Question

3) Plot the following markets on a graph: Government market: using 50 jets for Q and $5 billion for P as point A (equilibrium). AD/AS graph: using 19.1 trillion for RGDP and 1.9% for inflation as point A (equilibrium). How will our AD/AS graph look like when U.S. government buys less jets in the government market?

4) Plot the following markets on a graph: Labor market: using 5 laborers and $5.00 for wage as point A (equilibrium). AD/AS graph: using 19.1 trillion for RGDP and 1.9% for inflation as point A (equilibrium). How will our AD/AS graph look like when Congress implements an income tax hike in the labor market?

Answer 1

3) Recall that AD = C + G + I

When government reduces purchase of jets, it means government expenditure has reduced, hence AD is reduced. So AD shift left and thus real GDP and inflation falls.

When income tax is hiked, then the amount of disposable income of the laborers decrease, hence they have less disposable income to consume from and so consumption is reduced. This reduces AD. Hence AD shift left and so inflation and real gdp falls.