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Question 1: Fiscal policy options after a recession Consider an economy that behaves according to the following behavioral equations (this is the simplest version of the economy tl'at we've set up in class): C = C0 + C1?\" m=v-r and taxes (T), investment (I), and government spending (G) are all exogenous. GDP in 2009 was roughly $15,000 billion. During the 2009 crisis, GDP fell approximately 3 percentage points. (Hint: It is easier to answer this question if you first write the extression for equilibrium income, and use this expression to help work through the following questions). a How many billion dollars is 3 percentage points of $15,000 billion? b. What is the government spending multiplier in this economy? c. If the propensity to consume is 0.5, by how much would government spending have increased to prevent a decrease in output? (I. Now let's look consider tax cuts: i. When taxes fall by 51, what is the change in disposable income? ii. When disposable income changes by the amount in (i), what is the change in consumption? iii. When consumption changes by the amount in (ii), how much does total output change? Your answer to (iii) is the tax multiplier. e. If the propensity to consume is 0.5, by how much would taxes have to have been cut to prevent a decrease in output? f. Compare your answers to (c) and (e). Do you need a bigger tax cut or bigger government spending increase to achieve the same increue in GDP? Question 2: Comparative statics in the money market model Does the interest rate increase or decrease in each of the following scenarios? In each case, set up a graph to support your answer. a. The central bank engages in open market bond purchases. b. An decrease in nominal GDP. c. An increase in real GDP