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Consider a hypothetical economy in which households spend $ 0 . 8 0 of each additional dollar of their after - tax income. Suppose that
Consider a hypothetical economy in which households spend $ of each additional dollar of their aftertax income. Suppose that this economy is experiencing a recession. The government would like to stimulate aggregate demand and is deciding whether it should increase its spending by $ billion or reduce income tax by $ billion. Assume other things remain constant, and the marginal propensity to consume remains at
a How much would a $ billion increase in government spending increase aggregate demand?
b How much would a $ billion reduction in income tax increase aggregate demand?
c Alternatively, suppose the hypothetical economy is $ billion below its longrun equilibrium. All else equal, how much should government spending increase to close this gap?
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