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Assume the economy has a GDP of $11,500 billion. The unemployment rate is at 7.3% and has been slowly rising for the last 6 months. Inflation was at 2.3% one year ago but has since dropped to near 0%. The MPC in the economy is .75 and the Natural Rate of Unemployment is 5.0%.
a. What problem is the economy currently facing?
b. Is the problem serious enough that government should act to solve it?
c. If the government does decide to act, what size government expenditure would fix the problem
d. What size tax change would fix the problem?
e. Why would it be better for government to solve the problem using government purchases (part c above) rather than taxes (part d above) to solve the problem?
f. Assuming that government does decide to use the tax policy, what could happen to cause the policy to be ineffective?
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