Question

4. Deficits in new classical economics

Jake lives in the fictional country of Lindelof, which raises government revenue by taxing everyone the same amount. The government of Lindelof has just implemented a tax cut that reduces annual taxes by $3,500 per person. However, government spending has not changed, nor is it likely change in the future.

The tax cut has raised Jake's income by $3,500. If Jake acts according to the prediction of new classical economics (and doesn't plan to leave Lindelof), his consumption is likely to increase by __________. ($3,150, $0, $3,500)

Suppose that instead of cutting taxes while keeping its spending the same, the government did the opposite: it increased its spending by $3,500 per person while keeping taxes the same. If everyone in Lindelof acted like Jake, the likely increase in aggregate demand would be _______ ($3,150, $0, $3,500) per person.

Answer 1

Answer:

The tax cut has raised Jake's income by $3,500. If Jake acts according to the prediction of new classical economics (and doesn't plan to leave Lindelof), his consumption is likely to increase by $0

Explanation: because of a tax cut, her consumption is likely to increase by $0 as people would save the money in anticipation of higher tax in the future.

If everyone in Lindelof acted like Jake, the likely increase in aggregate demand would be $0 per person

Explanation: because of government spending, the likely increase in aggregate demand is $0 per person.