Question

If Congress and Donald Trump are able to approve spending to increase and improve public infrastructure across the United States, the resulting increase in capital will have the effect of increasing the marginal product of labor. With increased infrastructure, workers can get to work more easily, products can be shipped more rapidly, and improved broadband increases the speed of communication. Using the labor market, production function, and AS/AD graphs of the classical model, please show the effects of such an increase in the marginal product of labor. What are the effects on real wages, the quantity of labor, real GDP, and prices? Explain and show graphically.

Answer 1

When a Government built the infrastructure of its country then it is called fiscal policy. Due to such expenditures, the demand curve of AS/AD gets upward because of increase in labor and hence wage and marginal propensity of consumption. So, because of this consumption, real GDP increases in the short run. Also due to increase in the marginal product of labor we see economic growth. And as supply curve doesn't change, the price level increases(inflation) and that is why the increase in inflation pressurizes the central bank to increase the interest rate and hence we observe the crowding out effect, that is the decrease in private investment.