Section 14 (A-G)

Gandalf wishes the economy of Middle Earth to operate smoothly after he sails from the Grey

Havens to the never-ending lands in the West. He gathers King Elessar of Gondor, King Eomer of

Rohan, Thain Pippin Took of the Shire, King Thorin III Stonehelm of the Lonely Mountain, King Bard

II of Dale, King Thranduil of Mirkwood, Gimli son of Gloin of Aglarond, Prince Faramir of Ithilien, Prince Imrahil of Dol Amroth, Treebeard of Fangorn Forest and other councilors and leaders of the various countries of Middle Earth to instruct them on fiscal policies designed to smooth out the business cycle.

Even as the first shadows were felt in Mirkwood there appeared in the west of Middle-earth the

Istari, whom Men called the

Wizards....[A]afterwards it was said among the Elves that they were messengers sent by the Lords of the West to contest the power of Sauron, if he should rise again, and to move Elves and Men and all living things of good will to valiant deeds. In the likeness of Men they appeared, old but vigorous, and they changed little with the years, and aged

but slowly, though great cares lay on them; great

wisdom they had, and many powers of mind and hand.

a) Describe a budget deficit, a budget surplus and a balanced budget. Include relationship of tax revenues and government spending. What impact will each have on the market for loanable funds?

b) Describe a budget deficit, a budget surplus and a balanced budget. Include relationship of tax revenues and government spending. What impact will each have on the market for loanable funds?

c) Draw the Laffer curve. Show where the maximum tax revenues would be. From this point does an increase in tax rates increase or decrease tax revenues?

d) Describe the three multipliers for government fiscal policy and describe the differences in size of impact. How does each work to affect the economy?

e) Draw expansionary fiscal policy that is applied when the economy is in a recessionary gap using the AD/AS model. What are the two fiscal actions that the government could take to implement this policy?

f) Draw contractionary fiscal policy that is applied when the economy is in an inflationary gap using the AD/ AS model? What are the two fiscal actions that the government could take to implement this policy?

g) List and briefly describe the five lags that cause problems in implementing fiscal policy.