Consider a closed economy (no foreign trade or NE = 0) described by the following equations (all figures in millions of dollars): Y = C + I + G   Further assume: Annual government expenditure equals $2,000

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Consider a closed economy (no foreign trade or NE = 0) described by the following equations (all figures in millions of dollars): Y = C + I + G

 

Further assume:

Annual government expenditure equals $2,000.00

Current level of income tax is combination of flat Tax and income adjusted, based on following tax rate; Tax = 1,000 + .25(Y) where Y is the level of current income for the economy.

Current annualized consumer spending equals:  C = 450 + 0.8 (DI), were

DI = Disposable income = Income - Tax

Current level of short-term investment is fixed and equals to $2,000.00

 

a)    Calculate the current value of Y for this economy at the equilibrium level.

b)    Based on that income, calculate the current state of private saving, public saving and current level of tax intake. What do the information you calculated tell you about the current state of this economy?

c)    Suppose the congress approve an infrastructure investment which raises government expenditure to 2,250. How would this increase impact your calculation in (a) above if government barrows the money verses raising tax to cover it?

d)    Now suppose the business community is optimistic about the future of economy and decide to increase the level of investment by 10%, how would the change in investment impact the economy (in term of consumption, saving, taxes, etc.)? Compare the result you get in (c) with what you calculated in (a). What does it tell you?

e)    Now suppose based on the data, you know you have a GDP gap of $875 million (gap in the value of GDP which is the same as income gap in term of Y), what would be the necessary injection you would need to close this gap? Which component of the GDP would you use and why?