Fiscal Policy: An Increase In Government Expenditure Taxes

Fiscal Policy
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Fiscal Policy
Question 1
Tax cuts and an increase in government expenditure have a significant effect on the aggregate demand. Both of these practices cause a shift of the aggregate demand curve to the right. Therefore, they are great tools that governments can use to stabilize the economy. A major factor that supports the use of these tools is the multiplier effect. According (Carbaugh, 2006), the Keynesian economics have it a rise in demand in an economy causes a much larger effect on the national output. Therefore, when the government spends more, and tax cuts are introduced, there is going to be a higher level of increase in aggregate demand than the level of the tax cuts or spending. The reason for this is the multiplier effect. As informed by Hubbard, Garnett, & Lewis (2012), there is a positive multiplier effect on the equilibrium GDP when there is an increase in government purchases as well as tax cuts.
Of the two measures, spending by the government has a superior consequence on the aggregate demand than a decrease in taxes of the same size. According to Baumol & Blinder (2007), while both measures have multiplier effects, changes in taxes have a smaller one compared to the changes in government spending. As for the government spending, the whole of it directly goes to the aggregate demand. However, for tax cuts, the people only consume a portion of the increase in disposable income. As seen, these fiscal measures can be applied by the government to stimulate the performance of the economy. While both contribute to a larger effect on the aggregate demand due to the multiplier effect, government spending has a higher impact compared to the reduction in taxes. Therefore, this is one of the things policy makers have to be aware of.
Question 2
Recessionary gap refers to a situation in the economy when the aggregate demand is less than it would be in full employment. In order to eliminate this recessionary gap, the specific policy that can be applied is expansionary fiscal policy (Hubbard, Garnett, & Lewis, 2012). This involves lowering taxes or raising the spending by the government. Through an increase in the spending by the government, there will be a shift of the aggregate demand curve to the right because of the creation of demand for services and goods. In addition, through lowering of taxes, consumers will have more money at their disposal which means their consumption and investment capacity increases. When they exercise this capacity, the level of aggregate demand rises. This leads to closing of the gap between real GDP and an economy’s GDP at full employment. As seen, fiscal policy can be used by the government to see to it recessionary gap is closed.
Question 3
According to Keynesian economics, there is a need for fiscal policies to stabilize the real GDP. This line of thought has it that the market is flawed and unstable. As such, there exist many disturbances as a result of monopolistic forces, wrong or lack of information, among other factors. For this reason, therefore, there is a need for interventions to keep the economy on track. On the other hand, it is the assertion of classical economists that the economy works best if...