←2:12Principles of Macroe...VoLTE4G+Rvecmeccssary: what would have happened to aggregate demand and aggregate output:6 Consider two economies - Avalon and Eternia. In Avalon, the central bank uses interestrates to conduct monetary policy. In Eternia, the central bank conducts monetary policy bychanging the money supply.a Which economy would have a more effective monetary policy? Explain.b Which country would have higher inflation? Explain.33%c Why can't Avalon and Eternia set both interest rates and money supply?7 This chapter explains that expansionary monetary policy reduces the interest rate and thusstimulates demand for consumption and investment goods. Explain how such a policy alsostimulates imports, exports and overall net exports. (You may need to refer to chapter 13to answer this question.)8 Suppose economists observe that an increase in government spending of $10 billion raisesthe total demand for goods and services by $30 billion.a Is crowding out occurring in this case? Explain.bIf these economists ignore the possibility of crowding out, what would they estimate themarginal propensity to consume (MPC) to be?cNow suppose the economists allow for crowding out. Would their new estimate of theMPC be larger or smaller than their initial one?a a decrease in government spendingb an increase in the Australian corporate tax rateC an increase in interest rates9 Suppose the government reduces taxes by $30 billion, that there is no crowding out andthat the marginal propensity to consume is 3.a What is the initial effect of the tax reduction on aggregate demand?b What additional effects follow this initial effect? What is the total effect of the tax cut onaggregate demand?cHow does the total effect of this $30 million tax cut compare with the total effect of a$30 million increase in government purchases? Why?10 Suppose consumers suddenly become more optimistic about their future incomes anddecide to purchase $40 million more of additional goods and services. Will this change havea 'multiplier' effect on total output? Explain.11 The Australian government is concerned about the growing budget deficit, so they decideto cut government expenditures by $15 billion. They also decide the economy needs aboost so they decide to cut income taxes by $40 billion. Would this simply mean a netincrease in aggregate demand of $25 billion? Why or why not?12 Suppose government spending declines and the RBA simultaneously decreases interestrates. What is the net effect on aggregate demand? What factors in the economy does youranswer depend upon?13 Assume the economy is in an expansionary phase. Explain how each of the followingpolicies would affect consumption and investment. In each case, indicate any direct effects,any effects resulting from changes in total output, any effects resulting from changes inthe interest rate and the overall effect. If there are conflicting effects making the answerambiguous, say so.fierfluctuation Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202401/492For various reasons, fiscal policy changes automatically when output and employmentluctuate.a Explain why tax revenue changes when the economy booms.o Explain why government spending changes when the economy has high levels ofinflation.If the government were to operate under a strict balanced-budget rule, what would ithave to do in a booming economy? Would that make the boom more or less extrein response to a decrease in terest rates, would the following things be smaller, larno different in the long run than in the short run?%a consumer expenditureso the inflation rate: the interest rated aggregate outputSuppose that the RBA decides to increase the interest rate.What will happen to the ney supply? Illustratur answer with an opriatediagram.What is the effect of this policy on the interest rate in the long run? How do you know?

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