Question

Please use ASIAD graphs to illustrate each of the following scenarios (pay attention to the starting points in each of these questions). Be sure to label correctly and use arrows when and where needed. (Please answer on a separate sheet of paper). 1. The US economy is experiencing an economic boom: a. Are we operating above or below full employment? b. Is this an inflationary or recessionary gap? c. What fiscal policy action could be used to get the US back to full employment? d. Show on your graph the effects of the fiscal policy action mentioned in part "c" on the US economy. 2. The US economy is currently operating below full employment and the federal government announces an increase in income taxes: a. Is this correct fiscal policy action? b. What effect will this policy have on price level, output, and| unemployment? c. What could the government do with spending to offset this occurrence and get us back to full employment? is this expansionary or contractionary policy? d. Show how the change in spending you mentioned in part " c " will get the US economy back to full employment. 3. The US economy is currently operating at full employment when the government increases corporate income taxes (a business tax). a. Are we operating above or below full employment? b. Is this an inflationary or recessionary gap? c. What would the appropriate fiscal policy be to get the US back to full employment? d. Show how the change in spending you mentioned in part " c " will get the US economy back to full employment. 4. The US is operating at full employment when the Fed increases the supply of money at the same time world oil prices fall. a. Are we operating above or below full employment? b. Is this an inflationary or recessionary gap? c. What would the appropriate fiscal policy be to get the US back to full employment? d. Show how the change in spending you mentioned in part " c " will get the US economy back to full employment.

Answer 1

The AD/AS model is used to demonstrate the effects of fiscal policies on the economy. In an economic boom, contractionary policy is needed to stabilize the economy, while expansionary policy is crucial during a recession. Policy impacts are shown by shifts in the aggregate demand curve, and the multiplier effect is key for understanding changes in government spending.

Step-by-step explanation:

The aggregate demand and supply (AD/AS) model can be used to illustrate different economic scenarios and the impacts of fiscal policy. When the U.S. is experiencing an economic boom, it's likely operating above full employment, indicating an inflationary gap. To counter this, contractionary fiscal policy such as an increase in taxes or a decrease in government spending could be employed to reduce aggregate demand and bring the economy back to full employment level. On the graph, the AD curve would shift to the left from AD1 to AD2, reducing the inflationary pressure.

During a situation where the economy operates below full employment, and the government increases income taxes, this would be considered incorrect fiscal policy. It would lead to further decreases in aggregate demand, increase unemployment, and lower the price level. Instead, the government should implement expansionary fiscal policy by boosting government spending to shift the AD curve to the right, which could help achieve full employment. When the Federal budget is cut, an initial reduction in government spending would contract aggregate demand (AD shifts left), which would likely lead to lower output and higher unemployment. To offset this and move towards full employment, expansionary fiscal policy might become necessary.

During a recession, a remedy through expansionary policy would involve decreasing taxes or increasing government spending, pushing the AD to the right (from AD0 to AD1). Conversely, if the economy is operating above potential GDP, exhibiting an inflationary gap, contractionary policy via tax increases or spending cuts would be appropriate, shifting AD to the left and alleviating inflationary pressures.

An economy's equilibrium can also be calculated through formulas. Given the parameters for taxes, consumption, investment, government spending, exports, and imports, the equilibrium point can be found as the level of national output that balances aggregate expenditures. The multiplier effect is crucial for policy impact assessment, and changes in government spending are used to adjust the economy's output towards potential GDP.