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, assuming no crowding out and using the government purchases multiplier formula?

$$\frac{1}{1-0.6} \times 100 = 250$$ billion

Q: If the government increases transfer payments by $50 billion and the MPC is 0.8, what is the initial effect on aggregate demand, and what is the total effect after the multiplier process?

Initial: $$40$$ billion (since only $$0.8 \times 50 is $$spent); Total: $$\frac{1}{1-0.8} \times 40 = 200$$ billion

Q: Suppose the government enacts a $200 billion tax cut, and the MPC is 0.6. What is the total change in real GDP, using the tax multiplier formula?

$$\frac{MPC}{1-MPC} \times 200 = \frac{0.6}{0.4} \times 200 = 300$$ 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, assuming no crowding out and using the government purchases multiplier formula?

Accepted Answer

$$\frac{1}{1-0.6} 	imes 100 = 250$$ billion

Question 3

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

Accepted Answer

Unemployment insurance payments that increase during a recession.

Question 4

If the government enacts 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 household spending and a rise in inflation.

Question 7

Suppose the marginal propensity to consume (MPC) is 0.75. What is the value of the government purchases multiplier?

Accepted Answer

$$\frac{1}{1-0.75} = 4$$

Question 8

Which of the following is a potential long-run consequence of persistent federal budget deficits?

Accepted Answer

Crowding out of private investment, which may slow economic growth.

Question 9

If the government increases transfer payments by $50 billion and the MPC is 0.8, what is the initial effect on aggregate demand, and what is the total effect after the multiplier process?

Accepted Answer

Initial: $$40$$ billion (since only $$0.8 	imes 50 is $$spent); Total: $$\frac{1}{1-0.8} 	imes 40 = 200$$ billion

Question 10

Which of the following best describes the concept of 'crowding out' in the context of fiscal policy?

Accepted Answer

An increase in government purchases leads to a decrease in private expenditures due to higher interest rates.

Question 11

Suppose the government enacts a $200 billion tax cut, and the MPC is 0.6. What is the total change in real GDP, using the tax multiplier formula?

Accepted Answer

$$\frac{MPC}{1-MPC} 	imes 200 = \frac{0.6}{0.4} 	imes 200 = 300$$ billion

Question 12

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 hyperinflation.

Question 13

Which of the following statements about the federal budget deficit and debt is correct?

Accepted Answer

The national debt is the total value of outstanding Treasury securities.

Question 14

Which of the following is a supply-side effect of fiscal policy intended to increase long-run economic growth?

Accepted Answer

Reducing marginal tax rates to increase incentives to work, save, and invest.

Question 15

If the marginal propensity to consume (MPC) is 0.8, what is the value of the tax multiplier?

Accepted Answer

$$\frac{-MPC}{1-MPC} = \frac{-0.8}{0.2} = -4$$

Question 16

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

Accepted Answer

It would increase economic efficiency by reducing compliance costs.

Question 17

Suppose the government increases spending on infrastructure, which raises productivity in the long run. This is an example of fiscal policy affecting which part of the aggregate model?

Accepted Answer

Aggregate supply and potential GDP in the long run.

Question 18

Which of the following best describes a tax wedge?

Accepted Answer

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

Question 19

Which of the following is a reason why Social Security and Medicare are considered 'fiscal time bombs'?

Accepted Answer

The aging population and rising health care costs threaten their long-term sustainability.

Fiscal Policy: Mechanisms, Effects, and Long-Run Implications

Study Guide - Practice Questions

Study Guide - Flashcards