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What would happen to inflation, GDP, unemployment and economic growth in the short run and the...

What would happen to inflation, GDP, unemployment and economic growth in the short run and the long run if we cut income taxes by 100 billion and the marginal propensity to consume (MPC) is equal to .75? Make sure to include the appropriate equation and an analysis of the impacts of C, I, G, NX, AD, AS, P, Q, inflation and economic growth.

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Answer #1

Answer -

MPC = 0.75

Tax multiplier = 1/0.25

= 4

Decrease in tax = $ 100 billion

Increase in income of economy = 100*4

= $ 400 billion

As a result of the decrease in tax , the real income of public will increase. They will consume and invest more. Hence value of C and I in the equation of AD will increase. This will lead to increase in GDP and decrease in level of unemployement. Due to higher level of income , imports will increase which may lead to decrease in value of NX. However the overall effect will be increase in AD and a rise in price level.

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