Final answer:
When the government cuts taxes by $100, individuals' disposable income increases by $100, leading to a potential increase in both consumption and savings. However, this also reduces government revenue dollar for dollar, potentially resulting in a higher deficit and possibly higher interest rates due to increased borrowing.
Step-by-step explanation:
If the government cuts the tax by $100, disposable income for households increases by that same amount. This presumptively leads to an increase in household savings and spending, as the extra funds are now available for these purposes. Importantly, the cut means government revenue decreases by the same $100, which can lead to an increased deficit if not offset by a reduction in government spending or other measures. Contrarily, while tax payers are saving $(1 – marginal propensity to consume) more, the government loses the full $100, leading to a net decrease in national savings by the amount equal to the marginal propensity to consume. This can exert upward pressure on interest rates, as the government may borrow more to cover the deficit, competing with private borrowers for available funds.