Consider an economy in which the marginal propensity to consume is two-thirds, prices are constant, the multiplier is three, G is initially 1,000, taxes are autonomous (not related to income) and are initially 1,300, transfer payments are initially 300, and GDP is initially 7,000.
a) The government wishes to increase GDP to 7,300, and it is considering changing government purchases, or taxes, or transfer payments. What new levels of these fiscal policy tools would be needed? In each case, what could the new government surplus or deficit be?
b) Suppose instead that the government wished to reduce GDP to 6,400 and, again, it was considering using only one of its three available fiscal policy tools. What level of these tools would be needed? In each case, what could the government surplus or deficit be?
c) Suppose instead that the government wished to raise GDP to 7,100, but it was unwilling to run a surplus or deficit. Therefore the change in government purchases would have to be matched by and equal change in taxes. What change in government purchases and taxes would be needed?