Which has a larger effect on aggregate demand: an increase in government expenditure or an equal sized decrease in taxes? Explain your answer
What will be an ideal response?
The multiplier for a change in government expenditure is larger than the multiplier for a tax cut so the effect on aggregate demand from the increase in government expenditure exceeds that from the decrease in taxes. The difference occurs because with an increase in government expenditure on goods and services, real GDP is immediately increased. This increase then leads to a multiplier effect as household's incomes increase and so their consumption expenditure increases. With an equal sized tax cut, however, households save part of the increase in disposable income. As a result, the first impact on real GDP is smaller, which leads to a smaller effect after the multiplier is taken into account.
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a. falling b. rising c. constant d. none of the above
A fixed exchange rate, say, Mexican pesos per dollar, is determined by
a. U.S. consumers that buy Mexican exports b. the U.S. government c. U.S. businesses that export to Mexico d. the foreign exchange market e. the levels at which other exchange rates float