Macroeconomics Assignment 2 26 June 2022 Please follow the following Instructions. Use A4 pages to submit your work. Only hand written assignment will be accepted. Submit your assignment in LMS (PDF file of hand written scan copy) and Hard Copy through CR Groups are not allowed. Save the Earth by not putting your assignment in plastic files. Question 1: Economists often argue that a temporary increase in government purchasessay, for military purposeswill crowd out private investment. Use the saving- investment diagram to illustrate this point, explaining why the curve(s) shift. Does it matter whether the temporary increase in military spending is funded by taxes or by borrowing? Alternatively, suppose that the temporary increase in government purchases is for infrastructure (roads, sewers, bridges) rather than for military purposes. The government spending on infrastructure makes private investment more productive, increasing the expected future MPK at each level of the capital stock. Use the saving-investment diagram to analyze the effects of government infrastructure spending on current consumption, national saving, investment, and the real interest rate. Does investment by private firms get crowded out by this kind of government investment? If not, what kind of spending, if any, does get crowded out? Assume that there is no change in current productivity or current output and assume (for simplicity) that households do not expect a change in their future incomes. Question 2: "A permanent increase in government purchases has a larger effect than a temporary increase of the same amount." Use the saving-investment diagram to evaluate this statement, focusing on effects on consumption, investment, and the real interest rate for a fixed level of output. (Hint: The permanent increase in government purchases implies larger increases in current and future taxes.) Question 3: The world is made up of only two large countries: Eastland and Westland. Westland is running a large current account deficit and often appeals to Eastland for help in reducing this current account deficit. Currently, the government of Eastland purchases $10 billion of goods and services, and all of these goods and services are produced in Eastland. The finance minister of Eastland proposes that the government purchase half of its goods from Westland. Specifically, the government of Eastland will continue to purchase $10 billion of goods, but $5 billion will be from Eastland and $5 billion will be from Westland. The finance minister gives the following rationale: "Both countries produce identical goods so it does not really matter to us which country produced the goods we purchase. Moreover, this change in purchasing policy will help reduce Westland's large current account deficit." What are the effects of this change in purchasing policy on the current account balance in each country and on the world real interest rate? (Hint: What happens to net exports by the private sector in each country after the government of Eastland changes its purchasing policy?)

Words Counts 500