Deficits in new classical economics 1.$0, $1,000, $900 2. $900, $0, $1000 Kriste

Question

Deficits in new classical economics

1.$0, $1,000, $900

2. $900, $0, $1000

Kristen lives in the fictional country of Lindelof, which raises government revenue by taxing everyone the same amount. The government of Lindelof has just implemented a tax cut that reduces annual taxes by $1,000 per person. However, government spending has not changed, nor will it likely change in the future. The tax cut has raised Kristen's income by $1,000. If Kristen acts according to the prediction of new classical economics (and doesn't plan to leave Lindelof), her consumption is likely to increase by Suppose that instead of cutting taxes while keeping its spending the same, the government did the opposite: increased its spending by $1,000 per person while keeping taxes the same. If everyone in Lindelof acted like Kristen, the likely increase in aggregate demand would be er per ? per

Explanation / Answer

In the theory of New classical economics, the economists believe that fiscal policy is ineffective which implies that the Aggregate Supply is vertical so the fiscal policy through tax cut has no outcome on income.

People thought about the government budget whenever it elevate tax or spending. Here the govtt has decreased the tax so that consumers are left with $3000 either to spent or to save.

A tax cut now means a higher tax burden in long term so they start saving money. So this will not increase the consumption of the individual.

Hence, the consumption increases by $0.

When there exists govt spending, people will consider financing today is the better option by the future taxes. As the Aggregate supply is vertical, so the increase in aggregate demand will not raise the income.

Hence, the increase is $0.

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