Answer to Question #53 in Other Math for Lori

Question #53
A government is currently operating with an annual budget deficit of $40 billion. The government has determined that: • Every $10 billion reduction in the amount of bonds it issues each year would reduce the market interest rate by 0.1 percentage point. • Every 0.1 percentage point change in the market interest rate generates a change in planned investment expenditures in the opposite direction equal to $5 billion. The marginal propensity to consume is 0.75. • To eliminate an inflationary gap and take into account the resulting change in the price level, the government must generate a net leftward shift in the aggregate demand curve equal to $40 billion. Assuming that there are no direct expenditure offsets to fiscal policy, how much should the government increase taxes? Explain by giving appropriate reasons.
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