suppose the government wants to use fiscal policy to reduce inflation. Which of the following actions would be most appropriate?

Accepted Answer

Decrease government purchases and/or increase taxes.

Question 13

Which of the following statements about automatic stabilizers is correct?

Accepted Answer

They help moderate the severity of economic fluctuations without additional government action.

Question 14

What is the 'tax wedge' in the context of fiscal policy?

Accepted Answer

The difference between the pretax and posttax return to an economic activity.

Question 15

Which of the following is a supply-side effect of tax policy?

Accepted Answer

Lower marginal tax rates can increase incentives to work, save, and invest, potentially increasing long-run real GDP.

Question 16

If the government runs a budget deficit, how does it typically finance this deficit?

Accepted Answer

By selling Treasury securities to investors.

Question 17

Which of the following best describes the long-run effect of a temporary increase in government purchases?

Accepted Answer

It has no effect on real GDP in the long run, as the economy returns to potential GDP.

Question 18

Which of the following is a plausible reason why the 2007–2009 recession was so severe, according to economic research?

Accepted Answer

It was caused by a financial crisis, which tends to make recessions deeper and longer.

Question 19

Which of the following is a likely effect of simplifying the tax code?

Accepted Answer

It increases economic efficiency by reducing compliance costs and distortions.

Chapter 16: Fiscal Policy – Macroeconomics Study Notes

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