Question

Answer the next 6 questions based on the following information: Starting from the usual full-employment equilibrium, what would be the ultimate effect of a revenue-neutral reduction in the capital (e.g., business) tax rate (τ↓) on each of the following economic variables? For each, you should write one of the following responses:  Up, Down, or Same?

32. Potential GDP (Y_f)
33. National Saving (S)
34. The real interest rate (r)
35. Investment (I)
36. Consumption (C)
37. The price level (P)

Answer 1

1.

Potential GDP goes up and shifts to the right due to increase in Productivity in the operations due to the lower tax rate.

2.

National savings goes up and increases. It brings more savings to the individuals with higher wage and productivity.

3.

Interest rate decreases as more savings reach to the market of loanable funds and supply curve shifts to the right.

4.

Investment goes up as decreasing business tax, is a boost for the firm and they can borrow at lower interest rates.

5.

Consumption goes up as consumers get a boost in the form of wage increase as decreased tax is also passed to the workers.

6.

Price level goes up due to the increased level of consumption and Ad curve shifts to the right.