the equilibrium point is (520, 110)

The economy of Morin is shown in the figure below.

a. If potential GDP (LAS) is $565, and the economy is presently in equilibrium, then there is a(n) recessionary gap of $ ......... billion.

b. In order to close this gap aggregate demand must increase by $ .......... billion.

c. If every $1 change in government spending leads to a $4 change in aggregate demand, government spending must increase by $ billion.

d. Suppose that initially government had a balanced budget. If government increases its spending as in part (c) and tax revenues are 0.2 of real GDP, what will be the government's real budget surplus/deficit at full-employment equilibrium? The government budget would have a (Click to select) of $ ........ billion.

To solve this problem, let's break it down step by step: a. To find the recessionary gap, we need to compare the current equilibrium level of real GDP (520) with potential GDP (565). Recessionary gap = Potential GDP - Equilibrium GDP Recessionary gap = 565 - 520 = $45 billion So, there is a recessionary gap of $45 billion. b. To close this gap, we need to increase aggregate demand by the amount of the recessionary gap. Given that the equilibrium point is currently at (520, 110), to return to potential GDP, aggregate demand needs to increase by the same amount as the recessionary gap. Therefore, aggregate demand must increase by $45 billion. c. The government spending multiplier is 4. This means that for every $1 change in government spending, aggregate demand will increase by $4. So, to increase aggregate demand by $45 billion (as found in part b), we need to divide this amount by the multiplier: Change in government spending = Change in aggregate demand / Government spending multiplier Change in government spending = $45 billion / 4 = $11.25 billion Therefore, government spending must increase by $11.25 billion. d. Initially, if the government had a balanced budget, it means that government spending equals tax revenue. Now, if government spending increases by $11.25 billion, and tax revenues are 0.2 of real GDP, we need tofind the change in tax revenues: Change in tax revenues = Tax rate * Change in real GDP Given that tax revenues are 0.2 of real GDP, the change in tax revenues will be: Change in tax revenues = 0.2 * $11.25 billion = $2.25 billion Now, to find the government's real budget surplus/deficit at full-employment equilibrium, we need to compare the change in government spending with the change in tax revenues. Change in government spending = $11.25 billion Change in tax revenues = $2.25 billion As government spending increased by more than the increase in tax revenue, there will be a deficit. Therefore, the government's real budget deficit at full-employment equilibrium will be $11.25 billion - $2.25 billion = $9 billion. The government budget would have a deficit of $9 billion