1. The public tends to view trade deficits with alarm while macroeconomists claim that trade deficits can actually be helpful for an economy. Explain the macroeconomists' position on trade deficits.

1. Some economists claim that budget deficits often spawn an evil twin, a trade deficit.
   1. Explain how a budget deficit might lead to an appreciating currently and a trade deficit.(Use our foreign exchange market diagram in this answer)
   2. Explain how the introduction of the foreign sector makes the fiscal policy tool of the budget deficit less effective in stimulating the open, as compared to the closed, economy. (Use our AD/AS model diagram in this answer).
   3. According to economists, what is (are) the true cost(s) of a budget deficit? Does the "opening up" of an economy change the type of costs a deficit produces? (Use our investment/savings model to answer this question).

1. 1. Draw a typical Phillips Curve.
   2. Explain why some economists claimed that the Phillips Curve represented a menu of social choice.
   3. Do economists still believe in the menu view of the Phillips Curve? What view has replaced the original view?
   4. Given the new view of the Phillips Curve, why do economists believe that a "credible" inflation reducing policy will be less costly than an "incredible" inflation reducing policy. (Using a Phillips Curve diagram in your answer.)

Extra Credit

1. Suppose an economy has overbuilt and suffers from excess capacity. A recession ensues due to firms cutting back on expenditure.Is deficient demand more easily remedied by monetary or fiscal policy for this economy? Explain.